Big Reforms but Small Payoffs: Explaining the Weak Record of Growth in Indian Manufacturing Poonam Gupta, Rana Hasan and Utsav Kumar India Policy Forum 2008 Brookings and NCAER

Issue India undertook major reforms starting mid to late 1980s Reforms mostly focused on the manufacturing sector Yet growth and hence employment generation in manufacturing did not accelerate. On the contrary services sector has picked up impressively.

What could be the potential factors? Several eminent observers have pointed out the importance of the following constraints. Labor laws: Krueger 2007; Panagariya 2006; Panagariya 2008 Financing Constraints: Banerjee and Duflo 2004; Nagaraj 2005 Infrastructural deficiencies: Krueger 2007, Kumar and Sen Gupta 2007 Implementation lags at the state level

Empirical literature and existing evidence Papers have looked at the impact of labor laws but not other constraints: Besley and Burgess; Aghion, Burgess, Redding, and Zilibotti (BB, ABRZ) BB and ABRZ use ASI data till 1998; find that the labor regulations affect industrial performance, determine gains from reforms (delicensing) Their labor regulation variable has been criticized (Bhattacharjea).

What do we do? 1.Exploit variation at state level to see whether differences in LMR, PMR, Infrastructure and financial sector are associated with differential performance of the industrial sector post delicensing. 2.Look at the performance across industries: does poor performance of certain industries imply anything about the lack of a particular input? 3. Finally address the labor market issue by considering an alternative coding of LMR across states and by looking at the interaction of LMR and labor intensive industries

Methodology y ist = α is d is + β st d st + θ i trend i + γ (delicensing it ) + δ (industry characteristic i * delicensing it ) + π (state characteristic s * delicensing it ) + τ (state characteristic s * industry characteristic i * delicensing it ) + μ other controls + ε ist

Key data series Three digit ASI data from at state level Industry level: Labor Intensity, Infrastructure Dependence of Industries Used different data sources; data for an earlier period; as indices and as dummies- results are robust

Key data series contd. State Level Labor Market Regulation Product Market Regulation Infrastructure Financial sector

Key data series concluded Labor market regulation: 1.Take various measures: BB, Ahsan and Pages, OECD, Bhattacharjea (2008) 2.Since many different measures, look for common trends across studies—where conflict we use what the majority of the papers say

Looking at these patterns through charts

Industrial output across industries

Labor intensive industries across states

Robustness tests Potential Outliers: tobacco, petroleum Alternative LMR indices Alternative series for industry characteristics Omitted variables Limiting the data to 1998 (when the sampling frame used in ASI changed)

Summary of results…. Post-delicensing:industries dependent on infrastructure, dependent on the financial sector and the labor intensive industries have grown less--infrastructure, financial sector imperfections, labor regulations are emerging as bottlenecks on growth? Post-delicensing: states with more developed infrastructure, and financial sector have grown faster. States with business friendly regulatory environment have grown faster.

Summary of results…. Labor Intensive Industries have grown slowly, particularly in states with pro labor regulations. Employment generation has been slower in states with pro labor regulations

Going back to the title of the paper what explains the weak record of growth and employment in Indian manufacturing? Labor Laws, Product market regulations, Infrastructural deficiencies, Financial sector weaknesses It seems that everything matters! Does it dilute the message? Unfortunately we cannot prioritize or compare quantitatively the effect of each of these factors

Caveats and Limitations We only look at registered manufacturing (formal sector) in the paper We do not consider the dismantling of the policy of reserving particular industries for production by the small-scale sector regulations can affect firms and industries in many different ways: operate in the informal sector, size, or adopt particular types of techniques

Thank You!

StateLabor Market Regulation Product Market Regulations Andhra PradeshFlexibleNeutral AssamNeutralRestrictive BiharNeutralRestrictive GujaratNeutral HaryanaNeutralPro-competition KarnatakaFlexiblePro-competition KeralaNeutral Madhya PradeshNeutralRestrictive MaharashtraInflexiblePro-competition OrissaInflexibleRestrictive PunjabNeutralPro-competition RajasthanFlexibleRestrictive Tamil NaduFlexiblePro-competition Uttar PradeshFlexibleNeutral West BengalInflexibleRestrictive

Summarizing the results that we could not include in the paper Size of the Indian Firms is smaller as compared to China Labor intensity of Indian industries is less than that of Chinese Industries and the gap is increasing overtime—

The size of Indian firms as Compared to China

Labor Intensity of Indian Firms as Compared to China