The Jewel's In The Lotus: Finding Answers To India’s Structural Transformation Dilemma 

Structural transformation refers to the process of shifting the workforce from low productivity to high productivity, from agriculture to manufacturing jobs. This is a standard process of economic development in advanced economies, barring resource-driven economies such as the United Arab Emirates.

India's path of structural change or transformation, however, has been peculiar. Even at an early stage of development, the workforce has shifted from agriculture to services bypassing manufacturing. This continues to be a policy conundrum. 

A recent working paper of the International Monetary Fund by Cristian Alonso and Margaux MacDonald demonstrates the trends of structural change in the Indian economy. The paper said the value-added share of agriculture in aggregate output in India fell from more than 40 per cent in 1980 to 15 per cent in 2019.

Conversely, the value-added share of services in aggregate output increased from 30 per cent to 55 per cent during the same period, even as the value-added share of the construction sector remained constant. Despite the decline in value-added share, agriculture continues to be the dominant sector, employing 42 per cent of the country’s workforce.

Moreover, there has been a shift in workforce participation from agriculture to the services and construction sectors over the years. Most importantly, the construction sector has emerged as the second-largest employment-generating sector and provides employment to 71 million people.

As in agriculture, productivity in the construction sector continues to be low. This means the nature of employment in the construction sector is not different from that in the agricultural sector. Apart from employing a low-skilled workforce, it is also a largely casual/temporary workforce.

With more than half the workforce employed in the low-productivity agriculture and construction sectors, the scope of productivity-enhancing reforms is significant for relocating the workforce from low to high productivity sectors. This will not only free workers to move from low productivity to higher productivity sectors but will also enable them to earn better wages. 

Understanding the potential sectors, policies, and industrialisation strategies is critical for the reallocation of resources to drive the desired structural transformation The emerging trends of structural transformation in India need to be placed in the context of its broader industrial strategy. 

India’s industrialisation strategy focuses on augmenting the capacity, capabilities, and competence of the domestic manufacturing sector, thereby facilitating structural transformation. But the industrialisation strategy under Atmanirbhar Bharat and emerging trends in structural transformation seem inconsistent. An examination of these issues would provide insights for policy direction.

Capital Heavy Vs Labour Intensive

The sectoral orientation of India's industrial strategy under the production-linked incentive (PLI) scheme favours capital-intensive industries such as electric vehicles, pharmaceuticals, semiconductors, automobiles, specialty steel, electronics, and telecom equipment. It is important to note that the capital-to-labour ratio in these sectors favours capital, thus making them more capital-intensive. 

Owing to their high capital intensity, the potential to create jobs in these sectors is very low, thereby creating the potential risk of jobless growth. Furthermore, these challenges are compounded by the need for a skilled workforce in capital-intensive sectors. The unskilled workforce in the agricultural and construction sectors cannot be absorbed by the capital-intensive sector. 

This could potentially undermine the process of structural transformation which, in turn, would lead to the development of a dualistic economic structure – a phenomenon of a high-productivity sector on the one side and a low-productivity sector on the other. This tends to generate inefficiencies in the economic system, and contributes to income inequality. 

Protectionist Policy Prevents Trade-Led Transformation

International trade is considered one of the most important drivers of structural change. It allows the country to specialise along the lines of comparative advantages that lie in factor endowments, which results in efficient reallocation of resources.

It also increases productivity through international competition and provides better access to competitive imported inputs. India’s trade policy stance seems to be more inward-oriented. This demonstrated by its import tariff structure. 

The average import tariff in the country increased from 14 per cent to 18 per cent, thereby highlighting a greater emphasis on substituting imports with domestic inputs. An increase in import tariffs is further complemented by barriers to market access, particularly licencing requirements, quality control orders, and import prohibitions. 

It is important to note that a protectionist trade policy tends to prove counterproductive in facilitating trade-led structural transformation. This accentuates the importance of the overhauling trade policy in such a manner that it enables trade-led structural transformation.

Inability To Manage Conflicting Demands

Reallocation of resources from low productivity to high productivity sectors is a function of two independent sets of factors: the demand for labour in high productivity sectors and the supply of labour from low productivity sectors. The demand and supply of labour are crucial determinants of the pace of structural transformation. 

The efficient functioning of these determinants in the economy depends on the state’s ability to manage government and market failures. India’s path for structural transformation under the PLI scheme faces a high risk of both government and market failures in PLI-targeted sectors.

The potential risk of government failures is due to inadequate land, labour, and product market reforms and their lack of regulatory convergence(s) to pull resources from low productive to high productive sectors. 

Similarly, the potential risk of market failure could be due to lack of coordination in the business activities that a sector actually needs. Sectors targeted under the PLI scheme are sophisticated and capital-intensive and demand a high degree of coordination in investment policies, credit market policies, and human capital formation. 

The complex and multi-layered bureaucratic structure, the involvement of multiple government departments both at central and state levels create significant coordination and implementation challenges. Lack of coordination and sub-optimal execution due to multiple stakeholders (government, industry stakeholders, and regulatory bodies) has emerged as one of the primary concerns with respect to the PLI scheme.

In the light of above, it is therefore, important for policymakers to understand the nature of structural transformation unfolding in India. Additionally, it should also focus on fostering policies that are coherent with its industrial structure and factor endowment to speed up the path of structural transformation.

India's policymakers need to adopt a holistic approach for vertical and horizontal reforms to eliminate impediments to its stalled structural transformation. Such reforms certainly need a strong political will and a buy-in from key stakeholders.

(Surendar Singh is Associate Professor, FORE School of Management, New Delhi. Views expressed are personal)

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