Economy

NEW DELHI: How many economies does India have? One, two or three? A study by a
Bombay-based think-tank, the Strategic Foresight Group, says the economic reforms
drive launched about a decade ago has led to the creation of three economies: a "business
class economy", a "bike economy" and a "bullock cart economy”. The report titled
"Rethinking India's Future: Prosperity of the Periphery" says the reforms have mainly
benefited the business class economy that has access to luxury cars, washing machines,
computers, the Internet, mobile phones and air travel.
The reforms have, however, ignored the bullock-cart economy in states such as Bihar,
Jharkhand, Madhya Pradesh, Chhattisgarh, Orissa, Uttar Pradesh, Uttaranchal, Assam
and the north-east. India threw open its economy in the early 1990s, but the second phase
of reforms, which includes privatisation of loss-making state firms, has run into
opposition from unions and differences within the ruling coalition.
India is expected to grow at 5.5 per cent in the year to March 2003 -- putting it in the
league of the world's fastest growing economies -- but that is way off the eight per cent
targeted by the government over the next five years to wipe out poverty in the world's
second most populous country.
The report says the business class economy accounts for a meager two per cent of the
more than one billion population.
The bike economy covers 15 per cent while the bullock cart economy encompasses a
mostly rural 83 per cent of the population.

The past year was such a disaster for farming that it became unfashionable to be upbeat
about anything. The kharif crop was down a catastrophic 19%. The agricultural downturn
was supposed to infect fast-moving consumer goods, motorcycles, — the broad range of
industries that have become dependent on the rural market.

In the circumstances, the decline in GDP growth, from 5.6% in 2001-02 to 4.3% in 2002-
03, was modest. The fall of 2.8% in agricultural output looks surprisingly small; maybe
Central Statistical Organization is trying to spare everyone a shock, and will come up
with a worse figure later. But the point still holds: that if we ignore agriculture, 2002-03
was not bad at all. If agriculture had grown by its normal 3%, overall growth would have
been 5.8% — no different from in the previous year.

The only industries to do badly were consumer durables. It’s difficult to make sense of its
misfortune. Very likely, consumers have other uses for their money. The housing boom,
stimulated by the historically low interest rates, is sucking in much purchasing power;
new cars are another consumer passion. In the pursuit of such expensive assets,
consumers are probably having to skimp on washing machines and refrigerators.

The industrial growth figures are supported by corporate performance. Corporate sales
rose 11% in 2002-03, a big rise over the previous year. More important, margins have
improved. Both real and financial figures tell the same story, that the industrial
downswing of 2000 and 2001 is over.

Apart from stimulating construction, low interest rates are reviving investment. Capital
goods imports rose by 20%. These are the first signs since 1997 of revival of investment.
They are not yet reflected in corporate spending. But the corporate sector forms only a
small part of industry. Since it is a big producer of information and advertising, it gets
considerable coverage; but entrepreneurs and families run most of India’s industry.

The final proof of an upswing is that prices are rising. Intensifying competition had kept
down industrial prices in recent years. They had consistently risen more slowly than those
of agricultural good; by the end of 2001 they had stopped rising altogether. But since then
industrial inflation has again picked up, and is now over 5%.

As the economy heats up, the balance of payments should worsen. But, as yet, there are
no signs of its doing so; on the contrary, last year saw a record accretion of $17 billion to
exchange reserves. The balance of trade changed little, but remittances as well as IT
export earnings rose; so the current account surplus rose by almost $3 billion. Investment
inflows also increased by a couple of billion dollars. The balance of payments is so strong
that it could worsen a good deal before reserves stopped rising; and as yet there are no
signs of that. In 2002, when world trade expanded by 3.1%, India’s exports rose by 18%.
From last June, the RBI reversed its policy of progressive devaluation, and allowed the
Rupee to gain. But that has not led to any faster growth in imports; and exporters have
taken the appreciation in their stride.

This year, the trade balance will improve, for oil prices have fallen after the Iraq War and
will be lower over this year than last. The payments surplus will in all probability be
higher, and so will be its stimulus to the economy — in particular to the engineering and
pharmaceutical industries, which have registered strong export performance.

The government should find a mention in all this, but it is difficult to fit it in. The fiscal
changes of the last 10 years have led to a situation where changes in taxes are small and
usually predictable. The government has manipulated import duties a good deal in the
past three years under pressure from various lobbies; sometimes the manipulations have
caused upsets, as in the case of steel duties two years ago. But, by and large, industry has
ceased to be seriously interested in tax changes. Considerable political manoeuvring goes
into government expenditure, but industry is pretty indifferent to it. There were high
expectations of a change this year; the Kelkar committees had proposed radical reforms.
But for good or ill, they were largely ignored. It was business as usual in North Block;
and after a week of excitement, the Budget was forgotten. Fiscal policy has become
largely irrelevant to the performance of the economy; and at the present juncture, when
the economy is doing so well, that is just as well.

2.42 The growth prospects for the current financial year hinge around the sustainability of
the industrial upturn and a recovery in agricultural performance. The performance of
agriculture would continue to depend upon the progress of monsoon, particularly its
spatial distribution. Initial expectations support a strong rebound from the absolute
decline in output recorded last year. The climate for industrial revival is showing a
distinct improvement in an environment of higher overall growth prospects, low and
stable inflation, rising international competitiveness and conducive monetary and fiscal
policies. The higher growth momentum in industry during 2003-04 so far was maintained
principally on account of four out of the top five growth contributors in 2002-03. Basic
chemical and chemical products, however, showed a decline, while rubber exhibited a
turnaround in its performance. In terms of use-based classification, the consumer
durables witnessed a turnaround over the corresponding quarter of the previous year. On
the other hand, some deceleration was witnessed in the basic goods mainly on account of
mining sector. The overall industrial growth at 5.3 per cent during April-June 2003 was
higher than 4.3 per cent experienced a year ago. However, the infrastructure growth
during the first quarter of 2003-04 at 4.1 per cent still trails behind the 6.2 per cent
growth recorded in the first quarter of 2002-03. The financial performance of the private
corporate sector has shown substantial improvement in terms of sales and profitability.
Leading indices of industrial activity are indicating stable growth ahead. The industrial
outlook is optimistic with expectations of fresh capital investments in existing projects,
increase in capacity utilization and a stabilizing of inventory levels. Export demand is
expected to increase over the next six months, supported by a realistically valued
exchange rate. Easing the constraints in terms of availability of power, procedural
bottlenecks, cost and availability of credit, and road and port facilities will entrench the
industrial recovery. The buoyancy of the services sector would be contingent upon the
strength of the symbiotic interface with the goods sector and the growth of 'new
economy' activities.

Macroeconomic scene

2.1 A broad-based revival in industrial activity and a resurgence of growth in the services sector
sustained economic activity in 2002-03. Real GDP originating in industry recovered steadily from
the first quarter onwards, surging up towards trend levels on the strength of a rebound in
manufacturing. The improvement in services sector GDP growth emanated from construction,
‘financing, insurance, real estate and business services’ and ‘community, social and personal
services’. While the return of growth momentum in industry and services augured well for the
economy, severe drought conditions impacted on the farm sector in several States, producing a
contraction in real GDP originating from ‘agriculture and allied activities’. The loss of agricultural
output was pronounced from the second quarter onwards, reflecting the full effects of the drought.
Moisture stress was of a scale and intensity comparable to the severe drought of 1987 which had
resulted in real GDP growth slowing down to 3.8 per cent in 1987-88. Despite the intensity of the
supply shock to agriculture, the growth of real GDP at 4.3 per cent in 2002-03 was symptomatic
of resilience and a degree of weather-proofing of the economy (Table 2.1, Appendix Tables II.1
and II.2).

Table 2.1 : Growth Rates of Real GDP

(Per cent)
Sector 2002- 2001- 1992-93 to 2002-03 2001-02
03# 02* 2000-01 Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4
(Average)
1 2 3 4 5 6 7 8 9 10 11 12
2. Industry 5.7 3.2 6.6 4.3 6.2 6.2 6.2 2.4 3.0 3.5 4.0
(21.8) (21.5) (22.0)
2.1 Manufacturing 6.1 3.4 7.2 3.8 6.5 6.7 7.1 2.9 3.1 3.4 4.1

* Quick Estimates. # Revised Estimates.

Notes :
1. Figures in brackets denote shares in real GDP.
2. Q1 : First Quarter (April-June); Q2 : Second Quarter (July-September);
Q3 : Third Quarter (October-December); Q4 : Fourth Quarter (January-March).
Source Central Statistical Organization.
:

Under the circumstances, sustainability of the momentum of growth in industry and services
depends upon stabilization of rural demand and recovery in agricultural activity. The share of
industry in GDP has stagnated since 1997-98, bound by the downswing in the business cycle and
manifested in inventory accumulation, unutilized capacity, restructuring and organizational
change. Services have been the principal engine of growth (Chart II.1).
 . Production in the consumer durables segment declined reflecting weak demand, particularly the
slowdown of rural demand (Table 2.6). Industrial outlook surveys pointed to the domestic
economic scenario as being the principal limiting factor on consumer expectations in this
segment.

Table 2.6 : Growth of IIP (Use-based Classification) and

Sectoral Weighted Contribution to IIP
(Per cent)
Sector Growth Rate Weighted
Contribution to
IIP Growth
2002-03 2001-02 2002-03 2001-02
1 2 3 4 5
Basic Goods 4.9 2.6 27.1 31.9
Capital Goods 10.5 -3.4 15.9 -11.6
Intermediate Goods 3.9 1.5 19.6 16.1
Consumer Goods 7.1 6.0 37.4 63.7
i) Consumer Durables -6.3 11.5 -8.7 31.4
ii) Consumer Non- 12.0 4.1 45.9 32.4
durables
Source : Based on the data from the Central Statistical
Organisation.

Industrial Restructuring and Organisational Change

Industrial restructuring involves a suite of initiatives taken by firms to re-establish competitiveness, efficiency
and profitability in the context of major changes in market trends - consumer preferences and competition
technology, macroeconomic policies and the regulatory framework. Restructuring could entail changes,
inter-alia, in the production structure, ownership (privatisation), labour, management and organisation, and
could include divestiture, new investment, mergers and acquisitions (M&A) and alliances with ancillary
industries. Restructuring differs from both rehabilitation - entailing modernisation and improvement - and
expansion, which are all usually related to the same production structure. While restructuring can be welfare
enhancing in the long run, it could involve a reduction in employment in the short run due to the
rationalisation, consolidation or closure of inefficient units. Safety nets are, therefore, essential to take care
of possible labour displacement.

In the recent period, there has been an upsurge of interest in industrial restructuring worldwide, with
attention drawn to the increasing speed and scope of restructuring as well as the growing role of cross-
border activities. A sizable acceleration in FDI flows both from and into OECD countries during the 1990s
was accompanied by a progressive supercession of greenfield investments by cross-border
M&As/international joint ventures, and the rising importance of small and medium sized enterprises (SMEs).
Cross-border M&As accounted for a predominant share of FDI. The total value of M&As worldwide
increased more than five times, with mega-mergers (of value more than US $1 billion) accounting for 60 per
cent. Most of these mega-mergers took place among firms in the same sector, reflecting an increasing
proclivity to concentrate on areas of core competence. An important issue in the context of global
restructuring is that of 'hollowing out' of strategic activities (including research and development) to foreign
locations.

Stylised evidence drawn from 46 developing countries, including India, indicates that the basis of industrial
restructuring in these countries was the growing recognition of the need for a reduction in direct government
ownership in industrial enterprises. Macroeconomic stability, market liberalisation and appropriate labour
policies were factors found to have facilitated successful industrial restructuring. These country experiences
underscore the significance of institutional reforms particularly the role of the government in respect of
legislation and prudential regulation of the financial sector, bankruptcy legislation and its judicial
enforcement, technology development and transfers, arbitration mechanisms to settle labour disputes,
labour force training and dissemination of information regarding market opportunities, particularly in respect
of exports.

At least a part of the pre-crisis Asian miracle is attributable to the manner in which industry in these
countries adjusted to changes in the domestic and international environment. Practices, however, differed
among the newly industrialised economies (NIEs). For instance, the Korean footwear industry was
restructured by expanding the size of operations of firms rather than by entry of new firms. On the other
hand, the Taiwanese footwear industry was restructured by shedding operations into small and medium
enterprises. In general, there were three major types of responses: offshore investment, upgrading
technology and new products and the flexible use of labour. The emphasis, however, varied across the
countries. Singapore's industrial strategy is to upgrade its technology, given labour flexibility; while in Hong
Kong the preference is not to upgrade its technology but to retain and modify labour intensive operations
through the flexible use of labour.

A number of factors impinge upon the pace and nature of industrial restructuring in India

• rigid and obsolete labour legislation - need to amend Industrial Disputes Act and Labour Contract
Act;

• Reorganisation and bankruptcy of sick units -scrapping of the Sick Industrial Companies Act and
replacing of BIFR with a process in which defaulting companies are given time to work out an
arrangement with creditors;

• Restrictions on the acquisition and use of land for industrial purposes - evolving the appropriate
legal framework for exits through sale of land.

References

1. International Financial Law Review (2002), Mergers & Acquisitions Year Book 2002.

2. Organisation for Economic Cooperation and Development (2002), "Global Industrial Restructuring".
the consumer durables experienced a negative growth of 4 per cent for the same period.
The negative growth which consumer durables began witnessing since May this fiscal,
eventually ended during the month of Jan 2003, when it posted a marginal positive
growth of 0.5 per cent. Although some of the consumer durable segments such as
motorcycles, window air-conditioners, refrigerators, washing machine etc witnessed
substantial growth during Apr-Jan: 2002-03, the continued inclusion of outdated items in
the index namely typewriters, tape recorders, alarm clocks etc have resulted in an
unwarranted decline in the growth rate of this sector.