Get set to weave history
ARVIND PANAGARIYA

[ WEDNESDAY, DECEMBER 29, 2004 01:04:03 AM]
 

Reform labour laws to end fragmentation in the textile industry and grab the historic but short-lived opportunity, which will come up this weekend as the quotas go.
 
Behind the fog of the populist expenditure packages floated daily, the ray of hope for the proponents of reforms remains the prime minister himself. True, progress on reforms has been slow but the blame for that goes to the anti-reform wing of the Congress that is reasserting after being underground for 15 years.

Thus, it is Dr Singh, who called for an end to the small-scale industry (SSI) reservation in a speech to the Small Industries Development Organisation some months ago. He is also the one to have called for an end to the export subsidies that risk being countervailed abroad. And he also shares the credit with commerce minister Kamal Nath for transforming India's image from an obstructionist to a constructive player at the WTO.
 
But potentially the most promising initiative by Dr Singh is his recent directive to the textiles ministry to prepare a strategy paper outlining the measures needed to attract investments, generate employment and boost exports in this sector. So well timed is this intervention and so urgent the need for action that for the first time in five years since I started writing this monthly column, I feel compelled to visit the same subject twice in a row.

In the present-day world, India must race to prosperity on two legs: information technology (IT) and manufacturing. The IT sector does not merely generate gainful employment for the educated, it is also the key to faster productivity growth in virtually all sectors of the economy, as the recent research on the US experience demonstrates. Luckily, India has had a head start in this sector and the ingenuity and initiative of our private entrepreneurs can be counted on to deliver as much as 20% per annum sustained growth in it. The key area in which reforms would benefit this sector is higher education. But that is a subject for another day.

The subject of immediate concern is manufacturing, which alone can generate well-paid jobs for the vast pool of unskilled, uneducated labour force that currently toils on the farm at subsistence wages or worse. The creation of such jobs also promises to reduce the population pressure on the farmland. But at 6.6%, the manufacturing growth during even the high-growth period of 1987-04 has been hopelessly inadequate to transform India from primarily agricultural into a modern society. The share of the sector in the GDP has risen barely from 16% to 17% during this period

The good news, however, is that India stands on the threshold of a historic opportunity to accelerate the growth of manufacturing. Textiles and clothing account for nearly 40% of India's manufacturing output. And the time for giving this highly labour-intensive sector a major push has never been better. There are three reasons why.
 
First, the country-by-country quotas on imports imposed by the US and the EU on key textiles and clothing products are slated to end on January 1, 2005. For products whose exports are currently constrained by the quotas, rapid expansion of exports can now be expected. But even for products in which quotas are not binding, the regime change ensures that future exports cannot be constrained by quotas.
 
Second, China, which would be our most fierce competitor under normal circumstances, faces the prospects of continued quotas under its WTO entry conditions if it expands its market share rapidly. Already, the US has imposed quotas on the Chinese socks, knit fabric, brassieres, and dressing gowns for the year 2005.
 
Finally, Indian economy is currently on the upswing of the business cycle, which makes fast growth of investment feasible.

But this window of opportunity is narrow: the tight restraints on China will last only until 2008 and even milder restraints will disappear in 2013 bringing China at par with other WTO members. Likewise, the upswing in the business cycle will not last more than a few years.

If one takes into account the available opportunity and the vast inefficiencies that currently plague the textiles and clothing industry, a 15-20% per annum growth in the sector can scarcely be ruled out. The key source of inefficiency in the sector, especially apparel, is its fragmented nature. Whereas thousands of workers work under a single roof in China, even the larger firms in India employ only 50 tailors. India has also failed to become a part of any global production chains that are sweeping across the world today. Therefore, the prime minister must focus his efforts on eliminating the sources of fragmentation in the sector.
 
It was first thought that the SSI reservation was the main reason behind the fragmentation. But the removal of this restriction on the export-oriented units several years ago did not produce large units. It turned out that another policy might have produced this outcome: our export-quota allocation policy did not give additional quota to the existing firms so that entrepreneurs had to create another firm to secure additional quota allocation!

But even this explanation begs the question why large firms did not emerge to export to the non-quota markets. The explanation that the vertically integrated firms faced higher tax liability than a group of firms performing the same tasks separately also fails because the firms have chosen not to expand even horizontally. The search for the culprit inevitably points to the well-known suspect: archaic labour laws.

If Dr Singh genuinely wants to create massive gainful employment, he must cure the fragmentation in the textiles and apparel industry. And in this, he cannot afford to go piecemeal addressing one regulation at a time, only to find that yet another regulation required removal before larger firms would emerge. The best politically feasible solution may be to create genuine China-style Special Economic Zones that cover vast areas and provide good infrastructure, reliable power, business-friendly environment and flexible labour markets. The current fragmented SEZs, principally an instrument of distributing largess, will simply not deliver.