Industrial Growth and Diversification

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INDUSTRIAL GROWTH AND DIVERSIFICATION In 1951, when India embarked on its first five-year plan, the country's industrial base was small, dominated by cotton and jute textiles. Registered manufacturing units, employing ten or more workers, contributed about 4.4 percent of the gross domestic product (GDP) at 1993–1994 prices; the contribution of unregistered units was 4.6 percent. Barely more than fifty years later, India has a highly diversified industrial structure, producing a wide range of goods. Indian industry is now capable of designing and implementing industrial projects using sophisticated technology. In 2000–2001, the GDP share of registered manufacturing was 10.5 percent, and that of total manufacturing 17.2 percent. In terms of manufacturing value added, in 1998 India ranked fifteenth among 87 countries (UNIDO, Industrial Development Report, 2002/03, p. 162). Among developing countries, India ranked sixth, behind China, Brazil, Korea, Mexico, and Taiwan.

The industrialization strategy implemented in the second (1956–1957 to 1960–1961) and third (1961–1962 to 1965–1966) plans emphasized rapid growth and diversification through industrialization, considered essential for achieving and maintaining full employment at a rising level of productivity. India's planners believed that in order to industrialize, it was necessary to develop an indigenous heavy industry base, for which the public sector would take prime responsibility. Such thinking shaped the policy environment for Indian industry, and the government invested in heavy industries, primarily iron and steel. During this period and in the next twenty-five years, India pursued an inward-oriented industrialization strategy. There were high import restrictions, combined with strong regulation of domestic industry. Domestic manufacturing enterprises were highly protected against foreign competition. Most production- and investment-related decisions of industrial firms were subject to extensive government controls.

In the 1970s, those "protective" industrial and trade policies were clearly having detrimental effects on India's economy, which led to the initiation of a slow process of liberalization of industrial and trade policies that gained momentum in the 1980s. It was the economic crisis of 1991, however, that led to major and far-reaching economic policy reforms in India. The economic reforms undertaken in India since 1991 have unleashed the forces of competition and globalization, providing opportunities for Indian industry to raise its standards of technology, product quality, and efficiency, allowing it to become competitive at home and abroad.

Industrial Growth

Reforms of the 1990s were expected to lead to an accelerated industrial growth, but the growth rate in the first ten years of the postreform period was inferior to that of the 1980s. During 1990–1991 to 2000–2001, the annual growth rates in real value added in registered and total manufacturing were 6.3 and 6.1 percent respectively, both lower than the 7.9 and 7.0 rates achieved in the 1980s. Industrial growth performance was quite poor in the second half of the 1990s; between 1996–1997 and 2000–2001, real value added in total manufacturing grew only at the rate of 3.8 percent.

In the mid-1960s, there had been a sharp fall in the growth rates of basic metals, metal products, nonelectrical machinery, electrical machinery, and transport equipment. During the 1980s, however, the growth rates of these industries recovered, accompanied by accelerated growth in food products, beverages and tobacco products, wood and wood products, paper and printing, textiles, and leather and fur products. Indeed, the 1980s proved to be a period of broad-based industrial growth for India. In the 1990s, there was a fall in the growth rate of real value added in food products, paper and printing, rubber, plastic and petroleum products, and in electrical and nonelectrical machinery. On the other hand, there was an increase in growth rate of real value added in basic metals and metal products.

Factors determining industrial growth

Several econometric studies have been carried out to explain variations in industrial growth, concluding that India's industrial deceleration of the mid-1960s was largely due to the following factors: unsatisfactory agricultural performance affecting agricultural incomes, slowdown in public investment, infrastructure constraints, reduced scope of import substitution, deterioration of intersectoral terms of trade unfavorably affecting industry, and the adverse effects of restrictive industrial and trade policies on industrial costs and efficiency.

The resurgence in industrial growth in the 1980s may be traced more or less to the same set of factors. Growth of per capita agricultural incomes, improvement in the rate and pattern of gross domestic capital formation, particularly in public investment, step-up in investment in infrastructure and better management, less adverse trends in intersectoral terms of trade, and reforms of industrial and trade policies all contributed to the revival of industrial growth.

The deceleration in industrial growth in the postreform period seems to have been caused by stalled reforms. The initial 1991 reforms should have been followed up quickly by sharp reductions in tariffs on imports, while pulling down the remaining restrictions on foreign direct investment and removing all policy-induced rigidities in industrial labor markets. This was not done, however, hence the adverse effect on growth.

One important difference between the industrial growth in the 1990s and that prior to the mid-1980s relates to exports. From 1973–1974 to 1984–1985, the contribution of export expansion to output growth in manufacturing was merely 5 percent, while that in the period 1989–1990 to 1997–1998 was 24 percent. The ratio of India's manufactured exports to the value of production of the registered manufacturing sector was 6.7 percent in 1980–1981 and 8.4 percent in 1990–1991, and increased to 15.4 percent in 2000–2001. Exports have now become an important source of industrial growth in India, and for this reason international market conditions exert an important influence on industrial growth performance. During 1990–1995, the global exports of manufactures grew at the rate of 8.6 percent; during 1995–2000, that growth rate was only 4.5 percent. With a quarter of India's industrial growth now dependent on export, world markets in the latter half of the 1990s clearly have had a significant adverse effect on India's domestic industrial output.


Since self-reliance through the building of heavy industries was the key element of India's industrialization strategy, a major drive for diversification was launched in the mid-1950s, establishing machine tool industries, heavy electricals, machine building, and other branches of heavy industry. The value of production of machine tools increased from Rs. (rupees) 3 million in 1950–1951 to Rs. 8 million in 1960–1961 and Rs. 430 million in 1970–1971. Production of power transformers increased from 0.2 million kilovolt amps (KVA) in 1950–1951 to 8.1 million KVA in 1970–1971. Production of crude steel increased from 1.5 million tons in 1950–1951 to 6.1 million tons in 1970–1971. Production of caustic soda increased from 12 thousand tons in 1950–1951 to 371 thousand tons in 1970–1971, while the production of soda ash increased from 46 to 449 thousand tons in that period. Between 1956–1957 and 1970–1971, the value of chemical industrial production increased at the rate of 12.6 percent per annum.

In spite of the setback to industrial growth after the mid-1960s, the progress in diversification of the industrial structure was maintained. The weight of capital goods in the Index of Industrial Production increased from 4.7 percent in 1956 to 11.8 percent in 1960 and further to 15.2 percent in 1970. The weight of "basic goods" (heavy chemicals, fertilizers, basic metals, and cement) increased from 22.3 percent in 1956 to 32.3 percent in 1970 and further to 39.4 percent in 1980. The weight of consumer goods, on the other hand, declined from 48.4 percent in 1956 to 31.5 percent in 1970 and further to 23.7 percent in 1980.

The diversification achieved by India in its industrial structure is reflected in a relatively high share of high and medium tech industries in manufacturing value added. In 1985 this ratio was 56 percent for India, the foremost position among all the major industrializing countries (UNIDO, Industrial Development Report, 2002/03, p. 164). This ratio was 54 percent for Brazil, 49 percent for China, 47 percent for Korea and Malaysia, 43 percent for Taiwan, 37 percent for Mexico, 25 percent for Indonesia, and 18 percent for Thailand. But, in terms of the share of high and medium tech products in manufactured exports, most of these countries were ahead of India, with the exception of China and Indonesia. By 1998 China had surpassed India, and Indonesia had caught up with India in terms of the level of technological sophistication of manufactured exports.

The fact that the share of medium and high tech industries is relatively high in India's industrial production while the products of such industries constitute only a small part of India's manufactured exports shows that in most cases these industries are not internationally competitive. Since India's initial drive for diversification was directed at attaining self-reliance in a wide range of industrial products, that process neglected cost considerations, which did not receive sufficient attention. Its new industries therefore were not under any strong pressure to improve efficiency and reduce costs until 1991. In such an environment, the global competitiveness of new industries was obviously low.

Technical Change

In the last five decades, the main source of technical change in Indian industry was the purchase of technology from foreign firms against royalty, technical fees and lump-sum payments, and the efforts made by Indian firms to adapt technologies to local conditions. Another important source was the import of capital goods embodying advanced technology. Heavy machinery imports declined as domestic machinery replaced them. While foreign direct investment can potentially be an important source of technical advance, the level of foreign direct investment in India remained very low until the end of the 1980s. In the postreform period, there has been a spurt in foreign direct investment in Indian industries. However, as a ratio to the annual rate of capital formation in manufacturing, foreign investment inflows have remained low (about 5 percent from 1992–1993 to 1998–1999).

A large amount of technology has entered Indian industry through the route of technology imports, that is, the purchase of foreign technology. Three phases can be distinguished in the government policy on foreign collaboration: 1948 to 1968, 1969 to 1979, and 1980 onward. In the first phase, the foreign collaboration policies were liberal, and the annual average number of foreign collaborations increased from a mere 35 during 1948–1955 to 210 during 1964–1970. Technology payments increased from Rs. 12 million in 1956–1957 to Rs. 190 million in 1967–1968. However, in the absence of competitive pressure, there was little incentive to learn, absorb, assimilate, and upgrade the foreign technologies. In the second phase, 1969 to 1979, Indian policies regarding foreign collaboration were highly restrictive. The focus was on technological self-reliance, making use of the infrastructure built in the previous phase. To generate demand for indigenous technologies, the government reversed its policies on foreign technology acquisition. Numerous restrictions were imposed on foreign collaborations. There were lists specifying industries in which foreign investment would be permitted with or without technical collaboration, industries in which only technical collaboration would be permitted, and industries in which no foreign collaboration, financial or technical, would be permitted. There were also elaborate regulations relating to the duration of technology agreements, payment of royalties, and lump-sum transfers for imported technology. Technology sellers had to abide by conditions connected to export restrictions, the use of trademarks, and the importer's rights to sell or sub-license the imported technology. Because of such policies, the growth rate of technology payments fell, as did the level of foreign direct investment. The overall effect of the restrictive technology policies from 1969 to 1979 was that Indian industry could not bring into use internationally competitive technology, with adverse consequences on its export performance.

Since 1980 the policies on foreign collaboration have been progressively liberalized, especially since 1991. For instance, the procedure for approval has been made easier and the ceiling on royalty and lump-sum payments has been raised. This liberalization has led to a dramatic increase in the number of foreign collaborations, from an annual average of 230 in the 1970s to about 550 in the 1980s. The average number of collaborations (technical and financial combined) was about 730 in the 1980s, increasing to about 1,600 in the 1990s.

Royalty and license payments made by India for imported technology were $25.1 million in 1985, increasing to $200.8 million in 1998. As a share of gross national product, this increased from 0.012 percent in 1985 to 0.047 percent in 1998. However, this achievement is still small in comparison with other industrializing countries. In 1998 royalty and license payments for technology was $2,392 million in Malaysia, $2,369 million in Korea, $1,149 million in Taiwan, and $420 million in China.

Productivity Change

Labor and capital productivity

From 1951 to 1970, the average growth rate of labor productivity in Indian industry was about 5 percent per annum. In the 1970s the growth rate was much lower (about 1% per annum, according to some estimates). In the 1980s and 1990s, the growth rate of labor productivity picked up again to a little over 6 percent per annum. Increases in capital intensity (ratio of fixed capital stock at constant price to employment) made a major contribution to increases in labor productivity. Capital intensity grew at the rate of about 5 percent per annum during the 1950s and 1960s, about 3 percent per annum during the 1970s, and about 7 percent per annum during the 1980s and 1990s.

During the 1950s and 1960s, capital productivity (measured by the ratio of real value added to the value of fixed capital stock at constant prices) in Indian industry declined by about 1.5 percent per annum. During this period, there were major changes in the structure of the industrial sector in favor of metals, machinery, and chemical industries. These industries are relatively more capital intensive and have relatively low capital productivity as compared to traditional industries such as textiles. Therefore, the changes in industrial structure had an adverse effect on capital productivity during the 1950s and 1960s. The downward trend in capital productivity continued in the 1970s, but reversed later.

Total factor productivity

To assess overall production efficiency, the concept of total factor productivity (TFP) is commonly used in productivity studies. TFP may be defined as the ratio of output to total input, a composite measure of the technical change and changes in the efficiency with which technology is applied to production.

During the decades of 1950s and 1960s, the average growth rate of TFP in Indian manufacturing was very low, about 1 percent or a little less than 1 percent per annum. Trade and industrial policies of India's government, especially import control and domestic industrial licensing, curbed competition; the lack of competition protected inefficiency and blunted incentive for cost reduction. Control of foreign exchange and raw materials, policies aimed at control of monopoly, led to industrial fragmentation, which adversely affected efficiency since scale economies could not be exploited. Moreover, India's general economic condition, characterized by shortages of materials and power, as well as transport bottlenecks, was not conducive to productivity growth.

The increased industrial growth rate in the period from 1980–1981 to 1985–1986, as compared to the period from 1965–1966 to 1979–1980, may be attributed to improvement in productivity growth in the first half of the 1980s, thanks to the liberalization of economic policies.

Estimates reported in some recent studies on productivity in Indian industry indicate that the average growth rate during the 1980s was 3 to 4 percent per annum. By comparison, the growth rate in the 1990s was only about 1.5 to 2 percent per annum. The explanation for that deceleration seems to lie mostly in capacity underutilization during the 1990s. As a result of the reforms, India's manufacturing sector had an investment boom in the first half of the 1990s, raising capacity output sharply, though demand did not expand as rapidly, leading to underutilization of capacity, which had an adverse effect on productivity.

B. N. Goldar

See alsoIndustrial Policy since 1956 ; Private Industrial Sector, Role of


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