Size and Capital Intensity of Indian Industry Since 1950
SIZE AND CAPITAL INTENSITY OF INDIAN INDUSTRY SINCE 1950
SIZE AND CAPITAL INTENSITY OF INDIAN INDUSTRY SINCE 1950 Conceptually, size and capital intensity have been recognized as important parameters in the evolution of any industry. While the importance of the size of an industry has always been a part of conventional wisdom, analytical growth models have also underscored the importance of capital intensity. Yet, the implementation of these notions is beset with a number of practical difficulties. In both cases, a menu approach is followed in measurement. Industry size is measured, variously, in terms of levels of sales, assets, value added, capital deployed, and employment. Likewise, capital intensity is measured as the amount of fixed capital used in relation to other inputs (especially labor) or to the overall output. Typically, capital-labor ratio and capital-output ratio are seen as alternative measures of the capital intensity of an industry.
Before independence, the British government of India had provided discriminating protection to some selected industries, accompanied by a "most favored nation" clause for British goods. Despite this, a number of domestic industries, including cotton textiles, sugar, paper, and iron and steel, expanded. No effort was made, however, to foster the development of capital goods industry in India. Not surprisingly, on the eve of India's independence in 1947, the Indian industrial sector was characterized by low levels of capital intensity, marked by a high concentration of employment either in the lowest size group (household enterprises and small factories) or in the highest size group (large factories). Medium-size factories were virtually absent from the Indian industrial sector. Low capital intensity in Indian industry was primarily due to the prevalence of low wages and the small size of the domestic market as a result of low per capita income. According to a study by the United Nations in 1958, capital intensity, as measured by capital employed per worker, was substantially lower in India, compared to the United States and other developed economies. Moreover, low capital intensity was reflected not only in consumer goods industries, such as textiles and sugar, but also in capital goods industries, such as iron and steel.
One of the early studies on the size and capital intensity of Indian industry (Rosen) attributed the smaller size and lower capital intensity of Indian industry, compared to that of developed economies, to the difference in the availability of factors and the lack of access to a capital market, which generally encourages the use of capital-intensive methods. Subsequently, on the basis of a comprehensive analysis of twenty-two industries during the period 1953–1958, J. C. Sandesara in 1969 concluded that while small-sized units in some industries were labor intensive, in some others they turned out to be capital intensive. In other words, there was little evidence of a clear and uniform relationship between size and capital intensity.
The average size of factories, in terms of assets, output, and valued added, has increased consistently since the 1970s. Assets increased from 8.7 million rupees in 1970 to 20.2 million rupees in 2002; output increased from 16.7 million rupees in 1970 to 45.9 million rupees in 2002. In contrast, average employment in Indian factories witnessed a decline, from 86 workers per factory during the 1970s to 78 during the 1980s. Clearly, output growth during the 1980s was not accompanied by a corresponding increase in the generation of employment. The declining trend in employment persisted during the 1990s and was further pronounced during 2000–2001 and 2001–2002, when it fell to an average of 60 workers per factory. This was, perhaps, symptomatic of greater use of capital in the production process, leading to higher capital intensity over time. In fact, increases in real wages and job security regulations in the late 1970s seem to have induced entrepreneurs to shift over to capital-intensive techniques. It has also been argued that surplus employment in the 1970s set a limit to the additional employment opportunities in the 1980s and beyond. Structural ratios calculated on the basis of data from the Annual Survey of Industries provide evidence to support this theory.
Almost all the indicators used as proxy for capital intensity show that production processes in Indian industry have increasingly become more capital oriented. Capital employed per worker has increased substantially since the 1970s. Capital-wages ratio increased marginally from 7.3 in the 1970s to 8.3 in the 1980s, but increased substantially following the economic reforms of 1991, to 12.64 by 2000 and to 14.25 in 2002. On the other hand, it should be noted that capital employed per unit of output did not undergo much change during the three decades from 1970 to 2000, reflecting a greater efficiency in the use of capital in the production processes.
A disaggregated industry-wide analysis by J. Thomas in 2002 showed that capital intensity varies widely across different industries. It has been the lowest in jute textiles, and the highest in electricity generation, transmission, and distribution. Basic metals, chemicals, rubber, and petroleum also have high capital intensity, while jute, beverages, textile products, leather, wood products, and food products continue to be the least capital-intensive sectors in Indian manufacturing.
The relationship between size and capital intensity in the Indian industrial sector also seems to have witnessed a noticeable transformation since the 1970s. With the increase in the size of factories (in terms of output), capital per head of worker increased during the 1970s. Correlation coefficients between output (size factor) and capital-labor ratio demonstrate that the covariation strengthened further in the 1980s and in the post-1991 period. In contrast, the capital-labor ratio was inversely related to the size of the labor force in factories. The covariation of capital-output ratio and total output has been negative since the 1970s, probably because growth in output in most of the years since 1980 has been higher than growth in capital, indicating the efficient use of capital by Indian industries.
In retrospect, Indian industry has been undergoing a structural transformation since independence. With the government initially adopting an industrial development strategy that promoted heavy, capital-intensive industries, size indicators in the Indian industrial sector expanded substantially, facilitated by the evolving industrial policy and increased domestic and external demand. Thus, the predominance of primary raw material–based industries in the 1950s was gradually replaced by the emergence and faster growth of metal-based and heavy industries. The industrial policy initiatives since 1991 have led to a diversified Indian industrial structure. While the transition process has led to greater use of capital in relation to the labor force, productivity enhancements have resulted in a gradual decline in the capital-output ratio in recent years.
Ahluwalia, I. J. Productivity and Growth in Indian Manufacturing. Delhi: Oxford University Press, 1991.
Nagaraj, R. "Employment and Wages in Manufacturing Industries: Trends, Hypothesis and Evidence." Economic and Political Weekly 29, no. 4 (1994): 177–186.
Rosen, George. Industrial Change in India: Industrial Growth, Capital Requirements, and Technological Change, 1937–1955. Glencoe, Ill.: Free Press, 1958.
Sandesara, J. C. Size and Capital Intensity in Indian Industry. Economics Series, no. 19. Mumbai: University of Bombay, 1969.