Source: The Hindu, 25 December
Article: Why manufacturing has lagged in India (Economic Notes)

Context

This article analyses why manufacturing has lagged in India, a key concern for UPSC aspirants studying the Indian economy and industrialisation.

The article examines why India’s manufacturing sector has underperformed compared to China and South Korea, even though all three economies started from roughly equivalent positions in the early 20th century, and despite rapid growth in services and private industries in India.

Long-term Manufacturing Performance

0.1 China and South Korea experienced significant expansion in manufacturing, while the share of manufacturing in India’s GDP remained relatively constant over time.
0.2 In recent years, India has lost ground to services, which limited gains in productivity and income growth that manufacturing typically provides.
0.3 This indicates that India’s economic growth was not accompanied by a strong industrial transformation.

Impact of Public Sector Wages

0.4 High government salaries attracted workers away from manufacturing, raising economy-wide wage levels.
0.5 When wages rise faster than manufacturing productivity, firms find it difficult to remain cost-competitive, especially in global markets.
0.6 As a result, Indian manufactured goods became relatively expensive, weakening export performance.

Dutch Disease Framework

0.7 Economist Arvind Subramanian, in his book A Sixth of Humanity, uses the Dutch disease (https://www.investopedia.com/terms/d/dutchdisease.asp#:~:text=Dutch%20disease%20refers%20to%20the,and%20weakening%20long%2Dterm%20growth.) framework to explain this outcome.
0.8 Dutch disease refers to a situation where a rise in income in one part of the economy pushes up wages and prices across sectors, harming manufacturing competitiveness.
0.9 The concept was originally used to explain how the 1959 Groningen gas discovery weakened Dutch manufacturing.

How the Process Operated in India

0.10 Expansion of the government sector increased wages beyond what manufacturing productivity could support.
0.11 Higher incomes raised domestic prices, making locally manufactured goods costlier than imported alternatives.
0.12 Under free trade, demand shifted toward cheaper imports, reducing demand for domestic manufacturing.
0.13 Even without a change in the nominal exchange rate, higher domestic prices caused real exchange rate appreciation, making Indian exports less competitive.

Limits of Wage-led Growth

0.14 Economic historian Robert C. Allen argues that high wages in Britain historically encouraged technological innovation, leading to the Industrial Revolution.
0.15 Daron Acemoglu explains that automation drove productivity growth in Germany, Japan, and South Korea, particularly where labour forces were ageing.
0.16 In contrast, countries like the United States, with larger labour forces, restricted automation, limiting similar productivity gains.

Technology Gap in Indian Manufacturing- Why Manufacturing Has Lagged in India

0.17 India’s analytical framework focused on the effects of an economic windfall, rather than the long-term consequences of political wage decisions taken by a democratic government.
0.18 High public sector wages were a policy choice, unlike natural resource discoveries, making their effects more persistent.
0.19 Manufacturing failed to adopt adequate technological upgrading to sustain higher wages and productivity.

Contrast with Services-led Growth

0.20 Entry-level salaries in large Indian software firms rose sharply during the 2000s, despite the retreat of the State and the expansion of private markets.
0.21 Companies such as Swiggy, Zomato, Blinkit, and Ola relied on abundant labour reserves, rather than deep technological innovation.
0.22 This highlighted the contrast between services growth, which absorbed labour easily, and manufacturing, which requires sustained capital investment.

Induced Innovation Debate

0.23 The theory of induced innovation suggests that labour scarcity and high wages can push firms toward capital-intensive growth.
0.24 Economist John Habakkuk argued that 19th-century Britain grew faster than the United States due to land scarcity encouraging innovation.
0.25 In India, such induced technological change did not occur at a sufficient scale within manufacturing.

Final Outcomes Highlighted

0.26 Manufacturing growth became lop-sided, with limited productivity gains.
0.27 Inequality increased, while wage growth stagnated for large sections of the workforce.
0.28 Manufacturing increasingly relied on cheap labour, avoiding long-term technological investment.

The Gist

0.29 India lagged behind China and South Korea because manufacturing’s GDP share remained stagnant.
0.30 High public sector wages raised prices and led to real exchange rate appreciation, hurting competitiveness.
0.31 Despite private sector dynamism, manufacturing failed to adopt adequate technological upgrading, resulting in low productivity, inequality, and wage stagnation.