The COVID-19 pandemic laid bare the vulnerability of existing global manufacturing supply chains. It is likely to lead to global suppliers rethinking the resilience of their supply chain networks. Can India take advantage of this opportunity to bolster its industrial and commercial base? This issue brief sheds light on India’s manufacturing lag and discusses the various policy initiatives taken by India to strengthen its manufacturing sector. It concludes by suggesting some measures that could help India leapfrog into achieving the status of a global manufacturing hub.
By Kogila Balakrishnan
The COVID-19 pandemic has revealed the inherent weaknesses in the existing global supply chain and the over-reliance on China’s manufacturing industry. Countries such as Japan and the United States (US) have announced their decision to “on-shore”, or pivot, their supply chain out of China. The Japanese Government announced a supplementary budget of US$ 2.2 billion for the fiscal year 2020 to assist Japanese companies in diversifying their production bases, primarily through the return of high-value manufacturing activities to Japan, or redirecting them to the Southeast Asian nations. Currently, Japan relies on China for more than 20 per cent of its requirement of parts and materials, mainly electronic components such as motherboards, RAM chipsets and hard disk drives. In this regard, Japan and India share strong security and trade relations underscoring the Indo-Pacific alliance. On September 3, 2020, Japan added India to the list of relocation destinations as part of its effort to move manufacturing bases out of China.
Meanwhile, Prime Minister Narendra Modi has called on the Indians to seize the chance presented by the disruption to global supply lines. The Atmanirbhar Bharat Abhiyan (Self-Reliant India Movement) launched by Prime Minister Modi in May 2020 is aimed at merging the global with the local, generating manufacturing investment, and becoming the new global nerve centre of multinational supply chains in the post-COVID world. However, despite long-term aspirations to become a high-value manufacturing hub, India remains lagging in this area. The pandemic presents new opportunities for India to rethink its national industrial strategy, especially policies concerning the growth of its manufacturing sector. This leads to the question: can India position itself to take advantage of the opportunity that avails to be the next global manufacturing hub?
According to the United Nations Industrial Development Organisation (UNIDO), in 2019, India ranked 42 out of 152 countries, with manufacturing value added (MVA constant 2015 US$) totalling $430.25 billion, or equal to 15.5 per cent of its gross domestic product (GDP). At the same time, China ranked second with MVA (constant 2015 US$) of $4105.87 billion or equal to 28.8 per cent share. In 2019, India’s manufacturing portfolio concentrated mainly on chemicals and chemical products (18 per cent); coke, refined petroleum products and nuclear fuel (13.6 per cent ); food and beverages (9.4 per cent); basic metals (8.6 per cent); and motor vehicles, tractors and semi-trailers (8.1 per cent ). China, however, has one of the most diverse manufacturing portfolios in the world with medium and high-tech industry value added at 41.5 per cent (2017). China’s manufacturing composition (2019) consisted of basic metals (14.3 per cent); chemicals and chemical products (10.8 per cent); food and beverages (8.9 per cent); machinery and equipment (8.5 per cent); and radio, television and computer equipment (6.8 per cent).
India’s Manufacturing Lag
There are several reasons why India lags in the manufacturing sector. China has outperformed India, especially in areas critical to boosting manufacturing output such as starting new businesses, access to electricity, registering property, and performance in enforcing contracts. Additionally, the Chinese Government also pursues a strict performance-oriented approach to ensure that the industry stays productive and highly competitive. Interestingly, until the early 1990s, both countries shared similar levels of manufacturing and export capabilities. China’s big leap came in 1978 when Deng Xiaoping announced the “Open Door” policy. China’s long-term modernisation plan and market-oriented reforms created a strong private sector alongside state-owned enterprises. China built its base by slowly strengthening internal markets and bolstering the supply chain base of local industries to become the largest global manufacturer.
Pre-COVID, in 2019, China’s FDI inflow stood at US$ 140 billion, whereas that of India’s stood at $49 billion. India liberalised its economy just over a decade after China in 1991, but the move was more cautious than that of China’s, accompanied by sectoral caps. It was only in June 2017 that India abolished the Foreign Investment Promotion Board (FIPB), an inter-ministerial board that granted prior governmental approval in mandatory sectors. Currently, India allows FDI with foreign equity ownership up to 100 per cent through the automatic route for all sectors except for a few prohibited sectors. For example, in the defence sector, foreign equity through FDI has been revised from 49 per cent in 2017 and capped at 74 per cent in 2020 as well as conditioned to obtain government approval beyond this figure based on access to modern technology.
India’s bureaucratic setup, however, continues to mire foreign companies due to weak legal and regulatory systems. In addition, land, labour and law largely fall under the State List, which foreign companies see as further hurdles as each state may use different systems of approval. India is still being flagged out for its complex regulatory environment. In contrast, China’s leaner regulatory environment has been far more flexible at the state and regional levels. China’s FDI policy, reduced logistical costs, faster on-line approval processes and e-filing, all translate into an effective business management process that appeals to foreign investors.
India has a huge young demographic, between 40-60 per cent of the country’s population, which requires jobs. India would have to commit to more policy reforms to be able to further scale up its manufacturing capacity. It must continue to significantly invest in the development of physical infrastructure and digital connectivity—high-speed train networks, new airports, seaports, roads, and broadband. It is important to offer efficient connectivity between industrial clusters and cities ensuring good transport links and logistics that support an effective and reliable industrial eco-system, which meets the demand of the international supply chain.
India also needs to liberalise its education sector and invest in international education and research partnerships. These efforts should be fortified by a government-led public-private partnership investments in R&D, innovation, entrepreneurship, and the strengthening of the industrial supply-chain in high-value manufacturing sectors, which will contribute to the development of regional clusters. One such initiative is the C-130J programme that created a partnership between the Lockheed Martin research programme and Indian universities to work with local industries and mentors from the Defence Research and Development Organisation (DRDO) to help design specifications.
To support industrial clusters, India must consider prioritising investment into alternative renewable energy sources, such as solar and wind power. Currently, India is struggling to provide cheap access to electricity and clean water. Cheap renewable energy can generate capability and reach remote rural areas across the country; the surplus can be used for electric vehicles, such as scooters and rickshaws, which can then be locally produced for domestic and export markets. At the same time, these green technology related energy management initiatives will also address externalities such as high levels of carbon emission, pollution, and poor air quality and contribute towards sustainable manufacturing.
Additionally, there is a need to improve and follow-through India’s regulatory reforms such as labour and land acquisition reform, commercial law approval processes and regulations, tax credits and grants for investors in the emerging high-value manufacturing technology as well as enforcement of contracts. India can also introduce incentives to encourage advanced technology innovations in areas such as 3D printing and automotive real-time processes in manufacturing.
Last, but not least, the Indian small and medium enterprises (SMEs) sector should be incentivised to become internationally competitive and export-driven. Both state governments and the central government must coordinate and introduce incentives that will draw FDI at regional levels, as has been seen in Telangana and Tamil Nadu. The government needs to further reduce red tape and overly complex approval processes and promote innovative and efficient business processes that will attract more foreign investors.
India can emerge as the next global manufacturing hub. In times of deep economic crisis, such as the one brought on by the COVID-19 pandemic, a swift government intervention through strong fiscal response and injection of capital into the economy is necessary. While the economy as a whole needs significant support, the government must see this as an opportunity to strategically invest in high technologies for priority sectors such as agriculture, electronics and electrical equipment, including computers, telecommunication and space. It should inject aggressive economic incentives and review the current business practises to bring in more trade and investments into advanced manufacturing sectors.
This article first appeared in www.idsa.in and it belongs to them. The author is a research associate with IDSA.