need-for-economic-reforms

Context: The crisis caused by the novel coronavirus pandemic has underscored the need for an economic reform to enable resilience in the economy and ensure a robust health system, together with research and development. 

Lessons from the past economic reforms

  • LPG reforms, 1991: India's New Economic Policy was announced on July 24, 1991 known as the LPG or Liberalisation, Privatisation and Globalisation model. 
    • Liberalization- It refers to the process of making policies less constraining of economic activity and also reduction of tariff or removal of non-tariff barriers.
    • Abolition of Industrial licensing/ Permit Raj: Except for 18 controlled industries, licenses were abolished across the board
    • Industrialists were free to enter any sector and expand capacities without govt.’s approval. 
    • The monopoly law was abolished. 
    • Public sector role diluted
    • Beginning of privatisation
    • Reduction in import tariffs
    • Deregulation of markets
    • Reduction of taxes

Benefits:

Evidence shows that the 1991 economic reforms and subsequent government interventions for liberalisation of economy and trade,  have given following benefits: 

  • Large foreign exchange reserves
  • Sustained manufacturing contribution in GDP ( The Indian Manufacturing sector currently contributes 16-17% to GDP and gives employment to around 12% of the country's workforce. )
  • Increased share in global exports (from a mere 0.6% in the early 1990s to 1.8%), 
  • Robust information and communication technology software exports, and 
  • Sustained economic growth in the range of 6%-8%

Drawbacks of past reforms

The economic reforms, so far, have been more focussed on the technical nature of the economy than the system, process and people. 

  • Low human resource capital (HRC) formation: Human capital is the economic value that comes from things like the worker’s experience, skills, knowledge, and abilities. Human capital is an intangible asset, unlike tangible assets like buildings and equipment. 
    • The HRC rank for India stands at 103; Sri Lanka is at 70, China at 34, and South Korea at 27, as brought out by the Global Human Capital Report, 2017.
    • Recently, the World Bank released the Human Capital Index (HCI) report for 2020. The index benchmarks key components of human capital across countries. India has been ranked at the 116th position in the HCI 2020.
    • The lack of quality education, low skilled manpower and inadequacies in basic health care have resulted in low HRC. 
  • Low per capita GDP: The World Bank database on GDP for 2019 highlights the low per capita GDP in India, at $2,104 (at $6,997 in PPP terms, ranked 125th globally). 
    • The world average is $11,429 (at $17,678 in PPP terms). It has direct links to low per capita family income. 
    • Per capita gross domestic product (GDP) is a metric that breaks down a country's economic output per person and is calculated by dividing the GDP of a country by its population. 
  • Low hourly wages: The report by Deloitte Global Manufacturing Competitiveness Index (2016), reflects that the hourly wages in India have been $1.7. They are $38, $24, $20.7 and $3.3 for the United States, Japan, South Korea, and China, respectively. 
    • Low wages have a direct bearing on the disposable income of families. Majority of households don’t have enough disposable income to purchase consumer durables or industrial products. It affects demand.
    • Disposable income or disposable personal income is an economic term for the money that is available for household consumption, savings, and spending after accounting for income tax.
    • Disposable income = Personal income – Personal income taxes
  • Low research and development expenditure at 0.8% of GDP, is resulting in lower capacity for innovation in technologies and reduced ‘technology readiness’, especially for manufacturing.
    • There is higher value of R&D expenditure for other fast emerging economies such as South Korea (4.5%), China (2.1%) and Taiwan (3.3%),
  • Low Labour productivity: Labor productivity measures the hourly output of a country's economy. Specifically, it charts the amount of real gross domestic product (GDP) produced by an hour of labor.
    • The lack of HRC and low technology readiness have impacted labour productivity adversely. 
    • In India, labour productivity in manufacturing is less than 10% of the advanced economies including Germany and South Korea, and is about 40% of China, as reflected in a World Bank publication of 2018, The Future of Manufacturing-Led Development
    • Low productivity has badly affected competitiveness, manufacturing growth, exports and economic growth.
  • Lack of capital expenditure and inefficiency in business service processes: Due to this there are difficulties in acquiring land for businesses, in efficient utilisation of economic infrastructure, and in providing business services.
    • It leads to a long time and more cost in setting up enterprises, resulting in a loss of creative energy of entrepreneurs.

For years, the economy has been hit internally due to low consumer demand as a result of low household incomes as well as externally on account of lesser competitiveness and inadequacies in integration with global supply chains for trade. 

Way forward

  • Addressing structural issues like HRC, skills, research and development (R&D), land management and institutional capacity: The focus should be on quality of business services, technology readiness, labour productivity and per capita income.
  • Attracting large investment in manufacturing and advanced services: For it investment in human capital and technology is a prerequisite. 
    • Raising HRC by way of enhanced public sector outlay to 8% of GDP, from current about 5%, for education, skill development and public health, is another first step. 
  • Technology readiness for Industry 4.0: Industry 4.0 will be defined by new technologies such as robotics, 3-D printing, artificial intelligence (AI), the Internet of things (IoT), etc., which could usher in rapid changes in technology. Old technology will become obsolete or outdated at a faster pace.
    • We should enhance public research and development expenditure to 2% of GDP over the next three years.
  • Enhancing per capita income by more wages for workers through higher skills and enhancing minimum wages, besides improving the social security net. 
    • This calls for a concerted calibrated approach through collaborative efforts of government, industry and workers’ unions. 
  • Addressing increased cost of labour: It can be compensated by higher productivity, some tax-benefits in the initial period of wage reforms especially for Micro, Small and Medium Enterprises, reducing transaction costs in business and improving infrastructure utilisation efficiency.
  • Building institutional capacity: Using insights from the work of Nobel laureate (1993) Douglass C. North on the role of institutions in advancing the economy in a country, it is necessary to build the capacity of public institutions to create a good environment for business and industry. 

    • Policy reforms should lay an emphasis on process innovation and promote a business-centric approach to implementing pre-determined service quality levels (SQLs).
  • Integrating with the global supply chain: Globalisation, the knowledge-intensive nature of businesses and Industry 4.0 has increased our reliance on global supply chains. 
    • We should aim to create a friendly ecosystem by having a state-of-the-art plug-and-play model for new enterprises, and for efficient internal supply chain management to integrate with the global supply chain.

In sum, it necessitates a systemic approach — encompassing inter-connected basic factors of the economic system — for policy reforms for setting the economic fundamentals right, in order to unlock creativity and innovation in the economic system, raise productivity and to achieve higher growth.

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