Monday, November 7, 2016

Essential Services as Industrial Policy

Get the basics right, then support all the way through to market.

Shyam Ponappa    |   November 3, 2016

Looking for a compressor-driven tyre pump in New Delhi, the sort that plugs into a car’s 12-volt socket, there were many choices. There were products by Michelin and Goodyear, mid-range products from Taiwan and Korea, and low-end products from China. None were made in India. 

Why is an engineered product like this not made here? Is the market not large enough, or is there too much competition? Or does this epitomise India’s manufacturing problem?  This set one wondering about the factors and impediments that producers and suppliers contend with, whether for products from the manufacturing or farm sectors, or for delivering services.

There are the taxes, the slowness in clearances that makes for difficulties and delays while increasing costs, the shortages, as in unreliable essential services of electricity supply, water, sewerage and waste handling, communications and logistics. Then, there are the issues of access to funds, their cost, the lack of skilled people, and access to markets. What corrective steps are needed most? 

Our fundamental need is for industrial policy to focus on providing essential services, through both policy facilitation and effective delivery. These essential services are critical for product or service delivery.  In addition, manufacturing also requires skills, discipline, financing, and access to markets including government buying.

A basic question is the legitimacy of any industrial policy, even before addressing sectors, products or methods of organisation.  In this context, there are the ideological biases that skew perceptions, influenced by what is topical or accepted as customary at a given time, such as the socialistic preoccupations of the 1950s, the market supremacists until the financial collapse of 2008, and the partial correction thereafter, recognising the role of governments in setting enabling policies.

Do industrial policies really work, or do they merely serve to create more problems?  For example, an article by the chief economist of the World Bank for Middle East and North Africa, Shanta Devarajan, offers three reasons why industrial policies fail:

- Distortions such as labour regulations, energy subsidies, or tax breaks, as for example in India that resulted in resource allocation to IT services and away from manufacturing, or in aggravating problems of pollution because of cheap diesel.

- Political capture by lobbies or crony capitalism.

- Efforts to provide a comparative advantage to sectors, and not to individual entities (picking winners), which can fail because every sector can have both successes and failures.  

While the first two are valid, the third is not necessarily true. While firms can fail despite incentives, sector initiatives are perhaps precisely what are required. This is because conducive policies do not guarantee success, but can provide preferential conditions, which is presumably the aim of sector- specific industrial policy. What India needs more of in this is support to market.

A compelling financial consideration for all manufacturing is the short-term profitability of service activities, or of trading with minimal manufacturing.  Typically, these give quicker returns, because of the lead time for product development and commercialisation in manufacturing. The latter requires scale, access to capital, and an ecosystem of complementary producers. These are difficult to come by, effectively skewing resources towards trading and limited manufacturing with a reliance on imports.

Yet, domestic manufacturing’s declining share is unsettling for a large, growing market with high energy imports. Other unsettling factors include the influence of prevailing sentiments and political philosophies, e.g. minimum governance, and how they affect developments and their trajectories in these areas.

Open questions

Some government initiatives leave one wondering how they advance the public interest. Examples are:

- Ignoring support for early-stage and upcoming entities, their order books and delivery capability, while organising start-up initiatives as “events” for college students. India has early-stage capital for service-oriented start-ups such as software and IT-enabled services, aggregators, and so on, but not for  product development or manufacturing. Likewise, there’s scant long-term funding available for manufacturing or getting local R&D to market. The most difficult stage is transforming successful R&D in the laboratory to field applications and commercialisation. This is where support is not available, and is  sorely needed.

- Attempts to attract foreign direct investment (FDI) in manufacturing, despite the record of FDI.  According to a study by the Institute for Studies in Industrial Development (ISID) of 309 companies in five sectors with FDI of at least 10 per cent from 1993 to 2013, net earnings from manufacturing were  negative for most of the period (see chart).

Source: “Foreign Exchange Use Pattern of Manufacturing”, Swati Verma, ISID, August 2015:

- In electronics and information technology, despite supportive policies on paper, local manufacturers show little traction in domestic sales. A recent negative development is the reported consideration of foreign-owned entities that assure FDI of $1 billion over the next five years as “Deemed Domestic Manufacturers” regardless of their imports. This negates the very principle of domestic manufacturing and reliance on local IPR.  More important, it jeopardises the prospects of network investments, because of high import requirements in contention with energy.

Essential services and select sectors

All governments adopt industrial policies, some with a focus on infrastructure and regulations, with a lesser degree of market intervention, and others with more of the latter. Picking any sector or activity for constructive attention automatically favours it against others, whether it is cleaning the Ganga, start-ups, favouring IT services or high-technology manufacturing, or providing electricity, communications, and other essential services. This highlights the importance of essential services delivery as the most basic and critical need, because it provides an enabling platform. However, achieving essential services delivery requires action cutting across departmental boundaries, contrary to prevailing practice, in the central government, followed by all government agencies including in the states.  A separate step is to pick areas like high technology and defence manufacturing for special promotion through to market.

These distinct thrusts, essential services, and backing select areas all the way to market, will likely improve outcomes premised on policy intent.

Shyam (no-space) Ponappa at gmail dot com