If we shift our gaze away from the much-discussed “policy paralysis” and “growth-inflation” debates, what are we likely to see? One thing that would certainly catch our attention is an acute labour shortage in a number of sectors. Companies across the board, from tea plantations to construction to conventional manufacturing, are complaining that even if they pay higher wages, workers are impossible to find. This is not a new complaint. For the past couple of years, industry has been voicing concerns about the availability of labour. However, the problem seems to have intensified. In short, the Indian industrial sector is hitting the unlikeliest of supply barriers for a supposedly labour-surplus economy.
Let’s make what seems like a sensitive assumption: the pool of labour that industry draws on is located largely in the rural sector. Thus, this labour shortage should tell us that remuneration for agricultural workers and small farmers has increased dramatically. Therefore, they are unwilling to leave farm work and seek employment outside. There is another dimension to this. According to most surveys, less than half the rural economy comprises hands-on agricultural work. The rest is a combination of services and manufacturing that depend on the agrarian economy. Increased incomes within the farm sector are likely to have spilled over to these support sectors largely as increased demand, and pushed up earnings in the non-farm rural sector. This is likely to have affected the movement of workers from this pool to the industrial sector.
Data from different surveys and sources corroborate this hypothesis. A survey done by Business Standard in 2011 showed that from 2008-09 and 2009-10 there was a sharp increase in nominal wages in a number of occupations in the rural economy, ranging from unskilled workers to sweepers and carpenters (“The truth behind rural wages in India”, October 2011). This, prima facie, appears to have accelerated further in the last two years.
There are, clearly, two ways of interpreting this. One is to conclude that policies like the Mahatma Gandhi National Rural Employment Guarantee Act (MGNREGA) and the shift in the terms of trade towards agriculture are effectively redistributing incomes, striking the right balance between growth and equity. The other way to view this is that these policies are seriously crimping the manufacturing sector’s growth and are going against the long-term objective of getting people out of agriculture and the rural economy and into the industrial economy.
We might draw some consolation from the fact that we are not the only Asian heavyweight that runs the risk of losing our competitive edge because of escalating labour cost. China is also looking at a massive wage spiral that has already begun to impinge on exports. In fact, since 2009, net exports have contributed virtually nothing to China’s GDP growth. Aggressive investments have taken up the slack, ensuring that growth does not collapse.
If Asia risks losing its status as the global manufacturing powerhouse, who is likely to fill in? Not surprisingly, it is likely to be the US that could see a revival in manufacturing. A March 2012 report by The Boston Consulting Group (BCG), titled “Made in America, Again — US manufacturing nears the tipping point”, offers interesting insights into how manufacturing activity is rapidly moving back to the US. BCG identifies a whole host of industry segments – ranging from cars to metalwork to furniture – in which US firms have relocated operations from China (and other “low-cost” manufacturing bases) back to American shores.
The rationale for this “re-shoring” should be clear from some of the calculations that BCG provides. In 2005, a worker in the American manufacturing sector was earning 23 times the average wage of the Chinese worker; in 2010 it was about 15 times; and by 2015 it is likely to drop all the way to 10 times. Adjusting for productivity, and the fact that US manufacturing has a better supply chain and logistical support, China’s wage advantage virtually disappears by 2015.
But mere Schadenfreude at China’s plight will not help our case. We need to fundamentally alter the way we see the challenges and then rewrite our macroeconomic narrative. Specifically, two things need to happen. The current discourse on labour markets still revolves around the need for a more nimble “exit” policy that enables companies to retrench labour in response to the swings in the business cycle. This implicitly assumes a fairly elastic supply of labour for industry. This has to change. The focus has to shift to how to overcome the labour constraint and align wages with the productivity of our workers.
Second, the current narrative on the MGNREGA and similar programmes tends to focus on either the scheme’s fiscal cost or the issue of whether it is targeted efficiently. This will have to change. We need to understand whether these large-scale transfers are consistent with our long-term goals of expanding the manufacturing sector and absorbing larger proportions of the population. Is it really prudent to push up the reservation wage level in the economy without a commensurate increase in productivity? We should ask a similar question about the shifting terms of trade in favour of agriculture and against industry (partly through hikes in the minimum support price). This shift might have led to redistribution of incomes, but what does it foretell for the future of manufacturing?
The labour market lies at the heart of the economy. Imbalances in this market will impinge on a number of areas. Competitiveness will suffer, and the gains from a weak rupee could easily get eroded by rising wages and the actual physical shortage of labour. A labour constraint would also render initiatives like the New Manufacturing Policy toothless. Finally, excess demand for workers sets off a wage-price spiral and will keep the pressure on inflation alive. At the first sign of an industrial recovery, core inflation could go through the roof. Our labour market needs immediate attention from our policy makers.
The writer is chief economist, HDFC Bank