The COVID-19 pandemic changed the way we think about our economic future. Globalisation is now in retreat. Industrial policy and strategic state-led economic interventions are back on the menu everywhere. The Inflation Reduction Act in the U.S., the European Green Deal, and India’s Atmanirbhar Bharat are prominent examples.
India’s growth momentum has sustained. India recovered relatively quickly from the pandemic, yet it has entered a phase of ‘premature deindustrialisation’. The fruits of high growth were shared by a small minority, worsening pre-existing gaps. High-end cars get sold out. Common people struggle to cope with high food prices. This fault line is built into the structure of India’s growth. This takes us to a long-standing question: why has India not been able to break out of industrial stagnation and generate employment? Raghuram Rajan and Rohit Lamba offer an unconventional perspective. In Breaking the Mould: Reimagining India’s Economic Future, they bet their money not on manufacturing-led growth but on high-skill, services-driven growth.
Why break the mould now?
In 75 years, India has not been able to industrialise sufficiently. Its manufacturing share in output and employment has always been stagnant and below 20%, except during the ‘Dream Run, 2003–08’. Even the 1991 economic reforms, , which came with the promise of labour-intensive industrialisation, didn’t alter this reality. India is now at a crossroads. Its industrial investment is stagnating, with high levels of unemployment and chronic disguised unemployment. Its trade deficit, largely driven by imported goods, has been widening. India is not even producing the goods its consumes, let alone exporting.
In that context, Rajan and Lamba’s argument to promote high-skill services powered by information technology to stimulate manufacturing is a reversal of classical wisdom, which is that services growth rests on manufacturing growth. This is at odds with India’s current industrial policy and may not be the solution. In fact, it could even make things worse.
First, employment elasticity of services-led growth is poor. India’s experience with services-driven growth since the late 1980s had two negative implications. First, it could not absorb the labour exiting agriculture in the same way that manufacturing would have. Second, the service sector required a large highly skilled workforce that India could not adequately supply. Even as the sector absorbed some labour which migrated to cities, it was deeply unequal. The relative wages of workers with a college degree were much higher than those without one. Inequality from services-driven growth is thus much higher than from manufacturing-led growth. The Gini index of inequality for regular wages in the services sector was 44 compared to 35 for manufacturing (Periodic Labour Force Survey, 2021-22).
Second, early investments in higher education contributed to the near abandonment of mass school education. These higher education institutions cultivated self-serving elites who played a role in India’s IT “revolution” while contributing to industrial stagnation. Investments in human capital were deeply unequal from the get-go. India is one of the world’s most unequal countries in terms of education. Yasheng Huang, a Chinese economist, said, “Rural entrepreneurship was able to grow out of the traditional agricultural sector on a massive scale [in China]. The rural Indian, in contrast, hampered by a poor endowment of human capital, were not able to start entrepreneurial ventures remotely on the scale of the Chinese.”
Third, the returns to education differ across classes and social groups. School enrolment is high. Higher education is not as inaccessible as it was earlier. But the differential quality of schooling feeds into the quality of higher education, which feeds into labour market outcomes. The high-skill services pitch would suit the traditional elite but not the majority first generation graduates from colleges in rural areas and small towns. The majority of these students reap poor returns on their investments in education. The poor quality of most state-run schools and colleges is closely linked to the elites’ renunciation of public education. Even as these fault lines are new forms of class divide in India, they reflect older ones rooted in the caste system.
A culturally rooted diagnosis
Why has industrialisation been stagnant in India? The lack of mass education meant that an important cultural prerequisite for industrialisation was missing. Economic historian Joel Mokyr suggests that the rise of useful knowledge is key to technological progress and growth in modern economies. For instance, foreign direct investment in India, which was supposed to diffuse technology, didn’t take place except in some enclaves. A culture of growth also requires the revaluation of labour, production, and technology. India has looked down upon certain occupations, particularly those that are essential (electrical, welding, etc.), partly impeding organic innovation in manufacturing. Industrialists say that India undervalues the vocational skills needed for manufacturing. Certain skills are not valued even if they command higher wages. Artisanal knowledge doesn’t enjoy as much social respect as scholasticism or metaphysical abstraction. Increasing returns and efficiency come from innovation and its diffusion, which are based on mass education and collective absorptive capacity. India needs deep industrialisation, not just the service sector, that has the power of changing the foundations of society.
Kalaiyarasan A. is an Assistant Professor at the Madras Institute of Development Studies, India and Visiting Research Fellow at Kings College London
