Makers Need Much More than Just the Promise of a Red Carpet

It is easy to get distracted by the gorgeous set-pieces of the leading corporations at the Make In India exposition in Mumbai this week. One hall gives you a lengthy description of Amway’s 50-acre state-of-the-art manufacturing facility being built in Tamil Nadu, another talks about the premonitions of Dhirubhai Ambani, the founder of India’s richest business dynasty. One displays the ambitions of ISRO, hung up between the Mangalyan rockets and the tourists who may have only come to take selfies with the latest models from Mahindra and Jaguar. The Make in India push has become emblematic of this government’s vigorous determination to succeed where Indian governments since at least 1991 have failed – to make India a manufacturing hub.

The rationale behind the Make in India campaign is something like this. The government promises a red carpet for foreign investors and companies that may wish to set up shop in India. The “red carpet” usually translates into deregulated capital, labour and land, and improvements on the so-called “ease of doing” business – whereby companies ought to get timely electricity, clearances, registrations papers etc. Once these factors are in place, ‘rational’ investors will automatically realise the promise of India as a place to do business and make it the next China by outsourcing their manufacturing to us.

Or so the conventional economic wisdom goes. Most Indian financial commentators – with added support from Western newspapers, which they avidly follow – symapthise with this narrative. The government is blamed for not releasing budgets with a ‘Big Bang’ or for not pursuing ‘structural’ reforms with enough diligence. Both calls usually refer to demands for further deregulation, privatisation and liberalisation so that the narrative of enticing foreign investment can play out.

Fundamental flaw

Yet this strategy is very unlikely to work. Does it really matter for a multi-billion dollar manufacturing multinational, say Foxconn, if it can open its Indian subsidiary in 4 days instead of 24? Regulatory efficiency – more or less what “ease of doing business” amounts to – is important, and should be pursued as an end in itself. But when it comes to attracting top manufacturers to set up shop, there are, as most businessmen would attest, two cardinal motivators of investment.

The most reliable driver is the presence of demand. Nothing moves a businessman like the future expectations of higher sales – that inventory in the warehouse will be empty soon is the greatest stimulant for the production line. Most entrepreneurs when assured about this factor find the heart to navigate any hassles with local bureaucracies or infrastructure – often with blatant collusion through bribes.

In a world with WTO-sponsored low tariffs, trading has become extremely easy. So stimulating demand in India can often mean more imports from China – something that is clearly occurring in the market for electronics – as opposed to more manufacturing in India.

So how do we get manufacturers to “make in India and export anywhere”, as the prime minister has always wanted? The key is industrial ecosystems. When a manufacturing giant wants to build a factory, it requires – more than an amiable local administration – reliable and high quality raw material suppliers, a blue-collar workforce tailored to its industry, stable finance and experienced managerial expertise that can run supply chains, product development, shop-floor management, latest machinery, large-scale marketing and other complex tasks associated with modern production.

Manufacturing, unlike the ‘start-up’ e-everything culture, is a game of patient finance, enormous scale, institutional development and learning by doing. Regulatory efficiency, which has been ruthlessly blamed for holding up manufacturing on its tracks, matters only up to a point. There really is little correlation between the World Bank’s ease of doing business index and success at manufacturing.

Japan, which along Germany has the most sophisticated manufacturing base of the rich world, has a ranking of 34 – substantially behind the United Kingdom (ranking 6), a country with perhaps the weakest manufacturing sector of the rich world.

Indeed China (at 84), the largest manufacturer, exporter and soon-to-be-the-largest economy in the world ranks substantially behind Russia (51) or Saudi Arabia (82), both of which are extremely reliant on commodity exports. Such facts in themselves should make us question the point of boasting about India’s 12-rank climb in the index.

How others made it

Economies that have actually succeeded at manufacturing – located mainly in North America, Western Europe and East Asia – have, instead of sheepishly trying to get clearances and business permits on time, focused on things that matter. East Asians, from Japan and Korea to China, have vigorously promoted their own national champions towards export performance, often by assisting them with technology transfer, preferential financing, subsidies and (in times before the WTO) tariff support.

The Korean government, for instance, gave Hyundai Motors a protected domestic market so it could have the wherewithal to learn and fail and learn and finally succeed in the international market. It began its life in the late 1960s but made a profit only in the 1990s. The Japanese government would often force industrial mergers to allow for scale in various sectors (scale makes for improved competitiveness in manufacturing). The Chinese have ruthlessly promoted their state-owned giants through preferential financing – finance in China is almost entirely controlled by the state.

Usually the cry is that to make a sector competitive you need to expose it to cut-throat competition, and as little government coddling as possible. The thinking goes that since the cost of labour in India is low, this should be one incentive enough for ‘makers’ to invest. But manufacturing – except for perhaps really low-skill sectors like textiles – has never been about costs only. It is not just an output of labour, capital, land and entrepreneurship combined, as conventional economic thinking often assumes. It is about mastering institutions, technology and practices. This takes time and thus, needs space in the form of both capital and government support. Such protection allows for the development of industry-specific ecosystems of suppliers, technology consultants, trained workers and financing. The United States had the highest tariffs of any major economy till the First World War. Historians have credited it with saving the American heavy industry from British competition.

What Modi can do

Developing such ecosystems by stimulating local players through industrial policies could be a good start for the government. The government needs to have a sectoral bent in mind, with policies such as preferential financing, helping with mergers to achieve scale, export-conditioned subsidies or demand provision (through government financing) so that nascent industries may institutionalise mass-production techniques.

Foreign greenfield investments, which is the chief aim of  the Make in India policy, mostly occur in sectors that are already doing well like automobile manufacturing or food and pharmaceutical manufacturing. Multinationals know that when they try to set up a pharmaceutical plant, they will work with civil engineers who have built a pharmaceutical factory before, or when they hire factory managers – he or she would already have some experience running a car-making or chocolate-making production line.

It has been 18 months since the prime minister unveiled his “Make in India” programme. However, manufacturing has only stuttered since then. The new series GDP data may paint rosy figures, but exports have collapsed, capacity utilization is low and industrial production has grown only sparingly. With minuscule job creation over the past decade for a labour force of over 450 million, boosting manufacturing remains the only answer to India’s quest for a reasonable standard of living for its citizens. But if the government strategy is limited to magnanimous brand building and fixing regulatory compliance, it is sure to face more disappointment.

Akshat Khandelwal is a freelance writer and entrepreneur living in Delhi. He tweets at @akshat_khan.