Unless Urgent Steps Are Taken, Make in India Will Remain a Non-Starter

The “Make In India” campaign was launched with the twin objectives of growing the share of manufacturing in India’s GDP and of generating massive employment opportunities for India’s teeming young population. The vision, articulated in September 2014, was timely, following on the success of the Indian Mars Mission. A total of 25 sectors were identified to target these objectives.

In the last 16 months what has been the success of this initiative? With the Make In India week being launched on Feb 13 by the Prime Minister, it is a good time to take stock of the policy outcomes,
especially the “on the ground” success or failure of this vision.

India’s economic success is critical, in a world marked by increasing economic distress caused by falling commodity prices, deflation, currency wars, increasing protectionism and reducing global trade. India stands out as a beacon of hope that democratic political systems can also deliver high economic growth. The promise of BRICS has been dampened with the economic problems in Brazil, Russia and South Africa and the slowdown in China to a 25-year low rate of GDP growth.

As oil prices have crashed from USD 115 in June 2014 to USD 30 in January 2016, there is a huge transfer of wealth happening from oil producers to oil consumers. Some economists are questioning why this fall in oil import prices has not lead to a huge upsurge in Indian economic growth. The explanation is in the details. The average pump prices in India have fallen by 11% for Petrol and 21% for Diesel, while crude prices have fallen by 74%. The difference has been largely pocketed by the federal government in the form of enhanced tax levies which have led to a massive year-on-year growth of 34% in indirect tax collections.

This is fiscal prudence and has led to a situation where corporate turnovers are stagnant or reducing, while margins are expanding, leading to better profits for commodity consumer sectors. Our estimates are that CPI would be lower by 0.3% if the entire fall in global crude prices gets transmitted to the Indian commodity consumer sectors.

Any analysis of the Make In India initiative has to be thus put in a historical context. The election of the new federal government, with the first clear mandate in terms of a single party majority in the parliament in decades, raised hopes and expectations of a strong willed administration, which would introduce structural reforms and lead India onto the path of double digit growth
for multiple decades.

High expectations

The slogan of “Minimum Government, Maximum Governance” charmed analysts and industrialists alike. Expectations were that it would be a right-of-centre, liberal government, which would favour rapid privatisation and pro-growth policies to kick start the economy and revive aggregate demand which was languishing.

The World Bank’s “Ease of Doing Business” ranking of India improved 12 places to reach 130 out of a list of 189. However, there was precious little progress in making it easier to start a business, to get permissions for capacity expansion, to shut down a business or to enforce a contract. On top of that, the stalling of crucial reforms like GST and Land acquisition was a sobering reality.

What analysts missed was that, beyond the Make In India campaign, this was a strange mix of promised right wing liberalism with  heavy doses of welfare statism. While India was celebrating being 130 out of 189 in the ‘Ease of Doing Business’ rank, China at 84 and even Pakistan with all its failed state syndrome at 138,were a sobering reminder of the gap that needed to be bridged. Mexico at 38, Russia at 51, Turkey at 55, South Africa at 73, Philippines at 103, Indonesia at 109 and Brazil at 116 should give us further food for thought.

So what were the limitations of the approach and the execution? Privately a lot of industrialists say that what was needed was a 15-month revival plan, apart from the 15-year strategic plan that was rolled out with great panache and confidence.

First of all, there was little attempt to institutionally strengthen the policy framework. A technical expert, working on an inter-ministry committee to remove the bottlenecks of stalled projects, mentioned how the bureaucrats were aghast at the pace at which he wanted to restructure and revitalise stalled projects. In fact in the last quarter of 2015, the value and number of stalled projects actually went up. On the other hand, despite repeated attempts at selling non-core assets and monetising assets, many highly indebted companies surprisingly saw an increase in their debt levels with few revivals of stalled and bleeding projects coming through.

Talent shortage

Secondly, there is a serious talent shortage in critical areas. Institution building and their strengthening is the need of the hour with technical experts needed in all the mission-critical areas. This was not done beyond some instances like getting external professionals to head some Public Sector companies.

The result? As of January 2016, all 57 listed Public Sector companies (PSUs) on the Indian stock market have a market capitalisation less than that of the top 5 privately owned companies. The market value of these PSUs has fallen over 40% in the last two and a half years. With no bureaucrat tasked with a goal based on increase in market values of PSUs, we have seen value destruction on a massive scale.

This became the most evident in the Banking sector. PSU banks contribute over 70% of the lending and deposits to the Indian economy. However, with a substantial erosion in their valuations, as of January 2016, all the PSU banks put together were valued less than the leading privately owned bank. Even more starkly, all the PSU banks – excluding the SBI — were valued less than the second biggest private bank. A year earlier, in January 2015, all the PSU banks were valued at close to two times the top private bank.

The reasons for the sharp value erosion in PSU banks will take a separate paper to analyse. The PJ Nayak report laid out a very good improvement plan for PSU Bank governance and performance enhancement. Most of its suggestions are still not implemented. In the meantime, fears around the actual vs reported levels of bad loans at PSU banks saw their valuations dive to historically low levels.

Highly leveraged corporates

This leads us to the fourth reason for the slow traction of Make In India. Highly leveraged corporate balance sheets, with many sectors having unmanageable levels of debt, which cannot be serviced by the present cash flows. This has set in place a vicious circle of increasing bad loans, which leads banks to curtail further credit, thus choking these sectors off sustenance and leading to their failure. Add to that bad project appraisals and optimistic loan disbursals based on over optimistic forecasts by delusional or lumpen promoters, and we have a stage where anything from 10% to 17% of all bank loans is deemed as “stressed” by analysts.

Then there is the global overcapacity in certain sectors and the currency devaluations in emerging markets. This lead to certain countries dumping goods at huge discounts to domestic manufacturing costs. From steel to tyres, from power plants to toys, Indian industry has faced this dumping of goods from various countries. The government response has been slow and mostly inadequate. This has exacerbated the already tough conditions, with the output gap in the economy rising, as capacity utilisation has been falling.

The comparison with China and certain pronouncements, that the slowdown in China represented a great opportunity for India to seize on, have been, frankly, difficult to understand. Starting from a GDP of USD 2 trillion, even if India grows at 8 %, and China grows at 6% from a current GDP of USD 10 trillion, by 2020, China would have added two Indias to its GDP. In this context, the talk of the China vs India rivalry is a no-contest on most fronts.

In infrastructure, support to local manufacturing, speed of policy implementation, scale of economic
clout, foreign exchange reserves, current account surplus, financial assets size, military might, geopolitical influence, literacy, health, life expectancy – and even in sports (2012 Olympic medal count: China, 88; India, 6) — it will be an unequal competition for decades. This reality check is clear to Indian industry, but seems to be missing in the public discourse and strategy formulation.

Let us however consider the “glass half full” analogy and look at strong policy action that can revive, revitalize and strongly grow the scale of Indian manufacturing.

How can this be done? Can we Make In India? Yes.

With a 15% manufacturing share in a USD 2 trillion economy and a non-gold, non-oil import bill of USD 300 billion, the potential is there.

Some key success factors are in place: a federal government committed to increasing the share of manufacturing over the next 10 years to 25 % in the GDP and to creating 100 million new manufacturing jobs; a competitive race amongst state governments to attract investments in their regions to generate employment and prosperity; India’s natural advantage of demographics, resources and established rule of law and protection of private property rights. The government could take some concrete steps to rapidly scale up manufacturing.

It could appoint a minister of Make In India: This project is too important and too critical for poverty elimination in India to leave it to bureaucrats spread across ministries. Such a minister, of the calibre of someone like Ratan Tata should be appointed post-haste and given the best team of bureaucrats and technocrats.

For each of the 25 sectors/industries identified for Make In India, the Niti Aayog  should appoint an industry veteran to give an action plan within the next 100 days on which country, which region, which companies in the world delivered the maximum excellence in that particular industry and how. For example, Bangladesh, despite an ‘Ease of Doing Business’ rank of 174 is exporting as much textiles as India. 

There are 10 criteria used in the ‘Ease of Doing Business’ ranking by the World Bank, among them: Starting a Business, Dealing with Construction Permits, Getting Electricity, Registering Property, Paying Taxes, Enforcing Contracts etc. There should be therefore 10 departments in the Ministry of Make in India mirroring these with the task of bringing India to the first rank on all these parameters within the next 12 months. Nothing less will do.

Infrastructure bottleneck

Infrastructure is the next biggest bottleneck. This will take a lot of time and resources to resolve. The biggest bottleneck is infrastructure funding and project revival/clearance. An Infrastructure Finance Commission should be set up with a renowned finance leader like Deepak Parekh to devise various structures and instruments to deliver the massive fund raising that is required to get Indian infrastructure to global levels.

India is sitting on a demographic time bomb as most of the youth entering the work force every year are not employable.The education system needs to be urgently revamped into a Germany-like apprentice system which provides vocational skills to students to create employability amongst school and college students .This is a very critical pre-requisite as well.

The very poor sub-12% Tax to GDP ratio of India remains one of the lowest in the world. The reasons and remedies of this are many and the Finance Ministry needs to bring in an intense focus on this. The tax procedures remain stuck in a colonial, “guilty till proved innocent” mind-set with horror stories like the MAT demands on foreign institutional investors without permanent establishments in India and the retrospective demands on many large M&A deals doing significant damage to investor sentiment and to India’s attractiveness as an investment destination. This needs to be addressed with a 100 -day plan; we cannot have a 15 year plan on this.

Structural reforms needed

Structural reforms can still move ahead despite legislative delays. Chandrababu Naidu in Andhra Pradesh and the Gujarat government have evolved equitable and speedy land acquisition policies that need to be emulated by all states. Similarly certain states have moved fast on labour reforms. The Bankruptcy Act will get passed in the next few months and will help immensely.

The creation of a single Indian Common Market as well as implementation of GST are critical as well. These by themselves could boost the GDP, enhance the Ease of Doing Business and significantly increase tax compliance and collections while reducing compliance costs for corporates. Both need to be implemented in whatever form is politically possible, given the legislative composition at present.

Banking sectors reforms and bank balance sheet-strengthening is an essential condition for the success of Make In India. PSU banks need to be capitalised. Distressed loans should be moved to a “bad bank” manned by Enforcement Directorate officers with empowerment to recover defaulted loans from promoters. This will reward efficient promoters with lower loan rates and instill fear in chronic defaulters who have diverted funds with impunity.

This is a partial list, as the opportunity is huge. For each of the 25 sectors identified under Make In India, the 10 criteria under Ease of Doing Business make for 250 broad action points with hundreds of detailed action points within these. There are shining examples of success around the world that need to be emulated and quickly implemented in India for each of the sectors and criteria.

The Indian economy has been more of a tortoise than a lion over the last many decades. The dice is loaded against India to deliver on the Make In India promise. Between 2000 and 2010, the developed world, represented by North America, Europe and Japan lost 17 million jobs in manufacturing. These would be due to productivity gains, downsizing and offshoring. In this scenario, India will find it tough to add even a fraction of the ambitious 100 million manufacturing jobs that are aimed for under the Make In India campaign.

Global manufacturing is changing very fast. Innovations in technology, work flows, materials, processes, automation, robotics and even in consumption patterns means that the 20th century models of manufacturing success will not work in the 21st century. India has been left behind in this race and we are in an intense “catch up” phase to survive and prosper.

Make In India represents a significant opportunity to deliver a higher standard of living and ultimately prosperity to the average Indian citizen. Speed, deep insights, micro level execution on many fronts and far sightedness in the political class along with flexibility and competence of the “iron cage” of the bureaucracy will determine if the lumbering Indian tortoise remains in the ranks of the missed opportunities nations or metamorphoses into a powerful lion on the global stage.

Ajay Bagga is a market analyst based in Mumbai