Why India has a Jobs Crisis

A new report by Niti Aayog and the IDFC Institute confirms what experts have been saying for years. But will the government take heed?

It is estimated that around 1.2 crore Indians are entering the workforce every year, and will continue to do so over the next two decades. This is supposed to be our demographic dividend, something that will pull us up from being a third-world country to being a more developed one.

This conclusion comes with the assumption that the one crore young people entering the workforce every year will be able to find jobs. And once they find jobs they will earn enough, spend and borrow. All this will lead to faster economic growth and Indians will live happily ever after.

There is just one problem with this argument—where are the jobs? As per the Report on Fifth Annual Employment – Unemployment Survey (2015-2016), only 60.6% of Indians who were looking for a job all through the year were able to find one.

This is not a recent situation. As per the Report on the Fourth Annual Employment – Unemployment Survey (2013-2014), only 60.5% Indians who were looking for a job all through the year, were able to find one.

The situation is worse in rural areas. As per the two reports mentioned above, only 52.7% and 53.2% of the workforce living in rural areas, and who were looking for a job all through the year, were able to find one.

Hence, there is huge underemployment in India. There isn’t enough work going around for everyone. This basically means there aren’t enough jobs for individuals who are already a part of the workforce and even for those currently entering it.

A major reason for this lack of jobs is best explained by a graphic on page 11 (Figure 1) of a newly published report titled Ease of Doing Business—An Enterprise Survey of Indian States. The report has been published by the Niti Aayog and the IDFC Institute.

Figure 1: Distribution of manufacturing workforce among small, medium and large firms in India and China

This figure shows that close to 85% of Indian manufacturing firms are small. They employ less than 50 workers. In the case of China, only around 25% of the manufacturing firms are small. Also, in the case of China, more than 50% of manufacturing firms are large, in the sense that they employ more than 200 workers. In the Indian case, around 10% of the manufacturing firms are large. And India has very few middle-sized firms which employ anywhere between 50 to 200 workers.

Since, a bulk of manufacturing firms are small they create fewer jobs. This is a phenomenon which plays out across labour intensive sectors which can employ a huge mass of India’s unskilled and semi-skilled labour, as well. Take a look at Figure 2.

Figure 2: Distribution of Enterprise Size in Apparel Sector.

Source: Ease of Doing Business—An Enterprise Survey of Indian States.

Figure 2 tells us that close to 85% of the firms in the apparel sector employ less than 8 employees. This lack of scale is a major reason why India does not compete well internationally in the apparel sector.

Also, since firms start small and continue to be small, they do not create enough jobs. As an OECD research paper titled Small Businesses, Job Creation and Growth—Facts, Obstacles And Best Practices, points out:

SMEs (small- and medium-sized enterprises) account for 60 to 70 per cent of jobs in most OECD countries, with a particularly large share in Italy and Japan, and a relatively smaller share in the United States. Throughout, they also account for a disproportionately large share of new jobs, especially in those countries which have displayed a strong employment record, including the United States and the Netherlands. Some evidence points also to the importance of age, rather than size, in job creation: young firms generate more than their share of employment.

India, as we have seen, has next to no firms when it comes to medium-sized firms. Also, the small firms in the apparel sector are very small, with less than eight employees. This limits the ability of firms to create jobs.

What is the reason behind this? Why are Indian firms so small? As Jagdish Bhagwati and Arvind Panagariya write in India’s Tryst with Destiny:

The costs due to labour legislations rise progressively in discrete steps at seven, ten, twenty, fifty and 100 workers. As the firm size rises from six regular workers towards 100, at no point between the two thresholds is the saving in manufacturing costs sufficiently large to pay for the extra costs of satisfying these laws.

Hence, India needs better labour laws.

This is something that the Niti Aayog—IDFC Enterprise Ease of Doing Business report also dwells into. As the report points out:

Stringent labour laws have continued to hold back the emergence of large enterprises… It is however noted that a majority of enterprises tend to have less than 49 employees regardless of whether they are located in a high- or low-growth state. This may be of interest with regards to the impact of In­dia’s labour laws on the enterprise sizes in India. Only few laws are applicable to enterprises of all sizes such as the Minimum Wages Act of 1948. As far as legal registration of manufacturing firms is concerned, the employment threshold of ten is a major mark­ing point in the sense that all those employing ten or more workers and using electric power (20 or more if power is not used) are required to register under the Factories Act of 1948.

In the recent past, a few state governments have initiated labour law reforms, but these are clearly not enough. A few labour law reforms have been carried out in states like Rajasthan and Madhya Pradesh, which do not have much of an industry in the first place. Hence, these reforms need to be carried out throughout the length and breadth of India, particularly in states which have some sort of industrial base.

Also, bad labour laws have led to a situation where Indian manufacturing firms have gotten used to the idea of replacing labour with capital. And that is something that is not going to change any time soon. Habits, once formed, are difficult to break.

The Niti Aayog—IDFC Enterprise Ease of Doing Business report is not the first report to offer the argument of the small size of Indian manufacturing firms. The chief economic adviser Arvind Subramanian along with Rashmi Verma in a June 2016 column in The Indian Express, wrote: “Every unit of investment in clothing generates 12 times as many jobs as that in autos and nearly 30 times that in steel.”

But this job generation isn’t happening simply because the Indian apparel firms are too small. As Subramanian and Verma wrote:

One symptom of labour market problems is that Indian apparel firms are smaller compared to firms in say China and Bangladesh. For example, an estimated 78 per cent of firms in India employ less than 50 workers with 10 per cent employing more than 500 workers. In China, the comparable numbers are about 15 and 28, per cent respectively.

Subramanian and Verma weren’t the first to write about this issue — and they won’t be the last.

Hence, to that extent, the Niti Aayog – IDFC Enterprise Ease of Doing Business report merely restates what we already know, but with fresh survey evidence. The question is whether the Modi government will do anything about it? Will a government finally take on the labour unions which have such huge nuisance value, to bring in genuine labour reform than resort to just some tinkering here and there?

Postscript: Two government ministers were present at the release of the Niti Aayog – IDFC Enterprise Ease of Doing Business report. Later a press release was put out by the Niti Aayog, which said:

The survey was conducted between April 2015 and April 2016 and does not reflect any changes in the ease of doing business since then. In recent years, there has been tremendous progress in easing various processes related to doing business.

In simple English, this means that the report was dead on arrival. The first step towards solving a problem is acknowledging that it exists.


Also see: The Coming Jobs Crisis.

About the author

Vivek Kaul

Vivek Kaul is a writer who has worked at senior positions with the Daily News and Analysis (DNA) and The Economic Times. His latest book India’s Big Government—The Intrusive State and How It Is Hurting Us, has just been published. He is also the author of the Easy Money trilogy.