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Determinants of Competitiveness of the Indian Auto Industry

Listed author(s):
  • Badri Narayanan G.

    (Indian Council for Research on International Economic Relations)

  • Pankaj Vashisht

1. This study analyses the determinants of competitiveness in the Indian auto industry. It is based on a field survey and a quantitative analysis of secondary data. The field survey covers 45 firms all over India, of which 31 are auto-component firms and 14 are Original Equipment Manufacturers (OEMs). 2. From 2001-02 to 2005-06, the Indian automobile sector has grown at an average annual rate of over 18 per cent in terms of value of output at constant 1993-94 prices and the auto-component sector has grown at about 26 per cent. During the same period, in terms of domestic sales in numbers, two-wheelers have grown at over 13 per cent per annum; three-wheelers at more than 15 per cent commercial vehicles at about 25 per cent per annum and the number of passenger vehicles by 17 per cent per annum. 3. Vehicle exports at constant 1993-94 prices have grown at an average annual rate of more than 55 per cent from 2001-02 to 2005-06, while auto-component exports have grown at 21 per cent. Two-wheeler exports have seen an annual average growth rate of 27 per cent; passenger car exports have grown at 80 per cent; and commercial vehicles at about 55 per cent. 4. The effective rate of protection on automobiles is much higher than on components. For example, during 2006-07, while nominal custom duties were 60 per cent for automobiles (other than commercial vehicles), 12.5 per cent for commercial vehicles and 12.5 per cent for auto-components, effective rates of protection were 183.5 per cent, 12.5 per cent and 10.1 per cent, respectively. 5. With the higher countervailing duty and other cesses/levies, the effective rate of protection for automobile sector would be even higher. 6. This differential rate of effective protection distorts resource allocation and investment pattern in the industry. 7. The auto-component sector has much higher employment-generation potential and export-intensity than the auto assembly segment of the sector. The component manufacturers are now globally competitive and are also maintaining reasonable profitability levels despite a tariff protection of only 7.5 per cent. 8. The import tariff for the assembled vehicles is 60 per cent. Given the low level of protection both for the auto components and CKD/SKD kits, this clearly reflects a policy bias in favour of auto assemblers. 9. The reduction in import duties on assembled units may be undertaken in a phased manner and after ensuring that Indian automobile companies get comparable access to ASEAN and Chinese markets. 10. The anti-dumping mechanism should be strengthened to prevent the dumping of vehicles in the Indian market. 11. The government must also ensure that the large infrastructure deficit faced by this important sector is addressed urgently so that any adverse impact of macroeconomic policies is avoided. These are important steps if import duty structure is to be rationalized. 12. Materials cost is the major component in production cost and its share is increasing. Policy measures to reduce domestic indirect taxes on all inputs for the auto industry would be a welcome step to enhance competitiveness. The Chinese auto industry faces a flat 17 per cent indirect tax incidence, so our aim should be to reach that level. 13. Significant scaling up is required at all levels in the Indian auto-component sector so that economies of scale are gained and cost of production reduced. 14. One of the major constraints for the smaller auto-component manufacturers in increasing their scales of production is lack of credit availability at interest rates comparable to other countries. This is also confirmed by our econometric analysis. 15. R&D expenditure as a share of turnover is low in the Indian auto-component sector ranging between 0 and 1.5 per cent while it is 0.5-3 per cent for the automobile sector. In fact, most of the smaller auto-component firms and a few of the bigger ones do not have an R&D facility. Policy intervention is urgently needed to improve the R&D activities in the Indian auto industry. Since fiscal incentives are not working, a scheme of special credit for R&D would be useful to induce the R&D activities. 16. Indias current levels of tariff on capital goods are higher than those in the ASEAN and China. Thus, these tariffs should be brought down further to enhance competitiveness. 17. The Indian auto industry does not possess good design facilities. The Government needs to significantly strengthen non-proprietary R&D and design capacity that has strong connections with research institutes like IITs. This could be used by all the players in the industry to develop new models, reduce material costs and become more competitive. 18. Skill shortages and skill mismatches have emerged as a major constraint. To address this critical concern, the proposed National Auto Institute1 should be quickly established with active participation of private industry players. 19. There is a significant and increasing use to contract workers in the industry. Labour reforms, aimed at more flexibility, are widely considered among the industrialists as an essential step. This will encourage firms to employ and retain more permanent workers and improve learning and raise productivity levels. 20. It is important to recognize that labour reforms are expected to increase overall employment in the auto sector and will also help firms in the organised sector to scale up. 21. The unorganised sector contributes 30 per cent to total employment, 15 per cent to fixed assets and only 1.5 per cent to output in auto industry in India. This sector has much lower capital and labour productivity than the organised sector. The share of power/fuel cost in total costs are much higher in the unorganised sector. Hence, policy measures are required to incentivise these smaller firms to use power and fuel more efficiently, by adopting better technologies and taking steps to minimise wastage. 22. In the econometric analysis, foreign equity participation is found to be correlated with technical efficiency. Therefore, both centre and state governments should create a conducive environment for attracting more FDI. 23. The trend of mid-sized vehicles capturing a large market share is expected to continue in the foreseeable future. 24. A detailed roadmap for strict implementation of emission standards that are harmonised across states should be drawn up. This could go a long way in ensuring that the entire automotive supply chain upgrades quality and technology. 25. While the implementation of VAT is a positive step, remaining differential in indirect taxes should be eliminated by moving to the GST. The currently prevalent region-specific fiscal concessions are creating the unsustainable locational distortions in the industry. 26. So far, Indias FTA with Thailand has resulted in a net trade gain for India. The government must, however, ensure comparable, if not preferential, market access to domestic firms in partner countries, especially in the Asia-Pacific region, while negotiating FTAs. 27. The principles pertaining to the rules of origin have to be strictly implemented.

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Paper provided by East Asian Bureau of Economic Research in its series Microeconomics Working Papers with number 22234.

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Date of creation: Jan 2008
Handle: RePEc:eab:microe:22234
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  1. Deb Kusum Das, 2003. "Quantifing trade barriers: Has protection declined substantially in Indian manufacturing?," Indian Council for Research on International Economic Relations, New Delhi Working Papers 105, Indian Council for Research on International Economic Relations, New Delhi, India.
  2. W. M. Corden, 1966. "The Structure of a Tariff System and the Effective Protective Rate," Journal of Political Economy, University of Chicago Press, vol. 74, pages 221-221.
  3. Narayanan, K., 1998. "Technology acquisition, de-regulation and competitiveness: a study of Indian automobile industry," Research Policy, Elsevier, vol. 27(2), pages 215-228, June.
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