Assessing structural coherence with factor proportions of tradable sectors in Indian economy

Structural transformation supports higher output growth if it reflects the endowment fundamentals of the economy. Since the industrial structure is expected to align with factor-intensive sectors, structural coherence with factor proportions becomes an important consideration for industrial policy design. In the past, measurement of factor proportion (intensity) has been restricted to direct use within the sector ignoring the crucial fact that factors are also embedded in upstream supplies. Therefore, an underestimation of the factor proportions across sectors of the economy cannot be ruled out if evaluated using direct factor contents only. It is important to account for the indirect requirement for factors of production. Capital, in particular, is expected to be used intensely in the tradable sectors due to their relative importance in output, exports and investment. However, tradables are often studied in isolation of their interaction with the non-tradables. The use of Semi Input-Output (SIO) model permits to address both the above mentioned shortcomings. This paper has two objectives for studying the tradables using an SIO approach using the KLEMS data from the RBI. First, to provide an improved estimate of factor proportions from the additional accounting for interlinkages with the non-tradables. Second, to study the structural coherence with factor proportions. The absence of a clear pattern between the structure of output and factor proportions points to market failures preventing movement of labour and capital to the most desirable sectors, thus constraining growth. Major exporting tradables are not the most labour-intensive sectors, indicating a mis-match vis-a-vis the proportions. The output and exports are not concentrated among the most capital-intensive tradables. The concentration of FDI into sectors with high relative use of capital, in a labour rich economy, leaves not a very encouraging situation for employment generation. From a policy perspective, the results suggest that under the present orientation of factor proportions, FDI is unlikely to be the solution to employment generation problems with the existing skill set. With increased capital proportion of even the labour-intensive sectors, a different type of labour supply is needed which is better trained and also mobile across sectors.