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Pre-reform Conditions, Intermediate Inputs and Distortions: Solving the Indian Growth Puzzle

  • Gupta, Abhay

This paper answers the puzzling questions that why under the similar set of economic conditions service sector in India grew while manufacturing could not and how economic reforms in 1990s accelerated the productivity growth. The paper provides a very innovative and convincing explanation. Two subtle but important distortion-inefficiency mechanisms, which work through distorting the intermediate input allocation, are identified in the paper. Interaction of policies of quantitative restrictions and inflexible labor laws resulted in lower than optimal materials per worker usage.Combination of high inflation and unavailability of credit exacerbated this factor distortion and lowered the productivity growth further. Using panel data on Indian industries, I find underutilization of materials compared to labor until recently. This sub-optimal materials per worker usage lowers productivity growth. Productivity estimates are negatively related to labor growth and positively related to materials growth. Real wages and labor productivity are negatively related to materials inflation and this relationship breaks down after the capital market reforms in 1990s. Since these mechanisms work through intermediate inputs, service sector productivity is not affected as adversely. Estimates show that after 1990s firms have started oversubstituting materials and capital relative to labor, which can explain the jobless growth in Indian manufacturing.

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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 14481.

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Date of creation: Apr 2009
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Handle: RePEc:pra:mprapa:14481
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  1. King, Robert G & Levine, Ross, 1993. "Finance and Growth: Schumpeter Might Be Right," The Quarterly Journal of Economics, MIT Press, vol. 108(3), pages 717-37, August.
  2. Chang-Tai Hsieh & Peter Klenow, 2009. "Misallocation and Manufacturing TFP in China and India," Working Papers 09-04, Center for Economic Studies, U.S. Census Bureau.
  3. Ahsan, Ahmad & Pages, Carmen, 2007. "Are all labor regulations equal ? Assessing the effects of job security, labor dispute, and contract labor laws in India," Policy Research Working Paper Series 4259, The World Bank.
  4. Satish Chand & Kunal Sen, 1996. "Trade Liberalization and Productivity Growth: Evidence from Indian Manufacturing," Departmental Working Papers 1996-11, The Australian National University, Arndt-Corden Department of Economics.
  5. Jagdish N. Bhagwati, 1978. "Anatomy and Consequences of Exchange Control Regimes," NBER Books, National Bureau of Economic Research, Inc, number bhag78-1.
  6. Kochhar, Kalpana & Kumar, Utsav & Rajan, Raghuram & Subramanian, Arvind & Tokatlidis, Ioannis, 2006. "India's pattern of development: What happened, what follows?," Journal of Monetary Economics, Elsevier, vol. 53(5), pages 981-1019, July.
  7. Bhalotra, Sonia R, 1998. "The Puzzle of Jobless Growth in Indian Manufacturing," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 60(1), pages 5-32, February.
  8. Barry Bosworth & Susan M. Collins, 2008. "Accounting for Growth: Comparing China and India," Journal of Economic Perspectives, American Economic Association, vol. 22(1), pages 45-66, Winter.
  9. Badri Narayan Rath & S.Madheswaran, 2004. "Productivity Growth of Indian Manufacturing Sector: Panel Estimation of Stochastic Production Frontier and Technical Inefficiency," Econometric Society 2004 Far Eastern Meetings 527, Econometric Society.
  10. Krueger, Anne O, 1997. "Trade Policy and Economic Development: How We Learn," American Economic Review, American Economic Association, vol. 87(1), pages 1-22, March.
  11. Timothy Besley & Robin Burgess, 2004. "Can Labor Regulation Hinder Economic Performance? Evidence from India," The Quarterly Journal of Economics, MIT Press, vol. 119(1), pages 91-134, February.
  12. Gupta, Abhay, 2009. "Looking beyond the methods: Productivity Estimates and Growth Trends in Indian Manufacturing," MPRA Paper 14482, University Library of Munich, Germany.
  13. Ana M. Fernandes & Ariel Pakes, 2008. "Factor Utilization in Indian Manufacturing: A Look at the World Bank Investment Climate Surveys Data," NBER Working Papers 14178, National Bureau of Economic Research, Inc.
  14. 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.
  15. Mohammad, Sharif & Whalley, John, 1984. "Rent Seeking in India: Its Costs and Policy Significance," Kyklos, Wiley Blackwell, vol. 37(3), pages 387-413.
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