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The capital goods sector
The capital goods industry is a foundational industry, in that it feeds other industries with the machineries needed for manufacturing final output. It consists of plant, machinery, accessories and other equipment, used directly or indirectly for manufacture of goods and services. Equipment used for modernization, replacement, and expansion too are classed as capital goods. It is a critical element in the 'Make in India' strategy unveiled earlier by Prime Minister Modi.
The policy making process was initiated when the government invited suggestions on a draft policy paper. The idea was first put forward as part of the 'Make in India' campaign in December 2014 by the Department of Heavy Industries. The Capital Goods Policy aims to push up the production of capital goods from Rs. 2,30,000 crores in 2015 to Rs.7,50,000 crores by 2025. In the process it aims to provide employment directly or indirectly to 30 million people from 8.4 million as of today. The stated aim is to increase the share of capital goods as a proportion of manufacturing activity, from 12% at present to 20% by 2025.
What is the current situation in the sector?
Output of capital goods witnessed a reduction of 2.6% in fiscal 2016. Imports of industrial machinery grew to $9.7 billion an increase of 5.2% annually. However imports of electrical machinery and equipment remained static at $6 billion. It is in this background that the present policy has been formulated. The draft policy paper points out that while the country's share in global capital goods exports is 0.1% to 0.6% among the various subsectors, China's share stands at 7.7% to 16.3% in the various subsectors. The sector today contributes about 2% of the GDP. This comes to about 12% of manufacturing output.
Understandably, this sector has a major multiplier effect on manufacturing. A vibrant capital goods sector boosts economic growth, and is important for developing indigenous capabilities which are critical for self reliance. In recent years, the sector has been in the doldrums. In the 12th Five year Plan, the now extinct Planning Commission targeted a growth rate of 16.8% per annum, while actual growth came in at 0.3% in the last three years.
Another facet is that the sector is dominated by small and medium scale enterprises. These firms mostly supply to the domestic market and are technologically and financially challenged when it comes to competing with foreign firms.
(Economic Times, 26 May, 2016)
Objectives of the policy
The objectives of the National Capital Goods Policy as stated in the paper released by the Department of Heavy Industries are to:
Increase total production: To create an ecosystem for a globally competitive capital goods sector to achieve total production in excess of ~Rs. 500,000 Cr by 2025 from the current ~Rs. 220,000 Cr. Increase employment: To increase domestic employment from the current 15,00,000 to at least50,00,000 by 2025 thus providing additional employment to over 35,00,000 people. Increase domestic market share: To increase the share of domestic production in India's capital goods demand from 56% to 80% by 2025 and in the process improve domestic capacity utilization to 80-90%. Increase exports: To increase exports to 40% of total production (from Rs 62,000 Cr to ~Rs 200,000 Cr) by 2025, enabling India's share of global exports in capital goods to increase to 2.5%. Improve skill availability: To significantly enhance availability of skilled manpower with higher productivity in the capital goods sector by training 50 lakh people by 2025, and create institutions to deliver the human resources with the skills, knowledge and capabilities to fuel growth and profitability. Improve technology depth: To improve 'technology depth' in capital goods sub-sectors by increasing research intensity in India from 0.9% to at least 2.8% of GDP to rank amongst the Top-10 countries in research intensity and achieve global benchmarks for intellectual property in the capital goods sector. Promote standards: To curb inflow of sub-standard capital goods by mandating technical and safety standards which conform to international standards and ensuring compliance to the same. To promote growth and build capacity of SMEs to compete with established domestic and international firms and become national and global champions of capital goods in the future.
How the policy will work
The policy would be driven by the Department of Heavy Industries through suitable interventions, as and when required, as per the stated policy objectives. Initially, the policy is expected to bring about changes that would revolutionize the sector. Important factors like availability of raw materials, finance, productivity, environment friendly practises, innovative technologies, promotion of exports as well as bridging the gap in domestic demand would be addressed.
"The idea of the policy on capital goods is to see how we can make these goods in India. When China increased its share of manufacturing in GDP to 40%, its capital goods manufacturing base too had gone up. Local production of construction cranes and other equipment in China helped its manufacturing industry. If we also make the capital goods required by the manufacturing sector, the entire economy will get a fillip," said Suresh Prabhu, Union Minister for Railways. (Livemint May 27, 2016)
A department handout reads as follows: "We are happy to see the roadmap for the capital goods sector in India and its recognition as a strategic sector. India has the potential to be the net exporter of capital goods as against the net importer currently.
(Economic Times, 26 May, 2016)
The optimistic view
This policy initiative has elicited good support from industry bodies. Chandrajit Banerjee, Director General, CII, said, "The policy is a first for the Indian capital goods sector and can be expected to drive growth in manufacturing and enable 'Make in India'. The policy truly has the potential to script a new growth narrative in the history of India's industrial development. The policy's thrust on demand creation, technology depth and exports will go a long way to address the challenges and issues that the sector is currently going through." (Business Standard May 26, 2016)
"National Capital Goods Policy is definitely the need of the hour, which will provide the much needed impetus to the sector and will go a long way in achieving the objectives of Make in India," business chamber FICCI said in a statement. "The specific areas of intervention identified are: improvement in technology depth across the capital goods sub-sectors, increase skill availability, ensure mandatory standards and promote growth and capacity building of MSMEs." (Economic Times, 26 May, 2016)
The sceptical view
However, amidst such optimistic hopes, there is a sense of deja vu as well. From 'minimum government, maximum governance', the Modi Sarkar seems to have succumbed to statism and bureaucratic management.
A case can be made for not articulating a policy at all. Think of the software industry. Not only did the government do nothing to develop it, they did not even know of its development until it was too late... to arrest its development by bureaucratic meddling. To take the parallel further, software business has thrived in India due to unshakeable economic underpinnings. Indian software firms enjoy a competitive advantage over much of the rest of the world. A key feature boosting the competiveness has been the free import of computers, on which the work is done. Imagine if in the nineties, the then governments had come up with ideas of making computers in India, restricting imports, encouraging domestically made products through budgetary incentives, while imposing high tariffs on imported equipment. Could the software industry still have delivered world class services to its customers? It did so because it was able get the best equipment it wanted, quite freely, and in the process has created thousands of jobs, along with its multiplier effects and providing a foreign exchange cushion for the country.
An important takeaway is that no government intervention has ever succeeded. There is also an eerie parallel with the Second five year plan from sixty years ago. Let us see the preamble to the second five year plan that nearly bankrupted India and laid the foundation for the 'Hindu' rate of growth:
Within is broad approach the second five year plan has been formulated with reference to the following principal objectives:-
a sizeable increase in national income so as to raise the level of living in the country; rapid industrialisation with particular emphasis on the development of basic and heavy industries; a large expansion of employment opportunities; and reduction of inequalities in income and wealth and a more even distribution of economic power. (Approach to Second Five Year Plan).
Fast forward to 2016. The capital goods policy says:
To become one of the top capital goods producing nations of the world by raising the total production to over twice the current level; To raise exports to a significant level of at least 40% of total production and thus gain substantial share in global exports of capital goods; and To improve technology depth in Indian capital goods from the current basic and intermediate levels to advanced levels.
The emphasis continues to be on physical planning, for increases in quantities. Comparisons with China are also passe. The Chinese figures are based on an industrial base many times our size and enjoying a global competitive advantage analogous to our software industry. The government seems to have confused the symptoms revealed by the statistics for the remedy. Allowing markets to function freely, just as they do in the software industry would be the best strategy to achieve all the objectives laid out in the policy paper. This would also ensure that the final customers of products are able to access good quality goods at reasonable rates.
B.R. Shenoy an eminent economist, who authored the famous Note of Dissent on the Second Five Tear Plan had this to say in the context of the rapid industrialisation envisaged in that plan. Readers might note the striking similarity between that and the present policy. The professor writes - In pursuance of the policy of rapid industrialisation, we force the establishment of industries - by banning or restricting imports and by offering inducements to the domestic manufacturers - though our production costs are uneconomic over a wide range of industries, relatively to the costs abroad. The professor goes on the say that products made under such circumstances can be sold at high rates only in an artificially protected market, while being "unsalable abroad."
A few months ago, Mr. Modi while interacting with young entrepreneurs during the 'Start Up India' function said, "Today's gathering is not to tell us what to do. You have to tell us what the government should not do." Could the capital goods policy be an example of what the Government should not be doing?
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