Shift growth trajectory to right

By R Gopalan & MC Singhi, the authors are former civil servants It is widely believed that potential output of the economy has moderated to around 6-6.5%. The average GDP growth for 50 quarters since 2012-13 was 6.1%. In 2024-25 growth moderated to 6.5% with growth in three of the four quarters falling below 7%. We feel growth requires rightward shift in production possibility frontier and increase in the feasible optimum level of growth. Three issues are critical for this; increase of capital stock, relocation of labour to more productive sectors, and improvement in total factor productivity. The table (from the Reserve Bank of India’s KLEMS data) reveals considerable moderation in the rate of growth of capital stock, labour quality, and total factor productivity from 2011-12 to 2022-23 compared to the prior period. Decline is seen across sectors. Increase in rate of growth of employment is seen only in agriculture and services. The composition of capital, in terms of machinery and equipments and buildings, has remained static. ALSO READ The heroes of US central banking Institutions evidenced deceleration in growth of capital formation and build-up of assets. Private non-financial corporate sector, which accounts for nearly 37% of total capital formation, reduced its investment relative to gross value added (GVA) from around 45% to 36%. Also, internal generation met their capex requirements. Outside borrowing accounted for 36% of their investment in 2011-12; now it accounts for a mere 11%. Government investment of 10-12% in total capital formation substituted rather than attracted private investment. An RBI study reveals decline in visualised capex maturing into measured gross investments from an average 40.5% of private gross fixed capital formation (1971-72 to 2010-11) to 15.5% (2011-12 to 2021-22). Internal accruals helped buyback of shares, payout of large dividends and retirement of debt, not expansion and new capacity creation. Trends in cost of capital remain unchanged from 2011 to 2020. While profitability was decreasing, it increased post-Covid. Demonetisation, goods and services tax, non-banking financial company crisis, coming out of the twin balance sheet problem, etc. could be behind some investment decline. But consumption has seen mild improvement. Exports post-2017 has seen an increase. Financial institutions have been recapitalised, assets quality has improved, there is an upward move in profitability, and policy support is more pronounced, yet the rate of fructification of intentions has declined from over 45% in FY14 to under 10% in FY23 (as per Centre for Monitoring Indian Economy data). There is some frustration on account of other non-policy factors, besides anticipated policy changes not materialising. The second issue that needs addressing is productivity improvement. Slowing productivity growth could be partly due to labour quality issues, but it is largely due to lack of investment in upgrading and innovating technology and production processes. Indian producers seem happy with sustained ratio of profit to capital employed rather than improving technology and processes. We see fewer patents, product development, reengineering and modifications. A sharp decline in the average rate of total factor productivity growth in the overall economy, manufacturing and services validates this. The 2003-2010 period witnessed technology boom, some relocation of labour from agriculture to more productive sectors, and small productivity growth in manufacturing and agriculture. Subsequently introduced schemes didn’t result in a growth of total factor productivity on a sustained basis. ALSO READ Pushing Indian MNCs The third significant issue for a shifting growth trajectory is relocating labour. In 2023-24, according to the latest Periodic Labour Force Survey report, less than 15% of the total workforce is engaged in sectors with moderate technology. Nearly 46% is engaged in agriculture, with GVA per worker engaged being 38% of the national average. Another 30% was engaged in trade, hotels, transport, and construction with average value added nearly 85% of the national average. Around 85% workers were having GVA below the national average. Only 2% was in financial institutions, real estate, and professional services with average value added per person engaged at over 11 times the national average. Post-Covid, while the overall growth in workforce averaged 2.2%, household activities, construction, trade, transport, and hotels saw higher than the average growth. These were the resting places then due to pandemic related dislocation and a decline in the number of micro, small, and medium enterprises. Manufacturing recorded employment growth of 1.36%, lower than that of agriculture (1.67%). In finance and professional services, which saw growth close to 3.5%, there was hardly an upsurge in employment given digitisation and a move to formal economy post-demonetisation. The reasons for this state of affairs are stickiness of sectoral employment, lack of opportunities as intention to invest declined sharply, and lack of appropriate skill sets among new entrants to the labour force and those seeking sectoral shifts. The problem outlined above is more structural than cyclical. We are already facing external headwinds. To tackle the problem, we need policy stability, increased investment, reduced compliances and regulation, new reforms, ease of doing business, skill development, strategic intent for the future, livelihood improvement, and reduced inequality. Views are personal