Opinion | India needs to revive production. Here’s how to do it.

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Dhiraj Nayyar is the director of economics and policy at Vedanta Resources.

If the Indian economy has an Achilles heel, it is the country’s manufacturing sector. Despite rapid economic growth since pro-market reforms began in 1991, the share of manufacturing in India’s gross domestic product has remained stubbornly low, at around 15%. (In China, it’s been about 30 percent in recent years.) India’s growth has been driven by services, particularly in information technology.

The lack of a large and competitive manufacturing sector has consequences. One statistic more than any other captures the consequences of an underdeveloped manufacturing sector: just over 40% of India’s total workforce is still employed in agriculture and related activities which account for only 18% of GDP. Unlike advanced economies, India has no unemployment problems; instead, it struggles with underemployment. In the absence of significant social security, people cannot afford to be out of work, so they are forced to settle for low-productivity, low-wage agricultural jobs. The services have not been able to absorb this excess of low-skilled labour. In fact, they have not done this in any country that has become rich.

Now that three decades of rapid growth have raised people’s expectations, the demands for high-quality jobs are rising. Ironically, China could help out. Beijing’s strict “zero covid” policy is severely disrupting global supply chains. The recent iPhone supply shortage is just the most obvious example. China now poses a greater risk to supply chains than at any time during its rise as the world’s factory over the past three decades. Xi Jinping’s consolidation of unchallenged control at last month’s Communist Party of China convention marks a sharp break with the moderate era initiated by Deng Xiaoping. Beijing’s growing authoritarianism translates into a great unpredictability of the actions of the second world economy. The world watches with growing concern.

The problems don’t end there. Many critical supply chains outside of China, for example, are in the neighboring East Asia region, where China has massive influence. More than 80 percent of cutting-edge semiconductor technology is produced in just two locations: Taiwan and South Korea, both of which are under permanent threat from China and North Korea.

The United States appears to have recognized the risks. Last month, the Biden administration announced what is effectively a “tech war” on China by banning the export of semiconductor chips, as well as the technology and equipment used to make them. US allies with access to similar knowledge could follow suit. Given that the Trump administration has also cracked down on trade with China, it’s safe to assume that there is now a bipartisan consensus in the United States on the need to contain Beijing and diversify critical supply chains.

India is notorious for lacking geopolitical opportunities, but this time may be different. Unlike his predecessors, who hailed mostly from the agricultural heartland of northern India, Prime Minister Narendra Modi hails from the western coastal state of Gujarat, which has long prioritized manufacturing. In Gujarat, manufacturing contributes 30% of the state’s GDP, a level comparable to that of China.

Having served as the state’s prime minister for nearly 13 years before becoming prime minister, Modi is acutely aware of what manufacturing needs to thrive. Since he became prime minister in 2014, Modi has tried to make life easier for businesses by cutting regulations and incentivizing bureaucrats to speed up approval processes. Now, in his second term, he goes further by embracing industrial policy.

India’s long history of failed state interventions has made politicians wary of industrial policy. Yet in recent years, as production continues to slow down, Modi has decided to step in. Its manufacturing-related incentive program is designed to reward domestic and foreign companies in 13 select sectors, from automobiles to pharmaceuticals to advanced batteries. The goal is to ensure global competitiveness by achieving larger-scale production. The program expects to distribute about $25 billion to the industry over four years.

The second is its program for manufacturing semiconductor and display factories, which is offering up to $10 billion in capital grants to potential investors. (Disclosure: My company, Vedanta, has applied for subsidies from this program as part of its investment in a semiconductor and display manufacturing joint venture with Foxconn of Taiwan.) Interestingly, the subsidy program was announced before the Biden administration pass its Chips and Science Act this year.

Modi’s embrace of industrial policy is a gamble, but it may be India’s best hope. Subsidies alone will not be enough. Success depends on the ability of the Indian manufacturing sector to demonstrate its ability to compete in global markets. This will likely require a whole host of other structural reforms – a huge challenge in India’s noisy democracy, where a multitude of vested interests complicate the withdrawal of unproductive protections and subsidies. This will require all of Modi’s considerable political skills (and possibly a third term starting in 2024).

But the country’s producers have no time to waste. Right now, companies exiting China are looking for other options. India must go to great lengths to ensure that they are the first choice.

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