India was one of the pioneers of industrialisation in the Third World, riding on a modern infrastructure—such as all-weather roads, railways, and irrigation systems—whose foundations were laid during the British Rule.
Indian industries reflected the country's comparative advantage, and India’s industrial and manufacturing export performance ranked among the best in the world.
After gaining Independence, India moved away from an open economy to pursue the goal of industrial self-sufficiency.
As a consequence, India’s industrial structure became considerably broad-based, supporting a diverse range of sectors and industries.
The evolution of industrial development in India over the last six decades is best analysed under two broad categories:
Dimensions of Industrial Growth
Pattern of Industrialisation
The entire period since the 1950s can be divided into eight distinct sub-periods. Broadly, these fall into two categories:
Pre-reforms period
Post-reforms period
Industrial growth was rapid during the first two decades, particularly during the Second Plan and Third Plan. The Second Plan marked a turning point by initiating an industrial revolution and laying down basic industrial strength.
The high industrial growth during this phase can be attributed to:
Emphasis on industrialisation in economic policies
The heavy industry-oriented strategy adopted in planning
Substantial investment and capacity-building in the industrial sector
Rising consumer demand in urban and affluent sections
Domestic savings and foreign capital inflows enabling economic expansion
This period is often referred to as the era of “industrial growth with regulation.”
After the Third Plan, India experienced a period of industrial stagnation. A “blatantly elite-oriented production structure” emerged, causing a decline in per capita availability of key wage goods and a rise in poverty.
Structural retrogression occurred in two stages:
Slower growth in basic and capital goods industries than the average industrial output
Higher growth in elite-oriented consumption goods industries
Sectoral Developments: There was a disproportionate rise in the output of man-made fibres, cosmetics, beverages, and other elite goods, at the cost of investment in mass consumption goods. This created an imbalance in the industrial structure.
Causes of Slow Growth of Industries: A wide range of factors have been cited to explain this stagnation:
Periodic shocks such as the 1965 and 1971 wars, 1973 oil crisis, and droughts of 1965 and 1966
Development path leading to skewed income distribution and persistent inequality
Four key structural causes of stagnation were:
Slow growth in agricultural income, limiting industrial demand
Decline in public investment post mid-1960s, affecting infrastructure
Mismanagement in infrastructure sectors, creating bottlenecks
Industrial and trade policies that built a high-cost industrial system
Additional causes included the erosion of planning discipline, decline in investment targets, and overemphasis on forced savings.
The industrial sector witnessed a significant change during the 1980s. The industrial growth rate improved, overcoming the stagnation of the previous decade.
The major factors contributing to this revival included:
Liberalisation of industrial policy which began in the early 1980s and accelerated after 1985.
Public investment rose sharply during the 1980s compared to the 1970s, playing a crucial role in industrial growth.
Improved investment by the private corporate manufacturing sector.
A dramatic increase in capital goods imports during the 1980s corroborated the rise in industrial investment.
Rapid industrial investment was supported by a liberal fiscal regime characterized by sustained high budget deficits, massive borrowing at high interest rates, and encouragement of dissaving in the latter half of the decade.
Better performance in infrastructure industries due to improvements in gross domestic capital formation, especially public investment.
A decline in inter-sectoral terms of trade favoring the non-agricultural sector.
The State’s role was significant in stimulating industrial recovery by creating jobs and incomes for the expanding middle class, which today numbers about 300 million people, exceeding the populations of France and Great Britain combined.
This phase differed from earlier decades as State-generated incomes allowed demand to reach lower income segments, expanding consumption beyond the highest income groups.
The revival’s quality requires comment on structural distortions that persisted. Within the secondary sector, elite-oriented products grew faster than others.
Although micro-level distortions continued, macro-level distortions were arrested. Additionally, growth rates of value added in the 1980s exceeded those of the 1970s.
Towards the late 1980s, industrial production growth slowed primarily due to a lower rate of growth in capital expenditure needed to reduce the overall fiscal deficit.
Other contributing factors to this deceleration were:
Shortages of raw materials and other inputs
Infrastructural difficulties
Obsolete machinery and technology leading to high production costs
Selected macro-economic indicators relating to the real economy (averages for three periods)
Period Averages: 1990-91 to 1999-2000, 2000-01 to 2009-10, and 2010-11.
I. Overall Real GDI Growth Rates (%): Agriculture: 5.7, 3.2, 5.7; Industry (including Manufacturing): 5.6, 7.1, 5.0; Services: 7.2, 7.3, 2.4.
Demand Side Aggregates: Final Consumption Expenditure: 7.3, 8.0, 9.0; Gross Fixed Capital Formation: 6.3, 10.2, 8.5.
II. Share in GDP (%): Agriculture: 28.4, 20.1, 51.5; Industry: 19.4, 20.0, 60.0; Services: 14.4, 20.0, 65.6.
III. Index of Industrial Production: Sectoral - Mining: 6.3, 3.4, 6.5; Manufacturing: 7.0, 6.3, 5.5; Electrical: 7.5, 5.9, 7.4.
Use-based - Basic Goods: 4.3, 8.0, 4.8; Capital Goods: 5.6, 13.3, 6.2; Intermediate Goods: 8.2, 8.2, 5.2; Consumer Goods: 9.0, 5.5, 6.0.
IV. Core Infrastructure Industries Growth Rates (%): 6.3, 5.5, 5.8.
During 1991-92 and 1992-93, industrial production suffered a setback due to both supply and demand factors.
Supply side factors included:
Import compression.
Rise in import costs caused by the cash margin requirement and depreciation of the rupee.
Tight monetary policy.
Demand side factors were:
Fall in effective demand due to inflationary pressure.
Reduction in public expenditure.
Strict fiscal discipline.
The setback in industrial production extended through 1993-94.
The forces at work in late 1992-93 and 1993-94 differed from those immediately after reforms:
Credit controls were largely removed and interest rates lowered.
Import compression was less severe due to abundant foreign reserves.
Adverse factors included:
Rising import costs of intermediates and raw materials following the introduction of the Liberalised Exchange Rate Management System (LERMS) and UERS.
Reduction in customs duties leading to dumping of critical intermediate goods by foreign producers.
Rising inflationary trends.
Uncertainties related to inflows of direct foreign investment, causing domestic producers to postpone investments and growth programs.
The slowdown in the rate of industrial growth during 1991-94 was only transitional, an immediate fallout of the stabilisation measures initiated by the government for the macro-economic adjustment of the economy, or to use Prof. N.N. Raj’s eloquent words, “while the gears are being changed and new directions are set.” The rate of industrial growth began to accelerate in the second half of 1993-94.
The change in trend could be accounted for by the following factors:
Increased government expenditure/public investment; government expenditure provides both supply and demand side stimulus to growth. Development expenditure reduces infrastructure bottlenecks while consumption expenditure gives short-run demand side stimulus;
The excise and customs duty cuts;
Growth in export volumes since 1993-94;
Continued stability in the growth of agricultural output;
The release of funds from the banking system because of the sharp decline in the SLR;
Extension of MODVAT to capital goods.
Industrial revival was remarkable and generated enough euphoria among industry and government. However, the optimism was not well-founded as the rate of growth slowed down during 1996-97 and continued to fall subsequently during 1997-2002, except for a short-lived recovery during 1999-2000.
The major factors responsible for the slowdown can be grouped into three parts: (A) demand constraints, (B) supply constraints, and (C) structural and cyclical factors.
Demand constraints arose in the form of low investment demand and low consumer demand.
Real investment in industry, which had risen fast until 1995-96, stagnated thereafter for several reasons, including political instability, rising fiscal deficits after 1996-97 which kept real interest rates high, and the loss of momentum in economic reforms.
The productivity boosting effects of the major reforms of the early 1990s had weakened by 1997. Although reforms continued throughout the decade, they did not regain the breadth and depth of the early years. Key reforms in industrial policy and privatisation remained unfinished or undone.
The rural purchasing power was severely affected by lower agricultural growth and increased fluctuations in growth in the 1990s, particularly by the absolute declines in production during 1999-2000 and 2000-01. Besides, there was a contraction in the funds flow into rural areas in the form of special employment programmes in the 1990s, unlike in the 1980s.
Indian industry faced depressed purchasing power not only from the rural segment due to substantial wealth erosion caused by the fall in equities and real estate markets but also in urban markets. This also hampered the average urban consumer’s proclivity to spend. The fall in rates of interest on public provident fund, bank deposits, and dividend yields from mutual funds made urban consumers averse to spending.
There have been distinct signs of growing inequalities in the distribution of income, and in the face of reduced employment growth as well as deterioration in the quality of employment, there were obvious possibilities of narrowing purchasing power among the vast masses of urban population.
There has been a serious mismatch between installed capacity and aggregate demand.
Huge ‘hanging investment’: Hanging investment may be defined as the gap between approved and actual FDI. Given the fear of competition from foreign investors, domestic investors postponed their investments in sectors where FDI was already approved or anticipated.
Global slowdown and recession in advanced economies also adversely affected demand for export industries.
Major supply constraints could be identified as follows:
(i) The bottlenecks in infrastructure became worse over time, reflecting slow progress in reforms of pricing.
(ii) The low quantity and quality of rural infrastructure combined with distorted pricing of some key agricultural inputs and outputs dampened growth of agriculture.
(iii) The decline in fiscal discipline in the populous states of the Gangetic plains constrained growth prospects for over 30 per cent of India’s population.
(iv) The Asian crisis of 1997-98, the economic sanctions of 1998-99, the rebound of international oil prices during 1999-2001, and the American declaration of war against terrorism together made the international economic environment less supportive than in the early phase of the reforms.
(i) The adjustment process of industry in response to increased competition in the form of mergers and acquisitions is taking longer time than required.
(ii) High costs and inadequate and unreliable supply of services in transport, communications and the power sector.
(iii) Low levels of productivity in the industry because of low volumes and inability to reap economies of scale, outdated technology and restricted labour laws.
(iv) Lower speculative demand for sectors like automobiles and real estate due to expectation of lower prices and reduction of taxes and duties in the short and medium term.
(v) High real interest rates.
(a) Periodic investment cycles, reinforced by government decision to reduce customs duties to levels in East Asian countries by 2004, which might have deferred investment decisions.
(b) Business cycles affecting demand of some cyclical industries like cement, automobiles and steel.
(c) There is no pent-up demand for consumer durables.
The above cycles have been reinforced by reduction in inventory levels resulting from the introduction of e-business and e-commerce and better management of supply and demand by industry to cut costs.
The year 2002-03 opened on a slow note. However, during 2003-04, it became increasingly clear that strong revival was in offing.
In 2004-05, and again in 2005-06, the manufacturing sector grew at 9.1 per cent, 12.5 per cent during 2006-07 and 9.0 per cent during 2007-08.
The surge in industrial growth could be attributed to important structural changes in the economy:
One is the rise in the savings rate from 23.5 per cent in 2000-01 to 37.7 per cent in 2007-08. Most of this increase came from turnaround in corporate and public savings. Due to rise in the savings rate, the economy moved to an altogether higher investment rate.
The second important structural change was enhanced export competitiveness reflected in the rising share of exports. The total exports (trade plus invisible receipts/GDP) ratio rose sharply from 16.9 per cent in 2000-01 to 33.2 per cent in 2007-08.
Third change in recent years is financial deepening. The bank assets/GDP ratio rose from 48 per cent in 2000-01 to 80 per cent in 2005-06 on the back of a surge in bank credit.
One factor common to these three structural changes has been lower interest rates. The decline in interest rates helped fiscal consolidation, boosted firms’ competitiveness, and led to a huge increase in retail credit. Lower interest rates were made possible by the rise in inflows on both the current and capital accounts.
The industrial sector responded to the buoyant demand conditions of the economy through new capital stock additions. Modernisation of the capital stock, reduction/rationalisation of import tariffs and other taxes, increased openness of the economy, higher FDI inflows, greater competitive pressures, increased investment in information and communication technology, and greater financial deepening also contributed to productivity gains in the industry.
As a result, the industry increasingly became an important growth driver in conjunction with the services sector. Many of the services such as trade, transport, communication and construction are directly linked to industry.
The slowdown in manufacturing over successive quarters started from the first quarter of 2007-08. This was more or less replicated by the mining sector and closely followed by electricity. However, in the third quarter of 2008-09, the manufacturing sector witnessed a sharp drop in growth which turned negative in the fourth quarter. Growth of the mining sector declined over successive quarters of 2008-09 to reach a zero rate in the fourth quarter. Overall, the index of industrial production increased by only 2.4 per cent in 2008-09 against 8.5 per cent in 2007-08.
The major factors responsible for this drop in industrial production can be briefly stated as follows:
(i) Rising prices of crude oil and other commodities, particularly metals and ores, had their adverse effect on the cost side of the manufacturing sector, which in turn had an adverse effect on profit margins.
(ii) Another key component on the cost side, namely interest costs, also increased due to higher interest rates.
(iii) In recent years, the Indian corporate sector started to raise external capital (i.e., other than internal resources) mainly to fund its investment and this included foreign institutional sources. On the external front, resource mobilisation from American/Global Depository Receipts almost collapsed during 2008-09 and the flow of external commercial borrowings also suffered a sharp decline.
(iv) Among domestic sources, while private placement by non-financial institutions grew on the strength of resource mobilisation by public sector non-financial institutions, the private sector resource mobilisation on this count declined sharply. The sharp slowdown in financing accentuated the industrial slowdown that had already set in from the previous year.
(v) With the opening up of the economy, the trade orientation of Indian manufacturing increased over the years. The shrinkage in demand for exports beginning with September 2008 sharply dented the performance of industries with high export intensity. The impact of the export slowdown has been particularly pronounced in sectors like textiles, leather and transport equipment.
(vi) The manufacturing sector also suffered because of a decline in construction and real estate affecting non-metallic mineral products and basic metals sectors.
Green shoots began to appear in the first two quarters of 2009-10. Manufacturing output accelerated fast during this period.
This is evident from the National Accounts Statistics (NAS) data as well as the Index of Industrial Production (IIP). While the Central Statistical Organisation (CSO) estimates place industrial-sector growth at 8.2 per cent, as against 3.9 per cent in 2008-09, the IIP industrial growth is estimated at 7.7 per cent, significantly up from 0.6 per cent during 2008-09. The manufacturing sector, in particular, has grown at the rate of 8.9 per cent in 2009-10.
Growth in major industrial groups has been mixed:
Strong growth in automobiles, rubber and plastic products, wool and silk textiles, wood products, chemicals and miscellaneous manufacturing;
Modest growth in non-metallic mineral products;
No growth in paper, leather, food and jute textiles;
A slump in beverages and tobacco products in 2009-10.
By use-based classification:
Strong growth in consumer durables and intermediate goods (partly aided by the base effect);
Moderate growth in basic and capital goods;
Sharp deceleration in consumer non-durables.
Some important factors contributing to growth are as follows:
(i) The improvement in the cost structure of manufacturing companies seems to have catalysed the recovery.
(ii) Growth in the production of capital goods, a proxy for investment, is improving but different components of the “capital goods” group reflect a mixed picture.
(iii) The strength of the recovery has been helped by the favourable base effect and mild inflation in manufacturing articles, especially of industrial inputs.
Major contribution to this revival was made both by easy money policy pursued by the RBI and fiscal stimuli provided by the government.
However, these proved inadequate as the growth rate began to slow down afterwards. The year 2011-12 recorded slower growth; slow growth continued into 2012-13.
The major factors responsible for this phase of industrial growth slowdown include:
(i) Financial crisis in the Eurozone dried up demand for India’s exports to this region.
(ii) Recovery in the US was slow; it failed to generate demand, causing exports to this region to also slow down.
(iii) The macroeconomic policies pursued led to (a) increasing fiscal deficits, (b) widening current account deficits, and (c) higher rates of inflation. These became critical factors prompting revision of macroeconomic policies, with control over inflation assuming higher priority.
Consequently, the growth rate of the industrial sector slowed down.
Several positive factors make the industrial outlook in the medium term bright for India, both in its own right and relative to most other countries:
(i) On the global front, some trading partners tend to engage in dumping into the Indian market. The response must balance achieving cost advantages while protecting legitimate interests of Indian industry, given possible global restructuring to build and maintain cost advantages.
(ii) The size of the Indian market and unmet demand for industrial products provide reasonable hope that demand will not be a constraining factor by itself. There is increasing realisation that industry should consciously reach out to the bottom of the pyramid by delivering products that offer value for money cost-effectively.
(iii) The large pool of scientific manpower and research labs offer potential for innovation to create products opening new market segments. However, for innovation to drive growth, industry and research must actively collaborate in a time-bound, result-oriented fashion.
(iv) The inherent strength of the Indian industrial corporate sector, with strong entrepreneurial abilities, provides hope for continued dynamism adapting to current changes. This must be tempered by good corporate governance adhering to best ethics standards.
(v) Large investment plans for infrastructure during the Eleventh Five Year Plan and beyond are expected to reduce infrastructural constraints that limit industry. The challenge is to ensure these investments fructify quickly, since infrastructure growth alleviates supply-side constraints and stimulates domestic demand needed for industrial growth.
(vi) Continuing inflow of FDI reinforces the positive view that the Indian market can absorb investment and generate returns based on productive growth. A balance is needed between immediate priorities and long-term environmental and security concerns.
There are positive signs that Indian industry may have weathered the most severe part of the shock and is now back on the fast track.
At a time when industrial output prospects in most industrial economies seem grim, the combination of prices, output and market size makes Indian industry one of the few attractive investment destinations.
A combination of factors will determine the strength, pace, and timing of the upturn:
(i) An easing of monetary policy can expedite the pick-up, depending on the ensuing demand for credit.
(ii) On the fiscal side, increased spending on housing and infrastructure investment can facilitate the upturn. Combined with improving rural incomes, this will determine the strength and timing of the economic revival.
(iii) Export growth should be boosted by global industrial revival led by the US recovery.