Reforms needed to sustain services growth in India

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India is one of the fastest growing economies in the world and the services sector is the largest contributor to the country’s GDP. In 2015–16, the services sector accounted for 53.3 per cent of India’s gross value added at current prices. It is predicted to grow at 9.2 per cent a year at constant prices. But is this growth sustainable?

Unlike East and Southeast Asian countries, where economic growth has led to a shift from agriculture to industry, in India there has been a shift from agriculture to the services sector. In this respect, India is an outlier among countries in the region.

The services sector is the largest recipient of foreign direct investment (FDI) inflows into India. Between April 2000 and March 2016, services accounted for around 50 per cent of the cumulative FDI inflow into India.

India’s trade in services has increased over time. In 2014 India was ranked the eighth largest trader of services with a share of 3.2 and 3.1 per cent respectively in the export and import of commercial services. In the same year, trade in services as a percentage of India’s GDP was around 14.8 per cent, above the global average of 13.2 per cent. And, with a share of around 28.7 per cent of total employment in 2014, the services sector is the second largest employer after agriculture (which has a share of around 60 per cent).

Despite the significant contribution of services to India’s GDP, trade and employment, questions have been raised whether services-led growth in India is sustainable. This is because employment in the services sector has not been commensurate with the sector’s contribution to GDP. Further, over 80 per cent of the sector is made up of informal and non-corporate services that feature poor quality jobs with lower wages.

There are wide differences in performances across different sub-sectors of the services industry. Sub-sectors such as financial and business services — including information technology (IT) and IT-enabled services — have grown at a faster rate than the services sector overall. But social sectors, such as health and education, have grown at a slower pace and the labour productivity in these sectors has actually declined in the last decade. This is a cause for concern.

Prime Minister Narendra Modi has pointed out that to sustain economic growth and benefits from its large working-age population India should focus on developing as a knowledge-based economy. Several policy measures, including ‘Digital India’ and ‘Start-up India’, have been announced to support this strategy. The government has also liberalised the FDI regime in a number of services sectors, including construction, railways, private-sector banking and air transport.

Although these are steps in the right direction they are not enough. India continues to impose FDI restrictions and/or rigid conditions on services sub-sectors, including retail, insurance, accountancy, legal services and e-commerce, which prevents the establishment of efficient services supply chains. These restrictions should be removed to attract the best global firms into the country and to support competition and modernisation.

Inadequate infrastructure facilities (for example, the limited availability of uninterrupted power supply and good quality roads) also deter private and foreign investment. Although the private sector is keen to invest in infrastructure, projects have slowed down due to issues related to land acquisition.

Regulations in a number of services sub-sectors are either outdated or non-existent. The government is trying to do away with outdated policies but there is a pressing need to implement new regulations in areas such as direct selling, e-commerce and cloud computing to facilitate the growth of these sub-sectors. Regulatory and institutional reforms will help modernise the services sector in India.

There is also an urgent need to increase access to higher education and vocational training at affordable prices. The government can work with educational institutes and the corporate sector under its ‘Skill India’ initiatives to promote skill development in services sub-sectors like retail trading and construction, which are largely in the non-corporate sector. An educated and trained workforce will enable the country to develop as a knowledge-based economy.

Services-led growth in India can only be sustainable if the government focuses on modernising the sector, creating quality employment, promoting skill improvement and facilitating private and foreign investment. Without such measures India will be missing out on maximising its potential.

Source: East Asia Forum

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