Notes on “India’s Footwear Industry: A Reality Check”

Gulzar Natarajan has an excellent, excellent blogpost up on this blog, Urbanomics, titled “India’s Footwear Industry: A Reality Check“. In what follows, I make notes for myself about the post in terms of what it reminds me of, what I did not understand, and additional links or resources I learnt about while reading the post.

  • “The footwear industry makes 2 billion pairs, of which 286 million pairs were exported last year. It employs 2-4 million people, the vast majority as informal and contract labour and/or hired through manpower agencies and at very low salaries in the range of Rs 6000-10000.”
    ..
    ..
    Reading more about this helped me land up on a website called worldfootwear.com, and I learnt of the existence of the 2019 World Footwear Yearbook. In 2018, the world manufactured 24.2 billion pairs of footwear, and the industry grows at about 3% a year in normal circumstances – give or take a few points.
    ..
    ..
    90% of all shoes manufactured in the world come from Asia. That makes sense, as Asia is responsible for 54% of the world’s demand for footwear on an annual basis.
    ..
    ..
    China alone was responsible in the year 2018 for about 70% of the world’s exports.
    ..
    ..
    All of these snippets come from this page.
    ..
    ..
  • “As a summary, the current state of the Indian footwear industry is characterised by small scale, very low productivity, low automation, stagnant growth, and pervasive informality.”
    ..
    ..
    One of the reasons I liked reading this blogpost so much is because while I get to learn a lot about the footwear industry in India, I also get to reflect on how so much of what is true for the footwear industry is also true of other industries in India. The inability to break out of the small scale (about which much more below), the low levels of automation and the pervasive informality are to be seen in almost all industries in India. There is, perhaps, a sociological point to be made about whether the causality runs from the inability to scale to informality or the other way around (or indeed, both!), but we’ll save that for another day.
    ..
    ..
  • “The highest value market segment is the mainstream global branded manufacturing in non-leather footwear. But this is a segment that has proved elusive even to the Chinese manufacturers, especially in the global market. It may well be outside the reach of Indian manufacturers, unless some particular brand breaks out due to a combination of exceptional entrepreneurship and even more exceptional good fortune.”
    ..
    ..
    As you will learn later on in this blogpost, Gulzar Natarajn seems to be as big a fan of “How Asia Works” as I am, and perhaps a bigger one. One of my favorite questions to ask in class as a consequence of reading that book is this one “Name one globally recognized brand from ASEAN nations”. This applies to India, and to a lesser extent to China as well – that’s basically the point that is being made here. Being a manufacturing and export powerhouse is not the same as building globally recognized brands.
    ..
    ..
    This brings to mind both the “manufacturing smile” as well as Peter Thiel’s distinction between technology and globalization. It also raises important questions about what paths India should choose between for the next two decades when it comes to manufacturing policy, but again, more on that later.
    ..
    ..
  • “The next best alternatives may be to increase their share of the Indian branded manufacturing segment and become large scale contract manufacturers for global brands. This is the playbook of the Chinese footwear industry.”
    ..
    ..
    Have you read Shoe Dog, by Phil Knight? Don’t know who Phil Knight is? Well, have you heard of Nike? Read especially the bits about his travels in Japan, in search of contract manufacturers.
    ..
    ..
  • Gulzar Natarajan’s first recommendation when it comes to the footwear industry in India is to be a contract manufacturing hub. Easier said than done! (To be clear, that is not a criticism of the point he makes – it is a reinforcing of his message, and also a reminder to readers that India is not quite ready to this just yet, for a variety of reasons).
    ..
    ..
    One of these reasons is actually mentioned in a more recent post by the same author, regarding Vietnam’s recent agreement with Europe about tariffs on Vietnam’s exports.
    ..
    ..
    What about India and the EU, you ask?
    ..
    ..
    “Negotiations for a comprehensive Free Trade Agreement (FTA) between the EU and India were launched in 2007 and suspended in 2013 due to a gap in the level of ambition between the EU and India.”
    ..
    ..
  • The last bullet point was about India making for the world. Gulzar Natarajan goes on to point that we must also think about India making footwear for India.
    ..
    ..
    “Any strategy to increase local branded manufacturing to capture this market has to focus on Make for India (and not Make in India for the world). This does not mean skimping on quality, but competing with the imported manufacturers by gradually improving productivity. This can be done only by efficiency gains to cut costs – improving labour productivity, local component manufacturing, greater automation (not full automation, but enough to enhance labour productivity), and economies of scale.”
    ..
    ..
    He speaks about each of these four points: improving labor productivity, local component manufacturing, greater automation and economies of scale in his blogpost, click here to read those specific parts of the post.
    ..
    ..
  • Gulzar Natarajan speaks about manufacturers having no incentive to train workers:
    ..
    ..
    “In order to train the workers, the manufacturers have to incur the cost of trainings as well as bear their salaries. They have no incentive to bear this cost, even if a couple of months trainings can suffice.”
    ..
    ..
    Well, maybe so. But this does remind me of an excellent excerpt from one of my favorite books to recommend to students about macroeconomics – Tim Harford’s “The Undercover Economist Strikes Back
    ..
    ..
    The section on Ford and superior wages is especially worth reading. Perhaps I am missing an obvious point (which is all too possible), but I can’t help but wonder why Ford’s strategy cannot work in India – whether on footwear or elsewhere.
    ..
    ..
  • “While capital investment subsidies are in general not a very desirable thing, some form of fiscal incentives may be necessary to encourage the smaller and medium sized manufacturers to increase their level of automation. Though targeting and tailoring these subsidies will be challenging, the government could consider a subsidy that is linked to some performance, either exports or on higher productivity growth.”
    ..
    ..
    For those of you who have read the book, the reference is unmistakable. And for those of you who haven’t, I’ll say it again: How Asia Works is mandatory reading.
    ..
    ..
  • “The Government of India already has specialised institutions on footwear design and leather research. There is a need to have them play a much more proactive role in supporting with supply of trained and quality designers. There may also be a need for an arrangement to access good quality designers at a reasonable cost. An incentive compatible subsidy mechanism may be required here too. This should be complemented with colour and fashion forecasting support.”
    ..
    ..
    I actually find myself in disagreement here with Gulzar Natarajan. Reading this post made me aware of the Best Footwear Design and Development Institute (yes, it really exists), but isn’t this an example of government overreach? Facilitating a college like this is one thing, actually having government run it is quite another, no?
    ..
    ..
    But the solution is in the quote above: incentive compatible subsidy mechanism. Another recommendation in this regard: please read In The Service of the Republic, by Vijay Kelkar and Ajay Shah. My notes on this book can be found here. Providing subsidies that are designed to keep incentives (preferably for both parties) in mind is a surprisingly powerful idea!
    ..
    ..
  • “For sure, the industry will not collapse, but will meander along business as usual. There may even be the occasional mutant success. But there cannot be a sectoral exit out of the current low productivity and stagnation trap.”
    ..
    ..
    It is oddly depressing to have Gulzar Natarajan be pessimistic about the growth prospects for this sector, particularly because it is so hard to disagree with him on this account.
    ..
    ..
  • He is against tax breaks, particularly because of the inevitable equilibrium in terms of the lobbying that will take place.
    ..
    ..
  • “The conventional wisdom in this regard blames poor quality of infrastructure, restrictive labour laws, difficulty in assembling large land parcels, high cost of capital, and pervasive red-tape. These are all, in general, factors of concern.”
    ..
    ..
    My favorite book to recommend to students in this regard is Bhagwati and Panagariya’s book “Tryst with Destiny“. And of course, in terms of policy prescriptions, Gulzar Natarjan’s own book “Can India Grow?
    ..
    ..
  • Gulzar Natarajan has an extended section on the “innate charactersitics of entrepreneurs“. It is too long to excerpt, but it did remind me of an excellent paper on why productivity in India is so very low. Worth reading, especially if you are a student of micro, IO or India.
    ..
    ..
  • “The impact of reforms like GST, while certainly beneficial in the long-run, may have ended up squeezing the vast majority of the small manufacturers. For a start, for these small manufacturers, the compliance costs in terms of hiring accountants and IT requirements are a non-trivial share of their profits. Then there is the structure of the GST tariffs – 18% for the components and 5% for the final product. This means that the manufacturers capital gets locked up as receivables for a long time. For small manufacturers, these costs are prohibitive.”
    ..
    ..
    This point is a little weird. Let me explain what I mean when I say “weird”. I think almost every economist is aware of this issue, and has spoken about it repeatedly. But the level of awareness otherwise is very, very low. Again, the GST is a great idea with poor implementation. The unique nature of India’s economy (a blend of formal and informal along the supply chain for many, many things) makes the implementation worse.
    ..
    ..
  • And perhaps the coda to this excellent blog post, and for me the most important part:
    “It is important for the Government to play an important role if the footwear industry can move significantly forward. The market by itself is unlikely to have the incentives or the capacity to manage that.”
    ..
    ..
    This is a classically Studwellian recommendation. The problem is that the “no but markets will work if you let them” brigade will never accept this line of reasoning. Additionally, there are far too many people in India (especially within government) who will interpret this to mean that government needs to actively participate in the actual ecosystem by getting into manufacturing and allied activities.
    ..
    ..
    And hardly anybody will get what I think is the actual Studwellian message. Government needs to carefully design incentive compatible subsidy mechanisms and make it clear to producers that it (the government) carries a very, very big stick – and that it is not afraid to use it. And well, if push comes to shove, actually use it. Please, read How Asia Works!

Notes on In Service of the Republic, by Vijay Kelkar and Ajay Shah

A book that I have recommended unhesitatingly to students who ask me about how to go about learning public policy is “In The Service of the Republic” by Vijay Kelkar and Ajay Shah.

In this Monday post, I plan to write my observations from having read the book.

The book is divided into six sections:

  1. Foundations
  2. Diagnosing the Indian Experience
  3. The Science
  4. The Art
  5. The Public Policy Process
  6. Applying These Ideas: Some Examples

Part V and VI are the meat of the book, and that’s a good thing! If you are a student reading this book, it will be really helpful to have many, many examples of what the actual applications of the theoretical parts are.

What follows below are my highlights from having read the book, divided into four sections, with some commentary below each excerpt. The book is, it goes without saying, much much richer – and you should definitely read it, especially if you are interested in the field of public policy!


The Big Introductory Idea

The first question in the field of public policy is: What objectives of public policy are appropriate?

And for whom? For the government, for the people in society, for the elected representatives or somebody else? These questions need to be asked (and answered), for that changes the answers to the question in quotation marks above!

While the state is often seen as benign or benevolent, almost like an uncle or a parent, we have to remember that at the heart of the state, there is violence. The state acquires a monopoly upon violence. States establish conditions where nobody is permitted to engage in violence, but the state is able to inflict violence.

If this definition of the state strikes you as unusual, you should read, at the very least, this Wikipedia article.

The big idea of liberal democracy is to limit state violence into a controlled, predictable and just form.

That’s the plan, at any rate.



 

 

 

On State Intervention and Market Failure

The free market tends to overproduce things which induce negative externalities and underproduce things that induce positive externalities.

The price mechanism matters!

Markets work, but nothing ever works perfectly. People can (and should!) always debate how perfectly markets work, but it is simply an unavoidable reality that they sometimes fail.

Now, when they fail, it is usually because of one of the following four reasons:

Market failures come in four kinds: Externalities, Asymmetric information, Market power and Public goods.

When such a market failure occurs, a state intervention may be necessary. Without one or more of these factors being present, it absolutely isn’t necessary. But even with their presence, we’re on thin ice when we recommend that the state intervene:

When faced with a proposed state intervention, our first question should be: What is the market failure that this seeks to address? When market failure is not present, we should be sceptical about state intervention.

The state can intervene in three ways:

In many fields, we see three pillars of intervention: production (e.g., government running schools), regulating (e.g., government regulating private schools) and financing (e.g., government paying kids to attend private schools).

But the state can also intervene when there isn’t a market failure:

Forcing companies to spend 2 per cent of their profit on ‘corporate social responsibility’ is a use of the coercive power of the state that is not connected with market failure. Companies are rational economic actors, and if there is a problem with non-compliance, monetary penalties would suffice. When the law threatens to put individuals in jail for violating the rule, this is an excessive use of force.

And, pleasingly enough as an economist, every now and then, externality problems can be solved by the market itself:

In Maharashtra, there are professional beekeepers now charging farmers anywhere from Rs 1000 to Rs 3000 for renting out boxes for a month. 2 This presence of a private market for pollination services shows that this contractual solution is a feasible one. Through these private contracts, we have solved the externality problem, without a requirement for state intervention.


———————————————————————————————————————

Management is Hard!

It’s hard for anybody, anywhere. It is much harder for government:

There is quite a management challenge in identifying the 0.1 billion poorest people, and accurately delivering Rs 100 to them every day.

It is made harder for the following reasons (each of which is discussed in detail in the book):

Public policy failures are born of: (1) The information constraint; (2) The knowledge constraint; (3) The resource constraint; (4) The administrative constraint; and (5) The voter rationality constraint.

And “democratic decision making” is often problematic (also see Garett Jones‘ book about this):

Direct democracy also suffers from majoritarianism, the idea that policy should be made based on the views of 51 per cent of the population. We must question the extent to which ‘the voice of the people’ is the oracle that must be followed. There is much more to liberal democracy than winning elections.

Incentives matter, and policies have unseen, unintended consequences. The entire book is about this, but the following was my favorite passage by far:

In 1902 in Hanoi, under French rule, there was a rat problem. A bounty was set—one cent per rat—which could be claimed by submitting a rat’s tail to the municipal office. But for each individual who caught a rat, it was optimal to amputate the tail of a rat, and set the rat free, so as to bolster the rat population and make it easier to catch rats in the future. In addition, on the outskirts of Hanoi, farms came up, dedicated to breeding rats. In 1906, there was an outbreak of bubonic plague that killed over 250 people.

Update: Aadisht sends in this, from Discworld:

Shortly before the Patrician came to power there was a terrible plague of rats. The city council countered it by offering twenty pence for every rat tail. This did, for a week or two, reduce the number of rats—and then people were suddenly queueing up with tails, the city treasury was being drained, and no one seemed to be doing much work. And there still seemed to be a lot of rats around. Lord Vetinari had listened carefully while the problem was explained, and had solved the thing with one memorable phrase which said a lot about him, about the folly of bounty offers, and about the natural instinct of Ankh-Morporkians in any situation involving money: “Tax the rat farms.”

The Tinbergen Rule is really and truly important, and not just in public policy:

Public choice theory predicts that public organizations will favour multiple objectives as this gives reduced accountability. Clarity of purpose is efficient for the principal and not the agent.


Thinking about how government functions:

The five pillars of checks and balances—data, intellectuals, media, legislature, judiciary—all work poorly upon state governments.

As it turns out, not only is management hard, but management at the state level is even harder.

Why is there such a dearth of research when it comes to public policy?

At present in India, there is no community which systematically looks for fully articulated solutions. Academic journals do not publish policy proposals, hence academic researchers are not keen to invent policy proposals.

Or to use the jargon of public policy, we are missing incentive compatibility.

As Isher Ahluwalia says, nothing gets done by writing it in a government committee report, but nothing ever got done without it being repeatedly written into multiple government committee reports.

Public policy proceeds along the margins, and then very slowly!

Don’t fix the pipes; fix the institutions that fix the pipes. Old saying in the field of drinking water

The public policy equivalent of give a man a fish versus teach a man to fish

 


All this apart, the authors of the book also outline the “full pipeline”  of the policy process:

Stage 1: Collect data

Stage 2: Descriptive and Causal Research

Stage 3: Inventing and Proposing New Policy Solutions

Stage 4: Competing Policy Proposals are debated

Stage 5: Internal Governmental Debates, and Choice

Stage 6: Translate Decisions into Legal Instruments

Stage 7: Construction of State Capacity, Enforcement

I would personally add a stage 8: Monitoring, Evaluation, Feedback Loops.

But that quibble apart, the book is quite an education for anybody who hopes to learn more about the art and the science of public policy. If you are such a person, this book is certainly for you.

 

 

 

 

 

 

 

The Union Budget: The past, the process and the expectations for 2020

There’s this nagging sense of dissatisfaction: I have spent more than my usual allotment of time coming up with today’s post, and that’s because I have still not been able to find the perfect way to kickstart today’s five links.

I was looking for a nice, easy-to-read and yet informative article about the Union Budget: what is the finance bill, what is the importance of Article 112, what is the process behind the budget being formulated every year, how the budget fits into the medium term fiscal policy – the works. Well, as it turns out, to the best of my knowledge, there is no article that fits (pardon the pun) the bill.

Hence the nagging sense of dissatisfaction. Still, on that rather dispiriting note, here we go: five links about the Union Budget

  1. Moneycontrol to kick things off, on the process behind the budget. Again, not great, but lets run with what we’ve got!
    ..
    ..
    “”The budget is made through a consultative process involving ministry of finance, NITI Aayog and spending ministries. Finance ministry issues guidelines to spending, based on which ministries present their demands. The Budget division of the Department of Economic Affairs in the finance ministry is the nodal body responsible for producing the Budget.

    How is the budget made? Budget division issues a circular to all union ministries, states, UTs, autonomous bodies, departments and the defence forces for preparing the estimates for the next year. After ministries & departments send in their demands, extensive consultations are held between Union ministries and the Department of Expenditure of the finance ministry.”
    ..
    ..

  2. “Boost to spending can revive the economy, which will improve the returns of equity mutual funds. However, a possible surge in inflation poses a key challenge. A careful tightrope walk is what is required.”
    ..
    ..
    Macroeconomics – and I may have said this before, stop me if you’ve heard it – is hard. This article is a classic example of “On the one hand/ but on the other hand…”
    ..
    ..
  3. “An MTBF is a set of institutional arrangements for prioritizing, presenting, and managing revenue and expenditure in a multiyear perspective. Such a framework enables governments to demonstrate the impact of current and proposed policies over the course of several years, signal or set future budget priorities, and ultimately achieve better control of public expenditure. An MTBF, therefore, does not refer solely to the actual numerical multiyear revenue and expenditure projections and restrictions presented alongside a given budget. Rather, an MTBF comprises all the systems, rules, and procedures that ensure the government’s fiscal plans are drawn up with a view to their impact over several years.”
    ..
    ..
    MTBF stands for Medium Term Budget Framework. We’ve got one of our own! Dr. Vijay Kelkar helped prepare it. The point is this – and any corporate leader will tell you it’s importance – never look at a budget as a stand-alone exercise. It fits into a broader, more long term scheme of things. And we in India need to be aware of the more long term scheme of things. Except, uh…
    ..
    ..
    “The idea at the time was that the Ministry of Finance would think on a one-year budget horizon, while the Planning Commission would think about deeper issues in public policy formulation wielding an array of different instruments. Now that the Planning Commission has been disbanded, we will need to build a medium-term budget system that incorporates both points of view. There is a need to clearly define the role and function of NITI Aayog in this new environment, so as to fill these gaps in the mainstream policy apparatus”
    ..
    ..
    That excerpt is from a book that perhaps every student of economics should read: In The Service of the Republic, by Vijay Kelkar and Ajay Shah.
    ..
    ..
  4. “However, data on revenue available so far suggests that the government has very little fiscal space for any significant growth stimulus. If the government’s off-budget liabilities (or withheld payments) are taken into account, the central government’s real fiscal deficit could end up being as high as 5.5% of gross domestic product (GDP) in the current fiscal year, a Mint analysis of public accounts suggests.”
    ..
    ..
    This is old news to folks who have been following Union Budgets for a while, but might come as a surprise to those of you who are just now discovering the hidden delights of this sport: our fiscal deficit numbers aren’t – and haven’t been for a very long time indeed –  exactly crystal clear.
    ..
    ..
  5. “To cut a long story short, there is very little that the government can do in the budget to revive the Indian economy. The government budget is, ultimately, a financial account. And financial accounts, ultimately, are financial accounts and nothing more. Keynes’s formula doesn’t always work, at least not in the way it should. ”
    ..
    ..
    I’ve cut to the chase and excerpted the last paragraph from this excellent piece by Vivek Kaul, but you shouldn’t – read the whole thing very, very carefully indeed. I have a couple of points to nitpick here and there, but the broad thrust of the article I can’t help but agree with completely.

EC101: Links for 1st August, 2019

Heard of cantons?

Here’s an interesting question to ask: when one thinks of an organization, how decentralized should it be? Should all decision making flow from the very top, with lower levels of hierarchy being essentially automatons with no autonomy at all? Or should it be the other way around – little fiefdoms that are only nominally a part of a larger whole?

When you are early to check in at a hotel, should the clerk have the ability to decide whether you should be checked in, or should she be inflexible about rules that have been set at the very top?

Can one think of nations as one thinks of organizations? If yes, then what about the ability to tax and spend at the governmental level? Should that rest with the centre, or the states? Today’s five articles help us start to learn about this particular problem, keeping India front and centre:

  1. Here’s the World Bank with it’s view on decentralization in India.
    ..
    ..
  2. “The effectiveness of decentralization requires the calibration of the administrative, political and fiscal dimensions. Without political decentralization, participatory decision-making is not possible. Administrative decentralization is necessary to implement political decisions, and an important precondition for fiscal decentralization. Efficiency in the delivery of public services depends on administrative efficiency and accountability. To assess rural local government finance in India, it is useful to compare the system with current thinking on a well-functioning intergovernmental fiscal system.”
    ..
    ..
    Again from the World Bank, this time the rather more difficult issue of separating out decentralization and what it means in an administrative sense, and in a fiscal sense.
    ..
    ..
  3. The results of a UNDP survey about decentralization in India. I found the slide on challenges about decentralization to be the most thought provoking.
    ..
    ..
  4. “Vertical imbalance essentially arises due to the fiscal asymmetry in powers of taxation vested with the different levels of government in relation to their  expenditure responsibilities prescribed by the constitution. Our Federal Structure has three levels of Governments: Central Government, State Governments and the elected Local Bodies. In India the Central government has far greater or larger domain where it may tax e.g., income taxes personal or corporate, taxing consumption of goods and services (CGST), taxing foreign transactions (exports/imports) and capturing natural resources rents, e.g.,
    Spectrum Auction. In contrast, post-GST, the State governments may only tax the consumption of goods and services (SGST) and agricultural incomes, while the local or the third tier has even more limited power to tax which is largely confined to property tax”
    ..
    ..
    My apologies for the poor alignment of the text – pasting from a PDF is an act of sorcery that I am very far from mastering. The PDF itself is well worth reading for a student of fiscal federalism in India – Dr. Kelkar on the subject in a working paper.
    ..
    ..
  5. And finally, if you have made it this far, a rather long (but fascinating) read from the RBI on the experience of fiscal decentralization from other nations – especially pertinent for India in terms of how to think about this rather thorny issue in the years to come.