Kannan Kumar and Badri Narayanan Gopalakrishnan
Despite the doom and gloom of global issues such as supply chain disruptions, the COVID epidemic, and the Russia-Ukraine conflict, India posted historic exports of $418 billion in FY 21-22, up 39 percent a year ago.
Further, India's engineering goods exports totalled $112.1 billion, up 46.1 percent. India also exported $6.5 billion in mobile phones indicating a minor shift toward high-value product exports.
While these statistics are impressive, some structural flaws endure. Two prominent ones are the lack of scale in our component manufacturing system and the disinterest among Indian manufacturers in obtaining quality certifications and/or maintaining quality standards. Addressing these issues will help sustain India's exports and also help add more domestic value to its nascent tech export sector.
In a traditional manufacturing process (value chain) for a product, say a car, painting, final fitting assembly, and vehicle testing may occur in the original equipment manufacturer’s unit. But the majority of parts for the vehicle is sourced from hundreds of vendors. Apart from the largest vendors, the rest are often small businesses that provide everything from nuts and bolts to tires, rims, mirrors, wipers, etc.
These enterprises operate as catalysts for value addition in the home market. Most intermediate parts will be imported in their absence, with just minor value-added in the country. Unfortunately, India currently lacks quality firms capable of fulfilling this function.
In India, there are 242,395 registered formal factories, according to the latest Annual Survey of Industries statistics. Only 78,674 or 32 percent of businesses are classified as corporate entities (large firms). Individual proprietorships, partnerships, cooperatives, and other small or mid-sized businesses account for 163,721 factories. As per our calculations, a corporate manufacturing unit (large scale) in India employs just 117 people on average. And a mid- or small-sized non-corporate firm employs 22 people in its manufacturing unit. i.e., on average, a corporate firm is 5.3 times larger than a non-corporate firm. However, in terms of other factors like fixed capital invested, and total output produced per firm, we see the divergences are much starker. On average, a corporate firm has a fixed capital investment of Rs 41.34 crore and achieves an output of Rs. 102.34 crore per annum. But, a non-corporate (small) firm has a fixed capital of Rs. 1.3 crore and produces an output of Rs. 7.51 crore. i.e., corporate firms are 32 times and 14 times larger than non-corporate firms in investments and production.
This gulf indicates the scale difference between the large corporate and smaller SME manufacturers. While these numbers generally reflect the small-scale nature of manufacturing in the country, the difference in investments and production between corporate and non-corporate firms shows the urgent need to grow our SME firms into large-scale units.
Most sectors lack the scale to supply components to global OEMs except in auto component production. It is an anomaly affecting the growth of the manufacturing ecosystem in the country. To address this, India could take a cluster-based approach or implement an incentive system to increase the average firm size of Indian SMEs.
The second factor affecting India's exports is the lack of quality certifications. Global trade is built on trust. Most of the time, importers place orders with exporters without meeting them in person. Furthermore, a legitimate quality certification will increase the importer's confidence. Based on our interactions, we learned that buyers from Australia and other European countries reached out to Indian exporters to diversify their imports. However, we realized that the absence of quality certificates had deterred some buyers from placing orders with Indian exporters.
Certificates like ISO 9001 provide a significant signalling factor for importers. ISO 9001 is an international standard that sets the requirements for a quality management system. The standard is used by businesses to show that they can consistently deliver products and services that fulfil customer and regulatory criteria. According to the National Accreditation Board for Certification Bodies, 41 institutions in India have been approved to provide ISO 9001 certificates to Indian businesses. In addition, to encourage Indian SMEs to obtain ISO certifications, the Ministry of MSME conducts a Reimbursement of certification fees for acquiring ISO standards scheme. The Ministry reimburses 75 percent of the cost (limited at Rs 75,000) expended by the MSME firm in obtaining ISO certificates under this plan.
International Data on ISO 9001 registered organizations shows that just 32,236 Indian companies have this certification. On the other hand, China has 324,621 enterprises or nearly ten times the number of Indian firms. While economic literature suggests that international quality certifications have a positive and significant impact on exports, the low uptake of international certifications indicates that Indian companies are not serious about exports or the cost of renewing international quality certificates once every three years outweighs the benefits of the MSME Ministry's one-time reimbursement. Whatever the difficulty may be, more Indian companies should be incentivised to obtain international quality certifications to maintain high export growth rates.
Last fiscal year, India's exports reached new highs. While global difficulties appear to be looming in the current year, solving these structural difficulties will assist India in securely navigating those headwinds.The Asian development miracle is based on strong exports, which India must follow to graduate from a lower middle income to a higher middle-income economy.
Kannan Kumar is a Public Policy Analyst, Trade and Commerce at NITI Aayog. Dr. Badri Narayanan Gopalakrishnan is a Lead Adviser and Head of Trade and Commerce at NITI Aayog.Views are personal and do not represent the stand of this publication.