00074918.2013.772938
Bulletin of Indonesian Economic Studies
ISSN: 0007-4918 (Print) 1472-7234 (Online) Journal homepage: http://www.tandfonline.com/loi/cbie20
Manufacturing in India and Indonesia:
performance and policies
Vikram Nehru
To cite this article: Vikram Nehru (2013) Manufacturing in India and Indonesia:
performance and policies, Bulletin of Indonesian Economic Studies, 49:1, 35-60, DOI:
10.1080/00074918.2013.772938
To link to this article: http://dx.doi.org/10.1080/00074918.2013.772938
Published online: 21 Mar 2013.
Submit your article to this journal
Article views: 723
View related articles
Citing articles: 1 View citing articles
Full Terms & Conditions of access and use can be found at
http://www.tandfonline.com/action/journalInformation?journalCode=cbie20
Download by: [Universitas Maritim Raja Ali Haji]
Date: 17 January 2016, At: 23:40
Bulletin of Indonesian Economic Studies, Vol. 49, No. 1, 2013: 35–60
‘Indonesia in Comparative Perspective’ Series
MANUFACTURING IN INDIA AND INDONESIA:
PERFORMANCE AND POLICIES
Downloaded by [Universitas Maritim Raja Ali Haji] at 23:40 17 January 2016
Vikram Nehru*
Carnegie Endowment for International Peace, Washington DC
Since the global inancial crisis of 2008, the world has been riveted by China’s rapid
growth and its contribution to the global recovery. But less attention has been paid
to India and Indonesia – Asia’s two other giants – which also displayed resilience
during the crisis and show promise of sustaining this performance. Also remarkable are their geographical, historical and cultural proximity; notwithstanding their
differences, these two countries are alike in many respects and face similar challenges, as relected in their emerging policy priorities. China’s large size and rapid
growth may have absorbed the attention of Indian and Indonesian policy makers,
but this paper argues that a comparative approach to the issues that both countries
face can yield interesting insights and provide potential solutions to their development challenges.
Keywords: Manufacturing, industrial development, India, Indonesia
INTRODUCTION
India and Indonesia are, respectively, the world’s second and fourth most populous
countries and, alongside the US, among its three largest parliamentary democracies. Together, they are home to more Muslims than the Middle East, North Africa,
Europe and the Americas combined;1 they are also known for their diverse ethnic,
linguistic and religious mix.2 They proclaimed independence from their colonial
* Senior Associate and Chair in Southeast Asian Studies. Van Tran, Junior Fellow, provided
research assistance. I am grateful to the three anonymous referees for their thoughtful and
helpful responses.
1 Indonesia and India have a total Muslim population of about 380 million; the Middle
East, North Africa, Europe and the Americas have about 370 million (Pew Research Center
2011).
2 If languages relect ethnic diversity, then India and Indonesia are remarkably diverse.
The Indian constitution recognises 22 languages, 30 are spoken by more than a million
native speakers each and 122 are spoken by more than 10,000 native speakers each (2001
Indian Census). While virtually every Indonesian speaks Bahasa, more than 700 languages
are still used in different parts of the country.
ISSN 0007-4918 print/ISSN 1472-7234 online/13/010035-26
http://dx.doi.org/10.1080/00074918.2013.772938
© 2013 Indonesia Project ANU
Downloaded by [Universitas Maritim Raja Ali Haji] at 23:40 17 January 2016
36
Vikram Nehru
masters within two years of each other – Indonesia in 1945, India in 1947.3 At that
time, their per capita incomes were similar,4 and their average growth in per capita
income was virtually identical between 1949 and 1968 (1.4% a year). Both countries
followed quasi-socialist economic policies in their early post-independence years,
only to abandon them later in favour of market-oriented policies. Prime Minister Nehru and President Sukarno were leaders in their independence struggles,
nationalists in their domestic and foreign policies (both sought economic self-suficiency and were among the ive political leaders in the developing world who
established the non-aligned movement5) and socialist in their approach to development.
Yet India’s and Indonesia’s journeys have diverged over the last half-century,
and especially in the past decade. Indonesia was the irst of the two to initiate
economic reforms (in 1967) and experienced an immediate acceleration in growth,
which it then sustained for the next 30 years. India followed a quarter-century
later, and while it also enjoyed a surge in productivity, its per capita income is now
less than half Indonesia’s (but more than three-quarters if measured in 2005 purchasing-power-parity (PPP) dollars).6 Indonesia’s export strength now appears
to lie more in commodities and processed raw materials than in manufacturing;
India’s appears to lie in services exports, particularly those related to software
development and business-process outsourcing. India has a federal government,
although its public inances are largely centralised; Indonesia is a unitary state,
but its public inances are substantially decentralised. India lags behind Indonesia
in several social areas, but, unlike Indonesia, it has a few centres of excellence in
education, research and medicine that are near world-class. And Indonesia developed a robust democracy after President Soeharto’s departure, in 1998, whereas
India’s democracy – albeit noisy and chaotic – lourished throughout its entire
post-independence history (except during the ‘emergency’ of 1975–77).
Today, both economies enjoy robust growth, are members of the G20 and,
together with China, are shifting the global centre of gravity towards Asia.7 But
both also face the common challenge of sustaining rapid growth at a time of slow
and uncertain global recovery and elevated and volatile commodity prices. Neither country can afford growth to slow, because of their need to create jobs and
reduce poverty. Although the poverty rate has been declining in both countries, it
3 Indonesia proclaimed independence on 17 August 1945, although the Dutch did not
recognise this until 27 December 1949. See .
4 In 1990 international Geary–Khamis prices, India’s per capita income in 1949 was $624
and Indonesia’s was $763 (Maddison 2008).
5 The other leaders of the non-aligned movement were Nasser of Egypt, Tito of Yugoslavia
and Nkrumah of Ghana.
6 India’s gross national income per capita in 2011 was $1,410, compared with Indonesia’s
$2,940; India’s GDP per capita in 2011 was $1,489 ($3,652 in PPP terms) whereas Indonesia’s was $3,495 ($4,668 in PPP terms).
7 For comparisons of India and China, see Bardhan (2010), Gulati and Fen (2007), Smith
(2007), and Winters and Yusuf (2007). For a comparison of China and Indonesia, see Hofman, Zhao and Ishihara (2007). For a comparison of India and Indonesia, see Lankester
(2004) and Thee (2012).
Downloaded by [Universitas Maritim Raja Ali Haji] at 23:40 17 January 2016
Manufacturing in India and Indonesia: performance and policies
37
remains high. More important, the near poor – those with an income within 20%
of the poverty line – represent 12% of Indonesia’s population and 15% of India’s.8
The near-poor are a small income shock away from falling into poverty. Not only
is rapid growth critical in reducing poverty, but with rapid growth comes structural change – enabling those in low-productivity jobs to move into more-productive, better-paid jobs.
This paper contends that both India and Indonesia have considerable potential to become more productive by facilitating changes in the structure of the
economy. Increasing the share of manufacturing in GDP, in particular, is likely
to stimulate growth and create jobs, in part because it is relatively under-developed in both economies, and also because it is uniquely capable of expanding
output and employment. But rapid growth in manufacturing requires the transfer of resources, especially labour, from less productive areas of agriculture and
services. This paper focuses on how the policies of the two countries compare in
achieving this objective.
The irst section of this paper examines why the current pattern of growth in
output and employment in both India and Indonesia is unsustainable, and why
manufacturing will be important in the decades ahead. The second explores how
the two countries compare in four policy areas necessary for sustainable growth
in manufacturing: the trade, investment and macroeconomic framework; infrastructure development and the primacy of healthy urban areas; human-capital
development; and lexibility in factor markets. These may be economy-wide policy areas, but they are critical for growth in manufacturing (Aswicahyono, Hill
and Narjoko 2011). The third section reviews the political-economy dimensions
impeding reforms. The fourth section concludes.
WHY MANUFACTURING IS IMPORTANT
One may ask why manufacturing should be important in India and Indonesia
when overall growth has been rapid and robust in both countries over the last
decade (igures 1–4). India’s GDP growth has averaged 7.8%, Indonesia’s 5.5%.
This growth has increased average living standards signiicantly in both countries, particularly in Indonesia (table 1).9
Notwithstanding their impressive economic performances, both economies
have seen a relative decline in manufacturing (table 2) – their share of manufacturing in GDP and exports has slipped in recent years. In India, growth has been
propelled by services; in Indonesia, by higher commodity prices.
In neither case was manufacturing the primary driver of growth. This matters,
for two reasons. First, labour productivity in manufacturing displays unconditional convergence – that is, it tends to converge towards the technology frontier irrespective of country-speciic conditions (Rodrik 2012; Bénétrix, O’Rourke
8 Author’s calculation, using Povcal .
9 The elasticity of poverty reduction and GDP was –0.26 for Indonesia (for 1984–2010) and
–0.12 for India (for 1978–2010), using an estimate of $1.25 per day (in 2005 PPP terms) for
the head-count poverty rate and GDP at constant prices in local currency units (author’s
estimates, based on data from the World Bank’s World Development Indicators, available
at ).
38
Vikram Nehru
FIGURE 1 Annual GDP Growth, 1960–2010
(%)
Downloaded by [Universitas Maritim Raja Ali Haji] at 23:40 17 January 2016
Source: World Development Indicators (World Bank).
FIGURE 2 GDP Per Capita, 1980–2010
(in constant 2005 PPP$)
Source: World Development Indicators (World Bank).
and Williamson 2012; McMillan and Rodrik 2011). Moreover, the lower the
productivity, the faster tends to be its growth. One estimate shows that industries with labour productivity at 10% of those at the technology frontier can
expect to achieve an incremental 6.7 percentage points in growth a year, all else
remaining equal (Rodrik 2012). The challenge, then, is to develop a critical mass
in manufacturing, so that convergence in manufacturing drives convergence in
Manufacturing in India and Indonesia: performance and policies
39
FIGURE 3 Gross Capital Formation as a Share of GDP, 1960–2010
(%)
Downloaded by [Universitas Maritim Raja Ali Haji] at 23:40 17 January 2016
Source: World Development Indicators (World Bank).
FIGURE 4 Gross National Savings as a Share of GDP, 1980–2010
(%)
Source: World Development Indicators (World Bank).
per capita incomes. Of course, successful manufacturing depends on healthy
agriculture and services, which provide key inputs and complementary outputs
and whose eficiency releases resources for manufacturing.10
10 No country has developed since 1950 without industrialisation (Szirmai 2009). The experiences of Japan, South Korea, Taiwan and now China demonstrate that manufacturing
can increase labour productivity by an extraordinary amount. Such increases are not automatic, however, and rely on a country’s policies and institutional environment.
40
Vikram Nehru
TABLE
1
Social Indicators for India and Indonesia
1981
Downloaded by [Universitas Maritim Raja Ali Haji] at 23:40 17 January 2016
India
Maternal mortality rate (per 100,000 live births)
Infant mortality rate (per 1,000 live births)
Under-ive mortality rate (per 1,000 live births)
Poverty head-count ratio (
ISSN: 0007-4918 (Print) 1472-7234 (Online) Journal homepage: http://www.tandfonline.com/loi/cbie20
Manufacturing in India and Indonesia:
performance and policies
Vikram Nehru
To cite this article: Vikram Nehru (2013) Manufacturing in India and Indonesia:
performance and policies, Bulletin of Indonesian Economic Studies, 49:1, 35-60, DOI:
10.1080/00074918.2013.772938
To link to this article: http://dx.doi.org/10.1080/00074918.2013.772938
Published online: 21 Mar 2013.
Submit your article to this journal
Article views: 723
View related articles
Citing articles: 1 View citing articles
Full Terms & Conditions of access and use can be found at
http://www.tandfonline.com/action/journalInformation?journalCode=cbie20
Download by: [Universitas Maritim Raja Ali Haji]
Date: 17 January 2016, At: 23:40
Bulletin of Indonesian Economic Studies, Vol. 49, No. 1, 2013: 35–60
‘Indonesia in Comparative Perspective’ Series
MANUFACTURING IN INDIA AND INDONESIA:
PERFORMANCE AND POLICIES
Downloaded by [Universitas Maritim Raja Ali Haji] at 23:40 17 January 2016
Vikram Nehru*
Carnegie Endowment for International Peace, Washington DC
Since the global inancial crisis of 2008, the world has been riveted by China’s rapid
growth and its contribution to the global recovery. But less attention has been paid
to India and Indonesia – Asia’s two other giants – which also displayed resilience
during the crisis and show promise of sustaining this performance. Also remarkable are their geographical, historical and cultural proximity; notwithstanding their
differences, these two countries are alike in many respects and face similar challenges, as relected in their emerging policy priorities. China’s large size and rapid
growth may have absorbed the attention of Indian and Indonesian policy makers,
but this paper argues that a comparative approach to the issues that both countries
face can yield interesting insights and provide potential solutions to their development challenges.
Keywords: Manufacturing, industrial development, India, Indonesia
INTRODUCTION
India and Indonesia are, respectively, the world’s second and fourth most populous
countries and, alongside the US, among its three largest parliamentary democracies. Together, they are home to more Muslims than the Middle East, North Africa,
Europe and the Americas combined;1 they are also known for their diverse ethnic,
linguistic and religious mix.2 They proclaimed independence from their colonial
* Senior Associate and Chair in Southeast Asian Studies. Van Tran, Junior Fellow, provided
research assistance. I am grateful to the three anonymous referees for their thoughtful and
helpful responses.
1 Indonesia and India have a total Muslim population of about 380 million; the Middle
East, North Africa, Europe and the Americas have about 370 million (Pew Research Center
2011).
2 If languages relect ethnic diversity, then India and Indonesia are remarkably diverse.
The Indian constitution recognises 22 languages, 30 are spoken by more than a million
native speakers each and 122 are spoken by more than 10,000 native speakers each (2001
Indian Census). While virtually every Indonesian speaks Bahasa, more than 700 languages
are still used in different parts of the country.
ISSN 0007-4918 print/ISSN 1472-7234 online/13/010035-26
http://dx.doi.org/10.1080/00074918.2013.772938
© 2013 Indonesia Project ANU
Downloaded by [Universitas Maritim Raja Ali Haji] at 23:40 17 January 2016
36
Vikram Nehru
masters within two years of each other – Indonesia in 1945, India in 1947.3 At that
time, their per capita incomes were similar,4 and their average growth in per capita
income was virtually identical between 1949 and 1968 (1.4% a year). Both countries
followed quasi-socialist economic policies in their early post-independence years,
only to abandon them later in favour of market-oriented policies. Prime Minister Nehru and President Sukarno were leaders in their independence struggles,
nationalists in their domestic and foreign policies (both sought economic self-suficiency and were among the ive political leaders in the developing world who
established the non-aligned movement5) and socialist in their approach to development.
Yet India’s and Indonesia’s journeys have diverged over the last half-century,
and especially in the past decade. Indonesia was the irst of the two to initiate
economic reforms (in 1967) and experienced an immediate acceleration in growth,
which it then sustained for the next 30 years. India followed a quarter-century
later, and while it also enjoyed a surge in productivity, its per capita income is now
less than half Indonesia’s (but more than three-quarters if measured in 2005 purchasing-power-parity (PPP) dollars).6 Indonesia’s export strength now appears
to lie more in commodities and processed raw materials than in manufacturing;
India’s appears to lie in services exports, particularly those related to software
development and business-process outsourcing. India has a federal government,
although its public inances are largely centralised; Indonesia is a unitary state,
but its public inances are substantially decentralised. India lags behind Indonesia
in several social areas, but, unlike Indonesia, it has a few centres of excellence in
education, research and medicine that are near world-class. And Indonesia developed a robust democracy after President Soeharto’s departure, in 1998, whereas
India’s democracy – albeit noisy and chaotic – lourished throughout its entire
post-independence history (except during the ‘emergency’ of 1975–77).
Today, both economies enjoy robust growth, are members of the G20 and,
together with China, are shifting the global centre of gravity towards Asia.7 But
both also face the common challenge of sustaining rapid growth at a time of slow
and uncertain global recovery and elevated and volatile commodity prices. Neither country can afford growth to slow, because of their need to create jobs and
reduce poverty. Although the poverty rate has been declining in both countries, it
3 Indonesia proclaimed independence on 17 August 1945, although the Dutch did not
recognise this until 27 December 1949. See .
4 In 1990 international Geary–Khamis prices, India’s per capita income in 1949 was $624
and Indonesia’s was $763 (Maddison 2008).
5 The other leaders of the non-aligned movement were Nasser of Egypt, Tito of Yugoslavia
and Nkrumah of Ghana.
6 India’s gross national income per capita in 2011 was $1,410, compared with Indonesia’s
$2,940; India’s GDP per capita in 2011 was $1,489 ($3,652 in PPP terms) whereas Indonesia’s was $3,495 ($4,668 in PPP terms).
7 For comparisons of India and China, see Bardhan (2010), Gulati and Fen (2007), Smith
(2007), and Winters and Yusuf (2007). For a comparison of China and Indonesia, see Hofman, Zhao and Ishihara (2007). For a comparison of India and Indonesia, see Lankester
(2004) and Thee (2012).
Downloaded by [Universitas Maritim Raja Ali Haji] at 23:40 17 January 2016
Manufacturing in India and Indonesia: performance and policies
37
remains high. More important, the near poor – those with an income within 20%
of the poverty line – represent 12% of Indonesia’s population and 15% of India’s.8
The near-poor are a small income shock away from falling into poverty. Not only
is rapid growth critical in reducing poverty, but with rapid growth comes structural change – enabling those in low-productivity jobs to move into more-productive, better-paid jobs.
This paper contends that both India and Indonesia have considerable potential to become more productive by facilitating changes in the structure of the
economy. Increasing the share of manufacturing in GDP, in particular, is likely
to stimulate growth and create jobs, in part because it is relatively under-developed in both economies, and also because it is uniquely capable of expanding
output and employment. But rapid growth in manufacturing requires the transfer of resources, especially labour, from less productive areas of agriculture and
services. This paper focuses on how the policies of the two countries compare in
achieving this objective.
The irst section of this paper examines why the current pattern of growth in
output and employment in both India and Indonesia is unsustainable, and why
manufacturing will be important in the decades ahead. The second explores how
the two countries compare in four policy areas necessary for sustainable growth
in manufacturing: the trade, investment and macroeconomic framework; infrastructure development and the primacy of healthy urban areas; human-capital
development; and lexibility in factor markets. These may be economy-wide policy areas, but they are critical for growth in manufacturing (Aswicahyono, Hill
and Narjoko 2011). The third section reviews the political-economy dimensions
impeding reforms. The fourth section concludes.
WHY MANUFACTURING IS IMPORTANT
One may ask why manufacturing should be important in India and Indonesia
when overall growth has been rapid and robust in both countries over the last
decade (igures 1–4). India’s GDP growth has averaged 7.8%, Indonesia’s 5.5%.
This growth has increased average living standards signiicantly in both countries, particularly in Indonesia (table 1).9
Notwithstanding their impressive economic performances, both economies
have seen a relative decline in manufacturing (table 2) – their share of manufacturing in GDP and exports has slipped in recent years. In India, growth has been
propelled by services; in Indonesia, by higher commodity prices.
In neither case was manufacturing the primary driver of growth. This matters,
for two reasons. First, labour productivity in manufacturing displays unconditional convergence – that is, it tends to converge towards the technology frontier irrespective of country-speciic conditions (Rodrik 2012; Bénétrix, O’Rourke
8 Author’s calculation, using Povcal .
9 The elasticity of poverty reduction and GDP was –0.26 for Indonesia (for 1984–2010) and
–0.12 for India (for 1978–2010), using an estimate of $1.25 per day (in 2005 PPP terms) for
the head-count poverty rate and GDP at constant prices in local currency units (author’s
estimates, based on data from the World Bank’s World Development Indicators, available
at ).
38
Vikram Nehru
FIGURE 1 Annual GDP Growth, 1960–2010
(%)
Downloaded by [Universitas Maritim Raja Ali Haji] at 23:40 17 January 2016
Source: World Development Indicators (World Bank).
FIGURE 2 GDP Per Capita, 1980–2010
(in constant 2005 PPP$)
Source: World Development Indicators (World Bank).
and Williamson 2012; McMillan and Rodrik 2011). Moreover, the lower the
productivity, the faster tends to be its growth. One estimate shows that industries with labour productivity at 10% of those at the technology frontier can
expect to achieve an incremental 6.7 percentage points in growth a year, all else
remaining equal (Rodrik 2012). The challenge, then, is to develop a critical mass
in manufacturing, so that convergence in manufacturing drives convergence in
Manufacturing in India and Indonesia: performance and policies
39
FIGURE 3 Gross Capital Formation as a Share of GDP, 1960–2010
(%)
Downloaded by [Universitas Maritim Raja Ali Haji] at 23:40 17 January 2016
Source: World Development Indicators (World Bank).
FIGURE 4 Gross National Savings as a Share of GDP, 1980–2010
(%)
Source: World Development Indicators (World Bank).
per capita incomes. Of course, successful manufacturing depends on healthy
agriculture and services, which provide key inputs and complementary outputs
and whose eficiency releases resources for manufacturing.10
10 No country has developed since 1950 without industrialisation (Szirmai 2009). The experiences of Japan, South Korea, Taiwan and now China demonstrate that manufacturing
can increase labour productivity by an extraordinary amount. Such increases are not automatic, however, and rely on a country’s policies and institutional environment.
40
Vikram Nehru
TABLE
1
Social Indicators for India and Indonesia
1981
Downloaded by [Universitas Maritim Raja Ali Haji] at 23:40 17 January 2016
India
Maternal mortality rate (per 100,000 live births)
Infant mortality rate (per 1,000 live births)
Under-ive mortality rate (per 1,000 live births)
Poverty head-count ratio (