Don't stymie services-led growth

Business Line, Jan 12, 2006

R. Vaidyanathan The rapidly-growing service sector, of which IT is only a part, currently accounts for nearly half of the GDP. In this segment, the role of the non-corporate sector, represented by millions of partnerships and proprietorships firms, has been pivotal to the growth of national income in the last decade. If this entrepreneurial spirit of non-corporate India is to be kept alive, it is imperative that the government reduces its role in the economy, says R. Vaidyanathan.

THERE has been a significant growth in our national income in the last decade, more particularly so in the last two years. We are now talking in terms of a growth rate of over 8 per cent, with some even suggestinga 10 per cent growth rate. What is driving this growth? Not the usual suspects information technology or corporate giants but non-corporate India, represented by millions of partnership and proprietorship firms. Currently, the service sector accounts for nearly half of the GDP; during 1993-94 to 20032004, it grew at 8.2 per cent, much higher than other sectors (Table 1). Between 1950-51and 1990-91, the share of service sector in the GDP rose by 13.07 percentage points, an increase of about 0.33 percentage points per annum. However, between 1993-94 and 2003-2004, the share increased by 10 percentage points, an increase of 0.96 percentage points per annum. Clearly, the growth rate has been very significant in the last decade.

The term service sector brings to mind IT companies such as Infosys. In fact, all software related activities come under business services, which accounts for less than 2 per cent of the national income. The service sector covers a much wider swathe of activities and is the fastest growing segment of the economy (Table 2).

Table 3 shows the growth rate of different activities where the non-corporate sector is dominant. All these activities fall under the service sector.

We find that many of these activities such as trade, hotels, transport (non-railways) have grown at more than 8 per cent CAGR during the last decade. The role of the non-corporate sector is very significant in (1) construction, (2) trade, (3) hotels and restaurant,(4) non-railway transport, (5 ) storage,(6) real estate ownership of dwellings and business services and (7) other services. Although the service sector has such a pivotal role in the economy, information about this sector is highly disorganised. There is no well-organised mechanism for maintaining a regular and proper database. The service sector can be broadly classified into the public , private corporate and the "household" sector. The first two are considered "organised" and the rest consists of unincorporated enterprises, including all kinds of proprietorship and partnerships. During 2002-2003, the share of the unorganised sector was around 75 per cent in trade (wholesale and retail), hotels and restaurant, and business services. It was more than 80 per cent in non-railway transport and more than 50 per cent per cent in construction and storage. The estimates of non-corporate sector in these activities need to be substantially improved. For instance, the report of the National Statistical Commission (NSC 2001) points out that the estimates of the non-corporate service sector is based on data which is inadequate in terms of sampling frame and sample size. It would be in the fitness of things, if CSO brings out an updated volume of sources and methods of the statistics. The credit requirements of these sectors are mainly met by non-bank sources. For instance, the share of trade at 15 per cent of the national income (during 2003 - 2004) was Rs 3.5 lakh crore. Of this, the share of non-corporate sector was more than 80 per cent, which implies Rs 2.8 crore. On a conservative estimate of 75 per cent of this as credit requirement (since in trade major portion of capital is working capital) the trade sector would have needed Rs 2.1 lakh crore. The combined financing to trade by all banking sources (both food and non-food credit) was of the order of Rs 61,000 crore. This implies that around 30 per cent of credit requirement is met by banking channels and the remaining by non-banking ones . The rate of interest in the non-bank sources is significantly higher than the former. Hence it is fascinating that the service sector with higher rate of borrowing could consistently deliver faster growth rate. It speaks volumes about the entrepreneurial nature of non-corporate India. Unlike in the developed countries, the likes of Wal-Mart, Sears, or Marks and Spencer in retail, or Greyhound or Federal Express in transportation, or McDonalds or Burger Kings and Pizza Huts in restaurants are not as yet the order of the day here. In a sense, the Indian economy can be called a partnership and proprietorship (P&P) economy.

The economic reforms were initiated in the early 1990s, during P.V. Narasimha Rao's time, most of the policy changes were to do with manufacturing the and financial sector dealing with corporate activities. The State governments regulate and control the service activities and there are no reforms in these policies. Hence, it is difficult to ascribe the growth of the service sector and that of the entire economy during the last decade, to the reform measures initiated. In other words, the growth is not due to Government policies but independent of or to a large extent in spite of the Government. In the last two years, there has been an attempt to increase the role of Governmentusing populist policies. The temptation is all the more, in the context of a growing economy since our government is primarily a predator. In that context, the question pertaining to sustaining our growth rate becomes important. A predatory government exhibits tendency of aggrandisement by trying to enhance taxes and regulations on service activities in the form of service tax, FBT etc. Plus there are moves to further regulate these activities. Inadequate credit availability at reasonable rates (since as we saw only 30 per cent is provided from organised banking channels) coupled with crippling taxation and regulations can kill the goose that lays the golden eggs. It is imperative that the Government exercises restraint and reduces its role in a growing economy since it is critical to realise that Government is, quite often, the problem and not the solution. It is required to calibrate the growth and development of non-corporate sector taking into account issues of credit delivery, labour markets, social security, savings and investments, globalisation, cohesion of civil society, etc. That alone can sustain the growth process of the economy. (The author is Professor of Finance, Indian Institute of Management-Bangalore. He can be contacted at vaidya@iimb.ernet.in. The views are personal.)