PURCHASING MANAGERS' INDEX

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Context

• India’s services firms saw growth in new business and output accelerate to a 11-year high in June, as per the survey-based S&P Global India Services Purchasing Managers Index (PMI).
• The index rose to 59.2 last month, from 58.9 in May, signaling a strengthening in demand across the services sector, which had borne the brunt of the COVID-19 pandemic.

 

What is a PMI?

• PMI or a Purchasing Managers’ Index (PMI) is an indicator of business activity-- both in the manufacturing and services sectors.
• It is a survey-based measurethat asks the respondents about changes in their perception of some key business variables from the month before.
• It is calculated separately for the manufacturing and services sectors and then a composite index is constructed.
• Started in 1948 by the US-based Institute of Supply Management, the Purchasing Managers’ Index, or PMI, has now become one of the most closely watched indicators of business activity across the world.

 

How is the PMI derived?

• The PMI is derived from a series of qualitative questions.
• Executives from a reasonably big sample, running into hundreds of firms, are asked whether key indicators such as output, new orders, business expectations and employment were stronger than the month before and are asked to rate them.

 

How does one read the PMI?

• A figure above 50 denotes expansion in business activity.
• Anything below 50 denotes contraction.
• Higher the difference from this mid-point greater the expansion or contraction.
• The rate of expansion can also be judged by comparing the PMI with that of the previous month data.
• If the figure is higher than the previous month’s then the economy is expanding at a faster rate. If it is lower than the previous month then it is growing at a lower rate.

What are its implications for the economy?

• The PMI is usually released at the start of the month, much before most of the official data on industrial output, manufacturing and GDP growth becomes available.
• It is, therefore, considered a good leading indicator of economic activity. Economists consider the manufacturing growth measured by the PMI as a good indicator of industrial output, for which official statistics are released later.
• Central banks of many countries also use the index to help make decisions on interest rates.

 

What does it mean for financial markets?

• The PMI also gives an indication of corporate earningsand is closely watched by investors as well as the bond markets.
• A good reading enhances the attractiveness of an economy vis-a-vis another competing economy.
• For instance, India’s manufacturing activity as measured by the PMI expanded, while for China/XYZ country it dipped.

 

Status of Indian manufacturing industry

A brief look back: India stands out as one such country: a potential manufacturing powerhouse that has yet to realize its promise. From fiscal year 2006 to fiscal year 2012, India’s manufacturing-sector GDP grew by an average of 9.5 percent per year. Then, over the next six years, growth declined to 7.4 percent. In fiscal year 2020, manufacturing generated 17.4 percent of India’s GDP, little more than the 15.3 percent it had contributed in 2000. (By comparison, Vietnam’s manufacturing sector more than doubled its share of GDP during the same interval.) And in the past 13 years, India’s manufacturing-sector share of employment increased by just one percentage point, compared with a five-point increase for the services sector.

 

• The manufacturing sector currently accounts for nearly 17 per cent of India’s GDP. It employed over 5 crore Indians in 2016-17 and has declined by 46 per cent to reach 2.73 crore in 2020-21. This indicates that the sector has been gradually losing momentum over the years.
• In the last few years earlier small manufacturers have now just become traders.
• Tough labour laws, expensive credit, costly or inadequate power supply make import from China and selling in India more profitable than producing these goods domestically.
• MSMEs sector accounts for around 6% of the manufacturing GDP and around 25% of the service sector GDP ; and contributes to around 33% to India’s manufacturing output.
• Indian manufacturers lost space to imports that were cheaper, better looking and fast rolling mainly because of lack of market feedback, lack of modification and dearth of novel technology.

Bottlenecks in manufacturing Sector Poor logistics causes delays and raises inventory costs; High prices for power and credit inflate operating expenses. The small, fragmented companies that make up some value chains cannot operate productively and with efficiency; cannot innovate quickly enough to keep up with competitors; and cannot command price premiums because they lack strong brands.   Prospects in Manufacturing Sector India’s natural resources (for example, iron ore, bauxite, high solar insolation, and cotton) and low-cost labor are a boon to makers of basic metals, textiles and apparel, renewable energy, and chemical products. The country’s large numbers of well-trained workers lend strength to skill-intensive value chains such as pharmaceutical formulations, capital goods, and automotive components. And many manufacturing value chains in India operate in close proximity to strong domestic markets. The makers of fast-selling technology products, for example, enjoy ready access to millions of Indian consumers.

 

Progress of India in manufacturing

• Assembly in electronics in the mobile sector has taken a quantum jump. India has emerged as the second largest manufacturer of mobile handsets in the world in terms of volume.
• India became the second largest steel producer in the world.
• India ranks second largest cement producer in the world.
• India is also among the top three aluminium producing countries in the world.
• India has won the largest number of Deming Awards outside of Japan. [Deming Prizes Recognize businesses worldwide for excellence in applying the principles of Total Quality Management].
• India is the largest manufacturer of two wheelers in the world.
• Great affordability rate is creating a huge market within the country.
• Leaders in manufacturing sector have been innovative in maintaining the entire supply chain right, from procuring steel to product designing.
• The small cars sector in India successfully built a huge supply chain owing to factors such as locational advantage, ease of doing business, intensive and support given such as allotting land in Southern India, near the ports. Example: Hyundai and Maruti.

How can India become a global manufacturing hub?

Learning from success stories of other countries

• Vietnam, the country of 100 million people, began manufacturing only ten to twelve years ago at a low base in a variety of sectors like garments, electronics and assembly. It has now had a sustained growth of 12-14%.

Five critical steps India needs to take:

1. Labor-intensive sectors: We need to recognize that our strength lies in labor, cost and productivity skills so we need to make mega industrial clusters preferably near its ports, which leverage on laborintensive sectors.
2. Ease of doing business: We must aggressively work on policy matters related to logistics costs, loading-unloading time, moving stock by road or rail etc.
3. Boosting export: Manufacturing is closely related to export. We cannot be successful in manufacturing unless we are also successful in exports.
4. Correcting the exchange rate: One of the handicaps in manufacturing is our exchange policy because the exchange rate is somewhat overvalued. This causes disadvantage to Indian exporters and also Indian industry, as Industry has to reckon with cheap imports. If the exchange rate is strong then imports look cheaper than domestic goods.
5. Increasing market access: In the present time, trade blocs are more popular than multilateral policies under the WTO. India should sign an FTA with the European Union and US that will help in the long run in promoting market access and huge opportunities.

How to ensure that Indian products are competitive against foreign goods?

• Research & Development (R&D): R&D is not merely the responsibility of the Government and public sector units but also that of private sector companies.
• India’s R&D spend is only 0.7% of the GDP which is less than then our peer countries such as Vietnam (2%) – it needs to be double and triple. R&D in our educational institution must be encouraged. More academia and industry partnership is required to boost R&D.
• To promote exports, a three way partnership is needed

1. Diplomatic missions abroad must reach out to investors in those countries who are interested in setting up R&D facilities in India.
2. The Ministry of Commerce & Industry should take the lead towards promoting R&D.

• Industry associations and chambers like FICCI and CII, should connect small -medium enterprises an companies to this initiative.

Do we need major labor reforms to become a global manufacturing hub?

• Restrictive labor laws have prevented companies in India from reaping the full benefits in output, productivity and employment and export.

 Reforms needed:

• Fixed employment policy: It gives flexibility to industries to hire and fire the workers or upscale or downscale workforce as per need, without significantly compromising on labor interest.
• Simple labor laws: labor laws must be made less complex to give more decision making autonomy to manufacturing units.
• Amend Factories Act 1948: many provisions are obsolete which must be removed.
• Self-certification: To develop a culture of trust and transparency, monthly and quarterly inspections by the Government authorities should be replaced by a self-certification norm and defaulters should be strictly penalized.

 

Way forward

• Boost spending on research and development to at least 2% of the GDP.
• Eliminate exemptions on countervailing duties on imports as the duty exemptions are favoring foreign producers over domestically made goods
• Monetize the land owned by public sector companies which could be used to develop eco-systems to nurture start-ups and develop sites for industrial clusters.
• Allow industries to buy electricity directly from the markets.
• Rationalizing labor laws to promote big industries rather than small and dwarf industries.
• Government should refrain from frequent policy twisting as it deter investment due to policy uncertainty.
• Improving infrastructure from transport systems to the power sector to reduce logistic cost and power outage.
• Improve access to finance for MSMEs sectors as most are facing financial crunch.
• Overhauling school and college curriculum to impart market relevant skills to youth.
• MSMEs should be included in the industrial clusters and given more Government support such as market facilitation, technology support, simplification of compliance norms etc.
• There must be mission mode in a targeted manner to achieve the goal of manufacturing hub.
• ‘Atma Nirbhar Bharat’ initiative must be given more focus for developing self-reliance across various sectors. For instance, despite having rich coal reserves, India is dependent on coal imports- this should be given proper attention.
• By adopting Industry 4.0 and automation technologies and investing in analytics, reskilling, and upskilling, Indian manufacturers could accelerate.
• Policy reforms that help create better infrastructure and logistics.
• By providing incentives to suppliers that operate within port-proximate export-processing (or coastal economic) zones, policy makers can make a tremendous difference in favor of Indian manufacturers.
• Boost productivity by offering more value-added goods, with higher product quality, better packaging, and stronger brands. Such enhancements would allow them to command higher prices, leading to one and a half to three times higher GVA (for example, in food processing, capital goods, steel, and steel products).

VGF Additional support for high-technology and low-carbon value chains might come from viability-gap funding (VGF), in which the government provides some capital to make projects financially viable. For example, India imports nearly all of the LCD panels that go into electronic devices made in the country. The country lacks the technology to set up an LCD-panel factory, and the investment case for such a plant does not hold up in the current tariff regime. Combined with time-bound tariffs or incentives, VGF could help improve the returns from investments in such a factory to 10 to 12 percent of the invested capital.

 

• Accessing Capital: With an incremental capital-to-output ratio between 4.5 to 6.0, India’s manufacturing sector would need investments totalling $1.0 trillion to $1.5 trillion over the next seven years to double its GDP in the same timeframe, provided that India also raises its GVA capture in these value chains by 25 percent.
• Financial reforms would help stable, cash-generating manufacturers attract low-cost domestic capital from long-term savings pools, such as pension funds and insurance.

 

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