Indian Service Sector Essay

INDIA’S SERVICES SECTOR: Unlocking Opportunity INDIA’S SERVICES SECTOR Unlocking Opportunity Australian Government Department of Foreign Affairs and Trade Economic Analytical Unit DFAT ©Commonwealth of Australia 2007 This work is copyright. Apart from any use permitted under the Copyright Act 1968, no part may be reproduced by any process without prior written permission from the Commonwealth available through the Attorney-General’s Department.

Requests and inquiries concerning reproduction and rights should be addressed to Commonwealth Copyright Administration, Copyright Law Branch, Attorney-General’s Department, Robert Garran Offices, National Circuit, Canberra ACT 2600 or by email to commonwealth. [email protected] gov. au Australia. Dept. of Foreign Affairs and Trade. Economic Analytical Unit. India’s services sector: unlocking opportunity. Bibliography. ISBN 9781921244056. 1. Service industries – India. 2. India – Commerce. 3. India – Economic conditions. 4.

We will write a custom essay sample on
Indian Service Sector Essay
or any similar topic only for you
Order now

India – Economic policy. I. Title. 338. 470954 Editing by Peter Judge. Typesetting by Lyn Lalor. Production by Jean Penny, Pirion Print and Design. Cover photo by Adrian Westwood, Firefly Creative. Executive Summary executive summaryi ‘In 1991, with India running out of hard currency, Manmohan Singh…decided that India had to open its economy. “Our Berlin Wall fell…and it was like unleashing a caged tiger… We went from quiet self-confidence to outrageous ambition in a decade” [Tarun Das, Chief Mentor, Confederation of Indian

Industries]. ’ (Thomas Friedman, The World is Flat) Optimism abounds in India. Well it might. Keynote reforms, initiated by the then Finance Minister Dr Manmohan Singh in 1991, provided the momentum for a major reduction of the role of the public sector in the economy, a degree of deregulation, and greater integration of India’s economy into international markets. India’s entrepreneurial spirit was unleashed. The result has been a shift from India’s traditional annual GDP growth rates of around 3. per cent to a much faster growth trajectory. Between 1991 and 2005 the economy expanded at an annual average of around six per cent. In the past three years growth has been higher still, at around eight per cent. Growth for 2006–07 may be even higher, with the economy expanding at an annualised rate of 9. 2 per cent in the third quarter of 2006. These figures call to mind the performance of the economic success stories of East Asia – Japan, Taiwan, the Republic of Korea, the high-growth ASEAN economies and, most recently, China.

Extrapolating from macro factors – such as demographics and potential for technological ‘catch-up’ – and assuming an ongoing reform effort, studies by a number of prominent analytical organisations have projected that India could even outperform these dynamic economies over the next fifty years. If so, these studies claim, by 2050 India could be the third-largest economy in the world (in market exchange rate terms) by a significant margin, behind only China and the United States. Such developments would profoundly shift the world’s economic centre of gravity.

This study does not seek either to substantiate or to disprove these rosy projections. Any such attempt would be futile. Too much is dependent on factors which cannot be plausibly predicted, such as the ongoing willingness and ability of Indian governments to sustain a reform program over long periods; the health of the international economy; new developments in technology; and the shape of the international trading system. Instead we ask: How might it happen? Is there a plausible path from today’s India to the projected giant economy of 2050?

What opportunities might successful pursuit of that path generate for Australian services providers? And finally, what factors need to be taken into account along the way as Australian companies consider whether they should be seeking to participate directly in India’s growth? 1 1 While some contend that growth picked up in the 1980s, Panagariya (2005) points out that growth was patchy. Growth was strong over 1988–89 to 1990–91, but this was largely a reflection of the liberalisation and deregulation measures under Prime Minister Rajiv Gandhi as well as expansionary policies that ended in the economic crisis of June 1991.

It was the more systematic and deeper reforms commencing in 1991 that helped sustain India’s economic growth. P A G E iii INDIA’S SERVICES SECTOR UNLOCKING OPPORTUNITY Why services? This report focuses specifically on the services sector because of the central importance of services to India’s current economic expansion. Whereas the East Asian economies’ success has largely been built on the development of export-oriented manufacturing, India’s recent growth has been led by the dynamism of its services sector – particularly high-end, knowledge-intensive services exports.

Services have consistently grown at a faster pace than the economy as a whole since 1991, when the reform effort was kicked off in earnest. They now occupy some 60 per cent of India’s GDP, based on the WTO definition of services which includes construction. Manufacturing, by contrast, has maintained a stubbornly static share in the economy at around 20 per cent, while that of agriculture – still far and away the largest employer – has dwindled. Productivity growth in India, unlike virtually all other regions of the world, has been strongest in services (IMF 2006).

This is not to say that developments in other sectors are unimportant; nor that the profile of India’s economy will remain static over time. Already, for example, there are signs of an acceleration in the growth of India’s manufacturing sector. But to date, it has been services that have led the way; and their sheer size within the economy means they will continue to have a critical role. This is an unusual growth path. In terms of per capita income India remains a poor country. Yet the services-dependent profile of its economy is much closer to that which has typically been associated with middle-income developing countries.

In general, development of the services sector occurs after developments in agriculture and manufacturing. In India’s case, the reverse has occurred. hoW can the services boom lead to sustainable groWth? For the reformist approach that has led to India’s recent growth to be politically sustainable in the medium to long term, it must demonstrate benefits to all strata of society. The key imperative for Indian policy-makers is to improve the situation of a huge and growing, but relatively low skilled, rural working class.

This means creating vast numbers of appropriate jobs. But the main driver of growth in the economy since 1991 has been a knowledge-intensive sector, which is never likely to become a mass employer of low-skilled labour. How to resolve the two? Fieldwork in the course of this study suggested that, in the minds of many participants in the Indian economy, there is a plausible route by which services-led growth could lead to broader-based development, and consequently to job creation on the necessary scale.

Put simply, this would involve growth of dynamic services export sectors such as Information Technology–Information Technology Enabled Services (IT–ITES), and the income that growth brings to the country, providing a major stimulus to domestic demand and hence catalysing reform and growth in other sectors – including infrastructure development, construction, manufacturing and retail. It is the consequent growth in these other sectors, particularly manufacturing, which might be expected to provide the bulk of the required jobs over time.

Though somewhat speculative, this idea, which is elaborated in Chapter 1, is of interest because it provides a plausible road map by which current developments might lead to the long-term projections. P A G E iv Executive Summary It also provides a framework for examination of India’s services sector as a whole which highlights the differing roles that different sub-sectors might play as the economy develops – and hence the differing types and timeframes for opportunities that are likely to arise for Australian services providers. he roles of different sub-sectors Within an overall framework of services-led growth, different services sub-sectors clearly have different roles to play. These are examined in Chapter 2. Broadly speaking, the better performing services sub-sectors either have not been subject to significant amounts of regulation (notably IT–ITES) or have been deregulated and opened up to competition (most prominently, telecommunications and domestic air travel).

Increased inward investment flows stemming from a relaxation of restrictions on foreign investment and particular inducements such as Special Economic Zones (SEZs) have helped underpin the performance of some of the faster growing services sectors. Knowledge-based industries have been prominent among the fastest growing services. The relative lack of regulation and modest capital requirements in these industries have enabled them to capitalise on the advantages of a low-cost, educated workforce, technological advances and widespread English-language capabilities.

The rapid expansion of the export-oriented IT–ITES sector is much lauded, but several other key services are also growing strongly, including telecommunications, financial services, consulting services, private healthcare, and biotechnology services. High-end services such as IT–ITES have an important role to play in India’s overall development on two levels. Their expansion has in large part been based on external demand, and has resulted in a significant increase in export earnings, as well as burgeoning inflows of foreign direct investment, with most of the multinational ‘majors’ now represented in India.

This success has led, and will continue to lead, to expansion of the IT sector, which should in turn fuel increased domestic demand, as employment grows, creating requirements for new buildings and infrastructure, as well as the growth of an increasingly sophisticated and affluent consumer class. India’s world-class knowledge-based services are also increasingly assuming importance for the inputs they provide for other sectors of the Indian domestic economy – such as manufacturing, retail, and logistics – thereby improving productivity in those sectors and further nhancing growth prospects. As growth continues, other services sectors also have a crucial role to play. A modern economy demands both an efficient telecommunications infrastructure to facilitate rapid information exchange and communication between economic units, and a financial sector which is able to provide sophisticated intermediation between capital providers and capital users so that resources are allocated efficiently within the economy.

It also requires increasing sophistication in areas such as transport and power infrastructure to prevent disruptions to production and enable goods to be moved efficiently around the country; and in education and training to ensure that there is sufficient skilled labour to allow the economy to modernise. PAGE v INDIA’S SERVICES SECTOR UNLOCKING OPPORTUNITY Reform measures within these ‘enabling’ sub-sectors vary considerably, although most services have been, and remain, less regulated by comparison with manufacturing.

Significant changes have occurred in the financial sector, although foreign investment in banking and insurance remains heavily constrained. Within another sector crucial to the health of the economy – transport infrastructure – the picture is mixed. Ports have been considerably opened up to competition, but while reform has begun in respect of railways, and to a greater extent, roads, substantial investment is required in these sectors to bring them to an acceptable standard.

Modernisation of airports is under way, but it has been fraught with delays and is struggling to keep pace with the major expansion in air travel that is taking place in India. Power shortages also remain a major constraint on growth – albeit one which the government is now seeking to address, including through the introduction of mechanisms designed to promote private and international investment in the sector.

Some business services important to facilitating growth – such as legal and accountancy services – remain largely protected from foreign competition, as does the retail sector. As reform and growth continues in other areas, these sectors can also be expected to come under further pressure to deregulate and modernise. Already shopping malls are springing up all over India in the face of seemingly insatiable demand.

The first hypermarkets and department stores are starting to emerge – again bringing with them requirements for skills and approaches which to date have been little required in India, including modern distribution systems and integrated supply chains. While complete liberalisation of foreign investment rules in these areas is fraught with political difficulty and likely to be some way off, pressure for change can only be expected to increase as Indians increasingly travel overseas and experience international standards of service in these areas. pportunities for australian services providers The range and extent of changes that are foreseeable in the Indian economy as it continues to develop suggest that, as well as focusing on the obvious growth areas of IT–ITES, Australian services providers should be looking to a number of other sectors in considering how they might participate in India’s ongoing growth. Where they might do so is examined in Chapter 3.

In relation to IT–ITES, India’s role in creating and leading a ‘tradability revolution’ in services merits strong attention from Australian business. The most commonly highlighted aspect of this phenomenon has been the trend towards business process outsourcing and ‘offshoring’ of services to India. But it is very much a two-way process. As India’s exports of business services have exploded, so have its imports, reflecting a fundamental change in the way services are produced and delivered worldwide.

And its major IT companies, such as Infosys, Wipro, Satyam and Tata Consulting Services (to name but a few), are increasingly expanding overseas, providing jobs for locals in host markets – including Australia. Essentially, economic activity in this area is mirroring familiar developments in the manufacturing sector. Production is becoming more fragmented. Specialised activities are taking place in diverse locations, resulting in a rapid increase in services trade.

Australia has very real strengths in this area and is well placed to participate in emerging services production networks – particularly in high-end services such as Information and Communications Technology (ICT)-enabled research and analysis. P A G E vi Executive Summary While a key focus of the dozens of Indian IT companies operating in Australia is the provision of IT solutions to local companies, a number of these companies are also using their Australian subsidiaries to secure or help take advantage of global market opportunities – leading to high-quality employment opportunities for Australians.

As the trend to deliver services through international networks develops, cooperation and collaboration between Australian and Indian firms to service third markets could expand to the benefit of both countries. It will be important for Australian companies to understand the export opportunities created by complementarities between Indian and Australian services providers in this area. While India is home to a number of world class companies, particularly in IT–ITES, Australian companies also have significant expertise that could augment India’s capabilities or meet India’s needs.

Relevant areas include infrastructure development and related consultancy services; information technology; telecommunications; financial services; tourism and travel-related services; film and television; sports and related infrastructure, particularly in the context of New Delhi’s hosting of the 2010 Commonwealth Games; healthcare services; biotechnology; mining services; retail and logistics; and legal and accountancy services. Perhaps the most striking example, however, is that of education and training.

A major relationship already exists in this field, with more than 38 700 Indian student enrolments in Australian educational institutions for the 11 months to November 2006, principally at tertiary level. This number is still growing rapidly. Given the skills India’s development is likely to demand, there is ample scope for this relationship to continue to grow in the medium term – particularly as institutions take the opportunity to diversify their approaches to provision of education and training, including through the establishment of operations offshore and distance learning programs. xpanding bilateral economic ties The base of bilateral commercial activity on which Australian companies can build has grown rapidly. Chapter 4 examines this activity. The bilateral commercial relationship has developed rapidly into one of vitality and energy, with strong support from governments. Numerous visits to India by senior Australian Ministers – highlighted by that of Prime Minister Howard in March 2006 – underpin what is now a major trading relationship.

At the official level, Australia and India concluded a Trade and Economic Framework (TEF) in March 2006, which provides a clear structure for the further development of commercial relations. India ranks twelfth overall as a trading partner of Australia. Total trade surpassed A$10 billion for the first time in 2005–06. India has been Australia’s second-fastest growing services export market over the past five years, in large part reflecting the strength of education exports – a direct spin-off from India’s rapid growth.

Despite high levels of publicity for the relocation of corporate functions to India by some major companies, the balance of bilateral services trade is firmly in Australia’s favour. While Australian direct investment in India’s services sector is presently at modest levels, it is set to increase with some recent investment decisions and conclusion of contracts. Indian companies have made substantial investments in Australia’s services sector, most notably in IT. P A G E vii INDIA’S SERVICES SECTOR UNLOCKING OPPORTUNITY ndia’s business environment A credible story can be told that would see the pattern of knowledge-intensive service-driven development which has been embarked upon by India feeding into the robust growth trajectory projected by Goldman Sachs and others. That said, the jury will remain out for some time on whether the benign scenario of ongoing growth – and particularly increased employment and welfare across the Indian economy – will come to pass. It is clear that many other less optimistic scenarios are also possible.

Work by the World Economic Forum in collaboration with the Confederation of Indian Industry, for example, produced three possible scenarios for the future of the Indian economy, only one of which leads unequivocally to strong growth and broad-based development – and one of which leads equally unequivocally in the opposite direction (WEF 2005). Chapter 5, the final chapter of this report, seeks to identify relevant considerations for Australian companies considering a deeper involvement in India as a market for services exports.

The key question will be the ability of successive governments to sustain the momentum of reform. The success of reform in generating growth to date appears to have engendered a critical mass of political opinion that is in favour, in principle, of ongoing reform. But the devil, as always, is in the detail. Much can be, and has been, achieved through low-profile, administrative measures. However, achieving major necessary reforms remains difficult, particularly in flagship areas such as labour policy, privatisation, and foreign participation, whether through trade or investment.

If the necessary political support is to be achieved, it is important that the benefits of economic growth are seen to be widely distributed. Australian companies enjoy a degree of benefit from favourable Indian perceptions of their country, despite facing fierce competition for India’s attention from larger players such as the United States, Europe and China. Indians perceive Australia as a safe, relatively reasonably priced and friendly destination for their children’s education. English is widely spoken. So is cricket, whose capacity to engender fellow-feeling should not be underestimated.

There are some similarities in the legal systems of the two countries, though these should not be overstated. There are also significant people-to-people links, through migration and education, which represent a potential asset when it comes to exploiting trade and investment opportunities. Recent efforts to broaden the base of the business relationships by federal and state government-led business missions to India have helped raise Australia’s profile and improve Indian awareness of Australian capabilities and expertise in a number of areas.

While India presents as a potentially attractive market for many Australian businesses, it also poses significant challenges, especially for smaller Australian companies. Success demands significant investment of time and effort in understanding the business environment, and the tenacity and resilience to overcome setbacks or delays. Key challenges include power and transport infrastructure shortcomings, and barriers and burdens that exist both formally in the regulatory framework and informally in the way it is administered.

Increasing automation of transactions; reduction in bureaucratic discretion over licences and permits; and the activities of a free, vocal and critical media have improved transparency for business, but feedback from businesses active in the Indian market continues to suggest that issues remain. Prerequisites for building a successful business in the Indian market include thorough research and preparation, careful selection of a business partner or customer, and the ability to take a long-term view of the market. P A G E viii Table of Contents table of contentsi

ExECUTIVE SUmmARY TABLE OF CONTENTS CHAPTER 1 SERVICES AND INDIA’S RISE Key points Introduction: an emerging giant The importance of services Drivers of services sector growth The way forward Implications CHAPTER 2 THE ROLE OF SERVICES IN DEVELOPmENT Key points The drivers The contributors The slower reformers Sectors vital to broad-based development Interrelationship of services with manufacturing, agriculture and mining CHAPTER 3 OPPORTUNITIES FOR AUSTRALIAN SERVICE PROVIDERS IN INDIA Key points Information technology Telecommunications Financial services Infrastructure, construction management and consulting services Education and training services Tourism and travel-related services Film and television Sports and related infrastructure Healthcare services Research Mining services Retail Logistics Professional services CHAPTER 4 THE BILATERAL ECONOmIC RELATIONSHIP Key points Overview of the relationship Trade in services Services investment A platform for future growth iii ix 1 1 2 4 7 12 14 15 15 17 28 35 40 45 49 49 51 52 53 54 56 59 61 62 62 63 64 64 65 65 67 67 68 70 77 84 P A G E ix INDIA’S SERVICES SECTOR UNLOCKING OPPORTUNITY CHAPTER 5

INDIA’S BUSINESS ENVIRONmENT: ImPLICATIONS FOR AUSTRALIAN COmPANIES Key points An improving business environment Advantages for Australian companies Remaining hurdles Strategies for success 87 87 89 100 101 107 109 125 125 127 131 REFERENCES AUTHORS ECONOmIC ANALYTICAL UNIT ACKNOwLEDGmENTS ALSO BY THE ECONOmIC ANALYTICAL UNIT PAGE x Chapter 1 services and india’s risei Key points • Developments in India’s services sector potentially have worldwide significance, given – the rapidly increasing importance of India’s economy, which could be the third-largest in the world by a significant margin in 2050, measured at market exchange rates; – the unusually large role services play in the economy overall by comparison with other countries at similar stages of development; and changes in patterns of services production worldwide, in which India’s high-end services providers are playing a major role. • Services have been a major contributor to India’s strong recent GDP growth. – Rapidly increasing two-way trade in information technology and information technology enabled services (IT–ITES) and other high-end services sub-sectors has been a critical factor in India’s improved economic performance. – Services have helped underpin India’s economic vibrancy through their linkages with other sectors of the economy. • If accompanied by further economic reforms, increased demand for goods and services in the Indian economy resulting from the success of high-end services has the potential to drive robust growth in the medium term. Implementation of the reforms required to bring this growth about could engender changes in key services sectors that would open opportunities for participation by foreign companies. PAGE 1 INDIA’S SERVICES SECTOR UNLOCKING OPPORTUNITY ‘[Information Technology (IT) and IT Enabled Services] can do for India what automotives did for Japan and oil for Saudi Arabia. ’ (Noshir Kaka, Principal, McKinsey & Company) introduction: an emerging giant The first-time visitor to one of India’s major cities cannot but be struck by the energy, entrepreneurialism and optimism that abounds there. If much of the international commentary is to be believed, the optimism seems well-founded.

A chorus of recent long-term projections, citing India’s growing workforce and the scope for it to increase productivity dramatically through technological ‘catch-up’ with the West, suggest India could be the world’s fastest growing major economy over the next 50 years, outstripping even China and other emerging market economies. Assuming the maintenance of growth-supportive policy settings, ongoing reform, and no major adverse shocks, Goldman Sachs predicts annual real GDP growth of around six per cent through to 2040, tapering off slightly after that (Goldman Sachs 2003). Employing similar assumptions, PricewaterhouseCoopers forecast real average GDP growth of 5. 2 per cent per annum in India through to 2050, compared to 3. 9 per cent in China, Brazil and Mexico, and 4. 8 per cent in Indonesia (PricewaterhouseCoopers 2006). The Economist Intelligence Unit projects annual average growth in India’s real GDP of 5. per cent through to 2030 (The Economist 2005b). If realised, the analyses of Goldman Sachs et al would point to a significant re-alignment of the global economic order, as emerging economies, led by China and India, come to account for a much larger share of global economic output. They suggest India’s economy could rival – at market exchange rates – the size of the largest European countries by 2020 and outstrip Japan by 2032 to become the world’s third-largest economy after the United States and China (Goldman Sachs 2003). In purchasing power parity terms, India is already the world’s fourth-largest economy and will become the third-largest much sooner.

Measured at market exchange rates, Goldman Sachs projects that by 2050 the Indian and Chinese economies will respectively be around 80 and 125 per cent of the size of the US economy. These projections build on an impressive growth record since the then Finance Minister (and now Prime Minister) Manmohan Singh initiated key economic reforms in June 1991, resulting in reduced public sector participation in the economy, greater openness to international competition, and significant deregulation. Since those reforms, India’s economic growth has averaged around six per cent, far ahead of its previous sluggish performance; and over the past three years growth has been of the order of 7. 5 to 8. 5 per cent. GDP grew at 9. per cent during the third quarter of 2006, and most commentators estimate that India should be able to sustain growth rates of between 7. 0 and 8. 5 per cent in the near term (see for example, IMF 2006, The Economist 2006a and ADB 2006). Clearly, India is doing something right. PAGE 2 Servces and India’s Rise In one important respect, India’s growth path to date resembles those of other key developing economies in Asia. That is, rapid growth in an export-oriented sector has been a key stimulus for growth in the economy as a whole. But China and the ASEAN countries rose to prominence through the rapid expansion of their export-oriented manufacturing, fuelled by significant foreign investment.

By contrast, services – led by exports of business services from India’s burgeoning information technology and information technology enabled services (IT–ITES) sectors – have been the chief source of India’s recent economic success. The extent to which India’s growth path can be sustained; whether growth generated in what remains one relatively small sector of the economy will translate into reform and growth in other sectors; and in particular whether it can adequately address India’s need to provide jobs for huge numbers of its unemployed and underemployed rural citizens, will have important implications not just for India itself, but also for the world economy. This report examines the contribution of India’s services sector to the unfolding story of India’s economic development. It describes the role that headline growth sectors uch as IT–ITES and telecommunications would play in catalysing reform and growth in other areas of the services sector and the Indian economy more broadly if this path to development is successfully pursued. The report concludes that successful pursuit of India’s current growth path could open a wide range of opportunities for Australian services providers. Both sustained growth, and the reform and change within India which would need to accompany it, would create demand for new skills and capabilities within the Indian economy. Australian enterprises would be well placed to provide many of these capabilities, either through direct service provision or through education and training.

It is important that Australian companies are aware of the potential for these opportunities to arise, so that they are able to respond strategically when they do. It is equally important that Australian companies remain aware of the caveats that surround this optimistic scenario. India has profited significantly from the reformist approach of its recent governments. The current leadership is likewise reformist in orientation, but the tasks – both practical and political – which confront it in maintaining the momentum of reform remain huge. This report has deliberately focused on the implications of India pursuing its current growth trajectory successfully. But, as numerous studies make clear, this is by no means the only possibility.

In considering the potential for opportunities to arise in India, Australian companies need also to be fully cognisant of the hurdles that remain to be overcome. PAGE 3 INDIA’S SERVICES SECTOR UNLOCKING OPPORTUNITY the importance of services The strength and importance of India’s services sector distinguish it from Asia’s other developing countries (Figure 1. 1). Typically, service industries develop on a large scale after agriculture and manufacturing have reached a certain stage of development. Generally, as development proceeds, agriculture’s share in national output contracts and a parallel expansion of industry takes place, initially centred on labour-intensive production.

The share of both industry and services in GDP tends to increase as per capita incomes rise and the economy progresses from low to lower-middle income status. As the economy moves to upper-middle income levels, services’ share tends to grow more rapidly, while industry’s share plateaus or declines. 1 Figure 1. 1 India’s ‘X’ factor: a dominant and growing services sector Services as a proportion of GDP (five year averages) and 2004 per capita GDP in selected Asian economies India’s services sector is larger and growing faster than that of economies with higher per capita GDP 70 60 Per cent of GDP 50 40 1985–89 1990–94 1995–99 2000–04 2004 per capita GDP 16000 14000 12000 10000 8000 Current USD 0 6000 20 10 0 Vietnam India Indonesia China Thailand Malaysia Republic of Korea 4000 2000 0 Notes: Services to GDP data are at constant 1990 prices in US dollars. 2004 services to GDP data for Thailand and Malaysia are not available. Pre 1999–2000 services to GDP data for India are 1993–94 price data, which have been melded to available 1999–2000 price data. Sources: United Nations Statistics Division 2006 for services to GDP data; Indian CSO 2006 for 1999–2000 to 2004–05 services to GDP data on India; RBI 2005b, Table 3 for pre-1999–2000 services to GDP data on India. IMF World Economic Outlook Database 2006 for 2004 per capita GDP data. 1

In this report construction is included as part of the services sector. This is consistent with the WTO General Agreement on Trade in Services (GATS), which includes construction and related engineering services as one of 12 major services sectors. The other major sectors are business services, communication services, distribution services, educational services, environmental services, financial services, health related and social services, tourism and travel related services, recreational, cultural and sporting services, transport services and other services not included elsewhere. PAGE 4 Servces and India’s Rise India’s manufacturing sector is biased towards capital-intensive production.

It has remained largely static at around 20 per cent of the economy and, while its growth is accelerating, has not thus far benefited appreciably from strong growth in exports due to the trend to integrated international production systems (see Chapter 2). In this respect, India appears more typical of a middle-income developing economy than a low-income economy. The upward trend in services’ share of Indian GDP has accelerated since the major economic reforms initiated in 1991. In 1970–71, it stood at just 39 per cent. By 1990–91, it was 48 per cent. By 2005–06, services’ share of GDP had risen to 60. 7 per cent (Figure 1. 2). 2 Figure 1. 2 Services sector gaining ground Sector shares in GDP (at factor cost and 1999–2000 prices), in per cent, 1990–91 to 2005–06 100 80 Per cent of GDP 60 40 20 1990–91 2000–01 1993–94 1997–98 1999–00 1991–92 1992–93 1994–95 1995–96 1996–97 1998–99 2001–02 2003–04 2004–05 2002–03 2005–06 PAGE 5 Services Notes: Industry Agriculture Pre 1999–2000 data are 1993–94 price data, which have been melded to available 1999–2000 price data. Sources: PIB 2006 for 2005–06 data; Indian CSO 2006 for 1999–2000 to 2004–05 data; RBI 2005b, Table 3 for pre-1999–2000 data. Over the period 1991–92 to 2005–06, the services sector grew at a trend rate of 7. 9 per cent, compared with just 2. 6 per cent for agriculture, 6. 1 per cent for industry and 6. 1 per cent for the economy overall. It contributed 70 per cent of overall GDP growth over the period.

Between 1980–2004, productivity grew most rapidly in services, in contrast to the general pattern observed in other countries where productivity growth was stronger in manufacturing and agriculture (IMF 2006). 2 Throughout the report, Indian fiscal year data are for the April – March fiscal year. INDIA’S SERVICES SECTOR UNLOCKING OPPORTUNITY Growth in services likewise exceeded overall growth in the economy over 2002–03 to 2005–06, the first four years of the tenth Five Year Plan (2002–07). The sector recorded a robust 9. 1 per cent average growth, while total GDP grew at 7. 0 per cent, somewhat short of the eight per cent target set in the Plan. Services may be even more important and growing somewhat faster than the official data would suggest (Box 1. 1). box 1. 1: measurement of services in the national accounts Services contributed 59. per cent of GDP in 2004–05 according to GDP data at 1999–2000 prices – compared with 57. 6 per cent based on the earlier 1993–94 price data. Weightings used to calculate 1999–2000 price estimates may not reflect activity weightings that would be more appropriate today, given the fast-changing nature of some services sectors. Moreover the official data do not capture all economic activity equally well. GDP estimates for the ‘unorganised’ segments (as defined in Box 2. 6) of manufacturing and services, as well as for some segments of private organised services sectors, are compiled through indirect methods, using indicators to extrapolate benchmark GDP estimates in a base year (Indian CSO 2006).

Under-reporting of incomes may also take place in some sectors. Growth is not, however, uniform across India’s services sector. Certain services stand out in terms of their role in driving economic growth. Building on India’s large pool of engineering talent and its rapidly expanding telecommunications sector, IT–ITES have in recent years been the key catalyst of growth. Their success has come largely through rapid expansion of exports tapping into burgeoning world-wide demand, as investment and rapid advancements in telecommunications infrastructure and information technology enable an increasing array of activities to be performed remotely. Faced with relatively low levels of regulation, IT–ITES nd other fast-growing high-end services such as telecommunications have now reached a size where they are significant contributors to GDP growth. Growth and improved efficiencies in other key areas, such as financial services, transportation and transport infrastructure, are vital to facilitating expansion of other sectors of the economy. This could in turn help ensure that development is more broadly based across both regions and socio-economic groups – and therefore sustainable. Deregulation and foreign investment in such facilitating services drive improved performance within those sectors and bring significant competitiveness benefits to the wider economy given their importance as inputs to other sectors. While reform is proceeding in these areas, much remains to be done.

And other sectors which potentially have a critical role to play in improving overall productivity have lagged far behind growth in the economy as a whole. PAGE 6 Servces and India’s Rise drivers of services sector groWth ‘The aphorism “In a desert one should find camels not hippopotamuses” is a good guide to analyzing the pattern of economic growth. If rain is scarce, then one should find animals adapted to a scarcity of water, not those reliant on water. In an economic environment where, say, transport infrastructure is scarce, one should find “infrastructure camels” – those industries and firms that are thriving should be less than usually reliant on infrastructure. (World Bank 2006a) Strong growth in foreign demand; deregulation, liberalisation of foreign investment and greater private sector participation since 1991; increased industry outsourcing; and high income elasticity of demand for services have been among the key factors driving high growth in India’s services sector (Gordon and Gupta 2004). These factors are examined further below. However some other important influences should be noted, consistent with the comment from the World Bank cited above. Services tend to be less dependent on large-scale investments, and so less subject to investment-related regulatory hurdles (Indian Planning Commission 2002a).

Compared with the manufacturing sector, gross product in services sectors (outside of community, social and personal services) is more concentrated in the largely unregulated ‘unorganised’ sector (as defined in Box 2. 6). Transport infrastructure shortcomings also tend to have a lesser bearing on most services sectors. The IT–ITES sector in particular has benefited from a supportive policy approach. A large, relatively low cost, and well-educated workforce, which contains more English-speakers than the United States and Britain combined (Chapter 5), has enabled India to capitalise on burgeoning export opportunities in high-end services. Booming services trade

India’s services trade has grown at a phenomenal rate in recent times reflecting strong growth in foreign demand, particularly for IT–ITES. Exports grew at a trend annual growth rate of 20 per cent over the ten years to 2004–05. In 2005–06 they were valued at US$60. 6 billion, up over 40 per cent on their 2004–05 value (RBI 2006a). Around 85 per cent of the growth in services exports in 2005–06 was attributable to growth in commercial services excluding transportation and travel (RBI 2006a). Services imports have demonstrated a similar pattern of strong growth, reflecting the two-way nature of trade opportunities generated by growth in the commercial services sector.

Between 2003–04 and 2005–06, total services imports more than doubled to US$38. 3 billion (RBI 2006a). Imports of commercial services excluding transportation and travel accounted for some 60 per cent of the total growth in services imports in 2005–06 (RBI 2006a). Technological developments have been the key enabler of the explosion in commercial services trade. Specifically, investment and rapid technological advancements in telecommunications and information technology are driving reductions to the cost of digitising, transmitting and processing information, thereby enabling an ever increasing number of services to be undertaken remotely by specialist PAGE 7 INDIA’S SERVICES SECTOR UNLOCKING OPPORTUNITY providers.

In particular, the dotcom bust of 2000, which left a global network of broadband on the market from failed telecommunications companies that was subsequently snapped up for a fraction of its cost, drastically reduced the cost of broadband communications (Friedman 2005). India, with its large cohort of engineering graduates and the widespread English language skills of its population, has been a particular beneficiary of this services tradability revolution (Box 1. 2). box 1. 2: rethinKing the haircut – india and the services tradability revolution Traditionally, economists have tended to think of services either as ‘tradable’ or ‘non-tradable’. The haircut, which requires the deliverer of the service (the hairdresser) to be physically located next to the recipient, has often been regarded as the archetypal ‘non-tradable’ service.

But companies are re-examining their approach to service delivery as advances in information technology, and in telecommunications have enabled packages of digitised information to be moved around the globe almost instantaneously. Fundamental changes are occurring in the way service activities are undertaken and delivered worldwide. In Bangalore, for example, there is a hairdressing shop where the appointment commences with the customer sitting while her head is photographed from many different angles. The digitised images are then processed so as to produce an accurate representation of the customer’s scalp, without hair, which is transmitted to a designer in a remote location.

The designer produces and transmits back to the shop a range of suggested hairstyles, from which the customer can then choose. By ‘unbundling’ the hairdressing service in this way, the hairdressing shop is able both to increase its efficiency and provide a better service. The customer potentially has access to a top international designer and a range of possible new hairstyle choices; and the hairdresser and designer can focus on their respective specialised skills, maximising the value added by each. All of a sudden, the haircut – or part of it – has become a tradable service. This rather elaborate approach to hairdressing may never become widespread.

But it is indicative of the entrepreneurialism being applied in India to exploiting its competitive advantage in IT Enabled Services. As the graph on the left of the next page shows, the overall outcome has been a dramatic increase in India’s exports of commercial services excluding transportation and travel. But as the graph on the right demonstrates, India’s commercial services imports have experienced similar meteoric growth, as the ‘tradability revolution’ results in rapidly increasing trade in services. 3 3 Based on discussions in May 2006 with Professor S. Sadagopan, Director, International Institute of Information Technology, Bangalore. PAGE 8 Servces and India’s Rise box 1. 2 (continued)

Booming two-way trade in commercial services India’s services trade (US$ billion) 70 45 40 35 Exports 60 50 Imports US$ billion 40 30 20 10 0 1996–97 2000–01 1995–96 1998–99 2001–02 2002–03 2003–04 1997–98 1999–00 2005–06 2004–05 US$ billion 30 25 20 15 10 5 0 1996–97 1995–96 1998–99 2000–01 2001–02 2002–03 1997–98 1999–00 2003–04 2004–05 2005–06 PAGE 9 Commercial services excluding travel and transportation Total services Note: 2005–06 data are provisional. Commercial services excluding travel and transportation Total services Sources: RBI 2006a for 1999–2000 to 2005–06 data; RBI 2005b, Table 146 for pre 1999–2000 data. Foreign Investment and deregulation

Liberalisation of foreign direct investment (FDI) regimes worldwide has enabled service providers to establish a commercial presence in host countries, which can be critical for the delivery of services (UNCTAD 2004). Reflecting the strong international demand for services in which India enjoys a comparative advantage, FDI in India’s services has grown strongly. The stock of FDI in India’s services sector grew at a compound annual rate of 36 per cent between 1992–93 and 2001–02, compared with 20 per cent in other sectors (World Bank 2004). Close to one-half of total FDI inflows between 2002–03 and 2005–06 were directed to services (RBI 2005d, 2006b).

Business and computer services and the finance and insurance sectors have been the main targets (Figure 1. 4). Not surprisingly these are sectors that either have not been subject to significant amounts of regulation or have been deregulated and opened to competition since 1991. 5 4 4 5 The official data may underestimate the level of foreign investment in services, owing to the difficulties of measuring investment in the sector. According to data from the Indian Department of Industrial Policy and Promotion (DIPP), the telecommunications sector has also attracted significant inflows of FDI. INDIA’S SERVICES SECTOR UNLOCKING OPPORTUNITY Figure 1. Growing services FDI is concentrated in a few key sectors Industry breakdown of FDI inflows in Indian services, 2002–03 to 2005–06 900 800 700 600 US$ million 500 400 300 200 100 0 2002–03 2003–04 2004–05 2005–06 Computer services Finance, insurance, real estate and business services Construction Transport Health and medical services Trade, hotels and restaurants Other services Sources: RBI 2005d, Table 1. 71; RBI 2006b, Table 1. 76. The fast growing Indian services market offers considerable potential for foreign investors, although continuing restrictions on foreign equity holdings in some sectors and other constraints and impediments to business have a restraining effect. Increased industry outsourcing of services Indian industry has increasingly sought to contract out an array of services previously produced in house (Gordon and Gupta 2004) , such as software development, design and testing, back-office functions and post-sales service.

Industry’s increased reliance on services inputs in turn appears to be having a marked effect on increasing manufacturing output. Services inputs contributed around 25 per cent of total output growth in India’s organised manufacturing sector in the 1990s, up from just one per cent in the 1980s (Banga and Goldar 2004). The trade reforms of the 1990s were a significant factor behind manufacturing industries’ greater reliance on services inputs, as firms appeared increasingly to look to services inputs to meet intensifying competition precipitated by the reforms (Banga and Goldar 2004). 6 Increased private consumption of services High levels of domestic consumption are fuelling growth in both the services sector and the broader Indian economy (Das 2006).

Private consumption expenditure accounts for 64 per cent of India’s GDP – more than in Europe (58 per cent), Japan (55 per cent) and China (42 per cent) 6 Gordon and Gupta (2004) find empirical evidence of industry’s increased resource to contract out services over the 1980s and early 1990s. P A G E 10 Servces and India’s Rise (The Economist 2006b). Services’ share in private final consumption expenditure almost tripled to 29 per cent over the 50 years to 2000–01 (Hansda 2001). Services were prominent among the segments of private consumption expenditure that grew at annual rates of above 15 per cent over the decade to 2003 (Ernst & Young 2005a). The segments recording strong growth included hotels and restaurants, medical care and health services, transport, communication, and education.

Consumption expenditure on movies and theatres and vacations each increased by around 30 per cent in 2003 (KSA Technopak Consumer Outlook 2004, cited in IBEF 2005c). Growing affluence and a rapidly increasing middle class (Box 1. 3) have helped power growth over more recent years. box 1. 3: an increasingly affluent middle class India has a large and growing consumer class. India’s National Council of Applied Economic Research (NCAER) estimates that in 2001–02 there were some 53 million households (comprising around 280 million people) with annual incomes of Rs90 000 (US$1900) or more. There were almost 11 million households with incomes of Rs200 000–1million (US$4200–21 000).

Bearing in mind the relatively low cost of many goods and services in developing countries and rising per capita incomes, the number of households able to afford an increasing range and quality of services is clearly growing rapidly. By 2009–10, NCAER estimates the number of households with annual incomes of Rs90 000 or more will have increased to 108 million – double the number in 2001–02 and treble that in 1995–96 – while the number of households with incomes of Rs200 000–500 000 could exceed 28 million. India’s growing middle class Classification of households by income class (Rs ’000 pa) 250 Number of households (millions) 200 150 100 50 0 1995–96 Deprived (

×

Hi there, would you like to get such a paper? How about receiving a customized one? Check it out