> That's interesting. I thought developed countries like America suffered
from
> a law of diminishing returns when it came to capital output.
Here is one article on rising capital-output ratios in Indian economy
Ulhas
Business Line Saturday, February 17, 2001
Rising capital-output ratios -- Implications for industrial growth rates P.R.Brahmananda SOME months ago, the Prime Minister, Mr Atal Bihari Vajpayee, talked about attaining a 9 per cent growth rate for the economy. The Finance Minister, Mr Yashwant Sinha, has been continuously talking about reaching a steady growth rate of 9 per cent per annum, while the Prime Minister's Economic Advisory Council has mentioned a target of 8 per cent growth rate over the medium term. The growth rate has, however, slid from an average of 7 per cent to about 6 per cent now. Two instruments can be used to raise the growth rate. One: to raise the net savings ratio; and the other, to bring down the net capital-output ratio. Each instrument requires specific policies. The Central Statistical Organisation had earlier presented figures of growth of net capital stock at 1980-81 prices. Now it is presenting the growth at 1993-94 prices from 1993-94 onwards. We have converted the earlier data to 1993-94 prices. Between 1980 and 1990, the net capital stock in the economy grew at 4.77 per cent per annum. Between 1990-91 and 1998-99 it grew at an annual rate of 5.41 per cent, and between 1993-94 and 1998-99, at 5.82 per cent. But from 1996-97 to 1998-99, the annual growth rate was less than 5.5 per cent per annum. In the most recent period for which data is available, the growth rate of net capital stock seems to have come down. This rate in the public sector was 5.52 per cent between 1980-81 and 1990-91. The rate came down between 1990-91 and 1998-99 to 3.38 per cent per annum; and between 1993-94 and 1998-99 it fell further to 3.13 per cent per annum. The growth rate of net capital stock in the private sector was 4.17 per cent from 1980-81 to 1990-91, lower than the growth rate in the public sector's net capital stock. But between 1990-91 and 1998-99, it rose to 6.94 per cent per annum. And from 1993-94 to 1998-99, it further increased to 7.81 per cent per annum. But between 1996-97 and 1998-99, it fell to just 7.10 per cent. In other words, there is clear evidence that the growth rate of the private sector's net capital stock has come down. As part of the reforms, and due to the fiscal shortfalls, the rate of growth of net capital stock in the public sector has to come down. But why should the rate of growth of net capital stock in the private sector also dip? Its decline is the major reason why the overall growth rate of net capital stock in the economy has been falling from 1996-97 onwards. Now, for some more data on the growth rate of net capital stock in industry, which is the red apple for the Government. In mining and manufacturing, the annual growth rate of net capital stock between 1980-81 and 1990-91 was as high as 11.5 per cent per annum. But from 1990-91 to 1998-99, it plunged to 2.8 per cent per annum; and from 1993-94 to 1998-99, to just 1.8 per cent per annum. The data on the manufacturing sector reveals that the sector's net capital stock grew at 6.41 per cent per annum from 1980-81 to 1990-91. But between 1990-91 and 1998-99, the growth rate increased to 9.9 per cent per annum, and from 1993-94 to 1998-99, accelerated to 11.7 per cent per annum. Clearly, manufacturing has benefited enormously from the reforms as regards capacity growth. According to the data on the growth rate of electricity, gas and water -- the most critical components of infrastructure -- from 1980-81 to 1990-91, its growth rate was 7.9 per cent per annum. But note what happened between 1990-91 and 1998-99. The growth rate of capacity in this segment slumped to 4.8 per cent per annum. And from 1993-94 to 1998-99 it was as low as 4.2 per cent per annum. The overall growth rate of capacity in industry, in terms of net capital stock, grew at 7.2 per cent per annum from 1980-81 to 1990-91. But from 1990-91 to 1998-99, the growth rate was slightly higher at 8.03 per cent per annum. And between 1993-94 and 1998-99 it accelerated to about 9.1 per cent per annum. Despite the heavy deceleration in the growth rate of net capital stock in mining and electricity, etc., the overall growth rate in industry as a whole accelerated during the 1990s after the reforms. The overall growth rate of net capital stock in the economy also went up after the reforms, but at a lower rate than in industry. The growth rate of net capital stock is one element; the behaviour of the net capital-output ratio is another. It is worth recording the behaviour of the net capital-output ratio in the economy during the last two decades -- the first period from 1980-81 to 1990-91, and the second from 1990-91 to 1998-99. In the first period, the net capital output ratio declined from 2.86 in 1980-81 to about 2.68 in 1990-91. But in the second period, it increased to 2.70 in 1998-99. On a regression basis, in the first period, it declined at -0.7 per cent per annum. And in the second period, the decline was at -0.15 per cent per annum. From 1993-94 to 1998-99, the decline was at -0.43 per cent per annum, higher than the rate for the whole second period. But lower than that during the first period. It seems the rate of decline in the net capital ratio slowed down between the two decades. Currently, the net capital output ratio for the economy would be around 2.7, higher than in 1990-91. This factor must be kept in mind in projecting growth rates. In mining and quarrying, the net capital output ratio followed a rising trend in the first decade, at 5.43 per annum. The ratio went up from 2.77 in 1980-81 to 4.76 in 1990-91 and remained at 4.45 in 1998-99. The net capital output ratio in electricity etc. was 28.15 in 1980-81 but fell to 25.32 in 1990-91, and further to 19.39 in 1998-99. This is due to the heavier use of capacity. But the process cannot go on, and new capital stock in electricity etc. has to be created at an accelerating pace in the near future. The net capital output ratio in manufacturing was 4.8 in 1980-81; it dipped to about 4.7 in 1990-91 and then started moving up. In 1998-99 it had moved up to 6.2. We have, thus, an explanation of why, even though the net capital stock in manufacturing rose at a higher rate in the second decade, the net capital output ratio also went up at a rather high rate. This means the overall growth rate of manufacturing output now requires more and more capital for the same unit increase in output. Strangely, after the reforms, the net capital intensity of the manufacturing sector is rising at a remarkable rate. This means the employment growth rate in this sector will go up at a decreasing rate. We seem to have reached the nemesis of higher wage rates in the manufacturing sector leading to greater capital intensity in that sector. Trade unions have to bother about this issue, so also the political parties that support trade unions in the organised sector. Insofar as industry is concerned, the net capital output ratio was 5.7 in 1980-81. It came down to 5.63 in 1990-91 and thereafter started moving up and is now about 7.1. In other words, the capital intensity in industry as a whole has been moving up after the reforms. From 1990-91 to 1998-99, the annual rate of rise was 1.9 per cent but from 1993-94 to 1998-99, the rate of increase moved up to 2.45 per cent per annum. Clearly, the capital intensification process has gathered strength in the recent period. The proponents of the reforms in the government and elsewhere have been arguing that the reforms should lead to greater labour intensity in industrial output. The capital output ratio should, therefore, be coming down. But the reality is that the capital intensification process has been gaining more strength, exactly the reverse of what the Finance Ministry and Planning Commission officials intend. In framing the Budget, if the Finance Minister is serious about raising the industrial growth rate and employment, and in making the industrial sector an active agent in exports, he should ponder about the above picture, which is worked out from the official sources of basic data. The declining drift in industrial growth is due to the increasing capital intensity in this sector, which requires more and more investment every year to obtain even a given growth rate. And this at least should make the Finance Ministry officials ponder about the need for more and more domestic savings if they are earnest about their business. According to reports the incentives for savings are to be further reduced in the Budget. This means the pious pronouncements about higher growth rates in the immediate future are, in effect, just words.
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