Why The Government Needs To Create Opportunities And Aggregate Demand That Will Allow The Industry To Invest In Manufacturing In India?

Manufacturing growth has a large number of dependencies, many of which are invisible to even the most advanced modelling techniques. Some dependencies however, can be treated as direct co-relations and obvious ones at that.

So without further ado let me reveal to you, a concept that is somehow the most obvious truism while also being the underlying universal law of manufacturing growth. Are you ready?

  “Firms will create more output only if they expect to sell it”

So, is that it? Well yes and also no, the oversimplified statement above is a consequence of complex market dynamics and also, in no small measure the implementation of government policies that support (or hinder) them. I will try and address some of these factors (both dynamics and policies) in this article.

The market penetration of ACE (appliances and consumer electronics) in India is a particularly good indicator of the rise in consumer wealth. Its estimated that the Indian ACE market will grow at a CAGR of 12% nearly doubling in size by 2025 (Indian Brand Equity Forum)

There are of course other factors that play a major role in this explosive sectoral growth. For example the availability of low cost consumer credit at the point of sale. This goes a long way in addressing the affordability barrier for India’s ever-growing banked population. Expanded distribution/ support footprints and e-commerce mean that underserved geographies are now within reach.

Finally, no commentary on the Indian consumption story is complete without touching on changing behavioural patterns. Wether it’s the growth in smart phone demand driven by mobile internet access or the less explored impacts of climate change on the demand for human comfort applications like cooling and air purification.

The Indian Air Conditioner market is a perfect example of a low penetration (ergo high growth) segment whose growth is a consequence of all the dynamics we’ve just highlighted.

Indian consumers armed with higher discretionary income will prioritise the human need for cooling as global temperatures rise. They will purchase over 150 million room AC’s over the next 10 years, representing a conservative retail value of approximately 5,10,000 Crore Indian Rupees. While I concede that there are very few certainties in life, the Indian consumption story is a pretty safe bet.

If the universal law we talked about earlier is to stand. It would seem that Indian companies do not believe that they will not be able to sell additional products if they were to increase output. This is clearly at odds with the fact that the Indian ACE sector will see what can be only described as breakout growth in the coming years.

The reality is that Indian companies in the ACE sector have chosen to fulfil a significant ratio of market demand through the import of finished products and subsystems rather than investing in manufacturing capacities in India. While this strategy has worked until now, a large portion of the value generated by India’s internal demand has not remained in the country. Additionally, we have lost out on other long-term ecosystem benefits like domestic IP creation.

I firmly believe that for the market to truly flourish, free enterprise must be supported by conducive policy. The government’s touch while ever present, must be as light as possible, policy interventions should nudge (sometimes sternly) industry into taking action and should under all circumstances avoid pushing industry off the proverbial cliff with sudden thoughtless actions.

I’m happy to report that recent policy announcements fall into the light touch category.

Trade Intervention – The government on October 16, 2020 imposed a blanket ban on the import of air-conditioners with "refrigerants".

35% of the approximately 7 million AC’s sold in India are imported into the country as fully built units; a large portion of which enter the country duty-free as a result of Free Trade Agreements (FTA) with countries like Thailand, Malaysia and Vietnam. The recent DGFT order will all but eliminate the import of fully built units into the country creating a supply vacuum that will need to be filled by locally manufactured units.

Further strengthening the domestic aggregate demand story through the reduction of net imports.

Government Investment – The DPIIT announcement of a production linked incentive scheme (PLI) will incentivise the investment in manufacturing capacity by offering approved stakeholders credits up to 6% on incremental sales. These incentives will be passed onto stakeholders on the achievement of incremental investment and sales targets.

Increased manufacturing capacities and production incentives will mean reduction in the relative cost of products manufactured in India making them attractive export candidates. This is one of the main agendas of the PLI scheme, ambitious short term incremental sales targets will force stakeholders to seek demand beyond the growth driven sales in the Indian market.

Nothing is a certainty but this might be India’s decade, we are poised to become a manufacturing powerhouse fuelled by strong internal demand and an international situation that is conducive to export growth.

The policy interventions described above are by no means a silver bullet, but they definitely have the ACE sector excited about the possibilities.