What's stifling Indian businesses?

Mon, 18 Aug Pre-Open

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The government noted in a recent economic survey that too many small firms in India stay small, and thus unproductive. And the same time, too many large profitable firms prefer relying on temporary contract labour and machines than on training workers for longer term jobs.

Why is this happening?

A report in a leading business daily points out that employment laws in India for companies that have more than about 100 employees are too strict. In fact, they are stricter than all but two of the 34 countries in the Organization for Economic Cooperation and Development (OECD). This is resulting in an unorganised economy composed made up mostly of small businesses.

Consider this. Only 11% of manufacturing companies in India employ more than 200 people. This compares miserably with China, where this figure stands at 52%. And this is taking a toll on the competitiveness of Indian industry. After all, there cannot be any economies of scale when there is no scale to begin with.

India's labour laws are complicated and archaic. They were made to suit a different era, and a different set of circumstances.

One of the biggest problems this leads to is the difficulty larger companies have to decrease their work force on the basis of business considerations. An agreement needs to be reached between authorities, management and workers. This takes arduously long, and often no conclusion is reached at all.

Businesses, after all, function in a dynamic environment. Often with large fluctuations in business cycles. When hiring and firing workers as per what is required by the business at that point of time is such a complicated affair, many businesses find themselves unable to withstand the downturn.

Thus they choose to remain small in size so as to not come under the ambit of the stricter set of rules; rather than risk financial trouble in the down cycle due to a structure of inflexible labour expenses.

The state of Rajasthan has already been making moves in the direction of making its labour laws more business friendly. Considering that it is businesses that employ people, labour laws that encourage Indian businesses to thrive and become competitive are indeed the need of the hour.

If this important piece of the puzzle is in place, there will automatically be abundant job creation over a period of time. In the process also taking care of the apprehension of job security that most workers have.

Do you think labour laws need to be reformed to encourage businesses in India? Do share your views on the Equitymaster club.