Why the New Labor Law Reforms Make India Fertile for Jobs

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In his first speech on India’s Independence Day on August 15, prime minister Narendra Modi called upon global businesses to invest in the country’s manufacturing sector. A critical aspect of revitalizing manufacturing is to reform India’s labor laws. While many consider the Modi administration’s latest moves in this director to be going after the low-hanging fruit, Manish Sabharwal, founder and chairman of Bangalore-based staffing services firm Teamlease Services, says it is a good beginning. For more on India’s labor law reforms, see our related story.

Within a month of landing in the U.S. from India for my MBA at Wharton in 1996, I was asking myself: “These Americans aren’t smarter than us, why are they richer than us?” I guess the most interesting question of all time is: “Why are countries poor?” India has many excuses — British rule, Mughal rule, tropical weather, religion, crony capitalists, goofy politicians…. But more important than the why, the more crucial question is: “What is the best way for a country to put poverty in the museum where it belongs?” The last government — it had two terms starting in 2004 — decided that the most important intervention was a regime of rights and subsidies; information, education, work, food, etc. But, given that more people in India have cell phones than bathrooms, does that mean we should have a “Right to Bathroom Act” or try to understand how we got a cell phone in the hand of almost every Indian who wants one?

India broke with the past in 1991 but we made a mistake by not placing job creation at the heart of policy making. The new government is less than a few months old, but it has made a bold start by taking on labor laws at two levels — combining changes at the federal level with empowering state governments with the power to change their own labor laws. (The previous interpretation of the Constitution said that if central and state laws conflict, the central version will prevail.)

Labor Laws Are Archaic

India’s labor laws — largely unchanged from how the British wrote them — have a negative view of private sector employers. This view believes that all employers are exploiters; that most employees have no alternative employment options; that most employers are big companies, and that shareholders pay salaries not customers. This has led to four painful defects in India’s labor market: 12% manufacturing employment (the same as the post-industrial U.S.), 50% agricultural employment (240 million Indian produce less food than four million Americans), 50% self-employment (the poor cannot afford to be unemployed, so they are subsistence self-employed), and 90% informal employment (100% of net job creation since 1991 has happened informally.) 

“India’s labor laws are a mess. It is practically impossible to comply with 100% of them without violating 10% of them.”

India’s labor laws are a mess. It is practically impossible to comply with 100% of them without violating 10% of them. Twitter  Most employment contracts are marriages without divorce; on paper you can’t get rid of an employee once you have hired him or her. The multiple definitions of wages and workers create massive opportunities for corruption for the army of labor inspectors. The law mandates that employers confiscate 49% of payroll at source for various so-called employee benefits for low-wage workers. Since most employees can’t live on half their salary, they choose informal employment. Trade union laws are badly written and the politicization of trade unions and criminalization of politics are a toxic combination. This means that most enterprises in India are sub-scale (85% of manufacturing comes from enterprises with less than 50 employees) and most enterprises are not companies (only 900,000 of the 63 million enterprises in India are companies and only 7,500 of them have a paid-up capital of more than $2 million). India is a nation of informal enterprise dwarfs rather than formal corporate babies.

The labor law changes cleared last month by the union cabinet were neither comprehensive nor complete. But they are wonderful because they represent a breakthrough in a policy issue that is difficult to reform in all countries. They recognize that a job changes a young or poor life in a way that no subsidy ever can. The changes recognize that the one million youth joining the labor force every month need manufacturing jobs. They recognize India’s manufacturing opportunity because China’s wages have gone up 17% every year for the past five years in dollar terms and China’s wages are now 20% of U.S. wages — up from 5% of U.S. wages 10 years ago. They recognize that most job creation happens in small enterprises, which suffer the brunt of the license and inspector raj. They recognize that women’s labor force participation has to be raised from an anemic 23% — only slightly higher than Saudi Arabia. They recognize that the draconian Apprentices Act written in 1961 should have meant India should have 15 million apprentices or 5,000 CEOs in jail — but we have neither. They recognize that learning-by-doing and learning-while-earning are powerful vehicles for skill development, yet India’s 300,000 apprentices are shamed by Japan and China’s 10 and 20 million, respectively.

The Dose Makes the Poison

Most Indian employers are not against the labor laws but they make the same case that renaissance physician Paracelsus did: The dose makes the poison. Anything powerful enough to help has the power to hurt. Today’s labor laws hurt the very people they pretend to protect. Few disagree that we should have non-negotiable laws around minimum wages, social security, safety and leave. Yet our labor laws have reached way beyond this base. The changes to the Factories Act, Apprentices Act, and Returns and Registers Act are useful, targeted and specific. These moves at the federal level have been accompanied by proposals by state governments in Rajasthan and Haryana on similar lines. Coming at the problem from both ends is great strategy, tactics and optics.

“After 50 years of vested interests colluding with the lack of political courage, these labor reforms seem almost unbelievable.”

There has been some disappointment expressed with no action around “hire and fire.” In the political economy there is a difference between the list of ingredients and the recipe. A recipe is about sequencing, timing and proportion. There is so much low-hanging fruit in labor law that we should defer dealing with Chapter VB of the Industrial Disputes Act to the future. The current Ministry of Labor — the darkest and most dyslexic part of the government for the past 20 years — deserves the cheers of millions of jobseekers because 10 million apprenticeships will change young lives more than the $33 billion spent on the make-work program called the National Rural Employment Guarantee Act.

After 50 years of vested interests colluding with the lack of political courage, these labor reforms seem almost unbelievable. When Mahatma Gandhi came back to India from Africa in 1915, nationalist Gopal Krishna Gokhale told him: “Make India proud of herself again.” I’d like to make the case that there is a difference between independence and freedom. Freedom is the ability to make choices and those choices come from being educated, employed or employable. The labor laws are an important policy breakthrough in creating jobs that will reduce poverty and make India a fertile habitat for job creation.

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One Comment So Far

Malay Bisht

Labour laws indeed need a structural reform. However, certain presumptions made in the article are far fetched. ‘The law mandates that employers confiscate 49% of payroll at source for various so-called employee benefits for low-wage workers.’ For one, the law does not accord any such provision. The 12.5% component of the basic salary of the employee which gets deducted is credited to the employees’ fund, which is redeemable, that too with a good interest. Besides, an equal amount needs to be deposited by the employer on behalf of the worker, which legally speaking, is not part of the employees’ compensation. Moreover, the income tax structure is such that low wage employees do not have to pay it. The problem is not that much of labour law for low wage income employment seekers, than it is of effective execution, streamlining, bringing notorious corporate to book(small scale service providers) and job creation. For example, a fresh entrant in the job market who has recently started working for an unlisted/small scale(atleast in books of accounts)company has to part with a large chunk of his salary on flimsy grounds. This chunk does not go to the government but is added 1st hand to the black income of the employer. As with the high demographic dividend which India has, it is an irony that these employees do not have much of negotiating power.