Given the Government’s thrust to boost manufacturing in India over the next decade through measures like announcement of PLIs (Production Linked Incentives), introduction of BIS across several sectors like footwear, LED lighting, switchgears, etc, we believe several sub-sectors within manufacturing are well poised to experience a disproportionately higher growth relative to the last decade.

India at the cusp of a manufacturing boom!

India lags its emerging market peers significantly in manufacturing; empirical evidence shows that manufacturing is a big driver of sustained GDP growth.

If we go back in time and see the periods of high GDP growth across our south-east Asian peers (China, Thailand, Indonesia and Vietnam), we observe that manufacturing as a segment has been one of the biggest drivers among major segments of the economy. China, during its high growth phase (1990 to 2005) witnessed it’s GDP growth at 9.8% CAGR and also experienced share of manufacturing increase from 9.1% in 1990 to 32% in 2005; Indonesia, during its high growth phase (1983 to 1996) witnessed its GDP growth at 6.3% CAGR and also experienced share of manufacturing increase from 13.4% in 1983 to 24.1% in 1996; Vietnam, during its high growth phase (2010 to 2022) witnessed its GDP growth at 6.1% CAGR and also experienced share of manufacturing increase from 19.2% in 2010 to 25.8% in 2022. If India has to see a sustained period of high growth then the contribution from manufacturing is vital which has remained range bound between 13-17%.

Exhibit 1: South East Asian countries during their high growth phases saw significant contribution from manufacturing

Source: UBS Research, HDFC MF Report, Ambit Asset Management

India, on the other hand has significantly lagged it’s South East Asian peers on both GDP and manufacturing growth; India’s GDP growth during long periods of time has been <6%. Key reason for this has been the higher dependence on agriculture (growing at muted CAGR of 2.8% over 10 year block periods - see below) alongside lower contribution from manufacturing (growing at sub-optimal pace of 5.9% CAGR over 10 year block periods relative to South East Asian peers during their peak GDP growth phases). Total credit to private non-financial sector (mainly includes manufacturing) as % of GDP at 56% is far lower than 143%, 90% and 86% in China, Malaysia and Thailand respectively.  

Exhibit 2: India needs to significantly step up its manufacturing contribution to GDP

Source: Macrotrends, Ambit Asset Management

Whilst the contribution from manufacturing has remained range bound at 13%-17%, we would need a sustained period of high growth in our manufacturing activities to contribute and accelerate the overall GDP growth.

Exhibit 3:  India’s GDP growth during long periods of time has been at <6% given lower growth in agriculture and low to modest growth in manufacturing and services sector

Source: MoSPI, Ambit Capital Research, Ambit Asset Management

Agriculture is unlikely to aid growth over the next decade given India’s marginalized farming which does not support mechanization; share of marginal farming increased from 51% in 1970-71 to 69% in 2015-16. IT industry is also likely to face some headwinds led by rising share of global capability centers (GCC) in India. It’s important for India’s tech industry to diversify their capabilities from just offshore staff augmentation models to building capabilities in managed services led delivery models like consulting, technology and system integration. Engineering research and development services (ER&D) services (relatively small industry) is also emerging as a growth enabler for IT companies; leading global ER&D spenders have maintained their GCCs for over a decade, and yet, companies like LTTS and Tata Technologies, as well as entities in the digital engineering domain such as Hitachi GlobalLogic and Persistent Systems, have registered remarkable growth.   

Exhibit 4:  India lags significantly behind its perrs on total credit to the private non- financial sector, as % of GDP (Mar-24)

Source: MoSPI, Ambit Capital Research, Ambit Asset Management

Agriculture is unlikely to aid growth over the next decade given India’s marginalized farming which does not support mechanization; share of marginal farming increased from 51% in 1970-71 to 69% in 2015-16. IT industry is also likely to face some headwinds led by rising share of global capability centers (GCC) in India. It’s important for India’s tech industry to diversify their capabilities from just offshore staff augmentation models to building capabilities in managed services led delivery models like consulting, technology and system integration. Engineering research anddevelopment services (ER&D) services (relatively small industry) is a classical case study. It emerged as a growth enabler for IT companies; leading global ER&D spenders having despite maintained their GCCs for over a decade; companies like LTTS and Tata Technologies, as well as entities in the digital engineering domain such as Hitachi GlobalLogic and Persistent Systems, have registered remarkable growth.

Agriculture is unlikely to drive gorwth over the next decades given India's marginalsied farming structure which does not support mechanisation

                                                                                                                           Exhibit 5:  2015 - 2016                                                                                                                      

                                                                                                            Exhibit 5A:  1970-1971

Source: Ambit Asset Management

…and in traditional IT services there is a looming risk of AI and GCC

                                                        Exhibit 6:  No. of GCCS yr 2023-2029E                                                     

Exhibit 6A:  GCCS headcount (Mn)

Exhibit 6B:  GCC anual expenditure ($Bn)

Source: Ambit Asset Management

Contrarily, developed economies have significant GDP growth contribution from services led by high per capita income.

In contrast to emerging economies, developed economies have very different drivers of economic growth. If we look at countries like US and UK, we note that drivers of GDP growth is services which in turn is a function of their ability to spend more given their high per capita income. These services industries include healthcare, education, banking, insurance, IT etc. For India to dream of services sustainably driving GDP growth, the per capita income has to see a significant jump; India’s per capita income at $2,411 in 2022 is far inferior to that of US and UK’s $76,330 and $46,125, respectively.

 Developed countries like US/UK have higher share of services in its GDP growth

Exhibit 7:  US & UK- Share of services as a % of GDP

Source: Macrotrends, Ambit Asset Management

...led by high per capita income in developed countries   

Exhibit 8:  GDP per capita (US$)

Source: Macrotrends, Ambit Asset Management

Can India significantly increase the share of manufacturing in its GDP?

China during 1990-2005 phase came out with a host of enablers to drive its manufacturing growth. Few of the enablers of this growth have been:  

• Trade and investment reforms which led to surge in FDI: China capitalized on investments from non-resident Chinese in Hong Kong and Taiwan contributing to early industrial growth in the coastal provinces. Cumulative FDI from Hong Kong alone made up about 55% of China's total FDI by 2000.
• SEZ laws which allowed China to be an outsourced manufacturing partner of the globe: The establishment of SEZs was a critical factor; between 1979 and 1983, China set up four SEZs in Guangdong and Fujian provinces, which attracted significant FDI. By 1995, there were 224 SEZs across China, contributing to its rapid industrialization; in 2005, ~60% of China’s exports were linked to FDI-related activities, showing the pivotal role of foreign investment in boosting the manufacturing sector. These SEZs were given special tax treatment, less regulation, and preferential access to capital. These zones accounted for ~89% of China’s total exports by 1985 and 93% by 2005.
• Aggressive infrastructure development: China invested heavily in infrastructure development including roads, railways, and power generation, which supported its industrial base. Road length grew from 2,50,700 kms in 2000 to 19,30,500 kms in 2005;   railway network expanded from 53,300 kms in 1990 to 66,200 kms in 2010 and electricity generation capacity expanded by 400% between 1990 to 2003.
• Using currency policy as export subsidy: China maintained an undervalued currency pegged to the dollar at 8.28 yuan/USD from 1994 to 2005, making its exports cheaper and more competitive. This exchange rate policy was considered an indirect export subsidy, which supported higher export growth.
• Designing market friendly labour laws: Labor reforms included introducing temporary contracts and allowing hiring and firing flexibility, which increased labour productivity, over 1985 to 1995, the share of contract workers rose from 4% to 39% of total employment.

Exports as % of GDP significantly surged in China from 12.5% in 1990 to 33.8% in 2005

Exhibit 9:  China: Export of good and servcies as a % of GDP

Source: Macrotrends, Ambit Asset Management

FDI inflows in China significantly surged from 0.9% in 1990 to 4.6% in 2005

Exhibit 10:  China: FDI omflows as a % of GDP

Source: Macrotrends, Ambit Asset Management

India too is now replicating the Chinese template by creating several enablers to boost its "Make in India" initiative. Recently the Government published a report summarizing the 10 years of make in India. The key highlights of the report are as below:

Launched on September 25, 2014, by Prime Minister Narendra Modi, the "Make in India" initiative is completing 10 years as a pivotal step in India's nation-building efforts. The report talks about 9 enablers for the success of make in India campaign; few of them are summarized below

• PLIs: This scheme was introduced to enhance India’s manufacturing capabilities and boost exports. With an outlay of INR 1.97 lakh crore (>US$26 billion), the schemes cover 14 key sectors aimed at fostering investment in cutting-edge technology and promoting global competitiveness. As of 30^th July, 2024, 755 applications have got approved across these sectors, leading to an investment realization of INR 1.23 lakh crore by March 2024. This investment has generated employment for approximately 8 lakh individuals, marking a significant stride towards achieving the objectives of the PLI scheme.

Table: List the 14 sectors that are beneficiaries of the PLI scheme

• Semi-conductor ecosystem development: In 2021, the union cabinet approved the semi-conductor India program with an outlay of INR760bn (>$$9bn). India has crafted policies that support several segments of the semiconductor ecosystem, extending beyond just fabrication plants (fabs) to include packaging, display technologies, outsourced semiconductor assembly and testing (OSAT), sensors, and more. The first major project with Micron was sanctioned for nearly INR220bn (~$3bn) and Tata's joint venture with Taiwan’s Powerchip in Dholera also is a promising development.
• Start-up India:  Start-up India Initiative has rolled out several programs aimed at supporting entrepreneurs. As of September 25, 2024, India has the third-largest start-up ecosystem in the world, with 148,931 DPIIT Recognized Start-ups, which have created over 15.5 lakh direct jobs.
• Ease of doing business: India has made significant progress in improving its business environment, climbing from 142^nd in 2014 to 63^rd in the World Bank’s Doing Business Report (DBR) 2020, published in October 2019 before its discontinuation. This 79-rank jump over five years reflects the government’s sustained efforts to simplify regulations, reduce bureaucratic hurdles, and create a more business-friendly environment, significantly boosting investor confidence and supporting the objectives of the "Make in India" initiative.

Manufacturing has been key driver for India’s fastest growing states on GDP

We analyzed the aggregates of the top six Indian states (collectively account for >50% of India’s GDP) by GDP contribution & growth over the FY2012 to 2022 period (data not available post 2022). We note that the biggest driver for their GDP growth has been manufacturing which achieved a CAGR of 6.7% during this period followed by services and other industrials growing at a CAGR of 6.2% & 4.7% respectively. This further reinforces our belief that for India to sustainably grow its GDP and become a $10 trillion economy by FY2032, the appropriate template is to invest in manufacturing.     

 India’s top six states by GDP contribution have grown on the back of strong growth in manufacturing

Exhibit 11: GDP and manufacturing sector growth

Source: Macrotrends, Ambit Asset Management

* GSDP - Gross State Domestic Products

….resulting in share of manufacturing on an aggregate for these states rising to 19.5% of their GDP in FY2022 from 18% in FY2012

Exhibit 12:Share of various sectors

Source: Macrotrends, Ambit Asset Management

Conclusion:

As India stands on the verge of a manufacturing renaissance, several pockets of manufacturing are likely to emerge as disproportionate beneficiaries like capital goods, infrastructure, consumer durables and specialty chemicals.