ECONOMIC REFORMS AND INDUSTRIAL PERFORMANCE AN ANALYSIS OF ECONOMIC CAPACITY UTILIZATION IN INDIAN MANUFACTURING

E Abdul AZEEZ (Centre for Development Studies)

This paper examines the performance of Indian manufacturing sector in terms of economic capacity utilization (CU), over 1974-98. An attempt is also made to understand the impact of economic reforms, inter alia, on the observed movements of CU. The economic CU, defined as the realization of output at which short run average total cost is minimized, is estimated using a translog variable cost function. The cost function is estimated along with the share equations, using an iterative version of the Zellner's Seemingly Unrelated Regression Estimation (SURE) technique. The estimated SURE coefficients show a good fit and also the first and second order conditions of a well-behaved cost function are satisfied. The results reveal that the Indian manufacturing sector experienced a cyclical pattern in CU over 1974-98. A comparison of economic CU with that of installed CU shows that the conventional CU measures underestimate the true economic utilization. Three distinct phases have been identified with regard to economic CU movements. While phase one (1974-84) was characterized by relatively wide fluctuations, phase two (1985-90), witnessed a roughly stable level of utilization. In the third phase (1991-98), a mild variant of the fluctuations of the sort witnessed in the first phase resurfaced. A comparison of the CU patterns in the three phases with the corresponding policy environment does not show any significant correspondence between the two. The study also points to the significant role of supply side factors as well, along with the demand side factors, in affecting CU. Thus it emerges from our analysis that while supply and demand side factors are crucial, the impact of macro policy changes are trivial in determining CU in the Indian manufacturing. The cyclical fluctuations observed in CU even after the reform processes were initiated may be due to the increased role of market forces which triggers demand fluctuations and the corresponding expectations which may force firms to keep part of capacity idle in order to meet future demand pressures.