Research Seminar From Informal to Formal: Structural Transformation of the Indian Manufacturing Sector

Meeting ID: 822 1343 0695  |  Passcode: 20240913

The size of the informal sector in the Indian economy has been staggeringly large, particularly with respect to employment, and this has remained so despite periods of high economic growth. A successful Lewisian structural transformation of the Indian economy requires that over time output and employment shares decline not only in agriculture, but also in other subsistence activities, much of which is concentrated in the non-agricultural informal sector. Interestingly, between 2000 and 2015, the share of the informal sector in total manufacturing employment and output in India declined whereas that of the formal sector increased.

In this context, this paper first examines if the aggregate trend of an expanding formal sector and contracting informal sector in Indian manufacturing holds at the disaggregated level of States and industries. In the process, it identifies industries within each Indian State where the informal sector has shrunk with growth in the formal sector and those where it has not. It then examines the role of three channels through which formal and informal sector growth may be interlinked. These are – growth and transition of enterprises from the informal to the formal sector, transition of the workforce from the informal to the formal sector, and strengthening or weakening of linkages between the formal and informal sectors. These explorations and the findings are situated in the backdrop of the theoretical debates around the relationship between formal and informal sectors which started in the 1970s and have resurfaced in recent years.

Using enterprise level data from the Annual Survey of Industries and the National Sample Survey of Unincorporated Enterprises, this paper shows that contracting informal sector and expanding formal sector between 2000 and 2015, was not associated with greater formalization of informal enterprises but with a transformation of the workforce from informal to formal. This not only reinforces the subsistence nature of the informal manufacturing sector in India but also demonstrations that creating good quality jobs in the formal sector is crucial for reducing sectoral informality. The results also show that contraction of the informal sector in some State-industries and its expansion in others along with growth in their formal sector counterparts can be explained by strengthening of empowering linkages between formal and informal sectors in one and weakening of it in the other.