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Last Updated: Thursday, 18 May 2006, 10:41 GMT 11:41 UK
Why India's labour laws are a problem

By Kaushik Basu
Professor of economics, Cornell University

Indian labourer
The majority of Indian workers work in the unorganised sector

While the Indian economy is booming, there is evidence that workers are not partaking in the boom adequately. Employment is not growing as fast as working age population, nor are wages rising as rapidly as per capita income.

There are many reasons for this - some to do with forces of globalisation that are beyond the Indian government's policy reach.

But much of it has to do with the 'culture' that pervades our labour markets, which in turn is a consequence of the complicated and ill-conceived laws that govern the labour market.

The travails of Calcutta's famous Great Eastern Hotel illustrates nicely much of what is wrong.

In India there are 45 laws at the national level and close to four times that at the level of state governments

The hotel, founded in 1840 by a British confectioner, David Wilson (and originally named Auckland Hotel), prospered for a long time; but began to flounder in the early 1970s.

Worried about the many workers of the hotel, the Congress government took over its management in 1975; and, driven by similar concerns, the Communist-led Left Front government nationalised it in 1980.

Protected from the vicissitudes of the market, the hotel's quality continued to decline and staff size grew.

Too many laws

According to some back-of-the-envelope calculations I did some time ago, it came to have such a high staff-to-rooms ratio that it was not clear why the hotel needed customers.

If it moved its staff members into the hotel, it would be a self-sufficient housing complex, if slightly over-crowded.

Fortunately, the government has since taken restructuring measures and there are hopes of the hotel's revival. But what happened for over 30 years is a mirror to much that ails Indian labour.

In India there are 45 laws at the national level and close to four times that at the level of state governments that monitor the functioning of labour markets.

Indian autoworker
Less than 10 million workers are employed in the private sector
Some of these date almost as far back as the founding of the Great Eastern Hotel. They were meant to control conflict and keep the labour market efficient.

Unfortunately, the experience has been to the contrary. According to recent World Bank estimates, in 2004, there were 482 cases of major work stoppages, resulting in 15 million human days of work loss.

Between 1995 and 2001 around 9% of factory workers were involved in these stoppages. The figure for China is close to zero.

On the other hand, the wages of Chinese workers are rising much faster than that of India's. These facts are not unrelated.

Short-sighted policy

Most of India's labour laws were crafted with scant respect for 'market response.' If X seemed bad, the presumption was that you had to simply enact a law banning X.

But the fact that each law leads entrepreneurs and labourers to respond strategically, often in complicated ways, was paid no heed.

In a poor country no one with any sensitivity wants workers to lose their jobs. So what does one do?

Indian textile worker
India needs to employ workers under different contracts
The instinct is to make it difficult for firms to layoff workers.

That is exactly what India's Industrial Disputes Act, 1947, did, especially through some later amendments, for firms in the formal sector and employing more than 100 workers.

But in today's globalised world, with volatile and shifting demand, firms have responded to this by keeping their labour forces as small as possible.

It is little wonder that in a country as large as India less than 10 million workers are employed in the formal private sector.

Some commentators have argued that India's labour laws could not have had much of a consequence since most of them apply to only the formal sector.

What they fail to realise is that one reason the formal sector has remained miniscule is because of these laws (and also the culture that the laws have spawned).

Need for flexibility

What is needed now is not a law that allows employers to fire workers at will but one that allows for different kinds of contracts.

Some workers may sign a contract for a high wage but one that requires them to quit at short notice; others may seek the opposite. This would allow firms to employ different kinds of labour depending on the volatility of the market they operated in.

Flexibility in hiring and firing is not the only problem. India's complex web of legislation leads to a system of dispute resolution that is incredibly slow.

Data from the Ministry of Labour reveal that in the year 2000 there were 533,038 disputes pending in India's labour courts; and of these 28,864 had been pending for over 10 years.

If India is to be a vibrant global economy, this has to change.

Much of the debate on labour laws has been misconstrued. We do not need changes in labour laws and policy to elicit sacrifice from organised labour, as some economists have suggested.

Indian workers, whether they be in the organised sector or the unorganised sector, are too poor for that.

We need changes in order to create greater private-sector demand for labour, which will boost wages and employment.

In brief, we need to move to a system that (1) makes room for more flexible contracts in the labour market, (2) has a minimal welfare net for workers who are out of work, and (3) resolves labour market disputes more quickly.


Here is a selection of your comments on this article.

A real eye-opener on labour issues in contemporary times. One of the significant issues with the workers would be the social safety net which may be absent with many private enterprises. It will be of paramount importance to ensure that a worker at least could look after his family meeting their basic necessities, have his/her children get good education, and so on.
Lekha Nath Bhattarai, Nepal

What Indian government needs to realise is the fact that by attempting to protect labour and contain layoffs, they have crippled the corporations' ability to make profits. By relaxing the laws and implementing more government subsidies to small businesses, management will employ more workers and the average wage as well as employment will increase.
Rohit, USA

Indian workers in the public sector are so protected that even if you don't do anything you'll get your pay right on time and if you want a bit more all you have to do is stop working. This is why the quality of service in the public sector in India is very low. Who will care to work properly if you'll get your salary anyway?
Karl, India

Prof Basu's comments on labour are well thought out, but, as in all political systems, selling the idea may prove to be impossible. Australia's government had similar problems selling the Work Choices legislation to the labour unions in this country. Streamlining labour laws and introducing flexibility in order to compete globally is still unfortunately viewed as one of the ills of globalisation. Although there may be short term negative effects, the overall efficiency gained should in the long run will not only boost productivity, but free up more capital for investment which in turn creates more jobs.
Anupam Banerji, India/Australia

This article is a voice of reason. The most vigorous section of the economy in recent years has been the private sector and if it employs only 10 million out of the many 100s of millions then it will only lead to more economic disparity and social tension. It is sad that the government is contemplating reservation in private sector instead of much needed labour reforms. Perhaps the private sector and the government can find some middle ground in which labour law is made more reasonable and at the same time the private sector actively trains and employs people from disadvantaged backgrounds.
Kiran, India

As long as India is going to keep its ancient laws and not change with the times, it is going to find it hard to be the Global powerhouse it is trying to potray itself to be.
Vijay Bysani, Chennai, India

I hear everybody saying "things will change and improve for the better". But in this globalised economy, we might be too late to catch the bus. Those old politicians do not have to lose anything because their lives are almost over. It is us young people who will pay the price.
Atul, New York, US

I am surprised that another much ignored section of the Indian workforce has not been mentioned here. It is the booming construction industry, fuelled by returning Non Resident Indians and the growing economy. But there has to be an improvement in wages - and more importantly - changes to the living conditions of workers on the construction sites.
Avinash, India

We have to accept the simple fact that constructing a healthy environment in the labour sector is totally dependent on uncorrupted government which traditionally has been difficult to achieve in India.
Mathew Joseph Kochuvelikakathu, Morocco

I suspect that in a nation heavy on short-termism, strategic thinking will merely be paid lip service. In my experience what works best is for the government to have as small a footprint as possible and if that means not interfering in the labour markets, then so be it. Laws should prevent exploitation by making it more attractive to be fair and honest, and not by "banning" exploitation as Mr Basu so rightly points out.
Nikhil Date, UK

Under the socialist regimes of the post-independence era, while a right-to-work was not guaranteed, implicitly, a right-not-to-be-fired was in place. Various political parties, particularly those on the left, made it nearly impossible to fire employees. The consequences of low labour productivity and lack of international competitiveness were not recognised.
Easwar, USA

Interesting piece. I would be interested to know the source based on which the author claims "less than 10 million workers are employed in the formal private sector". That figure seems suspiciously small. Probably, a lot has to do with the exact definition of "formal private sector".
Ravi, USA

I much appreciate the article. The people who have insight into the problematic issues of the country must write and speak out. India needs such thinkers.
Ruchi, US

Why is the figure "near zero" figure for work stoppage in China being compared to India's nine percent? When did the Chinese workers ever get the option to stop work?
Mridula, India

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