MENU
Ajay and Amit dissect why Indian manufacturing has failed to take off despite decades of reform, tracing the problem from colonial history through Nehruvian socialism to twelve specific failures holding back factories today.
Ajay Shah is an economist who has held positions at various government and academic institutions, known for his work on public policy and institutional reform. Amit Varma is a writer, podcaster, and the creator of "The Seen and the Unseen," one of India's most respected long-form conversation shows. Together, they host "Everything is Everything," where they explore big ideas through the lens of first principles, books, history, and lived experience.
Indian manufacturing has stagnated for thirty years, stuck at roughly 20% of GDP while services have raced ahead. Ajay Shah and Amit Varma use this episode to diagnose why, building on Amit's four-and-a-half-hour conversation with Naresh Shenoy and Sudhir Sarvobat on The Seen and the Unseen, which went deep into the ground-level difficulties facing Indian businesses.
The conversation moves through four stages. First, the hard numbers: manufacturing exports have grown at a real rate of barely half a percent a year over the last decade, even as services exports have more than doubled. Second, a structural comparison of why manufacturing is fundamentally harder than services in the Indian context, covering state visibility, value chain linkages, capital intensity, electricity, infrastructure, time horizons, and contract enforcement. Third, a historical account of how India went from holding 20-25% of world manufacturing output in 1750 to a mere 2% by 1900, and how post-independence policy choices, from industrial licensing to the MRTP Act, compounded the damage well into the 1980s. Fourth, a detailed list of twelve problems that continue to bedevil manufacturing today, spanning labor law, land markets, electricity, finance, globalization, scale, dispute resolution, tax policy, and skills.
The episode closes by splitting these twelve problems between what the union government must fix and what state governments can fix on their own, setting up a framework for competitive federalism in industrial policy. This sets the stage for the next episode, where Ajay and Amit plan to question the conventional wisdom that manufacturing must be the centerpiece of any development strategy.
Shah, Ajay, and Amit Varma. "What Ails Indian Manufacturing?" Episode 104 of Everything is Everything. XKDR Forum, June 20, 2025. Podcast, video, 1:11:48. https://www.xkdr.org/viewpoints/what-ails-indian-manufacturing-episode-104-everything-is-everything
Ajay opens by crediting the idea for this episode to Amit's conversation with Naresh Shenoy and Sudhir Sarvobat on The Seen and the Unseen, a four-and-a-half-hour episode that Ajay calls one of the best episodes of that show, describing it as equivalent to expensive, difficult fieldwork that researchers would otherwise have to do themselves to understand what is going wrong with business at the ground level.
From that jumping-off point, Ajay and Amit planned two linked episodes. This one lays out why Indian manufacturing is broken today, tracing the difference between manufacturing and services, the historical policy mistakes that shaped the sector, and twelve specific problems holding it back now. The next episode will go further, questioning whether manufacturing needs to be the centerpiece of a growth strategy at all, pushing back against conventional development economics thinking.
Amit frames his own enthusiasm for the topic with an analogy about validation:
"A singer-songwriter who has barely learned to play the guitar will sit with the instrument and they will write a song, right? But is it a good song? In the moment, they will feel ki haan, achha hi hai, sounds good to me, but I don't really know. Now, imagine if that person takes that song to Bob Dylan and plays it for Bob Dylan, and Bob Dylan says, "Wah, kya baat hai, this is such a great song." So for me to do an episode on manufacturing, and for you, Ajay Shah, to say that it's a good episode is exactly the same thing."
Ajay lays out three ways in which Indian manufacturing is demonstrably broken. First, manufacturing's share of GDP should rise substantially when an economy grows quickly, but in India it has stayed stuck in the 15-20% range for the last thirty years. Second, the share of manufacturing in employment should also rise with growth, but it hasn't, with no meaningful increase in manufacturing's presence in the overall workforce.
The starkest evidence, though, comes from exports data. Ajay reads out a comparison over a ten-year period, expressed in nominal US dollars. Services exports grew from $151 billion to $341 billion, a 126% gain, which he calls genuine and substantial growth. Goods exports, by contrast, grew from $319 billion to $442 billion, just 38% growth over the same decade. Since the US did not hit its 2% inflation target over this period, averaging closer to 3%, the nominal dollar figures aren't properly comparable across time.
Ajay converts this into real terms:
"If you think 3% inflation over a 10 year period, the nominal dollar is not comparable over this time period. And then you feel that the Indian manufacturing exports growth over this 10 year period is basically like nothing. It works out to like a half percent real growth per year, which is just nothing."
Amit asks for a benchmark to understand what a healthy number would look like. Ajay explains that in the middle-income growth phase, countries have historically seen manufacturing's share of GDP rise to 40-50%, before declining again once an economy reaches advanced OECD status. India, stuck at 20%, is far short of even that middle-zone peak, let alone approaching OECD-style maturity.
Ajay lays out eight structural reasons why manufacturing has fared so much worse than services in India, starting with the concept of state legibility, borrowed from James C. Scott's Seeing Like a State. Factories are large, visible, physical structures that every local actor and every government inspector can see, which makes them targets for extraction.
"Factories are bulky, you can see factories. Every local gunda can see a factory. The state can see a factory. So the moment a factory comes up, a whole rapacious, non-rule of law, Indian government policies goes after the factory... Some local people will come and say, we are doing a pooja, you have to fund us. Local people will come and say, build a school for us. Local gundas will extort that if the trucks have to go in and out of your factory, then you owe me some hafta."
Services, by contrast, operate out of innocuous office buildings shared by many firms, with no single visible owner to target, making them comparatively safer from this kind of extortion.
The second difference is linkages, a term Ajay borrows from economist Albert Hirschman. Manufacturing thrives on physical proximity between specialized firms that buy and sell to each other, as in the Baroda chemical complex where factories run pipes directly between each other with meters tracking flow. But India's messy governance environment means that if a group of interlinked firms is planned together, several will likely fail for unrelated reasons, breaking the network effect that should have emerged. Services, which connect over fiber optic cables, face no such constraint since physical location simply doesn't matter.
The third difference is capital intensity. Services businesses need little more than a rented office with internet access and have short working capital cycles, often just one or two months. Manufacturing requires land, expensive machinery, and a far more complex working capital cycle, worsened in India by large companies routinely delaying payments to small suppliers, which Ajay considers economically irrational behavior on the part of big companies, since they could use their cheaper access to capital as a procurement advantage instead.
The fourth difference is electricity, which Ajay calls a critical raw material for manufacturing that India consistently fails to deliver reliably.
"It's astonishing how 10 times a day the MSEB power trips. What is this nonsense? And now you think from the viewpoint of a manufacturing company, that's a no-go. You cannot have a factory where your equipment trips five, 10 times a day. So everybody has to get a generator."
Commercial and industrial users are overcharged to cross-subsidize agriculture, domestic consumption, and electricity theft, and exporters face a looming second penalty as countries introduce carbon border taxes, meaning Indian manufacturers will pay more for worse electricity and then pay again at the border for its carbon intensity.
The fifth difference is infrastructure, since manufacturing requires moving physical goods while services simply move electrons. The sixth is time horizons: manufacturing projects typically need five-to-seven-year payback periods requiring long-term capital and stability, while services businesses in India often pay back in one or two years, insulating them from needing confidence in long-run governance stability.
The seventh and most elaborate difference is what Ajay calls the "cathedral of complexity." Manufacturing depends on specialization across many firms, in the spirit of Adam Smith's example of pin-making, coordinated through tight, just-in-time global value chains that demand perfect quality and timing. When an Indian supplier fails to deliver on a contract, it is fundamentally a dispute resolution problem, one that requires courts to reliably enforce liquidated damages.
"If you know that contracts are going to be enforced, then every vendor in India will move heaven and hell and not be sloppy and not be relaxed and do whatever it takes... To participate in the globalized world of manufacturing requires this level of perfection. It's not funny, the level of quality and perfection that is required to actually do manufacturing."
Ajay pushes back on the idea that manufacturing is a low-skill activity, framing weak contract enforcement as the central malaise:
"Incompetence, more strong than traitor's arms, vanquished him. That you're just surrounded by incompetence. You do contracts, the person can't be trusted, and deliveries don't come on time."
Amit summarizes his own prior understanding of the manufacturing-services divide, noting that services, especially IT, was new enough that the Indian state hadn't yet built up oppressive regulation around it, while manufacturing carries the full legacy weight of decades of extractive and restrictive policy, a legacy the next chapter traces in detail.
Amit traces India's manufacturing history starting from the colonial era. India accounted for roughly 20-25% of the world's manufacturing output in 1750, almost entirely artisanal, but this collapsed to just 2% by 1900. Two historical narratives explain this. One, associated with critics like Dadabhai Naoroji, blames colonialism directly, pointing to how cheap machine-made cotton textiles from Manchester destroyed India's artisanal weaving industries. The other, associated with historians like Tirthankar Roy, argues the larger force was the Industrial Revolution itself, which made hand-spun textiles obsolete worldwide, not just in colonized India, meaning India's bad luck was timing as much as colonial extraction.
Despite the decline, some industrialization did occur, particularly from the 1850s onward, including textile mills in Bombay and Ahmedabad, jute mills in Bengal, and the Tata Iron and Steel Company founded in 1907. By independence, manufacturing's share of output had grown from 3.8% in 1913 to 7.5% in 1947, though only 2.5 million people out of a population of 350 million were employed in manufacturing.
Amit then describes the Nehru era (1950-1965), shaped by a Soviet-inspired model of state-led heavy industrialization through five-year plans, built on a deep distrust of private capital. He identifies two fundamental mistakes: import substitution, which cut India off from world trade (India's share of world trade fell from roughly 2% in 1947 to 0.5% by 1990), and an aversion to competition.
"Mahalanobis in the mid-1950s famously said that competition is wasteful. Why should two companies make cars? One is enough, right? Little knowing that you get to good cars because different companies are competing."
Amit contrasts this with Hong Kong, South Korea, and Taiwan, which embraced export orientation and foreign capital and boomed as a result, noting that Hong Kong's export income in the 1960s matched India's entire export income. He is sympathetic to Nehru personally, suggesting he followed the global intellectual fashion of the era and might have corrected course had he lived longer, since the failures of the Soviet model weren't yet widely understood.
Amit is far harsher on what followed. He argues that by 1965 the failure of the model was already evident, making what came after unforgivable rather than a product of genuine uncertainty.
"I often look at Indira Gandhi's economic policies and I think of them as crimes on humanity. They were responsible for keeping hundreds of millions of people in poverty for decades longer than would otherwise have been the case... while acknowledging her strength as a leader in certain areas, like in the 1971 Bangladesh war... otherwise I think of her as a moral monster."
Amit then runs through specific policy failures of this era. Industrial licensing required government permission for routine business decisions, illustrated by a story from Montek Singh Ahluwalia's memoir about Infosys in 1983:
"Narayan Murthy told me of his personal experience in 1983 when Infosys wanted to import a Data General MV 8000 computer with three removable disk drives with a capacity of 200 MB each. They had to make several trips to New Delhi to get the import license. By the time they got the license, a new disk drive with a capacity of 300 MB had become available, 30% cheaper... long delays in getting equipment was fatal for exporters."
The MRTP Act, reflecting the belief that large companies were inherently undesirable, required government permission before a company could expand or build new capacity. Small-scale industry regulations reserved entire sectors, like garments and shoes, for small enterprises, preventing them from achieving scale. FERA made it a criminal offense to bring in too much foreign exchange, despite capital being fundamentally fungible regardless of its origin. And the Industrial Disputes Act required government permission to fire workers once a factory crossed 100 employees, leading firms to deliberately stay below thresholds of 99, 19, or even 9 employees, a key reason why Indian MSMEs remain overwhelmingly "micro" rather than growing into small or medium enterprises.
Amit closes by noting that price controls, freight equalization, and inspector raj continued even after the 1991 reforms, and that a common complaint about those reforms is that they never properly addressed factor markets: labor, capital, and land.
Ajay lays out twelve reasons manufacturing still struggles in India. The first is labor law. While states like Maharashtra have begun curbing support for disruptive trade unions, many other states have not. Ajay frames unions as a form of market power and market failure that the state should counteract rather than enable. Minimum wage law compounds this problem, illustrated by comparing West Bengal's ₹13,000 minimum wage with the roughly ₹7,000-8,000 minimum wage in Bangladesh, where the garment export industry has thrived in a way West Bengal's has not.
Amit expands on the economics of minimum wage using Milton Friedman's argument: a minimum wage law doesn't guarantee anyone a higher income, it simply outlaws employment for anyone whose labor is worth less than that wage, leaving them with nothing.
"It's not that he suddenly earns 13,000, it's that he earns zero. A big fat zero... someone who's taken a job worth 8,000, he's taken the best option available to him. It is literally better than every other option."
The second problem is infrastructure. Ajay notes that India has made real infrastructure gains in recent years, but a previous Everything is Everything episode found no commensurate rise in FDI, manufacturing exports, or manufacturing employment as a result, leading him to conclude infrastructure isn't currently the binding constraint compared to the other eleven problems.
The third is the land market, which Ajay suspects is in the midst of a China-style bubble, with land prices disconnected from rental yields or plausible agricultural profit. Manufacturing needs land bundled with road connectivity, electricity, water, and safety, and needs to be located near enough urban density to supply thousands of workers, since a village of 150 households can supply at most 100-300 workers. Ajay argues factories should be designed into urban planning from the start, citing Bimal Patel's principle that 40% of urban land should go toward streets and parks with mechanisms to recycle value back into infrastructure.
The fourth problem, labor again but from a workforce ecosystem angle, is that factories need an entire skill pyramid nearby, from blue-collar workers to senior managers to specialized maintenance vendors. Ajay illustrates with an example of a factory with 10,000 machines needing a large ecosystem of repair and maintenance staff, each needing homes, offices, and schools for their children nearby. He is skeptical of the Chinese dormitory model as a solution, calling it "deeply dissatisfying," and calls for urban planners to integrate manufacturing fully into city design.
The fifth problem, electricity, repeats the intermittency and pricing issues from the earlier chapter, with Ajay referencing his own work with Akshay Jaitly on electricity market reform and an earlier Everything is Everything episode on the topic.
The sixth is trade barriers. Ajay argues that any friction at the border raises the cost of imported inputs, making domestic manufacturers less competitive globally.
"It is nuts that the most important yarn of the world is the yarn that goes into making artificial cloth, not cotton. And there is a 10% duty at the border which drives up the price of all artificial fabric in India by 10%. Suddenly the entire Indian garment industry is uncompetitive."
The seventh is finance. Working capital problems require strict enforcement of payment contracts through the bankruptcy code, particularly stronger protection for "operational creditors," a category Ajay says was weakened in India's bankruptcy law due to the political influence of large companies. He argues it makes no sense for big companies with cheap capital access to squeeze small suppliers on payment timelines, and points to broader financial sector reform, referenced in his and Amit's earlier episodes on finance, as essential to lowering the overall cost of capital for manufacturing.
The eighth is globalization orientation. Manufacturing requires companies to operate across borders fluently, holding foreign bank accounts and traveling constantly, but Ajay says the Indian state instinctively distrusts cross-border activity, citing how income tax officers treat a foreign bank account as presumptive evidence of hawala dealings. He suggests simple fixes, like the UK's practice of allowing citizens to hold two passports so travel isn't blocked by visa processing on the other passport.
The ninth is size. Manufacturing is fundamentally a scale game, governed by experience curves where each doubling of lifetime output yields roughly a 20% productivity gain (Wright's Law, discussed in an earlier episode on Moore's Law). Large factories with thousands of machines make even tiny efficiency optimizations worthwhile, but India's governance environment tends to obstruct anything trying to grow large, leaving Indian factories, even ones considered large locally at 2,000 workers, far below the scale needed to compete globally.
The tenth is the "cathedral of contracts," meaning the overall machinery of dispute resolution. Ajay points to gains in the Bombay and Delhi High Courts and work by his own organization, XKDR Forum, on improving district courts in Kerala, alongside the need for stronger arbitration mechanisms. He cites Shubho Roy's campaign against the absurdly low interest rates Indian courts award in contract disputes, arguing these need to be punitive to actually deter contract violations.
The eleventh is tax policy. While GST represents progress, Ajay argues a basic principle of taxation, that non-residents and exports should not bear the tax burden, is being violated, since India's GST and RoDTEP mechanisms offer only partial and delayed refunds on exports, creating an additional working capital burden for exporters.
The twelfth is labor again, this time about skills. Ajay pushes back against the idea that manufacturing is a low-skill activity, arguing that a successful manufacturing operation needs a full pyramid of talent, from entry-level workers to globally expert specialists, some of which simply isn't available in India yet, citing Sri Lanka's more advanced garment manufacturing expertise as an example. He argues India needs to dramatically ease immigration and work visa rules to let companies import this missing talent.
Amit asks whether these twelve problems are union government issues or state government issues, since states can compete with each other on policy. Ajay confirms that five of the twelve fall squarely under the union government's remit, while seven are within the power of state governments to fix independently.
"Gujarat, Maharashtra, Karnataka, Tamil Nadu have just run ahead compared to the rest of India in terms of manufacturing capabilities because on those seven things they are faring better than the other states."
Ajay frames this as an active work program every state government should pursue, building its own economic growth strategy around the seven state-level issues rather than waiting on the union government to address the remaining five. This creates a competitive dynamic across Indian states, each able to improve its own manufacturing environment independently of national policy.
Closing the episode, Amit recommends How Frameworks, a new venture at howframeworks.com built by Sudhir Sanubhat, a self-made entrepreneur, alongside his partner Rajendra Bagwe, a veteran entrepreneur and industrialist in Maharashtra. Amit describes it as a resource for anyone running a business, offering frameworks drawn from real-world Indian experience rather than generic consulting advice.
"It's come from a lifetime of experience in Indian conditions, in local conditions, taking into account all the things that we have spoken about in this episode."
Amit notes that even though he doesn't run an active business himself, he found the site compelling enough to spend hours exploring it, since many of its frameworks apply broadly to how people think and make decisions, not just to running a company. He clarifies that he receives no commission, and offers the discount code "seenunseen" for listeners who want to try the service, encouraging them to note down the name Sudhir Sanubhat, since he expects it to come up again in future episodes.
The complete transcript file is available to download below.
19 Oct 2026
Arbind Modi
05 Oct 2026
Abhishek Anand
21 Sep 2026
Sanjiv Shah
2026, XKDR | GSTIN: 27AAACX3640C1ZN
by Sane Difference
