OUTPUT ELASTICITY OF EMPLOYMENT IN THE INDIAN ECONOMY: AN EMPIRICAL NOTE UPENDER, M *

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1 OUTPUT ELASTICITY OF EMPLOYMENT IN THE INDIAN ECONOMY: AN EMPIRICAL NOTE UPENDER, M * Abstract This note tries to look at the responsiveness of to the changes in Output during pre and post economic reform periods by estimating a derived demand function for with an interaction variable. The empirical results of the present note based on the time series data from to period exemplify that the labour absorption capacity in private organized sector is relatively high as compared to public organized sector during post economic reform period as the differential output of estimated is significantly positive in private organized sector and significantly negative in public organized sector. It can, on the whole, be surmised that the economic growth is less labour intensive in the major industries of the organized sector during post reform period evincing that the objective of providing opportunities not only for the additions to the labour force, but also to reduce the backlog of un accumulated from the past is not attained and remains a challenge in the Indian Economy. JEL classification: C50, C51, E24 Key words: India, Employment, Gross Domestic Product, 1. Importance of Output Elasticity of Employment An important objective of development planning in India has been to provide for increasing opportunities not only to meet the backlog of the unemployed but also the new additions to the labour force [labour supply] The economic reforms have aimed at fostering labour intensive production [Employment intensity (content) of Economic growth] in India [Economic Survey ,Government of India, Ministry of Finance, Economic Division].The [labour] intensity of economic growth can be understood by the size of output of. In other words the concept of output of in a particular sector of the economy helps in understanding the extent of labour absorption capacity of that sector in the Economy. The responsiveness of [labour market] to the changes in macro economic situation [gross domestic product or gross output] and the presence of shift [an upward/downward ] in the responsiveness of to the changes in gross output owing to new economic policy introduced since July 1991, needs to be empirically examined by fitting an function with an interaction variable to time series data points. The present note is an effort in this direction. From the prospective of the macro production function of the economy, the use of labour [demand for labour] with * M Upender, Professor of Economics, Osmania UniversityHyderabad [A.P.]India, e- mail: mupender10@rediffmail.com [This is a revised version of the paper presented at a two day national seminar on Economic Reforms and Indian Economy: A Development Experience Organized by the Department of Economics, Osmania University, Hyderabad [ A P ] India, during 15 th -16 th March, 2003 ] 197

2 complementary factors of production produces national output or gross domestic product [income]. The demand function for labour can be derived either from Cobb Douglas function production function or Constant Elasticity of Substitution [CES] production function by solving the marginal product of labour equation for labour input variable. 2. Objective of the Exercise and Data The main focal point of this minuscule exercise is to look at the sign and size of the differential coefficient of during post reform period in India by fitting a double-log regression model with an interaction variable to time series annual data. The period after 1991 is considered as post economic reform period to examine the prognostications of economic reforms that had been initiated by the central government in India. The annual data points on in the organized private and public sectors real gross domestic product at factor cost (at constant prices) or real output from to have been collected from different sources [Handbook of Statistics on Indian Economy 2001,Reserve Bank of India, and Economic Survey , Ministry of Finance, Economic Division].This period with the latest year [2000] has been taken to split the entire period into two equal sub periods [pre and post economic periods] with equal number of years. The present exercise will be a trivial extension to the existing literature on Employment in India rather than being a fundamental finding as the magnitude of output of during pre reform period and post reform period has been examined having ensured that function has a shift/break since policy change by chow test. The differential coefficient of output of refers to as how much the magnitude of output of during post reform period [D=1] differs [an increase or a decrease or stable] from that of pre reform period [D=0] 3. Empirical Model for Output Elasticity of Employment Both Cobb Douglas and Constant Elasticity of Substitution production functions have been tried in the present exercise. The choice of the Cobb Douglas function will be appropriate for generating an function if the regression coefficient of real output is significantly unity.the choice of the Constant Elasticity of Substitution production function will be appropriate for generating an function if the regression coefficient of real output is significantly different from unity. In the present empirical note the CES production function has been used to derive the marginal product of labour and solved for labour input variable to get demand function for labour [ function] as the regression coefficient of gross domestic product is significantly different from unity The responsiveness of to the changes in output during pre reform period and the presence of shift by differential output of during post reform period have been empirically examined in the present note. Specification of the C E S [SMAC] production Function GDP t = A [δ K t ρ + (1-δ) E ρ t ] - η / ρ (1) 198

3 Upender, M. Output of in the Indian economy. an empirical note Where GDP t = Real Gross Domestic Product at factor cost [Income] ; K t =Capital ; E t = Employment (Labour) A = Efficiency parameter ; A > 0 η = Returns to Scale parameter ; η > 0 δ = Distribution parameter ; 0 < δ < 1 ρ = Extent of substitution [between K and E] parameter, ρ > - 1, and related to the of substitution ; σ = 1 / 1+ ρ The partial derivative of labour [Marginal product of labour [MP E ] ] from the above Equation is derived as follows GDP t / E t = η (1- δ) / A ρ /η. GDP (1+ ρ ) /η t / E ρ +1 t. and the expression [MP E ] η (1- δ) / A ρ /η. GDP (1+ ρ ) /η t / E ρ +1 t is solved for labour [E] input variable to derive the following empirical demand function for η (1- δ) / A ρ /η 1+.. GDP ρ /η t. = E ρ +1 t [η (1- δ) / A ρ /η 1+. GDP ρ /η t ] 1/ ρ +1 = E t E t =[η (1- δ) / A ρ /η 1+. GDP ρ /η 1/ t ] ρ +1 E t= [η (1- δ) / A ρ /η ] 1/ ρ GDP ρ /η t. 1 / ρ +1 E t = ß o GDP ß1 t Where ß 0 = [η (1- δ) / A ρ /η 1/ ] ρ +1 ß 1 = 1+ ρ / η. 1/ 1+ ρ ß 1 = 1+ ρ / η. σ σ [Elasticity of Substitution] = 1/1+ ρ Taking logarithms on both sides of equation we obtain the following function log E t = log ß o + ß 1 log GDP t (2) The derivative of log E t with respect to log GDP t [output] is [ log E t / log GDP t = β 1 ] the constant output of. The degree of differential output of during post reform period has been scanned by fitting the following form of regression model with an interaction variable [D*logGDP t ] log E t = log β 0 + β 1 log GDP t + β 2 D + β 3 ( D * log GDP t ) + error (3) Where E t = Employment in private [Private sector comprises all establishments [under the organized sector] employing 10 or more persons] / public sector [Public sector comprises all government agencies i.e., central state, quasi government [both central and state] and local bodies] [Lakh persons] GDP t = Real Gross Domestic Product at factor cost [Rs crore] 199

4 β 0 =Intercept during pre reform period [D = 0] β 2 = Differential intercept during post reform period [D = 1] β 1 =Magnitude of output of during pre reform period (D = 0) ; β 1 > 0 β 3 = Magnitude of differential output of [shift parameter] during post reform period (D = 1); β 3 more than or less than zero evinces the difference between the Magnitude of output of during post reforms period and Magnitude of output of during pre reforms period (β 1 +β 3 ) = Magnitude of output of during post reform period (D = 1) If the regression coefficient of dummy variable [D], β 2, is significantly positive then the average would go up during post economic reform period [D =1] ;If it is significantly negative, then the average would go down. :If it is statistically insignificant then the average remains stable.β 1 = regression coefficient of GDP,constant [β 1 > 0] during pre reform period [1983 to 1991] when D = 0, β 3 = differential coefficient of, [β 3 more than or less than 0] that allows a shift [an upward / a downward] in the magnitude of output of during post reform period [1992 to 2000 ] when D =1. As the interaction variable [D*log GDP t ] enters the equation in dichotomous form [i.e.,d = 0 in pre reform period and D = 1 in post reform period] the derivative of log E t with respect to [D*log GDP t ] does not exist. Instead, the coefficient of [D*logGDP t ] subject to statistical significance, measures the discontinuous effect of the presence of an attribute [D = 1] represented by an interaction variable on. The variable [D*log GDP t ], which is called an interaction variable, has been introduced in the above model so as to capture the interaction effect of economic reforms and output on.the interaction variable takes a value equal to log GDP t during post reform period [when D = 1] and 0 during pre reform period [when D = 0] ; If [ β 1 * ± β 3 * ] more than or less than β 1 * then there will be an upward or a downward shift in the magnitude of output of during post economic reform period ; If [β 1 * ± β 3 **] = β 1 *, then there will be a homogeneity in the magnitude of differential output of i.e., magnitude of output of remains the same in the pre and post reform periods implying an absence of differential output of differential. [Where * and ** denote statistically significant and insignificant respectively ] 4. Empirical Results and Discussion In order to scan the presence of shift in magnitude of output the function [ generated from Constant Elasticity of Substitution Production Function by solving the partial derivative of production function with respect to labour ( marginal product of labour) for labour in input variable] with dummy variable and interaction variable (D* log GDP) has been considered. The estimates of differential elasticities for post reform period and constant elasticities for pre reform period have only been presented in table-1,2 and 3 respectively to know the extent of decline / increase in the magnitude of in post reform period as compared to pre reform period. 200

5 Upender, M. Output of in the Indian economy. an empirical note Table 1: Output Elasticity of Employment in Private Sector by Industry Private Sector Magnitude of [D = 0] Differential [D =1] Magnitude of #[ D =1] by Industry β 1 β 3 β 1 ± β 3 R 2 Adj. Agriculture 0.17* [3.84] Mining and -0.44* quarrying [-2.78] Manufacturing [-0.96] Electricity, 0.11** gas,water [1.97] Construction [0.240] Trade,transport, 0.11* storage and [4.45] communications Financing, Insurance,real estate etc., Community, Social and Personal services 0.39* [9.44] 0.37* [7.16] -0.20* [-3.36] [-0.05] 0.37* [5.04] [0.122] [-0.49] 0.16* [4.6] 0.25* [4.42] -0.14** [-1.97] R Table 2: Output Elasticity of Employment in Public Sector by Industry Public Sector Magnitude of [D = 0] Differential [D =1] Magnitude of # [ D =1] R 2 Adj.R 2 d by Industry β 1 β 3 β 1 ± β 3 *** d Agriculture, hunting etc., 0.35* [5.68] Mining and quarrying 0.17* [3.09] Manufacturing 0.25* [5.02] Electricity,gas,water 0.55* [16.45] Construction [0.656] Trade,transport, 0.17 storage and [0.48] communications Financing,Insurance,real 0.66* estate etc., [12.9] Community, Social and Personal services 0.36* [23.21] -0.55* [-6.69] -0.35* [-4.78] 0.66* [9.72] -0.47* [10.60] [-1.03] 0.37 [0.80] -0.56* -[8.03] -0.25* [

6 Notes for all tables: d = Durbin-Watson statistic. Figures within the brackets below the regression coefficients are t values. * and ** Significant at one and five percent level respectively though the and differential estimates are marred by the presence of autocorrelation as indicated by Durbin - Watson statistic [d < 2 or d > 2 ].Further the goodness of fit as indicated by Adj. R 2 is relatively smaller than the d statistic pointing out that the estimates of the estimated regression equations are not spurious. *** = Since β 2 and β 3 are statistically significant, the sum [β 1 + β 3 ] or difference [β 1 - β 3 ] is also deemed to be significant. Coefficient of log GDP t, β 1,is the estimate of during pre reform period i.e., when D = 0.log E t = log β 0 + β 1 loggdp t where β 1 = log E t / log GDP t is the during pre reform period when D =1 [post reform period] log E t = [ β 0 + β 2 ] + [β 1 +β 3 ] log GDP t, where [β 1 +β 3 ] = log Et / log GDPt, is the magnitude of during post reform period.# Explains the extent of labour absorption declined/increased during post economic reform period. Table 3: Output Elasticity of Employment in Private and Public Organized Sectors Organised Sector Magnitude of [D = 0] Differential [D =1] Magnitude of # [ D =1] R 2 Adj.R 2 d β 1 β 3 β 1 ± β 3 *** Private Sector as a whole Public Sector as a whole Organized Sector [Private and Public sectors] [1.67] 0.312* [13.85] 0.24* [13.97] 0.194* [3.77] * [-10.01] -0.15* [-6.73] Private Sector The estimate of constant [Table 1] is significantly less than unity in Agriculture and allied sector during pre reform period revealing that a one percent increase in output will, all else equal, increase the by 0.17 percent. The regression coefficient of an interaction variable, which is a differential, is significantly negative during post reform period showing that the magnitude of during this period is 0.03.The magnitude of constant during pre reform period in mining and quarrying sector is significantly negative. The magnitude of differential is insignificantly negative showing that the reform measures could not improve the in this sector.. In manufacturing sector, the constant is found to be insignificant during pre economic reform period. The magnitude of differential is significantly positive during post economic reform period showing that a one percent increase in output will boost the in this sector by 0.37 percent during post reform period. The positive differential, though less than unity, shows the optimistic impact of reforms on. In 202

7 Upender, M. Output of in the Indian economy. an empirical note electricity, gas and water industry, the constant is significantly positive during pre reform period showing that a one percent increase in output is associated with an increase of 0.11 percent during pre reform period. But the differential is insignificant during post reform period showing that the reforms could not increase the. In construction industry both the regression coefficients of output during pre reform period and interaction variable during post reform period are insignificant showing that the reform measures could not induce to increase the opportunities during post reform period. In Trade, transport, storage and communications industry, the constant during pre reform period is significantly positive evincing that a one percent increase in income, all else equal, will increase the by 0.11 percent. The differential during post reform period is also significantly positive showing that the magnitude of during post economic reform period is 0.26 according to which it can be inferred that a one percent increase in income will induce the to increase by 0.26 percent showing an upward shift in the magnitude of output of. In financing, insurance and real estate industry both the estimates of constant during pre reform period and differential during post reform period are found to be significantly positive showing an upward shift in during post reform period. The magnitude of during post reform period is 0.63 illustrating the fact that reform measures induced the level of in this industry. This is only the industry seems to have the highest magnitude of as compared to other industries in private organized sector evincing that economic growth is relatively more labour intensive.the magnitude of during the pre reform period is significantly positive and differential is significantly negative during post reform period showing a downward shift in the magnitude of output of. Public Sector The [Table -2] during pre reform period in Agriculture and Allied is positively significant showing that a one percent increase in income, all else equal, will increase the by 0.34 percent. The differential is significantly negative showing a downward shift in during post economic reform period. The magnitude of during post reform period is 0.2 showing that a one percent increase in output results in a reduction of by 0.2 percent. The during pre reform period in Mining and Quarrying is significantly positive and the differential coefficient of is significantly negative during post reform period showing that the reform measures result in lessening by 0.18 percent with an increase in output by one percent.the estimates of during pre reform period and the differential during post reform period in Manufacturing are significantly positive. This is only the industry that seems to have the highest magnitude [ close to unity] of as compared to other industries both in private and public organized sectors evincing that the labour absorption capacity of this sector is very high. The magnitude of during pre reform period is significantly positive but the differential during post reform 203

8 period in Electricity, Gas and Water is significantly negative showing a downward shift in the magnitude of during post reform period. The estimates of positive during pre reform period and the negative differential during post reform period in Construction are found to be insignificant. The magnitude of during pre reform period and differential during post reform period in Trade, transport, storage and communication are found to be statistically insignificant showing that the changes in gross output could not sway the level of in this sector. The magnitude of during pre reform period in Financing, insurance and real estate is significantly positive revealing that a one percent increase in output will increase by 0.66 percent on the average. The differential is significantly negative during post reform period showing a downward shift in the magnitude of. The magnitude of during the pre reform period in Community, social and personal services is significantly positive and differential is significantly negative during post reform period showing a downward shift in the magnitude of. Public and Private Sectors The magnitude of [Table-3] during pre reform period is significantly positive and differential is significantly negative during post reform period showing that during post reform period is only 0.01 in public sector. The reform measures reduced the opportunities in public sector during post reform period as compared to pre reform period. The magnitude of during pre reform period is found to be statistically insignificant and the different significantly positive during post reform period in Private Sector showing that, opportunities have been promoted only in organized private sector as a whole. Organized Sector (Private and Public Sectors) The magnitude of of organized sector [Table 3] is significantly positive and differential is significantly negative during post reform period showing a downward shift in the magnitude of in organized sector. As the economic growth in organized sector is found to be less labour intensive during post reform period, the objective of economic reforms to fostering labour intensive production in India has not attained even after nine years [the annual data considered in the present exercise is till 2000] of economic reforms. 5. Conclusion The empirical results of the present note based on the time series data from to period illustrate that the positive magnitude of with respect to real GDP t [1] financing,insurance,real estate etc., is relatively very high as the differential is positive followed by [2] trade,transport,storage and communications and [3] community, social and personal services industries in private sector during post reform period. This reflects the fact that the labour absorption capacity in financing,insurance,real estate etc sector has been high followed by the other two 204

9 Upender, M. Output of in the Indian economy. an empirical note sectors. The magnitude of in agriculture, hunting sector is positive during pre reform period and is negative during post reform period evincing the fact that the reforms have deteriorated the opportunities in this sector. The magnitude of output of is close to unity in [1] manufacturing sector during post reform period as the has increased by 0.66 points during post reform period [ by the differential ] followed by [2] Community, Social and Personal services [3] Financing,Insurance,real estate etc., industries in public sector. The labour absorption capacity in private sector as a whole during post reform period is found to be relatively high as compared to public sector as the differential during post reform period in private sector is significantly positive. Further the results of this exercise for the organized sector as a whole illustrate that the output of during post reform period is very low as compared to the output of during pre reform period on account of negative differential output of showing that the economic growth during post reform period is not labour intensive. Therefore the objective of providing opportunities not only for the additions to the labour force, but also to reduce the backlog of un accumulated from the past is not attained in the Indian Economy. The present exercise will be a trivial extension to the existing literature on Employment in India rather than being a fundamental finding as the magnitude of output of during pre reform period and post reform period has been examined having ensured that function has a shift/break since policy changeby chow test.it should however be noted that this note just tried to check up whether the economic growth is less labour intensive or more labour intensive on the basis of sign and size of the differential output of during post reform period. References Agarwal R N, Goldar B N (1995), Economic Reforms and Employment in India - Projections for the Year , Indian Journal of Labour Economics, Vol. 38, No. 4 Amit Bahaduri, (1996) Employment,Labour MarketFlexibility and Economic Liberalisation in India, Indian Journal of Labour Economics, Vol.39, No.1, January- March Arrow K J, Chenery H B, Minahas, B S and Solow, R M, (1961). Capital-Labour Substitution and Economic Efficiency, The Review of Economics and Statistics, Vol.XLII,No.3. Bhalla, G S and Peter Hazell (2003)],Rural Employment and Poverty - Strategies to Eliminate Rural Poverty within a Generation,Ewconomic and Political Weekly,Vol.XXXVIII, No.33 August Cobb, CW and Douglas PH, (1928) Theory of production, American Economic Review, Vol.18[March Supplement] Mazumdar Dipak and Sandip Sarkar (2004). Reforms and Employment Elasticity in Organised Manufacturing, Economic and Political Weekly,Vol.XXXIX,No.27,July

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