'A subtle Dutch disease': Ex-CEA explains how high govt wages and services boom held back manufacturing
There was a "very subtle Dutch disease effect" that made factory jobs less attractive and less profitable, says former CEA Arvind Subramanian
- Nov 30, 2025,
- Updated Nov 30, 2025 11:35 AM IST
High government wages and the rise of India's services sector may have played a far bigger role in holding back the country's manufacturing story than is commonly believed, former Chief Economic Advisor Arvind Subramanian has said. He also stated that there was a "very subtle Dutch disease effect" that made factory jobs less attractive and less profitable.
"There is no doubt that in the first 30 years because of the policies we followed, closing ourselves from trade, stifling the domestic private sector, not investing in enough in agriculture, not investing in primary education, we had a situation of very low growth and very little structural transformation in the sense that manufacturing was very small," Subramanian said when asked why India's structural transformation was still incomplete.
The former CEA was discussing his new book -- A Sixth of Humanity: Independent India's Development Odyssey, co-authored with political economist Devesh Kapur -- with Business Today Group Editor Siddharth Zarabi and Rajdeep Sardesai.
Subramanian said the real puzzle is not the first three decades - when India stymied all kinds of economic activity - but the period between 1980 and 2015, when India was among the world's fastest-growing economies. "Between 1980 and about 2015, we were amongst the top seven or eight fastest-growing countries in the world. So, the puzzle is why, in that period, did we not get the structural transformation?"
He attributed this to several reinforcing factors. The first, he said, was India's failure to generate an agricultural productivity surge comparable to Japan, Korea, Taiwan, or China. "That increase in agricultural productivity at that scale and pace did not happen in India. So, we were never able to produce the kind of incomes and surpluses that would then create demand for labor-intensive manufacturing in India."
The second was India's regulatory environment, summarised in the book through the idea of "midgets making widgets." Subramanian said, "Too often, the question we say - our labor laws make firms remain small. But the big puzzle is, it's not that we haven't had big firms. We do have reasonably big firms, but we don't have enough of them. And we don't have them of even bigger sizes."
He then returned to what he described as the most underappreciated explanation: Dutch disease caused not by oil, but by India's own success in services and the size of government employment. "There were two sectors that dampened the impact on manufacturing. One is when the services sector started doing very well, it did have an impact on manufacturing. The second, maybe as important, is the Government in India, which is a very big employer."
According to him, high government wages distort the labour market for factory jobs. "Wages at the lower end of the spectrum in manufacturing are related to government wages. The government is the competing option, and wages in the government sector are very very high, especially at the lower end. So, the kind of supply to manufacturing of low-skill labor is affected by that."
He pointed to another channel: the millions of young Indians preparing for government exams. "How many people write the exam for the civil services, and they stay out of the labor force for a long time and therefore again the labor supply to manufacturing is affected."
Subramanian said the combined effect is powerful. "So, to cut a long story short, there's this very subtle Dutch disease effect which comes from both services and the government sector, making both manufacturing unprofitable and also not desirable as employment opportunities."
High government wages and the rise of India's services sector may have played a far bigger role in holding back the country's manufacturing story than is commonly believed, former Chief Economic Advisor Arvind Subramanian has said. He also stated that there was a "very subtle Dutch disease effect" that made factory jobs less attractive and less profitable.
"There is no doubt that in the first 30 years because of the policies we followed, closing ourselves from trade, stifling the domestic private sector, not investing in enough in agriculture, not investing in primary education, we had a situation of very low growth and very little structural transformation in the sense that manufacturing was very small," Subramanian said when asked why India's structural transformation was still incomplete.
The former CEA was discussing his new book -- A Sixth of Humanity: Independent India's Development Odyssey, co-authored with political economist Devesh Kapur -- with Business Today Group Editor Siddharth Zarabi and Rajdeep Sardesai.
Subramanian said the real puzzle is not the first three decades - when India stymied all kinds of economic activity - but the period between 1980 and 2015, when India was among the world's fastest-growing economies. "Between 1980 and about 2015, we were amongst the top seven or eight fastest-growing countries in the world. So, the puzzle is why, in that period, did we not get the structural transformation?"
He attributed this to several reinforcing factors. The first, he said, was India's failure to generate an agricultural productivity surge comparable to Japan, Korea, Taiwan, or China. "That increase in agricultural productivity at that scale and pace did not happen in India. So, we were never able to produce the kind of incomes and surpluses that would then create demand for labor-intensive manufacturing in India."
The second was India's regulatory environment, summarised in the book through the idea of "midgets making widgets." Subramanian said, "Too often, the question we say - our labor laws make firms remain small. But the big puzzle is, it's not that we haven't had big firms. We do have reasonably big firms, but we don't have enough of them. And we don't have them of even bigger sizes."
He then returned to what he described as the most underappreciated explanation: Dutch disease caused not by oil, but by India's own success in services and the size of government employment. "There were two sectors that dampened the impact on manufacturing. One is when the services sector started doing very well, it did have an impact on manufacturing. The second, maybe as important, is the Government in India, which is a very big employer."
According to him, high government wages distort the labour market for factory jobs. "Wages at the lower end of the spectrum in manufacturing are related to government wages. The government is the competing option, and wages in the government sector are very very high, especially at the lower end. So, the kind of supply to manufacturing of low-skill labor is affected by that."
He pointed to another channel: the millions of young Indians preparing for government exams. "How many people write the exam for the civil services, and they stay out of the labor force for a long time and therefore again the labor supply to manufacturing is affected."
Subramanian said the combined effect is powerful. "So, to cut a long story short, there's this very subtle Dutch disease effect which comes from both services and the government sector, making both manufacturing unprofitable and also not desirable as employment opportunities."