India’s informal economy

Discussions on the need for labour reform in India, recharged by recent decisions

of the Rajasthan state government and the central cabinet, focus on the need to deal

with the inflexibilities resulting from the application of the Factories Act. Too

much of Indian manufacturing, it is argued, falls in the category of units

subject to that Act, which employ 10 workers or more if functioning with the

aid of power or 20 workers or more when functioning without the aid of

power. This is seen as a reason to shift the definitional boundary, as is being

done in Rajasthan to 20 workers with power and 40 without, so that more of

Indian manufacturing is exempted from meeting the regulatory provisions

of the Act, including those on the terms and conditions of employment.

However, evidence on the issue coming from reports based on the periodic

employment and unemployment surveys (EUS) conducted by the National

Sample Survey Organisation suggests that only a small share of employment

is in the organised sector so defined. The most recent is the just released report on

the “Informal Sector and Conditions of Employment in India” based on the

employment and unemployment survey conducted in the 68th round of the NSS

during July 2011 to June 2012.

The NSS adopts a definition of the “informal sector” which, in the case of

manufacturing, is very different from the residual sector excluded from the

statutory definition of the organised manufacturing sector. The report

identifies the informal sector as consisting of proprietary and partnership

enterprises (excluding those run by non-corporate entities such as

cooperatives, trusts and non-profit institutions), in the non-agricultural

sector and in agriculture-related activities excluding crop production

(AGEGC).

Besides the diversification of economic activity away from agriculture, modern economic

growth would be accompanied by an increase in the size of non-agricultural enterprises

and a growing role for impersonal forms of organisation (such as the joint-stock

company).

Using this definition of the informal sector, the EUS for 2011-12 estimated employment

in the informal component to be about 75 per cent of total usual status

employment (principal and subsidiary) in the rural areas and 69 per cent in

urban areas. The non-agriculture and AGEGC sectors themselves accounted for 41 per

cent and 95 per cent of total employment. The figures for informal employment

are likely to be even larger because enterprises identified as “employer’s

households”, which account for employment like the provision of domestic services,

are excluded from the definition of the informal sector.

This implies that an overwhelming share of non-agricultural employment is in

the “informal sector”.

The fact that sectors like trade and construction are important contributors to

the unorganised sector and to informal employment is of significance, given the

argument that it is regulation that is responsible the proliferation of

unorganised units and informal employment. The really stringent form of size-

based regulation applies to the manufacturing sector, in which units that meet the

criteria set by the Factories Act, 1948 need to register themselves and be

subject to factory legislation. This legal distinction does not apply to non-

agricultural sectors outside manufacturing.

Between 2004-05 and 2011-12, total employment in the country rose from

457.9 million to 472.4 million. Over the same period employment in the

organised, non-agricultural sector, defined to include all units with 10 or

more workers if using power and 20 or more workers if not using power,

rose from 28.8 million to 47.7 million, whereas employment in the

unorganised sector rose from 185.4 million to 209.6 million. That is

organised sector employment stood at 6.3 per cent and 10.1 per cent

respectively of total employment in 2004-05 and 2011-12. In absolute terms

there were more who joined the unorganised sector’s workforce than the

number who entered the organised sector between the two years. Even in

2011-12, as much as 86 per cent of workers in the private sector and 50 per cent in the

public sector were in units that could be designated as unorganised based on

employment size.

In fact, a useful exercise is to rely on the unit level data from NSS surveys and

consider the proportion of employment where any one of three features—

written contract, provision of social security (pension etc) and eligibility for

paid leave—is present as indicative of employment being ‘formal’. Let us also

separate out the organized and unorganized sectors in terms of the employment-size

based definition referred to above. The results are striking. It emerges that 25.6 per

cent of employment in the “unorganized” public sector and 23 per cent of

employment in the organized public sector is “informal”, whereas 94.5 per

cent of unorganized and 54.3 per cent of organized employment in the

private sector is informal in nature. Thus, when approached from the employment

side non-formal employment still constitutes an overwhelmingly large proportion of

employment outside of crop production in India. This questions the grounds on

which the need for labour reform is often defended.