Perspectives from ISB

The Indian government is trying hard to woo the companies, who are contemplating or have received directives from their corporate headquarters, to move their operations out of China as part of the response to the Covid-19 crisis. Industry pundits and observers in India are eagerly waiting for this to unfold, to address the issues relating to widespread unemployment in the country. In this blog, we list a few reasons why this dream may be elusive at best and unachievable at worst.

1. Infrastructural issues: When companies decide to set up a manufacturing base in India, they typically look for world-class logistics and supply chain capability. There are many issues in logistics, in terms of movement of freight, in India. Logistics contribute to around 10 to 15% of the product cost in India, which is significantly higher than what it is in other developed countries like the USA or China. Our country has poor road infrastructure, which, coupled with multiple checkpoints and congestions, make road transportation inefficient. Our ports are overcrowded, leading to delays in cargo loading and unloading of ships, as well as road transport to and from the seaport, respectively for outbound and inbound freight. Due to the insufficient draft at the seaports, extremely large ships cannot berth at our ports. This limitation curbs the deployment of very large ocean carriers to/from India, which are essential to provide economies of scale for freight movement. Our rail network is over-utilized, has high tariffs, and is riddled with the perception of delays in freight movement. Hence it is not a preferred mode of transport for shippers, both domestic and foreign.
In contrast, China offers world-class infrastructure comprising of ports and highways. This, combined with access to China’s vast domestic markets, makes it a desirable choice for global companies to have their operations in China.

2. Capability constraints: While India is seen as a more innovative country than China, China offers manufacturing and supply chain capabilities in a broad spectrum of manufactured goods. The productivity of Chinese labor is higher than that of the Indian counterpart*.
While the governments of various countries have issued mandates to shift their operations out of China due to their perception that the Corona crisis that has battered the world has originated from China and that indeed China is culpable, companies are not willing to spend a lot of money to move their operations to India, especially in today’s cash-starved global economy that is witnessing the closure of many iconic large firms.
Established supply chains and production lines in China are more likely to retain the companies than has been anticipated by Indian policy makers. Moreover, one cannot underestimate the capability of the Chinese government to spring surprises in the form of hard-to-refuse incentives to foreign companies that are contemplating to shift out of China, to lure them to continue their operations in China. The same is also been pointed out by Nobel Laureate Abhijit Banerjee while talking to a news channel recently: “What happens if China depreciates its currency. In that case, Chinese products will be cheaper, and people will continue to buy their products.” If this were to happen, it would indeed be the vindication of economics trumping over emotions!
For companies who are willing to shift their manufacturing units out of China, Taiwan, and South Korea are very attractive destinations. At the low end of the spectrum, the choices include Bangladesh, Vietnam Indonesia, Philippines, and Malaysia, among others. The question for us to ponders is: “Where does India stand in this spectrum?”

3. Inconsistent Government Policies: To woo companies to shift their manufacturing units to India, the government is making land readily available. However, it is not only land availability that attracts companies to locate in a foreign country. India does not score highly on consistency of its policies as well as on several important metrics such as ease of doing business, transparency, statutory tariffs, electricity costs, etc.
India having opted out of Regional Comprehensive Economic Partnership has not sent positive signals. India has also not agreed to the terms of the free trade agreement with the European Union. Collectively, these actions paint a picture that India is building protectionist walls around it. FDI policies in India undergo frequent changes, making investors wary. It is also a known fact that India has significant issues in relation to its complex appeasement politics. Finally, there have been plenty of cases where a new government has canceled the contracts given to the companies by previous government(s).

Based on the above, it may be unrealistic to expect that India will benefit hugely from the Covid-19 crisis and the consequent anticipated exodus of companies out of China. It is more realistic to expect that these companies will opt for “China plus one” policy, going forward. What this means is that in addition to China, many companies would be actively looking for having a significant share of their operations in other countries, of which India could be one candidate. While this concept has been discussed by major global companies for many years, as a way to mitigate risks, it may now be an opportune time for the companies to make “China plus one” a reality. Additionally, companies might move inventories or relocate important components of their supply chains closer to the home markets, once again to mitigate risks. This may also become imperative given that people of many countries may, at an individual consumer level, opt to boycott China-made products. Hence it is likely that the last steps of manufacture of a product may be done closer home or in the “plus one” country.

In this background, the best that India can do is to invite companies to make their “plus one” unit in India and progressively pitch for the larger share of operations of these companies to be done out of India.


* As per the World Economic Forum: “The Human Capital Report 2017”, India’s human capital rank is 103 while China stands at 34th rank. This report ranks countries across four thematic subindexes—Capacity, Deployment, Development and Know-how—and five distinct age groups or generations—0–14 years; 15–24 years; 25–54 years; 55–64 years; and 65 years and over—to capture the full human capital potential profile of a country.

By: Astha Sharma, Senior Manager, ISB-Centre for Business Markets

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