Skill mismatches in Indian labor market: policy priorities & challenges ahead.

AuthorChowdhury, Sahana Roy
PositionBy Invitation


Indian economy witnessed quite a varied phase of growth and a mixed sectoral performance prior to the structural reforms. Growth scenario changed remarkably just before the 2007-08 recessions placing India amongst the fastest growing emerging economies in the world. However, a closer look on its sectoral distribution suggests that the main driving force has been the 'service sector' which constitutes a major share (54.1%) of GDP although a lower share (24%) in terms of work force participation. While agriculture (primary sector) has been incapable of creating any 'productive employment' (1) manufacturing (secondary sector) showed a staggering growth; its contribution of 16% in real GDP as in FY2012 was well below the targeted level and abysmal in comparison with other emerging economies (Fig. 1a). Closer investigation reveals that within manufacturing stark differences exist in terms of performance efficiency: labor intensive industries are found to be less efficient (Fig. 1b & Fig. 1c). Such sectoral composition of growth and employment points towards India's inability to create a balanced mix of 'employment' and 'quality employment', quality measured--broadly--in terms of productivity contribution.

Employment in typical labor intensive sectors has tilted significantly in recent times. Employment elasticity in the first half of the decade 2000-2010 has changed from positive (0.76) to negative (-0.31) with a more pronounced decline in labor intensive manufacturing, which inter alia, points towards 'absence of skilled manpower' prompting substitution of labor. This was also mentioned in the Manufacturing Plan of 12th Five Year Plan prepared by the Planning Commission. Thus the concern is that, even for the sector that has been labor absorbing so far, if the workforce lacks quality quite persistently, it is bound to impact the employment generating potential of that sector in the medium run. Concerns were also raised on the 'sustainability of competitiveness' of India's highly remunerative IT sector owing to the abysmally low-skilled manpower in comparison with its ever growing need. Besides, within the service sub-sectors, lack of any direct relation between share of services income (implying productivity gaps) and that of employment has a direct policy implication of prioritizing employment quality improvement in low-end services (2).

In order to make growth 'sustainable' proper identification of skilling techniques for the laggard sectors that have high absorptive capacity is crucial. On the other hand, to make growth 'inclusive' expanding employment base in the sectors that have less absorptive capacity but higher productivity, is essential. Thus, to embark on a sustainable, balanced and inclusive growth path policies need to target improving allocative (labor) efficiency. This encompasses creating incentives for a balanced mix of 'quantity and quality' in the employment base, in sync with the characteristics of our expanding labor force and simultaneously designing sector-specific skilling mechanisms to mitigate 'skill mismatches'.

Skill Mismatches

Persistent skill gaps and mismatches in the labor market lead to longer term joblessness, persistent productivity gaps between high and low-skilled jobs and polarization of incomes of high and low-skilled workers which is, undoubtedly, a major equity concern. Hence it is crucial to understand what we mean by existence of skill mismatch in the labor market and its measure. However, there is no simplistic way to define it. Skills are primarily thought to improve worker's productivity (Becker's view on human capital) but Schultz/Nelson-Phelps define skills from a much broader and dynamic perspective as the 'capacity to adapt with changing environment and needs'. Thus the absolute level of workers' skill might be high enough in a country/region in spite of that it falls short of the growing needs of the job market on retaining competitive advantages. On the other hand, the average level of workers' skill might be high enough but that in aggregate falls short of the job market demand, implying some sectors fall short of the skills demanded while some sectors have excess of skills than what is required (3); obviously, skills are either underpaid or underemployed in this case. Fundamentally, two interactive forces are responsible for these labor market distortions:

  1. Job-market is not incentivized to generate human resources required: laborers do not meet the skill demanded by the employers and there is lack of economic incentive to train the less skilled and make them adaptive in the job market.

  2. Education system is not in sync with job-market requirements: Existence of underemployed or unemployable skills produced in the education process; wastage/misallocation of scarce resources.

Causal empiricism and anecdotal evidences show that skill shortage is a typical phenomenon of less skill intensive, labor absorbing sectors where workers have very poor literacy level and are mostly low-paid unskilled migrants; highly skilled intensive sectors also face similar challenges but for a variety of reasons: high education cost, persistent migration of highly skilled professionals on account of existing wide wage gaps between the destination (mostly developed world) and source region. Industries with medium skill intensity in contrast, face very different challenges. Diagrammatically skill mismatches in industries with varying skill intensity can be depicted as in Fig.2a

Fig.2b provides a brief sketch of the possible policy means to smoothen education-job transition and mitigate sector specific skill mismatches.

Skills are often 'unemployable' in job market when the skill set demanded by employers is very different from what our education process supplies. Co-existence of the problem of 'unemployability' and at the same time 'skill shortages' is a typical phenomenon of 'skill mismatch' or 'allocative inefficiency' in the labor market. This can be mitigated by a combination of policies: enhanced labor market information system that facilitates reduced job-search friction and better skill-job matching, suitable incentive designing that facilitates inter-sectoral factor movement towards efficient allocation, 'skilling' the workforce in sectors that fall short of skills via 'on the job training' (incentivizing employers via subsidy). A longer term policy imperative is to complement the education process with 'job based learning' for a better fit of the skills generated in the system. Nonetheless, a minimum level of basic literacy in the labor force is indispensable even for improving their skills to match the jobs.

Identifying Skill Gaps

The 12th Plan document points out: "There is a need to ensure basic skill that is at least functional literacy and numeracy among the labor force". Though there is hardly any work on estimating skill gaps across sectors in India, a general perception on worker education profile sketches a dismal picture, and the current status of education in our labor intensive sectors is worrisome.

The 66th round of NSS (Table 1) shows that general education of over 50% of India's labor force in the age group 15-59 remains extremely low. Of the total labor force on UPSS basis about 29% are not even literate, proportion of illiterate workers is the highest in...

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