By Dhanusha Pathirana –

Dhanusha Pathirana

Calibration of the Industrial Structure to enable the Absorption of Spatially Immobile Rural Labour Surplus

The structure of labour supply discussed in section II in the context of the Sri Lankan economy was also largely the inner dynamic of the organisation of labour, shared by the three model economies under review; namely Japan, South Korea and Taiwan. The strategy adopted by these economies to absorb the spatially immobile rural labour surplus to manufacturing industry was to expand small scale industries in rural areas through a system of subcontracting with vertical inter-firm linkages making it possible for a smooth transfer of labour from agriculture to industry without a geographical shift in the labour force. This exceptional technique adopted by the East Asian states to transfer rural labour surplus from agriculture to industry solved the problem of sectoral and geographical immobility of rural labour and was achieved without a fall in the output of agriculture (see Ranis and Fei, Japanese Agricultural Development’, 1967). The process was mediated by establishing subcontracting linkages between large-scale firms situated in towns engaged in capital intensive assembly work and SMEs based in rural areas absorbing the labour surplus of agriculture to produce the component parts required by the large-scale enterprises. The production of the component parts in the lights of automotive parts and components, machinery, electrical equipment, computers, computer parts and accessories, metalworking was farmed out to a rural network of small and medium scale industries by the large scale assembly firms situated in the towns.

The central phenomenon to be noted in this regard is that the production of advanced, semi-advanced and simple component parts under the small scale production framework was made possible by the breaking up of the production process of a particular product into multitude of simpler production processes. This is quite the antithetical form of factor organisation in relation to the centralized industrial networks found in advanced Western economies. This means to say that the key organisational feature in East Asian industrial development is that the production of a particular good was divided into multitude of products and into mutually independent production process to simplify the production process. This on one hand allowed the production of advanced parts and components based on the small and medium scale organisation of the production network and on the other hand, enabled the transfer of rural labour surplus that is spatially immobile, from agriculture to industry. This further division of the production process of a particular component part into several production processes hence, enabled the penetration of industrial production into rural areas. It enabled the production to be carried out based on small scale production units, which in turn made it possible to absorb the rural labour surplus that was spatially immobile and geographically dispersed in an uneven manner within the rural limits. The spatial immobility of the rural labour surplus is stemming from the particular nature of labour deployment in East Asia’s predominantly paddy based agriculture, as discussed earlier in section II with respect to Sri Lanka.

Arthur Lewis’ development model (Economic Development with Unlimited Supplies of Labour),  which is accepted as the standard development model for an underdeveloped economy, states that the crucial prerequisite for industrial development of an underdeveloped economy is the prevalence of an inelastic (unlimited) supply of labour from agriculture to industry at the existing wage rate. Hence, the model presupposes the existence of a rural labour surplus within underdeveloped economies and its complete inter-sectoral mobility, which does not in any way reflect the labour market conditions in South and East Asian economies in general. In the case of East Asia the absence of spatially mobile rural labour surplus, which prevents an inelastic labour supply to be deployed in industrial expansion at the existing wage rate was surmounted by remodeling the entire production structure of industry under the guidance of the state, which is in form and content, antithetical to the large scale production organisation and complex technological application found in advanced Western economies. The remodeling of factor proportions of the industrial sector in East Asia in comparison with advanced Western economies enables the transfer of spatially immobile rural labour surplus from agriculture to industry at the existing low wage rates without causing a geographical shift of labour and without causing a drop in the output of agriculture.

This on one hand simplified the production process and reduced the requirement of state of the art technology to proceed production, reduced the scale of initial fixed capital investment required and the level of dexterity of labour required. Hence, the problem of lack of access to advanced technology, scarcity of capital and the shortage of skilled labour was undermined to a great extent enabling the production process to operate on a cheaper source of production factors. On the other hand, the wage rates in rural industry in East Asia were lower compared to the West given that a transfer margin on wages was not required due to the absence of physical relocation of labour from rural to urban areas to cause the shift of rural labour surplus from agriculture to industry. Hence, the industrial output of East Asia had a cost advantage derived from the specific organisational structure of production. Industrial sector was based on rural small and medium scale manufacturing firms relying on the rural labour surplus that was spatially immobile and hence could not be utilised by any other form of factor deployment. Industrial products of East Asia in its turn became capable of successfully competing and even to outstrip the advanced Western economies in world trade, a phenomenon that marked its world significance since the inception of the last quarter of the twentieth century.

The division of a single production process into several production processes which is the central inner dynamic of SME based industrial development in East Asia should be distinguished from the theoretical concept of specialisation and division of labour which involves breaking up of the production process into multitude of production process with the aim of incorporating more advanced form of technology use in production and exploitation of economies of large scale production. Conversely, the division of a single production process into several production processes in East Asian industrialisation was carried out with quite the opposite intension. That is to simplify an advanced production process and hence limit the use of state of the art technology in production and on the other hand to exploit economies of small scale production. This technological and locational dualism in the industrial development of East Asia was a key feature that continues to stamp its economic significance. This is firmly reflected by the significantly large share of manufacturing employment accounted for by the rural SMEs in East Asia; by 1996 rural SMEs accounted for 71.9% of Japan’s manufacturing employment, 69.2% of South Korea’s and as much as 79% of Taiwan’s (Source: 2005 JICP Publication, Mitsuhiro Hayashi). This also points to a clear path of industrial organisation and development that could be adopted by Sri Lanka which is in essence contrary to the ‘sustainable growth paths’ suggested by our economists.

Structure and Role of Foreign Investments in East Asian Industrialisation

Within this particular structure of East Asian industrial development did foreign investment play a progressive role and what was the structural disposition of its operations? Did it differ from the form adopted by domestic industry and what was the nature of association between foreign production factors and the domestic economy in East Asia? The antithetical nature between the industrial organisation of East Asia and advanced Western economies explained earlier would provide us a clear view in this regard. The application of Western technology and their use of scientific insight within the production processes did not suite the specific structure of rural labour organisation in East Asia discussed earlier and hence Western industrial knowledge had to be adapted and changed rather than directly imported in a way which facilitate the absorption of rural labour surplus of Asian NICs into the domestic industrial sector. The learning and adaptation process of Western industrial technology was a long drawn out process which was carried out under direct involvement and guidance of the state and was not a function of the market mechanism.

The conceptual position that arises from the above observations is that during the initial stages of East Asian industrialisation, it was comparatively advantageous for the advanced Western economies to produce within respective home economies and export the produce to East Asia rather than shifting the entire production networks in the form of cross-border direct investments to East Asia with the hope of gaining ‘locational’ advantage on factor pricing (especially that of labour) and consumer markets. This is so given that Western industrialists would find it comparatively competitive to produce using large scale production techniques in home economies and would be at a comparative disadvantage to alter technologies designed for large scale production to suite the labour market conditions in East Asia. Hence, the Western producers preferred to export to East Asia rather than bring in cross-border industrial investments to the latter economies. This is to say that foreign investments would not have industrialised East Asia and contributed to the initial phase of its industrial transformation which was grounded on a sharply different structural model of domestic capital formation compared to the framework developed by Western industries.

This is further illustrated by the fact that FDIs received by East Asian economies starting between late 1960’s and early 1970’s were mainly to that of the large scale assembling operations located in the towns and were dependent on the local small and medium scale supplier firms based in rural areas to obtain the component parts for assembly (see for instance Odaka. K,’Is the Division of Labour Limitted by the Extent of the Market? A Study of Automobile Parts Production in East and Southeast Asia’ 1985). The foreign investments did not make use of the rural labour surplus directly but utlised the latter’s output for assembly work.

The first phenomenon to be noted in this regard is that industrialisation of the rural areas in East Asia based on domestic investments under the guidance of the state developed a network of small and medium scale industries that were capable of supplying the demands of the large scale foreign firms geared towards assembling. This enabled the direct foreign investments to indirectly exploit factor pricing in East Asian economies which was not achievable by relying on foreign direct investments given the antithetical nature between factor organisation of foreign and domestic producers due to the reasons cited earlier. This is to say that cross border flow of manufacturing investments are determined not only by comparative factor pricing, tax policy or consumer markets, absence or prevalence of corruption, but moreover by the degree of industrial development led by local investments of the host economy which enables the manufacturing type foreign investments to take root in the host economy. If factor pricing holds the key in cross-border manufacturing investments then Africa which would posses one of world’s cheapest workforces may receive the highest volume of manufacturing FDIs.

In this light the other key aspect to be noted is that FDI only flew into assembly work which had no transformative effect on the East Asian economy through technology transfer. The advanced components of the production processes that employ scientific and technological insight in the production processes were imported from home economies or the industrially developed economies while simpler labour intensive products were purchased from domestic producers, retaining the production of advanced product categories which provide access to higher and continuously rising real wages to the traditionally advanced regions of the world. This is to say that contrary to what is commonly held, the role of foreign investments in the technological advancement in East Asian economies is insignificant and the domestic investments under state’s governance was the critical factor which guided the transformation of the East Asian economies.

Hence, our economists’ claim that FDIs is the sole source of technological and organizational skill to an underdeveloped economy which the domestic entities are incapable of acquiring through indigenously designed means remains to be a distorted view both when analysed with respect to the empirical development experience of East Asia and theoretical reasons emanating from the sharp regional differences in labour organisation and characteristics specific to advanced industrial investments. On the other hand, to hold that FDIs is a valuable source of capital or foreign savings to underdeveloped economies is further questionable given that for instance, the localization policy adopted by East Asian economies which required 50% of the component parts assembled by foreign firms to be produced by local producers was adopted because FDIs in the form of assembly operations worsened the trade deficit figures in the balance of payments of host economies. This was due to their high import content of component parts intended for assembling and low reinvestments of incomes due to repatriations of profits and salaries, which also bear a resemblance to the effects of FDIs in Sri Lanka. This is to say that FDIs had virtually no progressive effect on the industrialisation process of East Asia and the latter was orchestrated by domestic capital formation organized under the planned measures of the state.

Is Domestic Capital Endowment Inadequate? The Need for FDIs as Envisaged by Economists

The high degree of importance assigned to the growing volume of FDIs by our economists also implies that Sri Lanka’s domestic capital availability is currently insufficient due to inadequate domestic savings. A little reflection on the pattern of Sri Lanka’s domestic resource allocation should demonstrate the credibility of this view. Is it economically sensible to assert that inadequacy of domestic savings or, scarcity of domestic capital is holding back the development process and therefore, an increasing flow of foreign capital remains ‘imperative’? Rather than an absolute deficiency, is there an utter waste of domestic savings at the point where it comes into contact with rest of the production factors? What’s the rational in seeking foreign investments when the existing volume of domestic resources is employed in spheres of which productivity remains glaringly low? The sharp increase in imports of high cost vehicles together with a gamut of other nonessential luxury and semi luxury imports demonstrates this clearly. The question to be asked is who consumes them? Is it the plantation or the garment workers? Is it the families of the migrant workers or the capitalists and the upper middle classes who are least involved in the generation of economy’s foreign exchange accruals?

It is in fact apparent that economy’s foreign exchange accruals exhausted on consumer imports of luxury nature are nevertheless generated by a class of people who rarely consume them. The house maids, plantation and garment workers generate bulk of the economy’s foreign exchange income while it is consumed least by them. This means to say that important impediment for economic development is not scarcity of domestic or foreign capital, but is nurtured by an “overdevelopment” of wants for luxury imports relative to the degree of productivity of the capitalist class and the upper middle classes of the economy, and hence wasteful consumption of the latter. This in turn dissipates the economy’s available savings and foreign exchange required for industrial expansion, and the extent of this waste is many more times larger than the waste involved in the public sphere. The capitalist class, rather than productively deploying the foreign incomes generated by the migrant workers, plantation and garment workers and the rest of the economy to say the least are squandering it on consumption such as luxury and semi-luxury imports, foreign trips, entertainment, etc., hence proving to be the sentinel of underdevelopment. They are of course more or less unaware of the special protagonist role they play in continuing this process and the socio-economic predicament they instigate. The state currently is playing the role of the facilitator to this scheme of things by attending to the interests of the capitalist class and at the same time attempts to maintain its rural vote base by increasing subsidies and handouts to the peasantry on one hand and by running the state’s propaganda machine at full speed on the other.

Nevertheless, this is to say that the daunting obstacle for development is set forth by the prevailing pattern of resource usage of the domestic capitalist class and the state rather than by an absolute scarcity of domestic savings, which leads to an absence of capitalism in the presence of capitalists. As explained earlier, the industrial development of the East Asians and industrial capitalist class of the Western Europe during the initial and later in more critical phases of development were a highly frugal class of entrepreneurs in contrast to the sterile and counterproductive capitalist classes infesting the underdeveloped regions. However, the wasteful spending in underdeveloped economies are nevertheless maintaining profits and employment to a certain degree (for example workers engaged in trade, finance, government projects, massage parlours, drug trade, etc.,) indicating that profits and employment are assisted by the growth in economic waste. This is a phenomenon peculiar to underdeveloped economies as opposed to directing resources away from wasteful usage and optimization in industrial capitalism.

This does not rule out the role of foreign investments in promoting development of the domestic economy. It implies that the central task confronting Sri Lanka’s economy is finding practical means to shift production factors from less productive to more productive sectors at the expense of the former, resulting in an expansion of the more productive sector at the expense of the less productive. In this light, it would be critical to integrate foreign investments with domestic production factors, being in line with the above scheme of capital formation. Addressing foreign investments in terms of its qualitative aspects needs to be prioritised rather than promoting a mere quantitative expansion.

It would be important to underpin in this regard that the mechanisation of the production structure of the economy which marks the central task in shifting resources from unproductive to productive activity, raises the composition of technical and scientific labour in the workforce. This is so given that the profit system in advanced capitalist regions demands scientifically and technically equipped persons to dominate the composition of the workforce and incessantly increase its share for the profit system to expand itself, and in the process repulses the unskilled. Further, it weaves the process of upward social mobility into the fabric of the capitalist system and its expansion (a main facet that sets capitalism apart from feudalism) and hence the absence of this dynamism in underdeveloped regions like Sri Lanka would mean that upward social mobility becomes an infrequent occurrence in underdeveloped economies relative to the first world. This also means to say that the law of capitalist expansion bears the tendency to raise wages in tandem with profits while reducing the supply price of the economy, simultaneously. Hence, it improves its competitive prowess while raising the well being of both capitalist and the worker. That is to say that development of industrial capitalism reduces supply price of consumer goods and production costs while simultaneously increasing factor incomes of the economy, a distinct trait of capitalism that is strictly alien to underdeveloped economies. On the contrary, rising internal price levels coupled with stagnant or falling real wages in general remains the back bone of profit maximization in underdeveloped regions.

On the other hand, in terms of production relations, capitalist development permeates a strong desire to probe and explore into the general consciousness of the society and hence a sense of openness and liberalism and releases them from the chains of tradition, which is evident by the experience of Western Europe, North America and the Asian NICs. For instance, the economics students in universities of Harvard and Manchester argue against their own curriculums citing its lack of insight to grapple the current developments of the world economy and that the curriculum is too biased towards free market economics. This kind of keenness towards subject matter is seldom witnessed in university students as a whole in Sri Lanka who protest against logistics matters and are comfortable with absorbing whatever that is taught and succeed exams, rather than advancing the height of understanding.