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Unpacking the Motives of Neo-liberal Regimes

D Narasimha Reddy ( is a former professor of economics, University of Hyderabad, Hyderabad.

Labour Law Reforms in India: All in the Name of Jobs by Anamitra Roychowdhury, Oxon and New York: Routledge, 2018, pp xxii + 313, ₹ 1,095 (hardcover).


The economic reforms that unfolded under the neo-liberal regime in India, as elsewhere, have been premised on a number of postulates. These include the postulate that: any intervention in the free operation of the markets would distort resource allocation resulting in inefficiency, and thus act as disincentive to investment and affect growth of output and employment. Therefore, the dismantling of the regulatory regime assumes instrumental primacy. In the case of the labour market, the prevalence of too many labour laws, even though most of them are confined to the organised sector, have been seen as an obstacle to competition and efficiency resulting and translating into disincentives for growth of investment and employment. The Second National Labour Commission’s (2002) recommendation for rationalisation of labour laws, including retrenchment, and lay-offs of workers and closure of units by suitable compensation, to facilitate labour market flexibility gave credence to this approach.

For almost two decades, ever since the labour law reforms were brought on the policy agenda of successive governments, there have been a number of empirical studies, examining the veracity of the argument for labour market flexibility. In spite of the gestalt that implies the shift in labour laws, there have hardly been any attempts to examine the nature of the theoretical underminings of these reforms. That gap is sought to be filled by the book under review, Labour Law ­Reforms in India: All in the Name of Jobs by Anamitra Roychowdhury. One of the stated main objectives of the book is to study the logical consistency of the theoretical framework and empirical underpinnings underlying labour market flexibility. It begins with a thorough analysis of the current status of legal provisioning relating to labour, and the main proposals put forward in the labour market flexibility (LMF) debate for rationalising labour laws in India, followed by an extensive review of the debate on LMF which has been mostly in empirical terms. It then turns to critical examination of the theoretical framework underlying the arguments for LMF and their internal consistency. Towards the end it shows not only how the results suggested by the neoclassical theoretical underpinnings are logically inconsistent and invalid, but also how factoring in autonomous role played by effective demand could explain unemployment.

India has an estimated 45 central and 170 state laws broadly relating to industrial relations, wages and social security. However, most of these apply to the organised sector. Of these several laws, the ones that are relevant to the question of labour flexibility relate to industrial relations and two of the laws, namely the Industrial Disputes Act, 1947 and the Contract Labour (Regulation and Abolition) Act, 1970 have become the focus of debate. Chapter 1 discusses in detail the changes, proposed as well as some already effective, in the name of rationalisation that would bring about LMF. A few of the proposed changes discussed include the Labour Code on the Industrial Relations Bill, 2015, which aims at amalgamating critical industrial relations, legislations to raise the size of the units that require to seek state permission for closure, retrench­ment or lay-offs (Industrial Disputes Act, Chapter VB) from 100 workers to 300, and the Factories (Amendment) Bill, 2016 to raise applicability of the act to units from those employing 10 workers and using power, and 20 workers without using power, to 20 workers in the case of the former and 40 workers in the case of the latter. The latter would take out an estimated 70% of units from the coverage of the Factories Act. The freedom held out to the states to amend some of the labour laws under the proposed Labour Code was utilised with alacrity by those like Rajasthan and Madhya Pradesh. The brief but graphic description of the changes in some of the labour laws towards achieving flexibility in the name of ensuring competitiveness, and more investment and employment forms the background for the empirical and theoretical analysis that follow.

Ever since the neo-liberal regime took over firmly, there has been a persistent argument that labour laws in India are at the root of labour market rigidity which in turn restricts growth of employment. There has been a wider debate on the issue essentially in the typical institutional framework that has generated a large number of empirical studies contesting this proposition. Chapter 2 is devoted to critically scrutinising the claims in favour of undertaking reforms towards labour market flexibility in India by pooling together the extensive empirical studies. This chapter which occupies almost one-fourth of the book, with substantial empirical evidence and detailed notes, systematically denies each of the claims made for LMF in India. In the debate, job security regulation (JSR), that is, Chapter VB of the Industrial Disputes Act, has been singled out as the root cause of the problem. The author classifies the literature proposing labour flexibility into two strands and musters evidence as to how every argument in each of these strands does not stand empirical scrutiny.

Variety of Arguments

One strand of literature argues that rigid implementation of labour laws or what is referred to as JSR is the main reason behind not only the employment downturn during the 1980s in the organised manufacturing sector, but also for the small size of units (missing middle), sub-contracting to smaller firms and employers’ preference for contract labour. Therefore, the prescription was to ­rationalise the public sector or privatise public sector units. The author’s evidence counters these arguments.

First, since the JSR covered only 35% of the organised sector workers, the small size cannot be attributed to it. Second, it is shown that employment flexibility was more in evidence in units covered by JSR than in those units not covered. Third, employers’ subcontracting to smaller firms was not to escape labour laws, but to take advantage of cheap labour. And similarly, employers’ preference for contract labour was not because of JSR, but the wage difference. Since the private sector was responsible for not creating quality employment, merely privatising public sector units would not automatically usher in more efficiency. The book engages with the second strand of arguments in favour of LMF which claimed that rapid real wage growth was the primary reason for employment downturn in 1990s. But, the available evidence questions such models and assumptions. First, the author draws attention to the literature pointing out that the proponents of the second strand of arguments confused wage rates and earnings per worker, which meant that the so-called rise in wages was not due to increase in “wage rates,” but in the period worked. Second, during the period under reference there was a significant positive association between output and employment growth in units governed by labour laws, and no such association in segments not covered by labour laws.

Chapter 3 attempts to answer the question: if labour regulation and rising wages do not explain “jobless growth,” what is behind the phenomenon of jobless growth in 1980s and later? The two-part analysis looks into, first, the nature of technological progress, and second, the labour militancy or labour power as proxy for rigidity of labour market. The available evidence presented in this chapter shows that the proportion of “functional trade unions” (unions submitting returns) to registered unions has steadily been on the decline from 25% in the mid-1980s to 10% in 2008–09. In general, trade unions in the organised sector were on the decline. The number of lockouts rose until the late 1990s, but declined thereafter and the decline in strikes was more than that in lockouts. Person-days lost due to strikes or per strike were less than those lost due to lockouts or per lockout, and overall person-days lost due to strikes and lockouts—an indicator of industrial unrest—were on the decline. This was also mirrored in the decline in labour absenteeism. The real wages of workers in the organised manufacturing sector were less by the mid-2000s compared to the mid-1990s. The author argues that there was no way that labour militancy or labour market rigidity could be seen as the source of “jobless growth.”

The author’s evidence points to a sharp rise in labour productivity as well as productivity of capital due to upgraded technology. Therefore, it was labour-saving technological progress, and not rising cost of labour, that was at the root of jobless growth. Thus, Chapters 2 and 3 show that empirical evidence for implementing LMF was on shaky ground. These chapters also help buttress the otherwise familiar but scattered empirical arguments that deny labour regulation as the source of high wages and of lack of growth of employment in the organised sector. The significant original contribution of the book, however, lies in the chapters that follow—in identifying and critically engaging with the theoretical structure underlying labour market flexibility—a task that was not attempted earlier.

Theoretical Structure

It may appear rather odd to move from empirics to theory (after scrutiny of empirical evidence for the proposition of LMF which was found to be shaky) to scrutinise the theoretical underpinnings of the same. However, the intention seems to be one of moving from the familiar to the unfamiliar, that would facilitate better attention of the reader and smoother explanation by the author. The theoretical basis for LMF begins with the identification of two strands, one that zeroes in on “labour turnover costs” (LTCs) and the other, the so-called “insider–outsider” theory of employment and unemployment. The theoretical explanation in terms of “labour turnover costs” is based on the works in the early 1990s of Fallon and Lucas which were “extremely influential” in the Indian context (pp 144–49). They argue that broadly JSR acts as
impediment to employment growth by enhancing the bargaining power of the labour that in turn raises wages and thus labour turnover costs. They also suggest that workers appropriate part of the returns to capital thus discouraging investment and growth of employment and hence the need for LMF to promote growth and employment.

However, the focus of the discussion on the theoretical basis for LMF is on the second strand, namely the insider–outsider theory, and a substantial part of the chapter is devoted to two contributions: one in the form of a series of articles in the late 1980s by Assar Lindbeck and Dennis J Snower (1987, 1988), and the other by Robert Solow (1985). Lindbeck and Snower originally designed the insider–outsider theory to study the employment stagnation in European labour markets in the 1980s, but they generalised its application to developing economies like India to recommend policies of free hire and fire for labour markets. The author engages in extensive critical analysis of their theory (pp 149–65). Lindbeck and Snower “draw attention to one critical source of labour market power enjoyed by incumbent (insider) workers,” namely LTCs and the insiders utilise LTCs in their own favour without taking into account the interests of unemployed outsiders and thereby generate involuntary unemployment. The insider wage is positively related to the magnitude of LTCs, and a rise in insider wage (with a rent-like premium because of their power enjoyed by the job security legislation like the one under Industrial Disputes Act) leads to a rise in the level of unemployment. Thus, “like all neoclassical explanations of involuntary unemployment, insider–outsider theory tries to provide an answer solely based on the labour market and quite predictably explains it through rigid real wages set above the market clearing level” (p 151).

The upshot of the insider–outsider theory is a set of recommendations in the name of “structural labour market policies” of two kinds. One set of “power ­reducing policies” diminish the power of insider by dismantling job security regulations, reducing severance pay or simply firing and legislation to reduce union power by legal restrictions on strikes and picketing. The other set of “enfranchisement policies” increase “outsider” power that enfranchises them in wage negotiation and helps to reduce the labour costs of hiring outsiders with an apprentice system that would lengthen the critical period.

The insider–outsider theory assumes that JSR extends to all sectors of the economy. If there are two segments in an economy, one segment covered by JSR and the other not covered by the legislation, then competition in non-JSR would result in full-employment. Besides being a closed model, the critical discussion of the insider–outsider theory exposes the restrictive assumptions often turning out to be logically inconsistent. Turning to the other insider–outsider theory, the one by Solow (1985) with an inter-temporal approach, the author contests the assumptions and the logical inconsistency of the theory. Solow’s theory suggests that insiders’ activity negates the possibility of hiring outsiders, hence the employment opportunities of outsiders, and thus resulting in persistence of unemployment. But, these are based on several unrealistic assumptions like one which argues that in an inter-temporal context hiring of workers is only in the first period, but not in the second, and that firms can lay off workers but cannot replace them by drawing from the large reserve army. Further, it is pointed out that Solow’s proposition of unemployment cannot be explained if firms can replace existing (insiders) workers by newly trained ones or by new firms that come in. The sum and substance of the critical discussion on the theories underlying the policy proposals for LMF demonstrates their flawed nature.

Game Theory Approach

Chapter 5 analyses the market clearing models on labour market flexibility with the focus on two contributions—Basu (2007) and Basu et al (2009)—with a game theoretic approach to labour market flexibility with skill differentials. These models assume away involuntary unemployment and rely on full wage flexibility and voluntary signing of contracts between workers and owners. These theories assess workers’ welfare in terms of equilibrium wages under two situations, lay-offs and non-lay-offs. They try to show that enabling retrenchment and lay-offs (read removing Part VB of Industrial Disputes Act) may result in larger employment and higher wages in the equilibrium. The entire Chapter 5 (pp 190–237) is devoted to contest the unrealistic and mythical nature of the assumptions and the models. Reading through the critical appraisal of these two sets of theories (Chapters 4 and 5) underpinning LMF, one cannot but recall Hicks’ observation that “there is much economic theory which is pursued for no better reason than its intellectual attraction; it is a good game” (Hicks quoted in Hutchison 1984: 14). The only difference in the case in point is that some of these games may end up in social disaster, if they are to serve as a basis for policymaking!

The author of the book goes on to explain as to what really is the restraining force behind employment growth, and brings into focus the constraint of effective demand. He proposes a simple model and shows how “in an imperfectly competitive set up, that real wages and employment (contrary to orthodox claim) are actually positively related when effective demand is introduced in the picture.” He goes on to show how even in an open economy model the ­arguments for LMF turn invalid. And concludes that

in the world we live in, where effective demand has an autonomous role to play, there is no theoretical justification to carry out LMF to augment employment. In fact, LMF is harmful for both organised and unorganised sector workers in terms of employment creation. Hence, neither empirical evidence (Chapter 2) nor theoretical arguments (Chapters 3, 4 and 5) support any justification for making the labour market flexible. (p 255).

The title of the book could be misleading. It is not about labour legislation in legal terms, but a substantive contribution to the basic economic theory and consolidated evidence that systematically deconstructs and exposes the neoclassical theoretical premises of a critical policy domain of the neo-liberal regime. It is an ideal, though challenging model for any ambitious PhD student to follow. It is a must-read for all scholars and policymakers engaged in uncoding the nature and motive of neo-liberal policy regimes.


Basu, Kaushik (2007): “Labour Laws and Labour Welfare in the Context of the Indian Experience,” Collected Papers in Theoretical Economics, Kaushik Basu (ed), Vol III, Oxford: Oxford University Press.

Basu, Kaushik, Gary S Fields and Shub Debgupta (2009): “Labour Retrenchment Laws and Their Effect on Wages and Employment: A Theoretical Investigation,” New and Enduring Themes in Development Economics, Bhaskar Dutta, Tridip Ray and E Somanathan (eds), Singapore: World Scientific Publishers.

Hutchison, Terence (1984): “The Methodological Crisis,” Economics in Disarray, Peter Wiles and Guy Routh (eds), Oxford: Basil Blackwell.

Lindbeck, Assar and Dennis J Snower (1987): “Efficiency Wages versus Insider and Outsiders,” European Economic Review, Vol 31, Nos 1–2, pp 407–16.

— (1988): The Insider-Outsider Theory of Employment, London: M T Press.

Solow, Robert M (1985): “Insider and Outsiders in Wage Determination,” Scandinavian Journal of Economics, Vol 87, No 2, pp 411–28.

Updated On : 13th Aug, 2019


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