Explaining Variation in Performance of Labour Market Institutions and Its Impact on Economic Outcomes – A Subnational Study of India, 1991-2011

Labor market reforms have emerged as a topic of great interest among policy makers, Economists and academicians ever since India started liberalizing its economy in the early 1990s. However, successive attempts in the past to reform labor market in India remained futile. On the other hand, there is a consensus emerging across the policy makers and industry that the archaic labor laws are hampering the competitiveness of Indian industry in the age of globalization. In recent years, number of prominent studies ignited a fierce debate on the economic impact of existing labor regulations and a need for labor market reforms. Proponents of labor market reforms argue that ‘jobless growth’ during the post liberalization period, characterised by slow employment growth despite higher rates of economic growth, is attributed to the existing labor laws which are seen to be less employment friendly and biased towards organized labor (Datta and Sil 2007). In such framework, firms may hire fewer workers, substitute toward labor-saving technologies, hire casual labor to reduce labor costs, higher levels of unemployment and more informal sector activities. Such adverse impact of labor regulations was examined by Besley and Burgess (2004) using manufacturing-sector data in major Indian states during 1958-1992 period. They found that states which adopted relatively pro-worker industrial relations policies had lower output, productivity, investment, and employment in the formal sector. Later, Sanyal and Menon (2005), Hasan et al. (2003) corroborated the findings of Besley and Burgess (2004). Most of the debate however has centred on the effects of industrial relations covered under labor regulation laws ignoring the performance of key labor market institutions that actually govern the industrial and labor relations in India. This project adds to the existing debate on India’s rigid labor market conditions by examining the variation in performance of key labor market institutions namely, the Industrial tribunals-cum-labor courts that in turn govern industrial and labor relations. Industrial tribunals-cum-labor courts are appointed by the respective state governments for conducting arbitration and adjudication proceedings involving employers, workers and labor unions. While the labor courts are primarily responsible for adjudicating disputes pertaining to individual workers, the industrial tribunals on the other hand adjudicate collective disputes between the management and workers unions. It is noteworthy that ‘labor regulations’ according to the Constitution of India fall under the purview of state governments which allow them to build effective labor market institutions. Thus, one could expect substantial variation in performance of these institutions across the states. The aim of the project is two-fold. In the first paper, I study the factors which explain variation in performance of existing labor market institutions across the states in India. In the second paper, I examine if variation in performance of labor market institutions can explain key economic outcomes namely, uneven distribution of investments (private and foreign). Panel data covering 29 states in India during the 1991-2012 period (22-years since economic liberalization) is employed in both studies. I expect intense political competition among political parties in a state conditional upon bargaining strength of labor (proxied by Potential Labor Power Bargaining Index and labor union density) can explain variation in performance of labor market institutions after controlling for relevant factors. Contrary to the cynicism often ascribed with existing labor market regulations, I expect investments (private and foreign) to positively respond to effective functioning of labor market institutions. Holding all other relevant factors constant, an effective functioning of labor market institutions should reduce regional investment disparities over a period of time. The policy implications of these findings highlight the need to strengthen (and perhaps overhaul) the existing labor market institutions which facilitate institutionalized grievance resolution between workers and employers as a part of broader set of labor market reforms.