ISSUES IN DEVELOPMENT

Discussion Paper
33

PAKISTAN: Employment, Output and Productivity

Nomaan Majid et. al.

First published 2000

Contents
Acknowledgements

Preface

Introduction

CHAPTER ONE - Labour Force and Employment

CHAPTER TWO - Output Employment and Productivity: Lessons for an Employment Strategy

CHAPTER THREE - The Agricultural Sector

CHAPTER FOUR - The Manufacturing Sector

CHAPTER FIVE - The Small-Scale Enterprise Sector

CHAPTER SIX - An Employment Strategy

APPENDIX - The Economic Reforms Context of Growth and Employment

Bibliography

• Annex 1.1: Sources of data on labour and human resources

• Annex 1.2: Youth employment and child labour
• Annex 1.3: CHAPTER ONE Tables
• Annex 2: CHAPTER TWO Tables
• Annex 3: CHAPTER THREE Tables
• Annex 4: CHAPTER FOUR Tables
• Annex 5.1: The small-scale enterprise sector in main data sources
• Annex 5.2: CHAPTER FIVE Tables
Acknowledgements
This report is based on the work carried out during 1997-98. Nomaan Majid of the Employment
Sector of the ILO, Geneva is the coordinator and principal author of the report. The work is
based on contributions from a team comprising of Arshad Zaman Associates, A.R.Kemal, M.
Irfan, M. Mahmood, G. Chaudhry and Nomaan Majid. Particular thanks are due to A.K. Ghose,
M. Mahmood and Akmal Hussain for detailed comments on earlier drafts. Thanks are also due to
Samir Radwan, Rolph Van der Hoeven and Rashid Amjad for suggestions on the final draft.
A.S.Oberai of ILO-SAAT, provided constant support and encouragement for the project from its
inception. ILO-SAAT, the ILO Office in Islamabad and the UNDP in Islamabad actively
facilitated the progress of this report, in its most critical phases. Very special thanks are due to
them.

Preface
This report is an outcome of work done by the ILO, on an employment strategy for Pakistan
during 1997 and 1998, an activity which was funded under the UNDP's SPPD facilty. One
objective of the core work done for this exercise was to contribute an input to Planning
Commission for their employment and manpower related work on the Ninth five Year Plan.
Another objective was to produce a employment strategy document, that was cognizant both of
sectoral employment issues and the macro economic environment in which a future employment
strategy needs to be conceived. It is hoped that work is seen as a step in the right direction. More
thinking however, needs to be done in detailing the proposed employment strategy, in addition to
addressing the implications of this strategy for social groups within sectors. It is expected that the
ILO in collaboration with the UN agency system will carry this work further.

Two central issues need to be emphasized. This document argues that in the Pakistan context the
key to an employment growth revival is the revival of the manufacturing sector. The particular
forms that such a revival may take, the linkages with other sectors, and some of the policy
elements required for such a revival are delineated. The document also suggests in a separate
section why the role of the macro policy environment in the growth process is critical from an
employment perspective. It argues where and how Pakistan came to its fiscal crisis. This event,
which is a result of imperatives on the part of State as well as ill-conceived reform sequencing on
the part of donors, preceded the post nuclear situation of additional economic constraints that the
country has faced and the more recent changes in government.

Today when the elements of adjustment packages and their relationship to growth are being
seriously questioned by Bretton Woods institutions themselves because of the high social costs
of adjustment as evidenced by the Asian and Russian crises, it is important to directly examine
the nature of policy packages necessary for a revival of employment-friendly growth in
developing countries. The challenge is not easy for Pakistan, but the international environment is
sufficiently changed and the domestic employment crisis sufficiently serious, to pursue the
matter with new vigour.
Samir Radwan
Director, Development Policies Department

INTRODUCTION
This study on employment in Pakistan was conducted in 1997-98. Its objective has been to
analyse trends in the labour market in the country, and develop possible elements of an
employment strategy during Pakistan's Ninth Five Year Plan period ( 1997-98 to 2001-02).

A. Recent Changes in the macro environment.

Since the completion of this work in 1998, some factors have entered into Pakistan's planning
process that have affected it significantly. The first is a rapidly changing macro environment.
The second are the results of the 1998 Population Census. The report argues that these factors
heighten the need for an employment strategy being proposed in this document. Its should
however be finessed towards the transforming macro environment, and our better post-census
perception of it.

Pakistan's macroeconomic performance, while showing indications of improvement at the time

of the 1998 budget, has since been subject to fiscal stress. The central point that is worth making
is that over the fiscal year 1997/98, growth had picked up in Pakistan to the five per cent level,
while the IMF stipulated targets in macro fundamentals were met to the satisfaction of the
evaluating mission to Pakistan at the time. However, domestic fiscal policy, perhaps in
anticipation of an impending sanctions based global environment due to the nuclearisation of the
country, (and possible investment behaviour based on this global environment), moved towards
regulation in a number of areas (1). A major result of this macro transformation had been the
cessation of the Enhanced Structural Adjustment Facility (ESAF) and Extended Fund Facility
(EFF) agreements signed with the IMF, and a renegotiated new loan.

Although the external environment is now more stable, and donor links have been reestablished,
changes in the macro environment need to be tracked as they can have critical implications for
growth and employment in Pakistan. Clearly this issue needs to be assessed in future work. It is
also critical to recognise the status of the specific macroeconomic policy environment for the
question of whether growth is employment-friendly or not. Since the link between macropolicies
and employment is generally mediated by growth, this provides an overarching context to
understanding different phases of (employment focussed) economic development in Pakistan.
The report devotes a separate Appendix to this issue. The reason to keep this discussion separate
from the main body of the report is two fold. First that the assessment of the linkage between
macropolicies and employment in this report is itself limited to an historical overview. Second,
that it is the last phase of macropolicies in operation in Pakistan that are of greater importance to
an employment strategy, than what can be argued for earlier phases.

B. The argument

The position of this study on employment and its determinants in Pakistan is the following.
Wage employment in Pakistan is approximately one half of all employment, its proportion is
high for a low income country. On the other hand self-employment comprises the other half of
employment (Chapter 1). The share of the labour force in the estimated population for 1997,
according to pre-1998 Census projections( on which this study has been based, and on which
more below) is low. It was 37 million from a universe 135 million, which suggests a low
participation rate. In fact the labour force participation rate (LFPR) in Pakistan has been
decreasing over time. It is now down to around 27 per cent, therefore implying a high and
increasing dependency ratio for the rest of the population. While we can explain to some extent,
the drop in the LFPR to be due to increasing school enrollments (which is therefore in some
respect desirable), there is clearly a possible trade off involved due the narrowing of the earning
base in the country, which can put downward pressures on per capita income. This can have
implications for poverty and living conditions of households. We actually find a mixed result on
poverty in Pakistan, but it is one which is not inconsistent with the hypothesis of a downward
pressure on living standards due to increasing dependence during the growth process.

The next question the report asks is what determines the low labour force participation and its
income? The labour force, by definition, comprises of the employed and the unemployed, given
at around 35 million and 2 million respectively. Before summarising the answer to this question,
some qualifiers need to be made. There has been considerable debate and now recognition, in
Pakistan, that women's income enhancing labour, whether in self-employment or in the wage
labour market has been considerably under-enumerated due to non-sampling errors like male
social biases, that render women's labour "invisible". This feature also reduces the overall
estimates of the size of the employed. The second qualification is that under enumeration of the
unemployed obtains because the survey- definition used in Pakistan requires them to be available
for work in the reference week. Moreover it is to be remembered that these qualifiers obtain in
the context of a labour market where formal institutions for employment are eclipsed by informal
institutions. So, our estimates of both the employed and the unemployed, and the size of the total
labour force are probably low.

This study assumes that given the labour force size, perhaps in this case based on consistent
underestimation, what will determine the level of employment in the economy is firstly growth
itself. On the other hand what determines the earnings of the employed are the wage rate and
returns to self-employment in different sectors of the economy. In order to investigate the
relationship between employment and growth, this study uses two analytical devices. One is a
standard elasticity coefficient for employment with respect to growth. Problematic as the specific
magnitude of the elasticity measure is, in the view taken here, it is considered at least
qualitatively and directionally indicative of the employment-output linkage. This of course gives
a range of values indicating say high, medium, or low responsiveness of employment to growth.
The second device dis-aggregates change in output over time into (i) an output change caused by
employment change; (ii) an output change that is caused by productivity changes; and (iii) an
output change that is caused by a multiple effect of both employment and productivity changes.
We refer to this as the decomposition exercise. The results of both exercises ( elasticity and
decomposition) are used as summary perspective devices in the overview as well as sectoral
chapters.

Chapter 2 of this study shows that over the last three decades, Pakistan's growth has been high
for a low income country, around six per cent on trend till 1992/93, with a two per cent variation.
However, against this high GDP growth, employment growth has been much lower, at two per
cent on trend. As a result the elasticity of employment has remained medium to low, ranging
between 0.6 and 0.3. The periodicity of this growth of output and employment is revealing, if we
abstract for the moment from the issue of the particular periodisation chosen.

Output growth in Pakistan was low over the 1970s at under five per cent, it increased over the
1980s to above six per cent, and has dropped again over the 1990s to near about four per cent.
Employment growth interestingly follows an opposite pattern, being at its highest at three per
cent over the 1970s and lapsing to two per cent over the 1980s and the 1990s. Does this
constitute some prima facie evidence for a trade off between employment and output growth? A
further subdivision of these periods shows that there was a period of high employment in the
1970s, stable employment till the mid-1980s and a total break between growth and employment
subsequently. The aforementioned decomposition exercise adds an insight to this pattern.
Growth of output was based predominantly on an employment effect in the 1970s, on a
productivity effect in the 1980s, and a mixed productivity and employment effect in the 1990s.
So the answer to the trade off question posed above is not straight forward, and apart from
having a source of output growth dimension ( productivity or employment) the answer is likely
to have a sectoral dimension as well.

We know that generally low elasticities accompanying growth in Pakistan tend to conceal the
fact that the source of growth (employment or productivity) itself has been varying over time.
This is an important point to note. It is this changing relationship between growth of output and
employment over time that is traced to its major sectoral components in the rest of the report.

In output growth, manufacturing is the leading sector (and agriculture contributes progressively
less over time), over the low growth period of the 1970s, the high growth period of the 1980s,
and the lower growth period of the 1990s. In employment growth, during the low growth period
of the 1970s manufacturing leads, and with the relapsed of growth of the 1990s, employment
growth in manufacturing turns negative.

The explanation for the changing overall relationship between output and employment growth
over time then finds a possible sectoral reason. It has been said that employment growth was
high over the 1970s and then stable till the mid 1980s, after which it de-linked from output
growth. Manufacturing contributed relatively more to employment growth than agriculture in the
1970s, relatively less than agriculture in the 1980s, and negatively in the 1990s. So the overall
break between output growth and employment seems to be more associated with the
manufacturing sector. It is also true that we find some evidence to suggest that agriculture and
construction are becoming possible refuge sectors for labour after this de-linking of employment
and output growth. This explanation is further enhanced when we examine output and
employment growth relationships at the sectoral level through the same two analytical devices of
sectoral elasticities and the decomposition exercises. Chapters 3 to 5 examine sectors.

Chapter 3 on agriculture shows that output growth and employment growth (and therefore,
employment elasticity) were stable in the 1970s till the mid-1980s, barring states of nature based
interventions. Therefore, output and employment growth are connected till the mid-1980s. After
the mid-1980s, output and employment growth became volatile. The elasticity of employment in
agriculture is thus positive and stable till the mid-1980s then subsequently starts fluctuating. The
decomposition exercise for agriculture shows that agricultural output growth was driven
predominantly by the employment effect in the 1970s, largely by the productivity effect in the
1980s and then again largely by the employment effect in the 1990s. The report does pursue
alternative explanations for the contribution of agriculture to the fluctuations in employment
from the mid-1980s onwards, in terms of the increasing sensitivity of a post-High Yielding
Variety (HYV) agriculture to states of nature, and the casualisation of the labour force based on
increasing mechanisation.

In contrast, to agriculture, Chapter 4 shows that in the case of manufacturing, employment

growth was stable and high over the 1970s, when in fact output growth was low. In the 1980s,
output growth in manufacturing rose, but employment growth dropped to a stable low, the
aforementioned critical disjuncture become evident by 1980. By the mid 1980s, output and
employment growth both become unstable. Elasticity of employment in manufacturing, barring a
peak in the mid-1970s remains at a continuously low level. The decomposition exercise for the
manufacturing sector highlights this break between employment and output growth after the
1970s. Over the 1970s output growth in manufacturing is driven equally by the employment
effect and the productivity effect. Over the 1980s the employment effect becomes negligible,
while over the 1990s it turns negative.

So, the disjuncture between employment and output growth rates in manufacturing reflect and
track the economy-wide break between employment and output growth rates better. Low output
growth accompanies high employment in the aggregate over the 1970s, high output growth
accompanies low but stable employment growth till the mid-1980s, after which employment and
output growth become volatile. It is fairly clear that both agriculture and manufacturing
contribute to output through a predominant employment effect in the 1970s, but for the 1980s
and 1990s, only agriculture contributes through an employment effect, while manufacturing's
employment growth breaks away from its growth of output.

Having focussed on the manufacturing sector, we need to trace the causality further. In other
words we need to determine the causes for this break between employment and output growth in
manufacturing itself. The first point to note here is that while the share of manufacturing in GDP
has increased over time from 15 per cent to 18 per cent, its share in employment has declined
from 14 per cent to 10 per cent. To explain why the manufacturing sector has become entirely
labour productivity driven rather than in some measure employment-driven, we have to
recognise some structural features of the sector. The critical feature of manufacturing in
Pakistan, as in many developing economies is its duality. The large scale (LS) sector and a small
scale (SS) sector are two classifications of manufacturing and the cutoff point between the two
has been defined variously over time by the government of Pakistan (GOP) (2). The LS sector
(examined in Chapter 4), produces two-thirds of the value added in manufacturing, but employs
only 17 pre cent of the approximately 4 million labour force in manufacturing. The SS sector
(examined in Chapter 5), produces one third of the value added in manufacturing, but employs
83 per cent of the labour. So the LS sector dominates output, while the SS sector dominates
employment. Further, the output and employment shares of the LS and SS sectors have remained
fairly stable over the last two decades.
The differential between the two manufacturing sectors, LS and SS, is in labour productivity; and
this in turn is reflected in a differential in their capital-labour ratios. The LS sector has a higher
capital labour ratio by a factor of 17, and therefore a much higher labour productivity. It also has
higher wage rates and greater job security, and it is argued over the course of Chapters 3 and 4,
that LS growth rates are higher growth rates than those in the SS sector. Other production
characteristics of the SS sector are detailed in Chapter 5, these are fragile vending linkages to
other parts of the economy and negligible formal credit. The typical SS unit is based on self
employment and family labour; with earnings approximating the LS sector's wage rate, with low
vintage, and limited vertical transition out of the sector. These characteristics of the SS sector,
while not completely homogenising potentially render a large part of it, a refuge labour sector in
Pakistan.

The following question then is, if the SS sector has in large part been or become moribund with
all its disincentives, why has the LS sector failed to expand its employment levels significantly
over time, say between 1980 and 1995, when employment grew at 2.3 per cent, employment in
the LS sector grew at under 1.8 per cent. The first element in our answer is an increase in capital
productivity in large scale manufacturing over time (3). Furthermore, Chapter 4 also shows for the
LS sector, that while this increase in capital productivity was positively correlated to labour
productivity, it was significantly negatively correlated to employment. As a result the wage share
in output dropped from 0.4 to 0.29. This is accompanied by the fact, as Chapter 1 shows, that the
real wage in Pakistani industry barely creeps up over the last two decades. It is worth pointing
out that this pattern of growth in the LS sector was enabled by a large increase in investment in
manufacturing, and liberal financial sector lending. So over the period 1982/83 to 1992/93,
private investment in manufacturing increased from 1.7 per cent of GDP to 4.2 per cent. In other
words, the pattern of investment and growth in manufacturing, over the 1980s, was capital
augmenting and labour displacing, and it increased profitability and reduced the wage share in
output. The evidence tends to favour this view (4).

The second element in our answer to the disjuncture between growth of output and employment
in the LS sector lies in the creation of excess capacity in the 1990s. Private investment in
manufacturing halves after 1993/94 from 4.2 per cent of GDP to 2.2 per cent with a declining
trend, as Chapter 4 shows. This results in a declining trend in capacity utilisation in the four
major industries of the LS sector, spinning, weaving, cement and sugar. The economic position
taken here is that this downturn in investment, capacity utilisation, and growth in manufacturing
is caused in large part by a failure in demand, significantly associated with the deflationary
policies pursued by GOP in accordance with the Structural Adjustment (SA) programme signed
with the IMF, in successive protocols since the 1988 .

What probably happened was a coincidence of events. Growth in Pakistan has always been
susceptible to states of nature caused downs in agriculture, given its preponderant reliance on the
textile industry and export of cotton and its products. The dips in GDP in each decade, examined
in Chapter 2, are related to flooding in agriculture in the early 1970s and in the early 1980s, and
a pest attack on cotton in 1992/93. However in the 1970s and the 1980s, the economy recovered
with a one to two-year lag, returning to trend growth. In the 1990s, however, this return to trend
growth has arguably been inhibited by the simultaneity of deflationary SA policies with the
massive decline in cotton output for two years running. Just when the state of nature caused
slump needed a reflationary policy, the SA programme veered the economic managers towards
policies effectively increasing the incidence of general taxation and a decline in subsidies. This
was affected through the imposition of a Value Added Tax (VAT) and successive annual
increases in its rate and coverage; and through a reduction in the budgetary deficit especially
affecting agricultural subsidies and therefore production and recovery. This was also manifested
in a decreased purchasing power and effective demand.

In summary, we have found that the relationship between growth in employment and output is
strong over the 1970s, and stable over the first half of the 1980s, but becomes negative
subsequently. Manufacturing is the leading sector in growth of output and employment in the
1970s, but contributes little to employment in the 1990s. The manufacturing sector is seen to be
characterised by a dualism, with an LS sector dominating output, and an SS sector dominating
employment over time. Given low capital labour ratios in the SS sector and all the disadvantages
in production conditions that this entails, the central question that emerged was why the
relatively more advantaged LS sector had constrained its employment levels over time,
especially over the 1980s and the 1990s. Two elements were identified to answer this question.
One, that over the 1980s, the LS sector in Pakistan followed an internationally established
pattern of capital augmenting, labour substituting growth, increasing profit shares and reducing
the wage share. Two, that over the 1990s, deflationary SA policies dampened recovery from a
state of nature caused blip in growth, especially for manufacturing, constraining capacity
utilisation and employment further.

An employment strategy for Pakistan must then seek to redress this disjuncture between growth
of output and employment, caused in large part by the LS sector in manufacturing. This is what
is proposed in this report. The key constraints are an overwhelming capital augmenting growth
path, and deflationary SA policies. This brings us back full circle to the starting point this
argument. With an impending, and even larger, SA programme in the offing, Pakistan faces the
prospect of possibly low growth and low rate of recovery from a fiscal crisis as in 1992/93, and
possibly employment-less growth as in the 1980s. This makes a planned employment strategy for
the NFYP period difficult but imperative. On the other hand, the more recent changes in the
thinking of Bretton Woods institutions, with respect to the recognition of social outfalls of
adjustment programmes, allows Pakistan, as indeed other developing countries, a better context
in which to make a case for a macro and social policy framework which is consistent with a
positive employment strategy.

CHAPTER ONE
Labour Force and Employment
1. The data

A well-known shortcoming of analysis on labour markets in Pakistan is the internal limitations of

the data produced on population, labour force and employment. Coverage of the labour force
surveys (LFS) is known to be low, with the result that both participation rates and employment
elasticities based on LFS data are thought to be underestimated. The population census scheduled
for 1991 had been delayed, leaving a gap of over seventeen years since the previous census was
taken. The full results of the Population Census of 1998 were still unavailable at the time of the
writing of this report. The absence of regular and better data confines us to work, with due care,
with the data available (Annex 1). There is, however, a distinction (if not a choice) here which
needs to be made. In view of the weight of empirical evidence that does (or does not) exist, there
are two courses open for further investigation. The first is to accept the trends from large-scale
data as a starting point and then investigate the issues and problems this data throws up at the
disaggregated level, in order to qualify the existing trends - both sectorally and with respect to
special categories/groups of labour that require focus. The second course is to reject the census
and survey data on the grounds that the true labour supply is understated (1) and proceed with
analyses supported by the micro evidence that can be marshalled, without regard for the larger
picture.

The view taken in this report is that there is a need for greater caution in rejecting the burden of
numerous surveys, irregular and imperfect as they may be and even if they yield apparent
inconsistencies in their results, as surveys anywhere are apt to do. The size of the information
that does exist in Pakistan is substantial. In order to judge the validity of anomalies in the larger
data sets, what is ideally needed is a specific survey, of equal or greater coverage, which
provides empirical proof of the alleged bias in previous census and survey data. There is both an
absence and a critical need for information on labour market indicators in Pakistan. Given the
lack of a perfect series or a second-best one, we will work with what is available, using annual
data from labour force surveys. These are subject to much fluctuation, suggesting a weakness in
data source. Our emphasis is therefore more on trends than on explaining annual fluctuations,
where they seem inexplicable.

The earliest and, probably, still the more reliable data on population and labour force are
provided by the population censuses of 1951, 1961, 1972, and 1981 (2) (See tables A1.1, A1.2 and
A1.3). In lieu of the much delayed census for 1991, we have used population and labour force
data from the Demographic Survey of 1991 and the annual labour force surveys carried out
since. These are used to assess the employment situation, especially after 1981 (Table A1.2). (3)

2. Growth of population and labour force

The labour force (around 37 million in 1997) is not a very large proportion of the population
(135 million in 1997) in Pakistan. Its is estimated to be around 28-29 per cent. Population growth
had been increasing over the years, up to and including 1970s. Although the last census was
carried out in 1980, projections on the population growth rate suggest that it is likely to have
fallen and has probably stabilized now to just under 3 per cent (4).

Labour force growth rates on the other hand were higher than that of population in 1970s (figure
1.1 and Table A1.1) but have been generally lower after the 1970s. Although the labour force
survey figures for the 1990s can also be interpreted to suggest a decline in labour force growth
on trend (5), there are problems in comparing the labour force trends before and after 1990-91 (6).
There is however a clear decline between the two definitionaly comparable periods of the 1970s
and 1980s.
This means that labour force growth, which is significantly lower than population growth, is
likely to be falling while the growth of population is likely to be stabilizing.

If serious data problems are excluded as a cause, then one of the main reasons for falling labour
force growth rates is reflected in the decline in participation rates due to withdrawal of sections
of persons of working age from the labour force. Educational enrolments for an increasingly
younger population of working age mean that the labour force growth will begin to rise in the
near future. This has implications for trends on unemployment and underemployment in the
present situation. These are likely to be magnified with an increase the growth rate of the labour
force in the future.

3. Labour force and employment

Definitions of labour utilization

The "economically active population" comprises persons of either sex who furnish the supply of
labour for the production of goods and services, during a specified time reference period. But not
all these persons are currently active (or in the labour force) at any particular point of time. In
Pakistan, the currently active population or labour force comprises of all persons ten years of age
and over who fulfil the requirements for inclusion among employed or unemployed, defined as
follows, during the reference period i.e. one week preceding the date of interview. (7)
 • The "employed" comprise all persons ten years of age and over who worked at least one
hour during the reference period, and were either "paid employed" or "self-employed".
(Persons holding permanent jobs, who for any reason had not worked during the
reference period are treated as employed).
• The "unemployed" comprise all persons ten years of age and over who during the
reference period were:
o "Without work," i.e. were not in paid employment or self-employment;
o "Currently available for work," i.e. were available for paid employment or self-
employment; and
o "Seeking work," i.e. had taken specific steps in a specified recent period to seek
paid employment or self-employment.

• The underemployed comprise all employed persons who during the reference period were
working less than the "normal" duration on an involuntary basis and were seeking or
were available for additional work. In Pakistan, the underemployment rate is estimated as
a ratio of the employed (who worked less than 35 hours a week) to total labour force.
With the help of the available data, we analyze below the latest employment,
unemployment and under-employment situation in Pakistan.

The self-employed amongst the employed

Employment is divided into two categories in Pakistan: the self-employed and the hired. The
self-employed are only marginally less in number than the hired within the labour force. During
1983-95, the self-employed, on an average, constituted 44 per cent of the employed work force:
46 per cent in the rural areas and 37 per cent in the urban areas. The percentage of the self-
employed increased from 40.3 in 1982-83 to 47.9 in 1987-88 but was at 42.3 in 1994-95. This
percentage increased in the rural areas and declined in urban areas during the period 1982-83 and
1994-95 (table A10).

In 1987-88, the agricultural sector accounted for 53.6 per cent of the self-employed, followed by
trade (16.8 percent) and manufacturing (10.9 percent). In the rural areas, agriculture accounted
for 66.6 per cent of the self-employed followed by 9.8 per cent in trade. In the urban areas, the
wholesale and retail trade sector accounted for the major share of 41.8 per cent (Table A1.11).

Another distinct feature of the self-employed is that compared to the national average, the share
of self-employed who worked full time was higher (except for women in rural areas). Moreover,
the level of education of the self-employed was also lower than the national average (Table
A1.12).

The self-employed are sizeable, significantly agrarian, work long hours and are relatively less
literate than their counterparts in employment. It is important to bear in mind that self-
employment in Pakistan is predominantly in agriculture and more symptomatic of poverty than
prosperity.

Underemployment
The underemployment rate is estimated as a ratio of employed who worked less than 35 hours a
week to the total labour force (Table A1.13). There were nearly 4 million persons
underemployed in Pakistan in 1994-95.

The proportion of employed persons who worked for less than 35 hours, which had declined
from 14 per cent of the employed work force in 1982-83 to 11.1 per cent in 1987-88, was at 12.2
per cent in 1994-95. Underemployment was much more prevalent in rural than in urban areas. In
1987-88, it was 2.8 times that of urban areas. In 1993-94 it was almost double. Unpaid family
helpers constituted about half of the underemployed, followed by the self-employed. This is true
in the aggregate as well as in the rural areas. Underemployment among employers was almost
negligible.

Within rural areas the share of underemployed declined from 16.3 per cent in 1982-83 to 13.4
per cent in 1987-88, but was at 14 per cent in 1994-95. In contrast, the share of underemployed
in urban areas declined from 7 per cent in 1982-83 to 4.8 per cent in 1987-88, but was at 7.1 per
cent in 1994-95 (Table A1.14).

It is also interesting note that in the 1993-94 LFS (when this question was asked) a four-fifths
majority of those who were underemployed, considered their working hours as "normal". This
implies a "normality" of being permanently underemployed, in an "enclave" of the labour market
where most of the underemployed are not so out of choice (only 2.6 per cent in this group
describe their underemployment as voluntary) and where the severity of underemployment is
unlikely to decrease.

Unemployment

In a developing economy characterized by significant poverty, minimal social insurance and

welfare mechanisms, unemployment is probably the least appropriate indicator of labour market
conditions. Most people of working age, who are not in full-time education, need to work to
survive. With this proviso in mind, we will examine unemployment data.

First, it is necessary to clarify a definitional problem. Before 1990-91, the LFS recorded those
persons as unemployed who were without work (i.e. were not in paid employment or self-
employment) and were both currently available and seeking work during the reference period of
one week. Those who may have been available for work but for some reason were not seeking it
(i.e. not taken specific steps to seek paid or self-employment) were not recorded as unemployed.
The unemployment rates prior to this period were therefore recorded at a low figure of about 3
per cent. From 1990-91 onwards, the condition of being available for work was sufficient to be
recorded as unemployed. This resulted in the unemployment rate in 1990-91 jumping to 6.3 from
3.1 per cent in 1989-90 (Table A1. 15) and implies that comparisons on unemployment (8) are not
legitimate across the year 1990-91.

The number of unemployed persons was two million in 1990-91. This figure was one million in
1989-90 and much of the increase occurred because of the change in definition of the term. The
overall unemployment rate declined in 1991-92 and 1992-93 but it went up in 1993-94 and
remained at the same level in 1994-95 and declined again afterwards. There is no real trend
which is discernible (9). For general policy purposes, it may not be wrong to assume that currently
about two million people are unemployed in Pakistan. According to data, 63 per cent are men
and 37 per cent women. Of the total unemployed in 1994-95, about 60 per cent were in rural
areas. However, the unemployment rate (ratio of unemployed persons 10 years of age and over
to labour force) was much higher in urban areas (6.51 per cent in urban as against 4.22 per cent
in rural areas). Available figures for 1984-85 to 1987-88 show that the severity of unemployment
as judged by its duration as well as the percentage of unemployed with previous experience has
been increasing (Table A1.16).

Unemployment rates are higher both for older and younger workers. Whereas the high
unemployment rates for the 10-14 age group may be attributed to restrictions on (child) labour
below the age of 14, the high rates in the 60 plus age group is explained by the non-availability
of jobs suiting older workers. (10) Within the unemployed, the share of literates has increased on
trend from 42.8 per cent to 48.8 per cent (Table A1.17).

At the aggregate level the unemployment rate has averaged around 5.0 per cent a year during
1990-91 to 1994-95. Of two million unemployed in Pakistan, nearly half of them are literate and
the severity of their unemployment is likely to be increasing.

Employment and labour force: An overview

Employment growth rates generally increased in the 1970s, and from the end of the 1970s
declined on trend till the late 1980s. In the 1990s, although it is difficult to make a comparative
statement, employment growth is falling on trend. (11) The variability in growth rates is partly
explained by definitional changes. (12) In sum:

• the gap between the number of persons in the labour force (employed or otherwise) and
the population is likely to widen for a little longer before it starts closing; (13)
• the size of the underemployed is around 4 million (12 per cent underemployment rate)
and is likely to have been increasing in recent years; and
• close as they are in levels compared to the population, the gap between the labour force
and the employed within it as a proportion of the labour force, is wider now it was during
the 1970s and suggests a persisting unemployment problem.

Given that labour force growth is expected to increase in the future, those employment-related
problems that exist now, under falling labour force growth conditions, are likely to worsen.

We now make some further observations on the data available.

4. Changing trends in the rural-urban distribution of labour force

In absolute numbers, the labour force in Pakistan has increased from 18.1 million to 35.2 million
between 1972 and 1995 (Table A1.3). The male labour force has increased from 16.7 million to
30.5 million and the female labour force from 1.4 million to 4.7 million. Compared to an average
annual increase of 2.7 per cent in the total labour force between 1972-95, the urban labour force
increased by 3.5 per cent per year, while the rural labour force increased by 2.5 per cent per year
in the same period. As a result, the share of the urban labour force in the total labour force
increased from 23.3 per cent in 1971-72 to 27.3 per cent in 1994-95. This difference in growth
rates was largely the result of rural-urban migration. The growth of the rural labour force in the
late 1970s and the first half of the 1980s was also affected (restricted) by emigration, which is
much less important today.

Traditionally, and certainly since 1975 onwards the growth of the urban labour force has been
faster than that of the rural labour force. This was to be expected. However, the reversal of trends
in growth rates in the 1990s (rural labour force growth rates being higher than urban ones) (14)
suggest that, if no serious data problem exists, there may be an emerging barrier on internal rural
urban migration (15) (Table A1.3). This issue has implications for the size of the labour force in
the rural areas, particularly in agriculture, and needs to be explored.

5. Why are labour force participation rates (LFPRs) low?

The size of the labour force is determined by the size of the working-age population and its
activity or participation rates (16), adjusted for migration into and out of the country. This
population has already been born; the demographic changes which occur today will affect labour
supply with a time lag of about 10 years. The "activity rate" is therefore the key determinant of
the currently active population or labour supply.

We need to explain why the participation rates of labour force are declining in Pakistan. The
LFPR peaked to 31 per cent in 1978-79 and declined to 27.5 per cent in 1994-95. The falling
labour force participation rate has clearly restrained the growth of the domestic labour force
(Table A1.4). (17) It is worth noting that rural participation rates are generally higher than urban
ones, another reason why when labour force growth declines it does so less in rural areas. This is
also reflected in the fact that while the rates of male participation in the labour force do not vary
so much across the rural and urban divide, and they do so less over time, the gap between rural
and urban participation rates for women is significant and persists over time. The greater
participation in rural areas is due to a greater inclusion of women in what constitutes the labour
force, in spite of the reporting biases on women's household activities in both rural and urban
areas. This feature comes into sharp relief when we consider the size of the excluded labour
force in Pakistan.

We discuss below three tendencies for changes in the LFPRs in Pakistan whose net impact is
clearly a decline. These pertain to education, emigration and gender.

Education and the labour force

High population growth in Pakistan has also been associated with an increasing proportion of
population in the lowest age cohorts (Table A1.5). The proportion of population in the 0-14 years
age group increased from 44.5 per cent in 1981 to 45.8 per cent in 1988 and to 46.3 per cent in
1995, thus raising dependency ratios and depressing labour force participation rates. In part, age
compositions do explain why the overall participation rates are low. The 10-14 years age group
show a decline in participation rates, suggesting a withdrawal of the young (who are counted as
economically active) from the labour force, possibly due to increased school attendance. (18) The
decline in participation rates, in the 15-19 years age group may be similarly attributed to
increasing college enrolment.

Emigration and the labour force

Increasing emigration from the mid-1970s to the mid-1980s had constrained growth in domestic
labour. According to the report of the National Manpower Commission (Government of
Pakistan, 1989, p. 101), during 1978-83, almost 25 per cent of the incremental labour force found
employment abroad. This helped in sustaining employment growth at 2.8 per cent. However,
return migration in 1982-87 dominated the stream of migration and may have played some part
in accentuating pressures on the domestic employment situation (Table A1.6). For the more
recent sub-period there is evidence of net out-migration. The net outflow in 1993-95 period is,
however, a much lower percentage of the labour force, in comparison with the past peak of the
1980s. The size of the labour force today is not subject to pressures return migration and is
unlikely to be seriously constrained by out-migration.

Gender and the labour force

This is an area which requires serious analytical and empirical disentangling.

Due to the way the term 'labour force' is defined, a number of persons, particularly women
engaged in household duties, are not included in the term 'population currently active' or labour
force (table A7). This reduces the number of labour force as well as the participation rate, a
shortcoming that was partly made up for in Pakistan by adopting a new definition in the 1990-91
LFS, in which women were identified as employed if they spent time on any of the 14 specified
agricultural and non-agricultural activities defined in the Intentional Standard Industrial
Classification, (ISIC). (19) This partly redresses the definitional bias. However, it is interesting to
note that in 1994-95 about 59 per cent of the economically active population were excluded from
the labour force. Of these, about 27 per cent were men and 73 per cent were women. Clearly, the
bulk of the 'excluded labour force' are women. (20)

An obvious reason for this in Pakistan is that social perceptions restrict the 'admission' of the
existence of female work, by a not too insignificant section of the population. This implies a
reporting bias due to which female participation rates and employment can be seriously under-
reported. Secondly, in Pakistan, much of the employment data, irrespective of its source, is
collected by male investigators interviewing male respondents. (21) Apart from the degree of
authenticity of responses, variations in reported employment may also result from variations in
the education, training or supervision of investigators; the periods chosen for the survey; and the
language used in the questionnaire. (22) These elements vary from survey to survey and can lead to
serious inconsistencies in the published data.

The definitional changes in LFSs in 1990-91 (apart from increasing the proportion of
unemployed in the labour force) improved women's participation rates in general. This may be
more an effect of a categorical change and less of an actual improvement in women participation
rates, which are still very low. This low rate accounts for the low overall level of participation of
the labour force shows up as a trend decline in participation rates and the labour force growth
over the years. For the 1990s the improvement in coverage of working women is offset by the
withdrawal of the young from the labour force.

6. On the changing abilities of the labour force

The composition of labour force by level of education has witnessed changes in Pakistan (Table
A1.8). With the improvement in the literacy rate, the proportion of the literate labour force has
increased from 39.9 per cent in 1990-91 to 43.6 per cent in 1994-95. While the share of literate
men in the labour force increased from 37.3 per cent to 40.1 percent, that of women increased
only marginally from 2.57 per cent to 2.67 per cent. (23) Clearly, if one criterion for employability
is literacy, then an explanation of low participation rates of women is low literacy, which needs
to be a policy focus.

The literacy rate of the labour force has risen from 35.3 per cent in 1987-88 to 43.2 per cent in
1994-95. Over this period, the share of degree holders has shown the sharpest rise (from 1.8 per
cent to 2.9 per cent), followed by that of matriculates (from 9.4 per cent to 13.2 per cent). The
composition of employed work force by the level of education has also undergone significant
changes (Table A1.9). (24)

Within the literate labour force, employment growth rates have been positive for all levels of
education except for the holders of degrees in medicine and those with no formal education (25).
The proportion of literates in the labour force is also increasing albeit slowly.

Although literacy is increasing 56 per cent of the labour force are still illiterate and about another
10 per cent literate only at pre-matriculate levels or with no formal education. Efforts to
introduce new technologies and management techniques in the short-run, essential for the
improvement of productivity and efficiency, are likely to be constrained.

Labour force expectations and the structure of the job market

Although it may be true that economic growth itself is fundamental as a final adjuster of the
labour market in the medium run, it is also arguable that, at least in part, mechanisms of
adjustment depend upon the perceptions of those who bear the burden of adjustment in the
labour market, namely the unemployed and the underemployed.

A question was put in the LFS of 1993-94 to those who were not working in the reference week
regarding work expectations. These expectations are indicative of a mismatch with prevailing
sectoral, as well as locational, conditions of employment. This is an interesting finding, which
needs some elaboration. In the LFS of 1993-94, nearly two-thirds of the unemployed expressed
the wish for employment with government, a proportion which, if realized, would be more than
twice the current governmental share in employment. Nearly one-fourth of the unemployed
preferred clerical and related jobs. This is mainly the response of the matriculates and
intermediates. On the other hand, only 1 per cent of the unemployed said that they would like to
work in the agricultural sector while nearly half of Pakistan's employed are still in the
occupational category of agriculturalists and forestry workers. Occupational preferences of the
unemployed do partly reflect their educational background, but the dissonance which is being
reflected here is really between the development of an educational system and the production
structure and needs of the economy.

Orientating a future labour force (which will increase in growth and literacy) towards the types
of activities the future holds should be an essential part of the training and skilling efforts being
made today. This is an important challenge for the future of both the labour force and the
country.

7. Upshot

Pakistan had a population of around 128.3 million in 1994-95 of whom 85.4 million were above
the age of 10. The labour force size is 35.2 million (29.3 employed; 4.0 underemployed and 2
unemployed). Those who were outside the labour force, excluding students (17.4 million) were
around 32.8 million, 30.1 million of whom were women. The growth of the labour force has
been lower than that of population on trend in the past. Urban labour forces have also been
growing faster than rural ones due to rural-urban migration, although there are some indicators in
the 1990s that internal migration may be halting and trends could be reversing.

The rate of growth of the labour force in Pakistan has been falling in the past but it is expected to
rise in the near future. Unemployment and underemployment trends suggest a worsening or
certainly no improvement in the recent past. This means that the problems associated with those
who are not fully employed is likely to increase when labour force growth picks up. The labour
force is also slowly becoming more literate in Pakistan.

Apart from the matters pertaining to restrictions in the growth of population, there are three areas
which require focusing from an employment perspective. These relate to data, participation rates
and training.

Data

The coverage of the LFS must improve. This is with respect to the excluded sections of the adult
population, which are dominated by women. Moreover, definitions need to further improve to
include home workers, as well as other categories of persons who may be excluded for non-
technical reasons. The Population Census must be conducted without delay. It is the fundamental
basis of any serious policy work, quite apart from being a necessary cross-check on the Labour
Force Surveys. A country the size of Pakistan cannot afford to avoid a Population Census for
seventeen years, no matter what the domestic political fall out of this may be. Consistency
exercises must continue to be in built into data collection, as was the case in the 1990-91,
whenever definitional changes take place, so that trends can be readjusted. A consistent series of
best-possible estimates of all labour market indicators in Pakistan needs to be built, which
adjusts and reconciles the data available from different sources.

Participation Rates

Clearly, participation rates have been very low and declining in Pakistan. These need to be
improved for the productive absorption of the labour force in the economy. The issue of female
participation rates is a subset of the general issue. The reason for the increase in the low
participation rates for women is not necessarily only because more women are working but
because definitions have improved. The causes for the low participation rates as well as high
incidence of women in those excluded from the labour force need to be ascertained carefully.
The extent to which this is due to social factors, definitional problems, or coverage need to be
distinguished empirically. On a general plane, the low participation rates needs to be improved to
effect a more productive use of labour in the economy.

Training and skills

There must be a conscious attempt made to bring the expectations of the literate labour force
which is either not in employment or likely to come into the labour force in the future, into line
with actual possibilities in the job market. This should be done both at an educational level as
well as at the level of training programmes.

Implications for a strategy

From the perspective of a strategy, two issues are important:

• the labour force growth is expected to increase in the future;

• problems associated with those who are less than fully employed, are likely to worsen
with the expected rise in labour force growth.

CHAPTER TWO
Output Employment and Productivity:Lessons for an
Employment Strategy
1. A dual focus

The magnitude of the employment problem facing Pakistan in the future is considerable. Even if
the rate of growth of the labour force is likely to pick up in the near future, the deteriorating
employment situation is likely to worsen more than present trends anticipate.

There are two related matters for concern: the gap between population and the labour force and a
rising labour force in comparison to the "fully employed" within it. An increasing gap between
population and labour force growth for a given output implies the increasing dependency of a
rapidly growing part of the population on a slowly rising labour force. Under these same
conditions, the increase in the gap between the fully employed and the labour force implies
constraints on the earning capacity of the labour force itself. This has direct and demonstrable
implications for poverty. (1)

One goal of a future employment strategy is therefore to reduce the growth of population. The
other, and what we are concerned with in this report, is to productively increase the participation
of the labour force in the economy. In doing so, the aim is to improve aggregate employment and
attack the twin problems of unemployment and underemployment head on. The next sections
take a more detailed view of the employment situation.

2. Examining shares of employment and output

Given the critical situation described above, employment strategies need to be devised in order to
face the employment challenge. The absorption of a larger percentage of population in gainful
work, as well as the reduction of the under employed and unemployed, are important goals.

It would, however, be hazardous to proceed as if all that needs doing is to direct efforts towards
an expansion of sectors with higher employment elasticities and wait for employment to happen.
The precarious nature of estimating elasticities of employment in Pakistan has been discussed
elsewhere (2). For the purposes of the present analysis, our position is that elasticity estimates,
though useful in the generation of ball-park projections, are on their own, insufficient for
planning an employment strategy. Moreover, the estimates tend to become more inconclusive the
better the methodology used. Elasticities have generally been low in Pakistan and they have been
lower in the high growth period of the 1980s

than they were in the relatively lower growth periods of the 1970s and 1990s (3). The increasing
trend in employment elasticities are however, is not a simple index of ascertaining the "labour
absorption capacity"of an economy. We need to look at other indicators implicit in the elasticity
measure, in order to make some judgements on the quality of the labour absorption which the
elasticity measure signifies.

Although sector-specific analyses are necessary for producing the details of an employment
strategy that can lead to concrete policies, an aggregative analysis of the sort attempted in this
chapter can still provide a plausible a sectoral prioritization within an economy-wide framework.
The following sections examine the sectoral trends in employment in Pakistan before proceeding
to study the indicators of employment implicit in an elasticity measure: growth in output,
employment and labour productivity.

3. Sectoral shares of employment and output

As far as sectoral distribution of output shares are concerned, in the long run agriculture's share
declined from 39 per cent in 1971 to 24.3 per cent in 1997 (Table A2.2). GDP shares of
manufacturing have increased on trend; they were 14.16 per cent in 1971 and 17.92 per cent in
1997. There are small increases in other sectors' GDP shares. The decline has essentially been
for agriculture and the gain for most of the other major sectors. This is to be expected in the
process of development.

Sectoral shifts have also taken place in employment shares over time. Once again for agriculture
there has been a long-run trend decline but from the mid-1980s the share has been fluctuating
between the 45 per cent and 55 per cent mark (Table A2.3). It can be argued that although the
share of employment has declined for agriculture, over the longer-run period, it has been
fluctuating within a range in the last decade. On the other hand, contrary to expectation, there has
been a declining trend in the share of manufacturing in employment from 1969-70 (15.57 per
cent) to 1993-94 (10.12 per cent), although employment shares on average rose slightly from the
1970s to the 1980s and then declined in the 1990s. All other sectors which include construction,
trade and the "other" activities category over a longer-run period, from say 1970-71 to 1994-95,
have shown an increase in employment shares. It is therefore quite reasonable to argue that
accompanying the longer run decline in employment in agriculture, say from 1969-70 onwards,
there have been increases in employment shares of sectors other than manufacturing.

In the recent and shorter-run period of the 1990s, however, agriculture's fluctuating share of
employment forms no trend (except that it breaks from the past trend of a declining share of
employment), while the share of manufacturing (and mining) in employment has definitely fallen
from 12.54 per cent in 1990-91 to 10.12 per cent in 1993-94.

4. Growth of employment and output

Although we need to be aware of the standard limitations of the elasticity measure, it is still
worth examining the trend in employment elasticities, and of output and employment growth for
the economy as a whole over the years. This in conjunction with other measures can help
identify general trends. Figure 2.1 below splits the employment elasticity measure into its two
components: employment growth and output growth.

The economy-wide picture shows a few features clearly.

• GDP growth rates were low in the 1970s, highest in the 1980s and have fallen in the
1990s again. Excluding the past couple of years, they are nevertheless reasonable growth
rates.
• In relation to GDP growth, employment growth has been low in Pakistan's economy. In
the early 1970s employment growth hit a sustained high level. During the high growth
period of the 1980s, employment growth was very low and since the mid-1980s it has
been much more variable.
 • The elasticities of employment have generally followed employment growth, confirming
the view that output growth has been the relatively more stable part of the employment
elasticity measure in Pakistan.

This leaves the matter of the recent volatility in employment growth, which appears seems to be
a new structural feature in the Pakistan economy, as an issue that needs to be explained.
Examining sectoral employment changes over time delineates the sources of this volatility.

5. Sectoral employment absorption

One question that needs answering in an economy-wide context is: why has the structure of
employment growth become so volatile? (4) As a first step, this requires one to explore sectoral
trends in employment in more detail. The Figure below presents data on annual changes in the
number of persons employed by sectors. (5)

Although the data presented are not free of problems, (6) they do show that:

1. Three kinds of trends are discernible: first, a period of high and rising labour absorption
in the early 1970s (until 1978-79); second, a period of stable job creation (about 500,000
jobs per year) from 1979-80 to 1984-85; third, an unstable trend in labour absorption
since then, which reached a high in the 1991-92 period and seems to be on a cyclical
downward trend.
 2. Employment in general has definitely become more volatile since the mid-1980s and
agriculture to account for the largest share of changes in employment (positive and
negative). Volatility in employment is thus partly connected to the agricultural sector.
3. Unlike the early years (the 1970s), manufacturing has not played a major role in labor
absorption, although it has contributed both positively and negatively in specific years
(especially 1986-87, 1987-88, and 1992-93). This means that manufacturing is also a
contributor to the volatility in employment.
4. In recent years (especially since the late 1980s) the wholesale and retail trade sector tends
to play a large role in employment creation. This also true for the residually defined
"others" category. A large part of these sectors are likely to be in the SSE (Small-Scale
Enterprise) sector.

6. Decomposing output growth

The employment swings discussed above and the trends in elasticity observed are consistent with
the decomposition of output growth presented for the 1970s, 1980s and 1990s decades in Table
2.1 below. Output growth decomposes into two contributing components: employment
expansion and labour productivity and accordingly periodizes the Pakistan economy since the
1970s. (7)

Table 2.1: Decomposing output growth, productivity and employment effects

dP . Nto / dY dN . Pto/ dY dN . dP / dY
Productivity Effect Employment Effect Multiple Effect
1969/70 - 1980/81 0.292 0.615 0.118
1980/81-1990/92 0.578 0.273 0.148
1991/92 - 1994/95 0.400 0.571 0.028
Source: National Income Accounts and Labour Force Survey (various years).

The employment effect was strongest in the 1970s after which there was productivity- led growth
in the 1980s. The high growth period (1980s) was least driven by employment expansion as a
contributor. In the 1990s, there was a shift back towards a growth process which is partly based
on increasing employment. Given that the 1990s are a relatively lower growth period, we need to
probe further into the nature of this employment expansion. In the section following we examine
the employment conditions which charactercized the changes, as reflected in wages and poverty.

7. Wages and poverty

Where organized labour is not the largest part of the hired labour force (8), and where a
multiplicity of contractual arrangements exist, it is important to analyse not only real wages over
time but poverty as well. Unfortunately, the database on wages is limited in Pakistan and poverty
assessments not only differ in methodology but are also constrained by data sources that are not
current. The importance of wages and poverty indicators necessitates an attempt at their
assessment. We start by discussing wage rates (Table A2.10).
Real Wages

Wages rates are clearly more relevant to that part of the labour force which is hired, a figure
previously mentioned as not much more than half of the employed labour force. About 56 per
cent of the employed labour force is hired., the rest are self-employed. It is, however, not
inconceivable that the poorer sections of the self-employed in Pakistan (particularly in
agriculture) also offer themselves on the labour market as part-time casual workers. (9)

The percentage of hired labour which is permanent relative to those on casual contracts is likely
to be small. Much of this organized labour force is either in salaried government jobs or in the
organized private sector of the economy. A smaller proportion is likely to be in the organized
industrial workforce. Consequently, the dominant form of hired labour in Pakistan, in an
economy-wide sense, is casual workers, some who offer themselves on casual wages throughout
the year, others who do casual work only as a part-time activity.

There are three wage rates available for the agricultural sector from the 1980s. One for each
season (Rabi and Kharif), and a general casual wage rate. It can be argued that the dominant type
of casual labour used in agriculture is season-specific and not of a general variety, the latter
usually representing the casual labour available in rural areas. The wage rates for two seasons
(Rabi and Kharif) in agriculture show an increase up to the end of 1980s and then a decline in the
1990s. The general and non-seasonally specific casual wage rates in agriculture also suggest an
increasing trend till the end of 1980s and have then fluctuated. It is clear that overall real wage
rates in agriculture increased in the 1980s and are witnessing a decline in the 1990s (Figure
2.3a).

Real wages of the organized industrial sector, have increased on trend from the 1970s, although
there is no data available for recent years. As suggested earlier, this is likely to be a small
proportion of the total employed labour force ( not exceeding 10 per cent). The category of
skilled workers can be seen in real wages of masons: an increase in real wages in the 1970s, a
decline in the early 1980s and an increase on trend from the late 1980s onwards (Figure 2.3b).
The real wage index of unskilled labourers is based on data of casual workers in construction. It
can be taken as a proxy for non-agricultural urban casual workers, which are likely to dominate
the urban small-scale and informal enterprise sector. This also shows a trend increase in the
1970s, and then a decline till the mid-1980s, which increases briefly during the late 1980s and
then shows a slow decline through the 1990s. The pattern is clearer for real wages of unskilled
casual labour an increase in the 1970s and a decline in the 1990s (Figure 2.3c).

Poverty Trends

Trends in poverty are difficult to estimate in Pakistan because research is often based on
different poverty lines and a number of problems also exist with the types of data often available.
There is, however, a need to view the trends in poverty in Pakistan, both rural and urban, from an
employment perspective. (10) Malik (1988) has estimated poverty lines from 1963-64 to 1984-85
on a consistent methodology based on calorie norm. (11) Figure 2.4 shows that poverty increased
in Pakistan during the 1960s (although urban poverty declined). It began declining during the
1970s and this decline continued up to the late 1980s. After the late 1980s (1987-88) there is
every likelihood that poverty increased, at least up to 1990-91, after which it has either increased
or remained the same. The 1990s trend is therefore likely to be one of increase. (12) It is true that
the total poverty trend described above is generally reflected in the trends in rural poverty and
not urban poverty. Urban poverty has shown significant declines when total poverty has
increased (1960s and the 1990s). Urban poverty may have started declining again in the 1990s,
while rural poverty is probably either not declining or is increasing. This is of immediate
relevance for our impression of wages for the early 1990s and is quite consistent with the
reversal of past urban-rural labour force growth trends in the 1990s.
Poverty, Wages and Growth

It is also useful to make some qualitative assessments about poverty and wages and growth taken
together.

For the 1970s, it is fairly clear that poverty declines in both urban and rural areas were matched
by a universal increase in all types of real wage rates for most of the period. Whereas GDP
growth was not so high, the growth that took place was driven by employment expansion. It very
clearly demonstrates the inverse relation between poverty and real wages. (13)

In the 1980s, when poverty continued to decline but less fast than it did in the 1970s, we have a
mixed picture of real wages. In this situation we need to make judgements on the weight of
activities in the economy for which the real wage is a proxy. In our view it is the casual wages in
agriculture, especially the seasonal ones and the urban casual unskilled wage rates which would
affect most of those offering themselves on the labour market. General agricultural/rural wage
rates (which reflect the rural non- farm sector as well) showed an increase until the late 1980s;
agricultural (seasonal) wages increased on trend in this period. The wages of the unskilled urban
workers declined and increased again. There was an increase in skilled workers wages and that
of the organized industrial sector. On the whole those real wages which showed a cyclical trend
balanced out, while others increased until the late 1980s. The net effect was an increase in real
wages and reduction in poverty. This period was one of high growth which was dominantly
labour-productivity driven. The inverse relation between real wages and poverty is therefore
maintainable for the 1980s.

The 1990s show a decline in real wages of the agricultural seasonally specific wages and a
fluctuating cyclical trend in general agricultural/rural wages. Unskilled urban casual wages have
also declined. Poverty as we know has probably increased and has certainly not declined in the
1990s. This too confirms the inverse relation between poverty and real wages. It is, however,
also evident that the 1990s (like the 1970s) are not a high growth period such as the 1980s were.
Growth in the 1990s is less driven by employment expansion than was the case in the 1970s.

In general it may be arguable that in Pakistan, although poverty and real wages are related
inversely, as should be the case in an economy in which hired labour constitutes more than half
of the employed, both high and low GDP growth situations have led to the alleviation of poverty.
However, in the low growth scenario the composition of growth needs to be dominated by
employment expansion (as opposed to labour productivity), in order to reduce poverty and
improve employment conditions. This is probably not happening in Pakistan in the 1990s. We
can now return to examining the employment indicators implicit in the elasticity measure which,
as we have seen, had increased from the 1980s to 1990s.

8. Elasticity, employment, labour productivity and output: An integrated view

Quite apart from problems of estimation, (14) it is the case that employment elasticities implicitly
contain information that may be useful in assessing the employment situation. The overall
association of productivity growth and employment growth in any given period is implicit in the
elasticity measure by definition. It is, however,m partly determined by technological
relationships that obtain within sectors, which are likely to differ across sectors and which are
smoothed out or concealed when represented (implicitly) in an elasticity measure or aggregated
at an economy-wide level.

It can be argued that during the development process a negative relationship between labour
productivity growth and employment growth is to be expected, even a strengthening one. This
can be consistent with both employment and productivity increasing at positive rates. Four
interesting cases may be defined.

Case 1: When employment and productivity growth are both sizably positive, and there is the
likelihood of continuing conditions of healthy economic growth which are not employment
unfriendly.

Case 2: When very low (or negative) growth rates in both employment and productivity occur, it
may be a sign of a potential sectoral slowdown towards stabilization. This is acceptable, as long
as the sector is unlikely to become a natural refuge sector for labour, in times of overall
deceleration of growth.

Case 3: When there is negative or very low productivity growth and there is sizeable positive
growth in employment, it may be indicative of stagnation in the sector. This is likely to be
accompanied by increasing surplus labour and underemployment and falling real wage rates. It is
important to note that this may be owing not to an unsatisfactory rate of output growth in the
sector but to the employment expansion taking place within it. This is characteristic of a classic
refuge sector.

Case 4: When there is positive growth in productivity and a negative or very low growth in
employment, it may be indicative of a fundamental technological shift taking place in the sector.
(15)

We now discuss productivity and employment growth simultaneously, for the major sectors
(Tables A2.5 and A2.6). The following observations can be made from examining the data.

1. A negative association between productivity growth and employment growth is

discernible (Table A2.6). It was weakest in the 1970s and strongest in the 1980s but the
intensity of the measure in the 1990s is still greater than that of the 1970s. What it does
show is that the economy in the 1990s, as a whole, is less able to absorb labour than was
the case in the 1970s, although the situation has altered somewhat compared to the 1980s.
It is, however, very important to note the increase in intensity of this negative relation for
agriculture and construction over the same periods, particularly as sectors are usually
associated with high shares of employment.
2. In the first period (1970s) productivity increased at a low rate, output growth was
reasonable, and high growth in employment took place. In the 1980s, productivity growth
was higher than the 1970s, employment growth lower, and output growth very high. In
the 1990s productivity growth has fallen again, employment growth continues near the
1980s rate, while output growth has also declined. What has happened is that the lower
output growth of 1990s is sustaining an employment growth at a level which was
associated with the higher output growth of the 1980s, which has meant a decline in
productivity growth. Employment elasticities, as we know, were higher in the 1970s,
declined in the 1980s and rose again in the 1990s.
3. In agriculture, productivity growth was negative in the 1970s, increased in the 1980s and
has shown a decline in the 1990s, employment growth has shown gradual decline over
the period but is still positive. (16) Output growth has followed the pattern of productivity
growth: it increased between the first two decades and then declined slightly in the 1990s.
It should be noted that employment and productivity growth rates have all fallen in
agriculture over the 1980s and the 1990s while the rate of output growth of the sector
improved from the 1970s to the 1980s and, even in the 1990s when it declined somewhat,
it has not been unsatisfactory. (17) So output growth, though slightly falling has been
reasonable (around 3.4 per cent) and productivity growth has declined to a lower rate.
Employment growth on the other hand has also fallen, although it is still positive. This
does not explain the new volatility in agricultural employment observed earlier. Further
sector-specific investigation is needed. The situation in the agricultural sector in Pakistan
is similar to Case 2 (low-productivity/low employment-growth) described above.
4. The construction sector's productivity growth has consistently fallen from the 1970s to
the 1980s and 1990s, when it became negative. Employment growth in this sector has
fallen although it has remained high and positive throughout. Output growth has fallen
consistently over the three periods. Therefore construction seems to be a sector which is
 likely to be facing a crisis with increasing employment and negative productivity. This is
similar to Case 3 (a stagnating refuge sector) described above.
5. 5. In the manufacturing sector, productivity growth was very low (1.3 per cent) in the
1970s, it increased to a very high rate in the 1980s (7 per cent) and has declined to a
middling (4.6 per cent) rate in the 1990s. Employment growth has very clearly seen a
decline from the 1970s, through the 1980s to the 1990s. During the 1990s it has become
negative. Output growth in manufacturing was around 4.7 in the 1970s, it rose to a very
high 8.4 per cent in the 1980s and returned to a lower level of 4.2 per cent in the 1990s.
Clearly, manufacturing is a sector where there is prima facie evidence on a de-linking of
output and employment growth. The case of manufacturing is similar to Case 4
(technological shifts) described above.
6. 6. There has been a high growth of employment in the retail and trade sector in the 1990s,
as well as the residually defined "other" sector as was observed in the 1970s. Many
activities in these sectors are likely to be located in the non- manufacturing smaller scale
and informal sectors.

If the indicative schema and observations made above are to be accepted, then the agricultural
sector is likely to be moving towards low productivity conditions (although from the productivity
perspective it is not as bad as the 1970s) while manufacturing is likely to be undergoing a
fundamental technological shift, in which its growth process is becoming de-linked, at least from
direct employment generation. Construction is likely to have become a sponge or refuge sector,
which is simply absorbing labour at negative productivity levels. There is an increase in
employment growth in the retail and trade sector and the 'other' sectors group in the 1990s which
is symptomatic of informal and small-scale enterprise sectors growth. This expansion seems
associated with relatively lower levels of GDP growth (1970s and 1990s). It has also played an
active role in labour absorption in the 1990s, as we have seen earlier.

9. Employment and output growth linkages

It is fairly obvious that the growth of the manufacturing sector has strong growth multiplier
effects on the rest of the economy (Table A2.7iii), but in looking at employment growth rates for
different sectors of the economy we find an interesting set of relationships between employment
growth in manufacturing and employment growth in the rest of the economy. Examining simple
correlations between sectoral employment growth rates (Table A2.7i), it is clear that growth in
manufacturing employment is most strongly related to economy-wide employment growth and,
in particular, has positive and relatively stronger linkage effects on employment growth in most
other (non-agricultural) sectors of the economy. This is an encouraging finding from the point of
view of setting up guidelines for an employment strategy.

The greater the extent to which growth in manufacturing is employment-based, the greater will
be its employment multiplier effects on the rest of the economy. However, promoting
employment friendly growth does have a potential problem that employment elasticities in
manufacturing are low and productivity growth during the 1990s has been associated with a
negative employment growth. Hence, the situation in manufacturing is that output growth cannot
be expected to generate much direct employment. This is an area which requires special focus in
a sector-specific analysis, with special attention paid to the distinctions between the large and
small-scale manufacturing sectors.

10. The agenda for an employment strategy

The trends in the labour force and employment in Pakistan suggest that with the already low and
declining participation rates of labour in the economy, labour force growth is itself declining. In
this situation, unemployment persists and underemployment is increasing. The indicators of
employment conditions, i.e. real wages and poverty, reflect this worsening in the 1990s. In our
view, there are also good reasons to expect an increase in labour force growth in the near future.
This swelling in the labour force growth is also likely to change the composition of the labour
force to a more literate one. In short, the current employment problems facing the economy are
likely to magnify in the near future. The major challenge is to attack the problems of
unemployment and underemployment and to increase aggregate employment significantly as
well.

Apart from controlling population growth, which is an important part of an employment strategy,
we need to look closely at the changing features of employment as a whole and in particular
sectors of the economy. These issues stand out:

1. An important matter that has emerged concerns growth itself. It is clear from the
periodization of Pakistan's history that although high growth periods, lead by increases in
labour productivity, can be accompanied by improving wage rates and declining poverty,
a low growth period, if it is to improve wage rates and decrease poverty, cannot be based
excessively on labour productivity.
2. There is a certain volatility to employment patterns observable in recent years at the
economy-wide level. This may reflect widespread shifts in contractual arrangements and
is an essential issue to explore.
3. The role of agriculture in future employment absorption needs to be very seriously
examined. Until now it has only performed reasonably in terms of growth but appears to
have been involved in the swings in employment absorption in recent years. Rural-urban
labour force growth rates may also be reversing, and this requires special consideration
from the point of view of agriculture. Since poverty is inversely related to productivity in
agriculture, a swelling of the labour force in rural areas, if there is insufficient absorptive
capacity in the rural non-farm sector, could put pressure on the already low and slowly
increasing productivity growth rates.
4. There is a growth and employment linkage between the economy as a whole and the
manufacturing sector.
5. Manufacturing is not only critical for output growth but its role in employment-
generation needs to be explored. It has clearly faced a crisis of sorts in recent years, but it
should be noted that its output growth, though much lower than the 1980s, has not been
all that low in the 1990s, exclusing the past two years. Manufacturing is critical for
growth and growth is crucial for productive employment. However, the crisis is in
employment within manufacturing. For an employment strategy, both a 'revival of output
growth' of manufacturing as a whole and the location of its employment crisis need to be
assessed. The manner in which employment linkages are affected between manufacturing
 and other sectors is also important to assess. In short, the revival of growth and the nature
of low employment elasticities must be the critical focus of an employment review of
manufacturing.
6. There is a need to examine the growth of the small-scale enterprise sector and its
employment absorption which not only covers manufacturing but other labour intensive-
sectors of the economy. The necessary focus is on the nature of growth and the potential
in it for employment-generation. Taking into account the caution required for greater
employment absorption in agriculture and the apparent limits to employment growth in
manufacturing, it is clear that those sectors of the economy covered by the SSE sector
become critical from the perspective of an employment strategy.

CHAPTER THREE
The Agricultural Sector
1. Introduction

Agriculture in Pakistan has had reasonable output growth in the past. (1) At the aggregate level, its
growth was showing signs of decline from the 1980s to the 1990s. (2) On the other hand,
employment growth in the sector continued to be positive though it also declined on trend in the
1990s. The sector could be moving towards a situation where it may be forced to absorb large
sections of the labour force, possibly unemployable in other sectors that face a slow-down in
output growth. This possibility is also reflected in labour absorption in the sector, which showed
that it was the main sector 'adjusting' to employment fluctuations in the economy. Part of the
reason for this is external to the sector. When the overall economy faces a slowdown, its largest
employer (even if its sectoral employment share is declining over the longer run) is likely to
experience a swelling in its labour force relative to the output it produces. In the present chapter,
we explore these external causes of change as well as what may have happened to the structure
of output and employment within the agricultural sector.

2. The special nature of employment and output in agriculture

Some points need to be noted about employment and output that are specific to agriculture and
necessary for interpreting the trends in Pakistan.

Measurement of employment

Employment in agriculture is family-based and also uses hired labour both on a casual/part-time
and well as a permanent basis. In other words, employment in agriculture is non-homogenous (3)
and does not directly depend on the labour market for all its supply of labour. Seasonal demand
for agricultural labour means that those employed, can be expected to be "underemployed" at
least some of the time. The notion of full-time work; the role of the labour market in the supply
of labour and the aggregation of different types of workers into the employed category are less
straightforward in the agricultural sector.

The special nature of output

The determinants of agriculture output are also different from those of output in other sectors. In
agriculture, output is partly dependent on external uncertainty, this means that weather is an
important determinant of output, especially at low levels of output. Therefore, whenever there
are conditions of an immanent collapse of output, labour which has already been employed,
appears less productive (productivity declines). Agricultural output collapses are less often
failures of demand and are more supply-side determined. Clearly then the measure of labour
productivity in such a situation is not so much a proxy of the contribution of labour assuming
employment is counted properly) to production but reflects the over-determining influence of
other external causes that influence output.

Thus, we need to be cautious in using 'employment' and 'output' categories in themselves or in

standard measurements, when analyzing the agricultural sector. We now select two features of
this discussion, external uncertainty with output and casual labour use in employment, to posit a
combined effect which may be of special relevance in Pakistan.

A combined effect

The degree of external risk in agriculture is also sensitive to the technological features of the
production process. The HYV technical input package, in use in Pakistan, which is based on
robust varieties of seeds, also requires the use of complementary inputs, (4) the application of
which is subject to serious time constraints. (5) It can be argued that the widespread use of the
package, though growth- enhancing on average could also increase the sensitivity of the
production process to this external uncertainty. If this is the case then it should be reflected not
only in an increasing level of output on average but also in relative output instability post-
adoption.

One response to increased external risk (due to the profitable technological package and
uncertainty), is that land-owning employers move towards flexible arrangements with labour, to
reduce a part of their wage-cost risk due to the vagaries of weather. The use of casual labour, (6)
particularly during labour demand peaks, can generate this flexibility.

It also means that the greater the proportion of casual labour in the agricultural labour force, the
more closely the employment growth trend in agriculture is likely to follow the output growth
trend, because it is precisely the casual labour component of the labour force that becomes its
variable part.

This would also imply that in conditions of economy-wide low growth, levels of surplus labour
in the agrarian economy will be high and underemployment and poverty due to the changes in
the composition of the labour force and its casualisation will become increasingly visible.

3. Output and employment growth rates in Pakistan's agriculture

The growth of output in agriculture has been positive and increasing (tables A3.1 and A3.2,
A3.3) in Pakistan. The sector has by and large under-performed GDP growth but its growth rate
is reasonable. Figure 3.1 shows that the pattern of output and employment growth has been
fluctuating much more since the mid-1980s. Although it is quite true that output growth was
much more stable in the 1970s, which meant stable employment growth and stable elasticities, it
is likely that the fluctuations apparent from the mid-1980s have contributing factors other than
external uncertainty.

These patterns may have something to do with the changing nature of both output and
employment. For output, the country-wide use of the HYV technological package by the 1980s
(tables A3.3a and 3.3b) meant that its sensitivity to the timing of inputs, as well as external
weather conditions with respect to that timing, became more accentuated. This may explain the
increasing amplitude of movements in output growth over the years as shown in Figure 3.1. (7)

Because family labour and permanent labour are a constant part of the employed labour force in
agriculture, the changes that may result from output booms and slumps are likely to be due to
changes in the employment of the casual labour force. We therefore need to examine changes in
the composition of the labour force (table A3.4). According to Agricultural Census data
agricultural "employment" witnessed a 0.62 per cent annual growth in the 1980s. This excludes
casual labour use, which is known to have increased phenomenally in the same period (see table
A3.5) (8). Permanent hired labour use has altered but the weight of permanent hired labour in the
census figures of permanent agricultural employment is not large enough to warrant comment
(2.7 per cent).

4. Agricultural employment and total employment

Throughout the 1970s the rate of growth of economy-wide employment has been, on a trend,
higher than that of agricultural employment. The LFS figures are, as suggested earlier, likely to
capture employment in agriculture data, which includes casual labour (table A3.5) and are
therefore preferable, at least in terms of coverage, to the Agricultural Census (AC) figures. Both
figures for the 1980s (AC and LFS) are, however, lower than the overall growth rate of
employment. Since the mid-1980s (which is also the peak period of growth after which a gradual
decline sets in), there is no longer a discernible pattern; agricultural employment growth has
been higher as well as lower from the overall rate of employment growth (table A3.2). There is
also a changing pattern of rural-urban migration, with rural Pakistan increasingly retaining more
of the labour force (table A3.6). (9) It is worth noting that for the second half of the 1980s decade,
(10)
there is a greater increase in growth of 'agricultural employment' than is the case in the first
half (table A3.4). (11) Consequently, there are signs of a swelling in the size of the agricultural
labour force.

5. Decomposing the sources of output growth

In the 1970s output growth was not too high (2.0 per cent) but it was positive and so was
employment (2.1 per cent). This trend altered in the 1980s, when output growth on average was
higher (3.9 per cent), and employment growth remained a little lower (1.9 per cent) but switched
to an increased use of casual labour. In the 1990s output growth continues at a slightly lower rate
(3.3 per cent) and employment growth is also low (1.6 per cent) but both output and employment
growth patterns are more volatile (table A3.2).

We now come to the decomposition of growth exercise, which looks at the contribution of labour
productivity and employment expansion to output growth, bearing in mind the qualifications
made earlier regarding output, employment and productivity in agriculture. Basically,
employment expansion-based growth dominated in the 1970s, shifting to productivity-dominated
growth in the 1980s, and shifting back to employment expansion based growth in the 1990s,
though it is now 'shared' with labour productivity.

In the 1970s, a more stable period of lower output growth, the employment expansion effect
dominated the productivity effect for several reasons . The nineteen seventies were a period
when the green revolution, although significant, had not spread nationwide (table A3.7a). The
popular belief that effective land reform may come about in Pakistan encouraged landed
agriculturists with significant holdings to stay in sector. This was also reflected in a spate of land
resumptions, a decline in absenteeism and the expansion of cultivable land cultivation. Also,
growth in other sectors is this period was low. A combination of these conditions may explain
the dominance of the employment effect. (12)

Table 1: Decomposing output growth , productivity and employment effects-agriculture

Year Productivity Effect Employment Effect Multiple Effect

1969/70 - 1980/81 0.063 0.918 0.018
1980/81 - 1991/92 0.664 0.236 0.100
1991/92 - 1994/95 0.361 0.623 0.040

The 1980s story is slightly different. Labour productivity dominated contributions to output
growth (which was also higher than in the 1970s). Reasons include the less costly expansion of
land frontier (already done in the 1970s); the widespread use of a HYV input package (Table
A3.7 a and A3.7 b), and greater tractorisation in parts of the country other than the Punjab, where
the green revolution had become widespread earlier. The possibility of land reform had also
receded from the agenda of the then military regime. But equally significantly, the decline in the
employment contribution to growth in the 1980s may be due to higher growth in other sectors of
the economy. Sectors that were drawing productive labour out of agriculture particularly
manufacturing. It is worth noting that SSE manufacturing, which has a large rural component,
was witnessing employment and output growth at least up to the mid-1980s.

The 1990s reverted to an employment expansion based effect (at levels of agricultural output
growth similar to the 1980s but more volatile on an annual basis) and may reflect a deceleration
of growth in other sectors, particularly manufacturing. There is nonetheless a significant
contribution of labour productivity in this period as well.

Employment expansion in the presence of as large a casual labour force as exists in Pakistan in
the 1990s says little about the quantum of labour used or its returns. It is worth recalling that the
composition of the agricultural labour force has changed in the 1990s compared with the 1980s,
and volatility of output in the sector is reflected more in employment growth than previously it is
also likely to have generated a precariousness in the livelihoods of those now employed as
'casual labour' in the agricultural sector.

6. Unemployment and underemployment

Agricultural employment is a dominant part of rural employment. Trends of unemployment and

underemployment in the rural areas reflect labour market conditions in the agricultural sector.
However, unemployment, in a developing country context, in particular in agriculture, is not a
good indicator of labour market conditions. In the absence of social welfare and insurance, the
unemployed are generally available for work in any sector, and often do work to survive.
Underemployment is therefore a better indicator of conditions in the labour market. The trends in
unemployment and underemployment are examined below.

The data (table A3.8) show that unemployment increased on trend in the 1980s, from 1979-80 to
1987-88. It is not legitimate to observe trends on unemployment without qualification across the
year 1990-91 when LFS data is used, as in this year definitional changes took place which
particularly affected the unemployed. The data show that unemployment was increasing on trend
in rural Pakistan during the 1980s and was showing a trend decline in the 1990s. (13)

The case for rural underemployment is also mixed. It shows a decline from early to mid-1980s
and an increasing trend through the second half of the 1980s and the 1990s. (14) What is clear is
that the rural underemployment rate is high in Pakistan.

By 1993-94 about 20 per cent of the rural labour force was either not working or only partially
working in rural areas, consistent with a fluctuating pattern of growth in output and employment,
which as we argued is increasingly based on the use of casual labour. (15) An agricultural sector
with low levels of productivity, coexisting with other sectors with limited employment
absorption capacities, is likely to have a large reserve army of the underemployed with a high
degree of underemployment.
If non-farm employment growth (which is the rural part of the SSE sector) had started slowing
down since mid-1980s, then it can be assumed that the bulk of labour absorption in the 1990s
would be in the agricultural sector, possibly as underemployment and casual labour. (16)

7. Labour demand

It has been suggested above that, owing to the non-homogenous nature of the employed,
increasing levels of employment (numbers of employed) may not translate into increasing use of
labour (amount of labour). Consequently we need to look at the requirements of labour and the
many factors which affect them. In the short-run they are best reflected in estimations based on
cropping patterns.

Cropping patterns and profitability

Driven by profitability considerations, there has been an increase in the cultivation of crops with
a higher labour input in Pakistan. This is clearly a trend across the 1980s and 1990s (table A3.9 ).
These changes in cropping patterns which require more labour are also consistent with trends in
rates of profits of individual crops (table A3.10 ).

There are two ways to respond to increases in labour requirements. One is by actually increasing
labour inputs to meet those requirements. The other is by capital-labour substitutions which may
reduce those requirements. Increasing labour inputs can be done by hiring additional labour or by
increasing the use of existing labour (either family or hired or both).

Size and productivity: Increasing family labour use

Changes in average sizes of farms may have automatically led to the internalization of some of
these increased labour requirements due to changing cropping patterns. The changes in farm size
over the intercensal period have increased the incidence of small farms in Pakistan. It can be
argued from research on the farm size-productivity relationship in Pakistan, that an inverse
relation between farm size and labour input exists (table A3.12 ). (17) So the fall in farm size due
to the sub-division of holdings (18) over time would increase the potential availability of labour
inputs, especially family labour inputs.

It is also the case that small farms have higher total productivities and greater cropping
intensities than larger ones, whereas they may have lower individual-crop yields than large farms
( Mahmood, 1997b, mimeo).

This means that small farms maximize returns through their choice of cropping patterns and
greater use of labour. This response to the increasing requirements of labour is one that
automatically comes about when productivity led cropping pattern changes made possible by the
new technology take place over time. Large farms still have to contend with the hiring-in of extra
labour, much of which is likely to be of a casual variety.

Mechanization: Reducing labour requirements

The second way to respond to increasing labour requirements is mechanization (19). Some
economy- wide evidence exists here as well. Farm area exclusively using bullock power has
declined over the 1980s. On the other hand, farm area using a mix of bullocks and tractors as
well as tractors exclusively has increased. It is clear that the effect of tractor use is the
displacement of labour (table A3.13).

Tenurial shifts: Creating an available labour pool

Changes in land tenure which have taken place in Pakistan in the last two decades (a decline in
tenancy) may or may not have increased productivity. Evidence is mixed and depends on the
existence of disincentives in tenancy compared with owner-farming as well as on who is
resuming the tenanted land. It is likely that over time disincentives in tenancy have become
marginal and insignificant, at least in the Sindh province in Pakistan where the bulk of tenancy
exists (Majid, 1994). Reduction in tenancy releases labour into the labour market as landless
labour, which needs to get absorbed. Tenancy has also clearly declined in Pakistan (table A3.14).

8. Wages and poverty

Results from a recent study (Gazdar, Howe and Zaidi, World Bank, 1994) shows that in rural
areas, households headed by tenants and agricultural labourers have a very high incidence of
poverty (table A3.15). (20) These workers are at the bottom end of the range of human capital and
physical assets categories. This suggests that casual workers constitute one of the poorest
sections of the agricultural labour force and, given that tenancy has declined and casual labour
increased, these workers are likely to be a growing section of the rural poor.

We have already discussed wage and poverty trends in Chapter Two, but a restatement is in
order in the agricultural context. Nominal wage data are available on seasonal agricultural casual
workers (table A3.16). Although real wages of agricultural workers improved up to the mid-
1980s, during the 1990s they have probably declined. The wage data again corroborates our
expectations about the continuing slow-down of the rural non-farm employment growth since the
late-1980s and the swelling of the casual labour force in agriculture. The assumption here is on
the nature of the labour market and its extent of isolation. In our view the agricultural casual
labour market does function in rural Pakistan; in an overall sense the wage rates are a signal of
supply and demand conditions and there is some evidence to support this view. (21) Recent
poverty studies in Pakistan also tend to show a decline in rural poverty from 1969-70 up to 1987-
88. There is an increase in rural poverty after 1987-88 up to 1990-91, according to one study
(Malik, 1996) and a slight decline according to another (Gazdar et. al., 1994), owing to
differences in assumptions made to calculate poverty lines (Kemal and Amjad, 1997). However,
it can be claimed with some degree of certainty that the declining trend in rural poverty either
reversed or witnessed a severe slowdown in 1987-88 to 1990-91, the latest data period available.
In our view the increase in rural poverty seems to be a more plausible result.

9. Upshot

Agricultural output growth rates were reasonable in the 1980s and 1990s. Employment growth
and productivity growth have declined commensurately, leaving a more or less constant
elasticity of employment (.48). However, the low employment-low productivity growth situation
is sensitive to growth conditions in the rest of the economy and the sector needs to be protected
on this count. An overview of the employment situation in agriculture suggests that over the
1970s, 1980s and 1990s, profitability-driven cropping pattern changes based on the new
technological package may have increased labour requirements in the sector. The changing
distribution of operated holdings, mechanization and tenurial shifts may have partially adapted
to, as well as reduced, these increases. The rest of the adjustment has had to be borne by the new
hired casual labour force, the size of which is increasing. The nature of this labour force is
reflected in the extent of rural underemployment, wage rates and poverty. While
underemployment is sizable (around 20 per cent including the unemployed) it has shown signs of
an increasing trend since the late 1980s. The returns to casual labour suggest that both the levels
of real wages and the size of the non-poor in the rural economy of Pakistan have either stagnated
or declined in the last period for which information exists (1987-88 to 1990-91 for poverty and
up to 1994-95 for wages).

These changes have been accompanied by what can be seen as structural change in the
agricultural sector. This change is manifest both at the level of the production and labour process
on the one hand and the supply of agricultural labour on the other. Both these changes are
noteworthy from a policy point of view.

First, on the production and the labour process. What is significant about the growth of output
and employment in the agricultural sector in Pakistan, is not so much their rates of growth, but
the changing composition of the labour force on the one hand and the increased variability in the
pattern of its production over time, on the other. There is much greater volatility in agricultural
output since the mid-1980s, connected to the widespread assimilation of technical changes in the
rural economy and now embedded in the production process. This translates into a fluctuating
trend in the employed labour force, with the increasing casual labour component on the receiving
end of the adjustments to this volatility in output.

The second matter concerns the expanding and impoverished pool of labour reserve from which
this casual labour springs. Landlessness and near-landlessness as a consequence of declining
tenancy and the subdivision of holdings is one element in this. The other may be a return labour
flow into the agricultural sector because of low growth in other sectors of the economy,
especially the rural SSE sector. These tendencies are likely to exacerbate the size of the labour
reserve in rural areas, which then has to 'forcibly' get 'absorbed' in agriculture as a last resort.

An effective policy focus to promote future growth and employment in the agricultural sector
needs to have a dual aim: the dampening of the relationship between the volatility of output and
the livelihoods of the workforce; and making the livelihoods of casual labour within this
workforce more sustainable.

CHAPTER FOUR
The Manufacturing Sector
1. Introduction
In Chapter Two, we concluded that at an aggregate level an employment strategy in Pakistan has
to have the manufacturing sector as a critical focus. The argument was based on two
observations. First, that given the problems with the elasticity measure, at least a simultaneous
examination of employment and labour productivity growth was needed. Second, that cross-
sectoral employment linkages also seemed to be important. It was consequently argued that
despite the fact that there was limited room within the manufacturing sector to generate
employment directly, if manufacturing growth could be employment-based, it would have
positive employment effects on the rest of the economy.

Within manufacturing, a distinction can be made between "small-" vs. "large-scale"

manufacturing. (1) This section looks at manufacturing as a whole and then focuses on large-scale
sector. In a separate chapter (Chapter Five) devoted to the Small-Scale Enterprise Sector (SSE),
we look at small-scale manufacturing.

2. Elasticity, employment and output growth

Figure 4.1 gives a visual plot of employment elasticity, as well as employment and output
growth rates, in the manufacturing sector over the years in Pakistan. Plotting growth rates of
employment and output is useful for an overview and we can start with the same point we made
at the economy-wide level about the limitations of elasticity measures taken on their own. A
stable and very low elasticity has accompanied fairly diverse output and employment growth
patterns in manufacturing over the years in Pakistan. What can be claimed with some degree of
confidence is that elasticity of employment is low (2) in manufacturing, and this at least seems to
be a structural feature of the sector. The latest period of the 1990s in Pakistan is showing a
decline in both output and employment growth and this is a seriously worrying matter for the
sector (3). The reason for this low elasticity of employment in Pakistan's manufacturing sector is
therefore a critical policy question.

3. Decomposing output growth in the manufacturing sector

Having observed the trend of output and employment growth, we will now conduct a
'decomposition of growth' exercise for the manufacturing sector. (4) We will first examine how
the contributions of labour productivity and employment relate to output growth, and second,
whether any trend can be observed in these contributions.

In the first period of the 1970s, although growth itself was uneven (higher in the first half, lower
in the second) it was roughly equally divided between productivity and employment. The next
period of 1980-81 to 1991-92, the period of consistent high output growth, was based dominantly
on the productivity effect (about 81 per cent) while the contribution of employment to growth
was low (8 per cent). Clearly, a shift was already taking place in this period of high growth of the
manufacturing economy. The last period of the 1990s is one of low and declining growth,
especially in the recent years, and the contribution of employment to output growth has been
negative. The entire growth process now seems to be based on labour productivity. (5) This trend
makes the task of boosting and restructuring the industrial sector, from an employment
perspective, somewhat difficult. We need to bear in mind the cross-sectoral employment linkage
caveat made in the Chapter Two, to emphasize the role of manufacturing.

Table 4.1: Decomposing output growth: productivity and employment effects -

manufacturing

Year Productivity Effect Employment Effect Multiple Effect

1969/70 - 1980/81 0.460 0.419 0.120
1980/81 - 1991/92 0.816 0.089 0.094
1991/92 - 1994/95 1.868 -0.680 -0.188

4. Output and employment in the manufacturing sector

A low elasticity of employment has been observed in the manufacturing sector in Pakistan.
Progressively over the last two decades growth in manufacturing has become more labour-
productivity driven (than employment-expansion driven) and in the 1990s it seems to have been
de-linked from employment expansion altogether. This picture is quite consistent with the low
and declining elasticities of employment already observed. The sources of this growth need to be
further explored.

While the share of manufacturing in GDP has increased from 15.1 per cent to 18.2 per cent, its
share in employment declined from 13.54 per cent to 10.12 per cent. The rate of growth of value
added in the manufacturing sector as a whole has been declining on a trend in Pakistan, over the
Plan periods since 1982-83. This is true for manufacturing as a whole as well for large-scale
manufacturing. In particular, large-scale manufacturing has experienced a serious slowdown
from 1994 onwards and growth was negative in 1996-97. The 1980s were the high growth period
of the manufacturing sector in Pakistan. There has been a clear decline, on trend, in the growth of
output ever since (6).

Table 4.2: Growth rates of manufacturing output over the sixth, seventh and eighth plan
periods
Period Total Large-scale
1982-83 to 1987-88 8.2 8.1
1987-88 to 1992-93 5.9 4.9
1992-93 to 1996-97 3.8 1.7
1992-93 5.4 4.1
1993-94 5.5 4.3
1994-95 3.6 1.5
1995-96 4.4 2.2
1996-97 1.8 -1.4

Source: Based on Economic Survey (1996-97 and previous issues).

Manufacturing comprises both the small-scale and large-scale sectors in Pakistan. The small-
scale sector dominates employment in it, while the large-scale sector dominates output. Table 4.3
shows that although output growth has taken place in the manufacturing sector in both its small
and large-scale sections, employment began to decline in the small-scale sector in the mid-1980s.
There seems to be some constraint that the small-scale sector begins to face at this time. In other
words, the de-linking of employment from growth which was taking place in the manufacturing
sector in the 1980s, may have been due to the overwhelming weight of the declining employment
in the small-scale manufacturing sector and not because of the large-scale sector as such. The
picture after 1990-91 is constructed on the basis of National Income Accounts (NIA) and the
labour force surveys (LFS), and there is not much that can be said about the large-scale and
small-scale manufacturing sector separately here, except that overall growth of the sector has
fallen further, and there has been a negative employment growth. It would seem that at least the
same trend with respect to the small-scale sector employment can be assumed.

Table 4.3: Output and employment in manufacturing

Employment
Output Growt
Share of in
Employmen h rate
Total Large t manufacturi Small Large- Small-
of
Period ng sector in scale total scale
Scale (Mill. nos.) total Scale emplo
employment manuf y-ment manufac.
ac.
1982/83 45. 33.80 11.70 3.50 13.54 0.46 3.04 0.30
60 5
1983/84 49. 36.50 12.70 3.61 13.69 0.47 3.13 3.10
20 6
1984/85 53. 39.40 13.80 3.73 13.84 0.49 3.24 3.30
20 3
1985/86 57. 42.20 15.00 3.62 13.40 0.50 3.11 2.30
 20 7
1986/87 61. 45.30 16.20 4.08 14.23 0.53 3.55 12.70
50 2
1987/88 67. 50.00 17.60 3.72 12.84 0.51 3.21 -8.20
60 5
1988/89 70. 51.20 19.10 3.84 12.84 - - 3.20
30
1989/90 74. 53.70 20.70 3.96 12.84 - - 3.10
30
1990/91 79. 56.60 22.40 3.70 12.38 0.62 3.08 -6.60
00 3
1991/92 85. 61.00 24.30 3.88 12.53 - - 4.90
30
1992/93 89. 63.60 26.30 3.53 11.00 - - -10.00
90
1993/94 94. 66.20 28.50 3.34 10.12 - - -4.20
70
1994/95 98. 67.30 30.90 3.49 10.50 - - 3.30
20

Sources: Economic Survey, 1996-97; Labour Force Surveys; Censuses of Manufacturing

Industries; Censuses of Small-scale and Household Establishments.

5. The large-scale sector: Main features

Large-scale manufacturing in Pakistan is dominated by the so-called "Big Four" industries -

sugar, textiles (cotton yarn and cloth), cement, and fertilizers while accounting for only 6.9 per
cent of the units in the sector in 1991, consisted of 37.6 per cent of net output, 40.2 per cent of
exports, 35.0 per cent of employment and 43.2 per cent of the capital stock employed in large-
scale manufacturing. (7) Unlike its contribution to output and exports, the large-scale sector's
contribution to employment has been moderate, even in periods of rapid growth. On the whole,
manufacturing industries in Pakistan, have failed to create sufficient employment: employment
levels were almost the same in 1994-95 as they were in1982-83. During 1980-95, when total
employment grew by 2.3 per cent per year, employment in large-scale manufacturing increased
at only 1.8 per cent per year. (8) Over the same period (1980-95), large-scale industry absorbed
only 1.4 percent of the additional employment in the economy. (9) Slow job creation in large-scale
manufacturing was accompanied by a substantial rise in capital intensity and labour productivity
in the period (10), as assets employed per worker increased from Rs. 50,000 in 1980-81 to
Rs.192,000 in 1990-91. As a result, the labour content in output and the share of wages in value
added dropped in most industries (table A4.3). It is therefore quite clear that labour productivity
as well as capital intensity have risen on trend in the large-scale manufacturing sector in Pakistan
(table A4.6).
It has also been suggested above that, despite the slowdown of overall growth, employment and
output growth have not moved in opposite directions in the large-scale sector until very recently,
whereas they showed signs of this in the small-scale sector as early as the mid-1980s. The share
of large-scale manufacturing employment has been around 17 per cent of manufacturing
employment in 1990-91, while its output share was around 70 per cent in the same year.

From an employment point of view the separation of large from small-scale as well as the
distinctness of the high-growth 1980s and low-growth 1990s are important facts. The centrepiece
of an employment strategy within manufacturing is the small-scale sector, which is larger in
weight and has been facing problems since the mid-1980s, In contrast the primary focus of the
revival of growth is relevant to the large-scale sector where the bulk of manufacturing output is
produced and where employment is still growing, albeit slowly. It is this sector's growth which is
likely to have positive linkages with other sectors, including activities in the manufacturing as
well as non-manufacturing small-scale sector. Since we are discussing the large-scale sector in
the present section, this difference must be kept in mind.

6. An examination of productivity in the large-scale manufacturing sector

Apart from describing some specific features of the manufacturing sector in Pakistan, the
discussion above highlighted that the growth process in the large-scale manufacturing sector is
characterized by a low employment elasticity and that if it is decomposed over time, labour
productivity dominate employment expansion as the source of growth. We also saw that both
labour productivity and capital intensity have increased in the large-scale manufacturing sector.

We now attempt to examine the determinants of labour productivity as well as employment over
time in a more systematic way. There are two basic sources of increases in labour productivity.
First, there can be an autonomous increase, arising from better management, skill upgrades
(possibly via training), longer working hours and greater effective effort. Productivity gains that
result from better management and skill upgrades are desirable. These are likely to show up over
time.

Second, productivity can increase from increases in the use of machinery and non-labour inputs.
This would largely be reflected as the effect of capital intensity. (11)

The question to ask at this stage is: given that labour productivity has shown an increase over
time, what is the extent to which it has been driven by changes in the composition of capital (the
capital-labour ratio) and to what extent is it due to autonomous increases in productivity? Since it
is expected that in the course of development the composition of capital effect is dominant, we
are interested in knowing whether autonomous increases in productivity have any potential in
manufacturing in Pakistan.

A regression analysis conducted for the period 1980-97 (see table A4.4), which focuses on the
determinants of labour productivity and employment in large-scale manufacturing, suggests that
labour productivity in Pakistan has been influenced by changes in capital intensity (i.e., the
capital-labour ratio) as well as increases in 'autonomous' productivity. The capital intensity effect
on productivity clearly dominates in manufacturing.
Labour productivity and capital intensity have a significant positive relationship (for equations in
which it used), and this is according to expectation. The level of value added in manufacturing
also has a positive relationship with labour productivity (it is significant in two specifications out
of three) which suggests that high value added production is associated with high labour
productivity, which is also expected. The positive relation also holds true for the time variable
(statistically significant in two equations), which can be seen as a proxy for skills development,
learning or 'autonomous' increases in productivity. (12) So there are some grounds to expect a
potential for autonomous productivity increases in Pakistan.

Employment on the other hand is significantly and positively associated with value added (in two
out of three equations). The capital-labour ratio, the measure of capital intensity, is significantly
and negatively related to employment. The time variable simply shows a negative sign showing
the growth rate trend. Three matters are deducible from this analysis which have strategic
implications. First, that increasing capital intensity which increases labour productivity also has a
negative effect on employment. Second, that higher value added production, though positively
related to labour productivity and capital intensity, is likely also to have a direct beneficial
impact on employment. This means that the promotion of high value added production has two
possible effects on employment, through capital intensity it is likely to reduce employment, but
through the overall positive association between increase valued added production and
employment it is likely to increase employment.

Third, and most importantly, we know from the analysis that autonomous increases in
productivity are not unknown in Pakistan. This is a significant finding and can provide a basis
for an employment-friendly investment plan.

7. The structure of large-scale manufacturing in the 1980s and 1990s

We now try to differentiate the two periods of the 1980s and 1990s. We know that one was a
low-growth period and the other a high-growth period. We also know that the overall trend is of
increasing labour productivity and capital intensity in the sector. A decomposition of total factor
productivity is useful in this context. (13) The increase in productivity in the large-scale
manufacturing sector shows that the increase in total factor productivity from 1982-83 to 1996-
97 has been slight, and has been declining, on trend, since 1992-93. Labour productivity, as we
know, has shown an increase on trend, (except for the decline for 1996-97). Capital productivity
shows an increase up to 1992-93 and then shows declines. Therefore, it is really both capital and
labour productivity which increased in the 1980s boom. In contrast, while labour productivity
continued to increase, capital productivity showed a decline in the lower growth 1990s. This is a
crucial difference. (14)

Table 4.4: Productivity in large-scale manufacturing (1980-81=100)

Labour productivity Capital productivity Total factor productivity

1982-83 122.5 110.1 101.2
1987-88 166.9 136.3 102.5
1992-93 205.2 155.8 103.0
1994-95 208.9 148.9 102.7
1995-96 211.9 143.1 102.4
1996-97 201.7 135.6 102.4

Source: DRI/PIDE Study on Technology 1997.

The output and employment growth policy in manufacturing needed in Pakistan is intrinsically
tied to the labour productivity-led growth process which the country began to witness in the
1980s. The causes for increases in labour productivity are critical to assess. We have done this
across the two periods fairly systematically in the regression analysis above, which suggested
that while the capital intensity effect dominated, autonomous productivity increases were not
unknown. For a periodized decomposition of total factor productivities we found that the
difference between the 1980s and 1990s was located in capital, not labour productivity. The
1980s saw an increase in the latter, the 1990s a decline. We now attempt an assessment for the
1980s and 1990s separately and at a sectorally more disaggregated level.

The high-growth 1980s

The 1980s were a high-growth period, particularly for the period 1982-82 to 1987-88, after
which a decline set in. Indicators of capital intensity for parts covering the period also tend to
confirm that capital intensity increased in this period. This process has continued between the
high-growth 1980s and the low-growth 1990s (table A4.2), but for different reasons. It is
reasonable to argue that if growth is positive, as it was in the 1980s, and capital intensity also
increases, as was also the case in 1980s, then labour productivity (value added per unit of labour)
is also likely to rise. This is the case for the evidence we have for the 1980s (table A4.6). So the
increasing capital intensity argument behind the high labour productivity is further corroborated
for the 1980s.

There are some other indicators which explain the 1980s story a little more. Data on investment
for the 1980s suggest that it remained around a 3 per cent proportion of GDP from 1983-88 and
increased to 4.7 per cent by 1992-93 (table A4.7). This is not only consistent with the capital
intensity argument made above, but it also shows that it was the increase in value of capital stock
as well as employment increases which characterized growth in the 1980s. Labour productivity
driven growth in the 1980s, was due to increasing overall capital intensity and the number of
persons employed, which was being sustained by a relatively stable investment pattern.

Alterations in the composition of investment began in the 1980s. There are falls (table A4.8)
during 1982-83 to 1988-89 in the shares of the chemicals sector and the cement sector, while
there are increases in the textiles and food sectors. So it would appear from investment patterns
that while the overall intensity of capital seemed to be increasing, a sectoral shift was also taking
place in the 1980s to less-capital intensive sectors. We need to examine the capital intensities of
sub-sectoral shifts to explain this.

During the period 1980-81 to 1990-91, in the large-scale sector, the share of food products
declined from 24.3 per cent to 14.2 per cent (table A4.9). This is interesting because food was
not a highly capital intensive sector, and although the share in value added of the food sector was
declining, investment in it was increasing; (15) the share of textiles increased from 24.3 per cent to
26 per cent and textiles on the whole are even less capital-intensive than food. It is also clear that
both food and textiles are on the middle to lower end of the capital intensity scale in the large-
scale sector taken as a whole. The chemical sectors share increased from 13.2 per cent in 1980-
81 to 23.5 per cent in 1985-86 and then declined to 14.9 per cent in 1987-88 and further to 13 per
cent by 1990-91. Industrial chemicals constitute the larger part of this sector and are very capital-
intensive. Investment figures reported earlier which show a decline for the chemical sector after
1985-86 tend to suggests that there was over-capitalization in the sector in the early 1980s. (16)
These are the only significant changes in the period; the rest of the sectors are mostly not major
and generally tend to fluctuate with respect to their value added shares in smaller margins. It
appears that the net result of sectoral shifts has been an increase in capital intensity and this
needs to be explained.

There are two factors at work here. Although the major sectoral changes (as well as investment
patterns) suggest production may have been moving towards relatively less capital-intensive
sectors in the 1980s, it is also the case that 16 out of 24 sub-sectors have individually
experienced an increase in capital intensity even in the period 1987-88 to 1990-91 (table A4.2).
Furthermore, while the food sector's (the major loser) capital intensity, contrary to the trend
actually declined in the period , the capital intensity of the textile sector (the main gainer)
increased. Capital intensity of the chemicals sector also declined during the late 1980s.

It can be argued that taking into account overall increases in capital intensity across the
manufacturing sector, and the specific changes in the capital intensity of the main losers and
gainers, the sub-sectoral shifts in the 1980s are likely to have accompanied increasing capital
intensity on the whole. Although, counterfactually speaking, had the shifts in the major sectors
not taken place the capital intensity would have increased even more. (17)

Finally, data on capital-output ratios is also available. An increasing capital output ratio suggests
that the value of capital stock in relation to the value of output is rising. Assuming stable prices,
this is consistent with either an increase in capital stock or a decline in production. A decline in
production, which would tend to raise the capital- output ratio, is consistent with a crisis of
demand and excess capacity building in industry. Therefore rising capital-output ratios are
consistent with building excess capacity. Falling capital-output ratios suggest the opposite. The
latter was the case in Pakistan during the 1980s (table A4.3). To the extent, excess capacity that
it existed was being used up in the 1980s. It was a relative increase in output despite the
increases in capital stock which characterized the capital intensive-labour productivity driven
growth of the Pakistan economy in the 1980s. (18)

We now return to the issue of the low elasticity of the manufacturing economy. It is arguable that
the 1980s high-growth period's low elasticity of employment and shifting source of growth (from
being unequally shared between employment and labour productivity to being labour
productivity driven) is consistent not only with an increasing capital intensity in general across
the large-scale sector, but also a compositional shift to relatively less capital intensive sub-
sectors within manufacturing.
By the end of the 1980s, a slowdown in growth began to take place. What were the
characteristics of this slowdown and what were its causes?

The 1990s: A period of low growth

During the 1990s growth has moved from positive to negative. We cannot say much about
employment levels because of data constraints. With increasing flexibility in labour markets, it is
likely that employment may have declined, and contractual changes occurred. (19)

Even if growth is declining and turns negative (output increases less and less and then declines) a
capital intensity rise (which reduces employment in relation to capital) will show up as an
increase in labour productivity (the production of output or value added per unit of labour) but
this will be for different reasons than in a high growth situation. Capital intensity can rise for two
reasons: an increase in capital stock and a decline in employment. In a period of zero or negative
growth, a rise in capital intensity is likely to be due to a decline in employment as opposed to an
increase in capital stock. (20) This means that if labour productivity increases it does so because
the rate of fall of output (value added) is less than the rate of fall of employment. The issue really
turns on how flexible the labour market is. If the number of employed decline, and output
declines as well, an increase in labour productivity is as possible as a decline is. It depends on the
respective rates of decline. It is not clear whether Pakistan is already in this situation, but it may
be close to it.

Consequently, the same indicators of increasing capital intensity and increasing labour
productivity can characterize two very different situations. It is fairly clear from the data that
growth in the 1990s slowed down (table 4.2). Declining and low as it was it is equally clear that
growth was even more dominantly based on labour productivity increases than employment
expansion than in the 1980s. What was the sectoral basis of this rising labour productivity?

Investment declined in the sector from 4.7 per cent of GDP to 2.7 per cent from 1992-93 to by
1996-97. It is, however, still likely that capital intensity in the sector increased, from the
foregoing discussion and the data at our disposal. The 1990s also indicate only slight changes in
the composition of output (table A4.10). (21) By and large, shares of output show variations of a
small margin for the main sectors. The 1990-91 pattern of industrial composition continues. The
only sector which shows any serious increase is the textile sector. The relatively more capital-
intensive sectors reveal a trend decline within a small margin.

It is, however, very clear that unlike the 1980s, there is an excess capacity build-up in some of
the major sectors of the economy (table A4.11). We have information for 1990-91 when capacity
utilization was around 60 per cent. Recent trends based on Planning Division estimates suggest a
declining trend in selected sub-sectors. In the recent period from 1992-93 to 1995-96, capacity
utilization has declined on trend in the spinning, sugar, and cement sectors. It has remained
stagnant in weaving and increased only in fertilizers. This clearly suggests an overall decline.

It can be argued that the 1990s picture is characterized partly by a failure of demand in the large-
scale manufacturing sector. The low level and declining growth of output and employment,
declining investments and the build-up of excess capacity all point to this failure. The increase in
capital intensity (like the increasing labour productivity in the 1990s) which characterizes the
growth process, needs to be matched with declining capital productivity and is therefore more
indicative of shrinking employment than an increasing capital stock and value of output.

What is responsible for the slowdown in growth? Apart from the general failure of demand
argument, there are two broad answers to this question. One relates to macroeconomic policies
and the other to the investment climate.

From the macroeconomic perspective, Pakistan has pursued deflationary policies since the
beginning of the reforms in 1988. This is supposed to have short-run consequences for growth,
which are not inconsistent with what can be discerned for the 1990s. Among other issues this
also includes the withdrawal of the public sector in the economy under depressed demand
conditions. (22)

Since the decline in investment is also for the more recent years, it may partly be due to the
unstable conditions of production and investment (i.e., the law and order situation) in both
Karachi and the Punjab, which have clearly deteriorated in the recent past.

8. Towards a policy outline

The challenge for the manufacturing sector in Pakistan is considerable. A concerted effort is
needed towards increasing the low elasticity of employment as well as output growth. This effort
needs to focus on reviving demand and improving the social climate for investment, on
increasing the utilization of existing capacity and promoting growth in sectors with a potential
for autonomous productivity increases.

Criteria of sectoral choices in an employment-friendly investment plan

Some of the above findings can assist in the formulation of an employment-friendly investment
plan for the future. It is therefore recommended that in the selection of activities to be promoted,
the following factors must be borne in mind when developing the criteria for sectoral choice:

• sectors should have some potential for autonomous productivity growth;

• sectors should have some employment-generating capacity;
• sectors should be producing sufficient value added (such that the capital
intensity/negative employment effect is offset by the expansion-high value added/positive
employment effect); and
• there should be a separate assessment of demand conditions in such sub-sectors and those
which seem relatively unconstrained must be promoted.

The mechanism of sectoral promotion should be affected through two means. First, via the
banking system, which should try to guide investment. Sub-sectors fulfilling composite measures
based on the above criteria need to be identified and a system of incentives offered through the
financial system to realize the desired flows into these sub-sectors.

Fiscal expansion and demand

Given that part of the problem may be in government pursual of deflationary policies under the
reforms, which has led to a decline in demand for manufactured goods, it may be worth
examining the worth of expansionary fiscal policies, to revive demand. To the extent that
capacity is under-utilized (investment requirements become less) and the manufacturing sector is
not primarily export-based, the case may have some merit. (23)

The budget deficit and working capital

A critical factor in freeing affordable resources for the manufacturing sector is the degree to
which the government budgetary deficit falls and the government borrows a smaller amount of
money from the banking sector. Capacity utilization and employment can increase without
substantial increases in investment. There is a clear link between the budget reform government
and the relief of working capital constraints in manufacturing. This is, however, not inconsistent
with the selective fiscal expansion suggested above. (24)

Promotion of sub-sectors through tariff rationalizations

In order to revive growth in manufacturing, the profitability issue needs to be addressed directly.
This entails a serious examination of the structure of tariff rationalizations and the matter is
likely to be critical. The development of the manufacturing sector has become somewhat lop-
sided over the years, as production has moved against high value added products. If corrected
this may benefit the sector as a whole. Tariff rationalization can result in improvements in the
relative profitability of the chemicals and engineering sectors (the sectors falling behind) and
arrest the trend in the overall composition of investment and output in the large-scale sector. This
is important to do for the general health of the large-scale manufacturing sector, even though it
may be true that some parts of these non-traditional sectors may comprise relatively capital
intensive activities.

Capital pricing and directing new investment

Another issue concerns investment itself and the price of capital. It is questionable if capital is
priced in relation to its opportunity cost. If capital were priced at its opportunity cost with
prudential regulations, then the true costs of investment would be transparent to investors and
lenders. This is clearly not the case in Pakistan, and the crisis of bad loans that the financial
sector is facing is testimony to this fact. Arguably the weakest link in the financial sector reforms
which have taken place in Pakistan, it also highlights something that is fairly obvious but often
ignored, namely that in many instances market-based reform must be complemented by
institutional reform in order to be effective.

The co-ordination of capital flows

Unlike the earlier period, when credit plans were coordinated by government to put sectoral
ceilings on bank lending, direct leverage for credit allocation is no longer used by government
and credit is controlled indirectly through discount rates, open-market operations and liquidity
requirements. It is, however, still possible for banks to collude with respect to sectoral lending
priorities, as they have a significant interest in the setting up of new plants and improving the
overall use of capital. Banks therefore clearly have a stake in the provision of capital which is
invested and there is much that can be done in this area.

The revival of sick industries

There is another important issue which needs to be assessed concerning capacity utilization and
the performance of the manufacturing sector in Pakistan . A large number of industrial units have
closed down over the last few years and a considerable number are operating below capacity; as
many as 2,533 industrial units are closed and another 1,252 units are running losses (Report of
Committee on Sick Mills, 1996). The units have become 'sick' for several reasons which need to
be distinguished. The checklist includes: over-capitalization of different industrial units; over-
capacity in the unit's industry as a whole; inappropriate site selection; inappropriate choice of
technology, lack of working capital; and basic mismanagement. Units operating below capacity
could also be facing a slackness in demand, energy constraints via load shedding, or the non-
availability of complementary inputs. Solutions vary according to the dominant cause of the
sickness of unit and these must be identified in a fair amount of detail for a serious attempt at
devising revival strategies. In general, the question is whether anything can be done to increase
the utilization of capacity in the present circumstances.

Tax policy and flow of goods

As indicated above, in recent years Pakistan has been pursuing deflationary policies in the
context of economic reforms, with a direct influence on the decline in demand for manufactured
goods. The increase in sales tax and regulatory duties on raw materials and intermediate inputs
has at the same time made domestic manufacturing less competitive against smuggled goods. It
is therefore important to assess the effect of government taxation efforts on competition, in the
presence of leaky borders. There may be something which can be done here.

Energy pricing

Load shedding has been a constraint to industrial growth in the past in Pakistan. It is expected to
be overcome because of increased capacity, although the whole matter of an inefficient energy
distribution system still needs to be addressed. Whatever the determinants and cost parameters
associated with the growth of the energy sector, it is fairly clear the issue of energy prices will be
critical for the growth process. Higher energy prices may still constrain the utilization of
capacity. Consequently, a critical factor in the increase in the utilization of capacity in
manufacturing is the degree to which energy prices increase in the economy.

9. Upshot

We have attempted to explain the trends of employment and growth in the manufacturing sector
in Pakistan over the 1980s and 1990s. There are some features of this review which need to be
highlighted.

A low employment elasticity is a structural feature of the manufacturing sector in Pakistan. We

find that trends in growth rates suggest a decline. The 1980s were a high growth period while the
1990s are characterized by low growth. Growth in manufacturing since the 1980s has been
driven by labour productivity as opposed to employment expansion; the last period in which
employment expansion took place was the (low growth) period of 1970s. It can be argued that
output growth began de-linking itself from employment in the 1980s and became de-linked from
employment expansion altogether in the 1990s. Part of the explanation of this feature lies in the
distinction between the small and large-scale sectors in

CHAPTER FOUR
The Manufacturing Sector
1. Introduction

In Chapter Two, we concluded that at an aggregate level an employment strategy in Pakistan has
to have the manufacturing sector as a critical focus. The argument was based on two
observations. First, that given the problems with the elasticity measure, at least a simultaneous
examination of employment and labour productivity growth was needed. Second, that cross-
sectoral employment linkages also seemed to be important. It was consequently argued that
despite the fact that there was limited room within the manufacturing sector to generate
employment directly, if manufacturing growth could be employment-based, it would have
positive employment effects on the rest of the economy.

Within manufacturing, a distinction can be made between "small-" vs. "large-scale"

manufacturing. (1) This section looks at manufacturing as a whole and then focuses on large-scale
sector. In a separate chapter (Chapter Five) devoted to the Small-Scale Enterprise Sector (SSE),
we look at small-scale manufacturing.

2. Elasticity, employment and output growth

Figure 4.1 gives a visual plot of employment elasticity, as well as employment and output
growth rates, in the manufacturing sector over the years in Pakistan. Plotting growth rates of
employment and output is useful for an overview and we can start with the same point we made
at the economy-wide level about the limitations of elasticity measures taken on their own. A
stable and very low elasticity has accompanied fairly diverse output and employment growth
patterns in manufacturing over the years in Pakistan. What can be claimed with some degree of
confidence is that elasticity of employment is low (2) in manufacturing, and this at least seems to
be a structural feature of the sector. The latest period of the 1990s in Pakistan is showing a
decline in both output and employment growth and this is a seriously worrying matter for the
sector (3). The reason for this low elasticity of employment in Pakistan's manufacturing sector is
therefore a critical policy question.
3. Decomposing output growth in the manufacturing sector

Having observed the trend of output and employment growth, we will now conduct a
'decomposition of growth' exercise for the manufacturing sector. (4) We will first examine how
the contributions of labour productivity and employment relate to output growth, and second,
whether any trend can be observed in these contributions.

In the first period of the 1970s, although growth itself was uneven (higher in the first half, lower
in the second) it was roughly equally divided between productivity and employment. The next
period of 1980-81 to 1991-92, the period of consistent high output growth, was based dominantly
on the productivity effect (about 81 per cent) while the contribution of employment to growth
was low (8 per cent). Clearly, a shift was already taking place in this period of high growth of the
manufacturing economy. The last period of the 1990s is one of low and declining growth,
especially in the recent years, and the contribution of employment to output growth has been
negative. The entire growth process now seems to be based on labour productivity. (5) This trend
makes the task of boosting and restructuring the industrial sector, from an employment
perspective, somewhat difficult. We need to bear in mind the cross-sectoral employment linkage
caveat made in the Chapter Two, to emphasize the role of manufacturing.

Table 4.1: Decomposing output growth: productivity and employment effects -

manufacturing

Year Productivity Effect Employment Effect Multiple Effect

1969/70 - 1980/81 0.460 0.419 0.120
1980/81 - 1991/92 0.816 0.089 0.094
1991/92 - 1994/95 1.868 -0.680 -0.188
4. Output and employment in the manufacturing sector

A low elasticity of employment has been observed in the manufacturing sector in Pakistan.
Progressively over the last two decades growth in manufacturing has become more labour-
productivity driven (than employment-expansion driven) and in the 1990s it seems to have been
de-linked from employment expansion altogether. This picture is quite consistent with the low
and declining elasticities of employment already observed. The sources of this growth need to be
further explored.

While the share of manufacturing in GDP has increased from 15.1 per cent to 18.2 per cent, its
share in employment declined from 13.54 per cent to 10.12 per cent. The rate of growth of value
added in the manufacturing sector as a whole has been declining on a trend in Pakistan, over the
Plan periods since 1982-83. This is true for manufacturing as a whole as well for large-scale
manufacturing. In particular, large-scale manufacturing has experienced a serious slowdown
from 1994 onwards and growth was negative in 1996-97. The 1980s were the high growth period
of the manufacturing sector in Pakistan. There has been a clear decline, on trend, in the growth of
output ever since (6).

Table 4.2: Growth rates of manufacturing output over the sixth, seventh and eighth plan
periods

Period Total Large-scale

1982-83 to 1987-88 8.2 8.1
1987-88 to 1992-93 5.9 4.9
1992-93 to 1996-97 3.8 1.7
1992-93 5.4 4.1
1993-94 5.5 4.3
1994-95 3.6 1.5
1995-96 4.4 2.2
1996-97 1.8 -1.4

Source: Based on Economic Survey (1996-97 and previous issues).

Manufacturing comprises both the small-scale and large-scale sectors in Pakistan. The small-
scale sector dominates employment in it, while the large-scale sector dominates output. Table 4.3
shows that although output growth has taken place in the manufacturing sector in both its small
and large-scale sections, employment began to decline in the small-scale sector in the mid-1980s.
There seems to be some constraint that the small-scale sector begins to face at this time. In other
words, the de-linking of employment from growth which was taking place in the manufacturing
sector in the 1980s, may have been due to the overwhelming weight of the declining employment
in the small-scale manufacturing sector and not because of the large-scale sector as such. The
picture after 1990-91 is constructed on the basis of National Income Accounts (NIA) and the
labour force surveys (LFS), and there is not much that can be said about the large-scale and
 small-scale manufacturing sector separately here, except that overall growth of the sector has
fallen further, and there has been a negative employment growth. It would seem that at least the
same trend with respect to the small-scale sector employment can be assumed.

Table 4.3:
1987/88 67.Output
50.00and17.60
employment
3.72 in manufacturing
12.84 0.51 3.21 -8.20
60 5
1988/89 70. 51.20 19.10 3.84 12.84 - - 3.20
30
1989/90 74. 53.70 20.70 3.96 12.84 - - 3.10
30
1990/91 79. 56.60 22.40 3.70 12.38 0.62 3.08 -6.60
00 3
1991/92 85. 61.00 24.30 3.88 12.53 - - 4.90
30
1992/93 89. 63.60 26.30 3.53 11.00 - - -10.00
90
1993/94 94. 66.20 28.50 3.34 10.12 - - -4.20
70
1994/95 98. 67.30 30.90 3.49 10.50 - - 3.30
20

Sources: Economic Survey, 1996-97; Labour Force Surveys; Censuses of Manufacturing

Industries; Censuses of Small-scale and Household Establishments.
5. The large-scale sector: Main features

Large-scale manufacturing in Pakistan is dominated by the so-called "Big Four" industries -

sugar, textiles (cotton yarn and cloth), cement, and fertilizers while accounting for only 6.9 per
cent of the units in the sector in 1991, consisted of 37.6 per cent of net output, 40.2 per cent of
exports, 35.0 per cent of employment and 43.2 per cent of the capital stock employed in large-
scale manufacturing. (7) Unlike its contribution to output and exports, the large-scale sector's
contribution to employment has been moderate, even in periods of rapid growth. On the whole,
manufacturing industries in Pakistan, have failed to create sufficient employment: employment
levels were almost the same in 1994-95 as they were in1982-83. During 1980-95, when total
employment grew by 2.3 per cent per year, employment in large-scale manufacturing increased
at only 1.8 per cent per year. (8) Over the same period (1980-95), large-scale industry absorbed
only 1.4 percent of the additional employment in the economy. (9) Slow job creation in large-scale
manufacturing was accompanied by a substantial rise in capital intensity and labour productivity
in the period (10), as assets employed per worker increased from Rs. 50,000 in 1980-81 to
Rs.192,000 in 1990-91. As a result, the labour content in output and the share of wages in value
added dropped in most industries (table A4.3). It is therefore quite clear that labour productivity
as well as capital intensity have risen on trend in the large-scale manufacturing sector in Pakistan
(table A4.6).

It has also been suggested above that, despite the slowdown of overall growth, employment and
output growth have not moved in opposite directions in the large-scale sector until very recently,
whereas they showed signs of this in the small-scale sector as early as the mid-1980s. The share
of large-scale manufacturing employment has been around 17 per cent of manufacturing
employment in 1990-91, while its output share was around 70 per cent in the same year.

From an employment point of view the separation of large from small-scale as well as the
distinctness of the high-growth 1980s and low-growth 1990s are important facts. The centrepiece
of an employment strategy within manufacturing is the small-scale sector, which is larger in
weight and has been facing problems since the mid-1980s, In contrast the primary focus of the
revival of growth is relevant to the large-scale sector where the bulk of manufacturing output is
produced and where employment is still growing, albeit slowly. It is this sector's growth which is
likely to have positive linkages with other sectors, including activities in the manufacturing as
well as non-manufacturing small-scale sector. Since we are discussing the large-scale sector in
the present section, this difference must be kept in mind.

6. An examination of productivity in the large-scale manufacturing sector

Apart from describing some specific features of the manufacturing sector in Pakistan, the
discussion above highlighted that the growth process in the large-scale manufacturing sector is
characterized by a low employment elasticity and that if it is decomposed over time, labour
productivity dominate employment expansion as the source of growth. We also saw that both
labour productivity and capital intensity have increased in the large-scale manufacturing sector.

We now attempt to examine the determinants of labour productivity as well as employment over
time in a more systematic way. There are two basic sources of increases in labour productivity.
First, there can be an autonomous increase, arising from better management, skill upgrades
(possibly via training), longer working hours and greater effective effort. Productivity gains that
result from better management and skill upgrades are desirable. These are likely to show up over
time.

Second, productivity can increase from increases in the use of machinery and non-labour inputs.
This would largely be reflected as the effect of capital intensity. (11)

The question to ask at this stage is: given that labour productivity has shown an increase over
time, what is the extent to which it has been driven by changes in the composition of capital (the
capital-labour ratio) and to what extent is it due to autonomous increases in productivity? Since it
is expected that in the course of development the composition of capital effect is dominant, we
are interested in knowing whether autonomous increases in productivity have any potential in
manufacturing in Pakistan.

A regression analysis conducted for the period 1980-97 (see table A4.4), which focuses on the
determinants of labour productivity and employment in large-scale manufacturing, suggests that
labour productivity in Pakistan has been influenced by changes in capital intensity (i.e., the
capital-labour ratio) as well as increases in 'autonomous' productivity. The capital intensity effect
on productivity clearly dominates in manufacturing.

Labour productivity and capital intensity have a significant positive relationship (for equations in
which it used), and this is according to expectation. The level of value added in manufacturing
also has a positive relationship with labour productivity (it is significant in two specifications out
of three) which suggests that high value added production is associated with high labour
productivity, which is also expected. The positive relation also holds true for the time variable
(statistically significant in two equations), which can be seen as a proxy for skills development,
learning or 'autonomous' increases in productivity. (12) So there are some grounds to expect a
potential for autonomous productivity increases in Pakistan.

Employment on the other hand is significantly and positively associated with value added (in two
out of three equations). The capital-labour ratio, the measure of capital intensity, is significantly
and negatively related to employment. The time variable simply shows a negative sign showing
the growth rate trend. Three matters are deducible from this analysis which have strategic
implications. First, that increasing capital intensity which increases labour productivity also has a
negative effect on employment. Second, that higher value added production, though positively
related to labour productivity and capital intensity, is likely also to have a direct beneficial
impact on employment. This means that the promotion of high value added production has two
possible effects on employment, through capital intensity it is likely to reduce employment, but
through the overall positive association between increase valued added production and
employment it is likely to increase employment.

Third, and most importantly, we know from the analysis that autonomous increases in
productivity are not unknown in Pakistan. This is a significant finding and can provide a basis
for an employment-friendly investment plan.
7. The structure of large-scale manufacturing in the 1980s and 1990s

We now try to differentiate the two periods of the 1980s and 1990s. We know that one was a
low-growth period and the other a high-growth period. We also know that the overall trend is of
increasing labour productivity and capital intensity in the sector. A decomposition of total factor
productivity is useful in this context. (13) The increase in productivity in the large-scale
manufacturing sector shows that the increase in total factor productivity from 1982-83 to 1996-
97 has been slight, and has been declining, on trend, since 1992-93. Labour productivity, as we
know, has shown an increase on trend, (except for the decline for 1996-97). Capital productivity
shows an increase up to 1992-93 and then shows declines. Therefore, it is really both capital and
labour productivity which increased in the 1980s boom. In contrast, while labour productivity
continued to increase, capital productivity showed a decline in the lower growth 1990s. This is a
crucial difference. (14)

Table 4.4: Productivity in large-scale manufacturing (1980-81=100)

Labour productivity Capital productivity Total factor productivity

1982-83 122.5 110.1 101.2
1987-88 166.9 136.3 102.5
1992-93 205.2 155.8 103.0
1994-95 208.9 148.9 102.7
1995-96 211.9 143.1 102.4
1996-97 201.7 135.6 102.4

Source: DRI/PIDE Study on Technology 1997.

The output and employment growth policy in manufacturing needed in Pakistan is intrinsically
tied to the labour productivity-led growth process which the country began to witness in the
1980s. The causes for increases in labour productivity are critical to assess. We have done this
across the two periods fairly systematically in the regression analysis above, which suggested
that while the capital intensity effect dominated, autonomous productivity increases were not
unknown. For a periodized decomposition of total factor productivities we found that the
difference between the 1980s and 1990s was located in capital, not labour productivity. The
1980s saw an increase in the latter, the 1990s a decline. We now attempt an assessment for the
1980s and 1990s separately and at a sectorally more disaggregated level.

The high-growth 1980s

The 1980s were a high-growth period, particularly for the period 1982-82 to 1987-88, after
which a decline set in. Indicators of capital intensity for parts covering the period also tend to
confirm that capital intensity increased in this period. This process has continued between the
high-growth 1980s and the low-growth 1990s (table A4.2), but for different reasons. It is
reasonable to argue that if growth is positive, as it was in the 1980s, and capital intensity also
increases, as was also the case in 1980s, then labour productivity (value added per unit of labour)
is also likely to rise. This is the case for the evidence we have for the 1980s (table A4.6). So the
increasing capital intensity argument behind the high labour productivity is further corroborated
for the 1980s.

There are some other indicators which explain the 1980s story a little more. Data on investment
for the 1980s suggest that it remained around a 3 per cent proportion of GDP from 1983-88 and
increased to 4.7 per cent by 1992-93 (table A4.7). This is not only consistent with the capital
intensity argument made above, but it also shows that it was the increase in value of capital stock
as well as employment increases which characterized growth in the 1980s. Labour productivity
driven growth in the 1980s, was due to increasing overall capital intensity and the number of
persons employed, which was being sustained by a relatively stable investment pattern.

Alterations in the composition of investment began in the 1980s. There are falls (table A4.8)
during 1982-83 to 1988-89 in the shares of the chemicals sector and the cement sector, while
there are increases in the textiles and food sectors. So it would appear from investment patterns
that while the overall intensity of capital seemed to be increasing, a sectoral shift was also taking
place in the 1980s to less-capital intensive sectors. We need to examine the capital intensities of
sub-sectoral shifts to explain this.

During the period 1980-81 to 1990-91, in the large-scale sector, the share of food products
declined from 24.3 per cent to 14.2 per cent (table A4.9). This is interesting because food was
not a highly capital intensive sector, and although the share in value added of the food sector was
declining, investment in it was increasing; (15) the share of textiles increased from 24.3 per cent to
26 per cent and textiles on the whole are even less capital-intensive than food. It is also clear that
both food and textiles are on the middle to lower end of the capital intensity scale in the large-
scale sector taken as a whole. The chemical sectors share increased from 13.2 per cent in 1980-
81 to 23.5 per cent in 1985-86 and then declined to 14.9 per cent in 1987-88 and further to 13 per
cent by 1990-91. Industrial chemicals constitute the larger part of this sector and are very capital-
intensive. Investment figures reported earlier which show a decline for the chemical sector after
1985-86 tend to suggests that there was over-capitalization in the sector in the early 1980s. (16)
These are the only significant changes in the period; the rest of the sectors are mostly not major
and generally tend to fluctuate with respect to their value added shares in smaller margins. It
appears that the net result of sectoral shifts has been an increase in capital intensity and this
needs to be explained.

There are two factors at work here. Although the major sectoral changes (as well as investment
patterns) suggest production may have been moving towards relatively less capital-intensive
sectors in the 1980s, it is also the case that 16 out of 24 sub-sectors have individually
experienced an increase in capital intensity even in the period 1987-88 to 1990-91 (table A4.2).
Furthermore, while the food sector's (the major loser) capital intensity, contrary to the trend
actually declined in the period , the capital intensity of the textile sector (the main gainer)
increased. Capital intensity of the chemicals sector also declined during the late 1980s.

It can be argued that taking into account overall increases in capital intensity across the
manufacturing sector, and the specific changes in the capital intensity of the main losers and
gainers, the sub-sectoral shifts in the 1980s are likely to have accompanied increasing capital
intensity on the whole. Although, counterfactually speaking, had the shifts in the major sectors
not taken place the capital intensity would have increased even more. (17)

Finally, data on capital-output ratios is also available. An increasing capital output ratio suggests
that the value of capital stock in relation to the value of output is rising. Assuming stable prices,
this is consistent with either an increase in capital stock or a decline in production. A decline in
production, which would tend to raise the capital- output ratio, is consistent with a crisis of
demand and excess capacity building in industry. Therefore rising capital-output ratios are
consistent with building excess capacity. Falling capital-output ratios suggest the opposite. The
latter was the case in Pakistan during the 1980s (table A4.3). To the extent, excess capacity that
it existed was being used up in the 1980s. It was a relative increase in output despite the
increases in capital stock which characterized the capital intensive-labour productivity driven
growth of the Pakistan economy in the 1980s. (18)

We now return to the issue of the low elasticity of the manufacturing economy. It is arguable that
the 1980s high-growth period's low elasticity of employment and shifting source of growth (from
being unequally shared between employment and labour productivity to being labour
productivity driven) is consistent not only with an increasing capital intensity in general across
the large-scale sector, but also a compositional shift to relatively less capital intensive sub-
sectors within manufacturing.

By the end of the 1980s, a slowdown in growth began to take place. What were the
characteristics of this slowdown and what were its causes?

The 1990s: A period of low growth

During the 1990s growth has moved from positive to negative. We cannot say much about
employment levels because of data constraints. With increasing flexibility in labour markets, it is
likely that employment may have declined, and contractual changes occurred. (19)

Even if growth is declining and turns negative (output increases less and less and then declines) a
capital intensity rise (which reduces employment in relation to capital) will show up as an
increase in labour productivity (the production of output or value added per unit of labour) but
this will be for different reasons than in a high growth situation. Capital intensity can rise for two
reasons: an increase in capital stock and a decline in employment. In a period of zero or negative
growth, a rise in capital intensity is likely to be due to a decline in employment as opposed to an
increase in capital stock. (20) This means that if labour productivity increases it does so because
the rate of fall of output (value added) is less than the rate of fall of employment. The issue really
turns on how flexible the labour market is. If the number of employed decline, and output
declines as well, an increase in labour productivity is as possible as a decline is. It depends on the
respective rates of decline. It is not clear whether Pakistan is already in this situation, but it may
be close to it.

Consequently, the same indicators of increasing capital intensity and increasing labour
productivity can characterize two very different situations. It is fairly clear from the data that
growth in the 1990s slowed down (table 4.2). Declining and low as it was it is equally clear that
growth was even more dominantly based on labour productivity increases than employment
expansion than in the 1980s. What was the sectoral basis of this rising labour productivity?

Investment declined in the sector from 4.7 per cent of GDP to 2.7 per cent from 1992-93 to by
1996-97. It is, however, still likely that capital intensity in the sector increased, from the
foregoing discussion and the data at our disposal. The 1990s also indicate only slight changes in
the composition of output (table A4.10). (21) By and large, shares of output show variations of a
small margin for the main sectors. The 1990-91 pattern of industrial composition continues. The
only sector which shows any serious increase is the textile sector. The relatively more capital-
intensive sectors reveal a trend decline within a small margin.

It is, however, very clear that unlike the 1980s, there is an excess capacity build-up in some of
the major sectors of the economy (table A4.11). We have information for 1990-91 when capacity
utilization was around 60 per cent. Recent trends based on Planning Division estimates suggest a
declining trend in selected sub-sectors. In the recent period from 1992-93 to 1995-96, capacity
utilization has declined on trend in the spinning, sugar, and cement sectors. It has remained
stagnant in weaving and increased only in fertilizers. This clearly suggests an overall decline.

It can be argued that the 1990s picture is characterized partly by a failure of demand in the large-
scale manufacturing sector. The low level and declining growth of output and employment,
declining investments and the build-up of excess capacity all point to this failure. The increase in
capital intensity (like the increasing labour productivity in the 1990s) which characterizes the
growth process, needs to be matched with declining capital productivity and is therefore more
indicative of shrinking employment than an increasing capital stock and value of output.

What is responsible for the slowdown in growth? Apart from the general failure of demand
argument, there are two broad answers to this question. One relates to macroeconomic policies
and the other to the investment climate.

From the macroeconomic perspective, Pakistan has pursued deflationary policies since the
beginning of the reforms in 1988. This is supposed to have short-run consequences for growth,
which are not inconsistent with what can be discerned for the 1990s. Among other issues this
also includes the withdrawal of the public sector in the economy under depressed demand
conditions. (22)

Since the decline in investment is also for the more recent years, it may partly be due to the
unstable conditions of production and investment (i.e., the law and order situation) in both
Karachi and the Punjab, which have clearly deteriorated in the recent past.

8. Towards a policy outline

The challenge for the manufacturing sector in Pakistan is considerable. A concerted effort is
needed towards increasing the low elasticity of employment as well as output growth. This effort
needs to focus on reviving demand and improving the social climate for investment, on
increasing the utilization of existing capacity and promoting growth in sectors with a potential
for autonomous productivity increases.
Criteria of sectoral choices in an employment-friendly investment plan

Some of the above findings can assist in the formulation of an employment-friendly investment
plan for the future. It is therefore recommended that in the selection of activities to be promoted,
the following factors must be borne in mind when developing the criteria for sectoral choice:

• sectors should have some potential for autonomous productivity growth;

• sectors should have some employment-generating capacity;
• sectors should be producing sufficient value added (such that the capital
intensity/negative employment effect is offset by the expansion-high value added/positive
employment effect); and
• there should be a separate assessment of demand conditions in such sub-sectors and those
which seem relatively unconstrained must be promoted.

The mechanism of sectoral promotion should be affected through two means. First, via the
banking system, which should try to guide investment. Sub-sectors fulfilling composite measures
based on the above criteria need to be identified and a system of incentives offered through the
financial system to realize the desired flows into these sub-sectors.

Fiscal expansion and demand

Given that part of the problem may be in government pursual of deflationary policies under the
reforms, which has led to a decline in demand for manufactured goods, it may be worth
examining the worth of expansionary fiscal policies, to revive demand. To the extent that
capacity is under-utilized (investment requirements become less) and the manufacturing sector is
not primarily export-based, the case may have some merit. (23)

The budget deficit and working capital

A critical factor in freeing affordable resources for the manufacturing sector is the degree to
which the government budgetary deficit falls and the government borrows a smaller amount of
money from the banking sector. Capacity utilization and employment can increase without
substantial increases in investment. There is a clear link between the budget reform government
and the relief of working capital constraints in manufacturing. This is, however, not inconsistent
with the selective fiscal expansion suggested above. (24)

Promotion of sub-sectors through tariff rationalizations

In order to revive growth in manufacturing, the profitability issue needs to be addressed directly.
This entails a serious examination of the structure of tariff rationalizations and the matter is
likely to be critical. The development of the manufacturing sector has become somewhat lop-
sided over the years, as production has moved against high value added products. If corrected
this may benefit the sector as a whole. Tariff rationalization can result in improvements in the
relative profitability of the chemicals and engineering sectors (the sectors falling behind) and
arrest the trend in the overall composition of investment and output in the large-scale sector. This
is important to do for the general health of the large-scale manufacturing sector, even though it
may be true that some parts of these non-traditional sectors may comprise relatively capital
intensive activities.

Capital pricing and directing new investment

Another issue concerns investment itself and the price of capital. It is questionable if capital is
priced in relation to its opportunity cost. If capital were priced at its opportunity cost with
prudential regulations, then the true costs of investment would be transparent to investors and
lenders. This is clearly not the case in Pakistan, and the crisis of bad loans that the financial
sector is facing is testimony to this fact. Arguably the weakest link in the financial sector reforms
which have taken place in Pakistan, it also highlights something that is fairly obvious but often
ignored, namely that in many instances market-based reform must be complemented by
institutional reform in order to be effective.

The co-ordination of capital flows

Unlike the earlier period, when credit plans were coordinated by government to put sectoral
ceilings on bank lending, direct leverage for credit allocation is no longer used by government
and credit is controlled indirectly through discount rates, open-market operations and liquidity
requirements. It is, however, still possible for banks to collude with respect to sectoral lending
priorities, as they have a significant interest in the setting up of new plants and improving the
overall use of capital. Banks therefore clearly have a stake in the provision of capital which is
invested and there is much that can be done in this area.

The revival of sick industries

There is another important issue which needs to be assessed concerning capacity utilization and
the performance of the manufacturing sector in Pakistan . A large number of industrial units have
closed down over the last few years and a considerable number are operating below capacity; as
many as 2,533 industrial units are closed and another 1,252 units are running losses (Report of
Committee on Sick Mills, 1996). The units have become 'sick' for several reasons which need to
be distinguished. The checklist includes: over-capitalization of different industrial units; over-
capacity in the unit's industry as a whole; inappropriate site selection; inappropriate choice of
technology, lack of working capital; and basic mismanagement. Units operating below capacity
could also be facing a slackness in demand, energy constraints via load shedding, or the non-
availability of complementary inputs. Solutions vary according to the dominant cause of the
sickness of unit and these must be identified in a fair amount of detail for a serious attempt at
devising revival strategies. In general, the question is whether anything can be done to increase
the utilization of capacity in the present circumstances.

Tax policy and flow of goods

As indicated above, in recent years Pakistan has been pursuing deflationary policies in the
context of economic reforms, with a direct influence on the decline in demand for manufactured
goods. The increase in sales tax and regulatory duties on raw materials and intermediate inputs
has at the same time made domestic manufacturing less competitive against smuggled goods. It
is therefore important to assess the effect of government taxation efforts on competition, in the
presence of leaky borders. There may be something which can be done here.

Energy pricing

Load shedding has been a constraint to industrial growth in the past in Pakistan. It is expected to
be overcome because of increased capacity, although the whole matter of an inefficient energy
distribution system still needs to be addressed. Whatever the determinants and cost parameters
associated with the growth of the energy sector, it is fairly clear the issue of energy prices will be
critical for the growth process. Higher energy prices may still constrain the utilization of
capacity. Consequently, a critical factor in the increase in the utilization of capacity in
manufacturing is the degree to which energy prices increase in the economy.

9. Upshot

We have attempted to explain the trends of employment and growth in the manufacturing sector
in Pakistan over the 1980s and 1990s. There are some features of this review which need to be
highlighted.

A low employment elasticity is a structural feature of the manufacturing sector in Pakistan. We

find that trends in growth rates suggest a decline. The 1980s were a high growth period while the
1990s are characterized by low growth. Growth in manufacturing since the 1980s has been
driven by labour productivity as opposed to employment expansion; the last period in which
employment expansion took place was the (low growth) period of 1970s. It can be argued that
output growth began de-linking itself from employment in the 1980s and became de-linked from
employment expansion altogether in the 1990s. Part of the explanation of this feature lies in the
distinction between the small and large-scale sectors in

CHAPTER FOUR
The Manufacturing Sector
1. Introduction

In Chapter Two, we concluded that at an aggregate level an employment strategy in Pakistan has
to have the manufacturing sector as a critical focus. The argument was based on two
observations. First, that given the problems with the elasticity measure, at least a simultaneous
examination of employment and labour productivity growth was needed. Second, that cross-
sectoral employment linkages also seemed to be important. It was consequently argued that
despite the fact that there was limited room within the manufacturing sector to generate
employment directly, if manufacturing growth could be employment-based, it would have
positive employment effects on the rest of the economy.

Within manufacturing, a distinction can be made between "small-" vs. "large-scale"

manufacturing. (1) This section looks at manufacturing as a whole and then focuses on large-scale
sector. In a separate chapter (Chapter Five) devoted to the Small-Scale Enterprise Sector (SSE),
we look at small-scale manufacturing.

2. Elasticity, employment and output growth

Figure 4.1 gives a visual plot of employment elasticity, as well as employment and output
growth rates, in the manufacturing sector over the years in Pakistan. Plotting growth rates of
employment and output is useful for an overview and we can start with the same point we made
at the economy-wide level about the limitations of elasticity measures taken on their own. A
stable and very low elasticity has accompanied fairly diverse output and employment growth
patterns in manufacturing over the years in Pakistan. What can be claimed with some degree of
confidence is that elasticity of employment is low (2) in manufacturing, and this at least seems to
be a structural feature of the sector. The latest period of the 1990s in Pakistan is showing a
decline in both output and employment growth and this is a seriously worrying matter for the
sector (3). The reason for this low elasticity of employment in Pakistan's manufacturing sector is
therefore a critical policy question.

3. Decomposing output growth in the manufacturing sector

Having observed the trend of output and employment growth, we will now conduct a
'decomposition of growth' exercise for the manufacturing sector. (4) We will first examine how
the contributions of labour productivity and employment relate to output growth, and second,
whether any trend can be observed in these contributions.

In the first period of the 1970s, although growth itself was uneven (higher in the first half, lower
in the second) it was roughly equally divided between productivity and employment. The next
period of 1980-81 to 1991-92, the period of consistent high output growth, was based dominantly
on the productivity effect (about 81 per cent) while the contribution of employment to growth
was low (8 per cent). Clearly, a shift was already taking place in this period of high growth of the
manufacturing economy. The last period of the 1990s is one of low and declining growth,
especially in the recent years, and the contribution of employment to output growth has been
negative. The entire growth process now seems to be based on labour productivity. (5) This trend
makes the task of boosting and restructuring the industrial sector, from an employment
perspective, somewhat difficult. We need to bear in mind the cross-sectoral employment linkage
caveat made in the Chapter Two, to emphasize the role of manufacturing.

Table 4.1: Decomposing output growth: productivity and employment effects -

manufacturing

Year Productivity Effect Employment Effect Multiple Effect

1969/70 - 1980/81 0.460 0.419 0.120
1980/81 - 1991/92 0.816 0.089 0.094
1991/92 - 1994/95 1.868 -0.680 -0.188

4. Output and employment in the manufacturing sector

A low elasticity of employment has been observed in the manufacturing sector in Pakistan.
Progressively over the last two decades growth in manufacturing has become more labour-
productivity driven (than employment-expansion driven) and in the 1990s it seems to have been
de-linked from employment expansion altogether. This picture is quite consistent with the low
and declining elasticities of employment already observed. The sources of this growth need to be
further explored.

While the share of manufacturing in GDP has increased from 15.1 per cent to 18.2 per cent, its
share in employment declined from 13.54 per cent to 10.12 per cent. The rate of growth of value
added in the manufacturing sector as a whole has been declining on a trend in Pakistan, over the
Plan periods since 1982-83. This is true for manufacturing as a whole as well for large-scale
manufacturing. In particular, large-scale manufacturing has experienced a serious slowdown
from 1994 onwards and growth was negative in 1996-97. The 1980s were the high growth period
of the manufacturing sector in Pakistan. There has been a clear decline, on trend, in the growth of
output ever since (6).

Table 4.2: Growth rates of manufacturing output over the sixth, seventh and eighth plan
periods

Period Total Large-scale

1982-83 to 1987-88 8.2 8.1
1987-88 to 1992-93 5.9 4.9
1992-93 to 1996-97 3.8 1.7
1992-93 5.4 4.1
1993-94 5.5 4.3
1994-95 3.6 1.5
1995-96 4.4 2.2
1996-97 1.8 -1.4

Source: Based on Economic Survey (1996-97 and previous issues).

Manufacturing comprises both the small-scale and large-scale sectors in Pakistan. The small-
scale sector dominates employment in it, while the large-scale sector dominates output. Table 4.3
shows that although output growth has taken place in the manufacturing sector in both its small
and large-scale sections, employment began to decline in the small-scale sector in the mid-1980s.
There seems to be some constraint that the small-scale sector begins to face at this time. In other
words, the de-linking of employment from growth which was taking place in the manufacturing
sector in the 1980s, may have been due to the overwhelming weight of the declining employment
in the small-scale manufacturing sector and not because of the large-scale sector as such. The
picture after 1990-91 is constructed on the basis of National Income Accounts (NIA) and the
labour force surveys (LFS), and there is not much that can be said about the large-scale and
small-scale manufacturing sector separately here, except that overall growth of the sector has
fallen further, and there has been a negative employment growth. It would seem that at least the
same trend with respect to the small-scale sector employment can be assumed.

Table 4.3: Output and employment in manufacturing

Employment
Output Growt
Share of in
Employmen h rate
Total Large t manufacturi Small Large- Small-
of
Period ng sector in scale total scale
Scale (Mill. nos.) total Scale emplo
employment manuf y-ment manufac.
ac.
1982/83 45. 33.80 11.70 3.50 13.54 0.46 3.04 0.30
60 5
1983/84 49. 36.50 12.70 3.61 13.69 0.47 3.13 3.10
20 6
1984/85 53. 39.40 13.80 3.73 13.84 0.49 3.24 3.30
20 3
1985/86 57. 42.20 15.00 3.62 13.40 0.50 3.11 2.30
20 7
1986/87 61. 45.30 16.20 4.08 14.23 0.53 3.55 12.70
50 2
1987/88 67. 50.00 17.60 3.72 12.84 0.51 3.21 -8.20
60 5
1988/89 70. 51.20 19.10 3.84 12.84 - - 3.20
30
1989/90 74. 53.70 20.70 3.96 12.84 - - 3.10
30
1990/91 79. 56.60 22.40 3.70 12.38 0.62 3.08 -6.60
00 3
1991/92 85. 61.00 24.30 3.88 12.53 - - 4.90
30
1992/93 89. 63.60 26.30 3.53 11.00 - - -10.00
90
1993/94 94. 66.20 28.50 3.34 10.12 - - -4.20
70
1994/95 98. 67.30 30.90 3.49 10.50 - - 3.30
20

Sources: Economic Survey, 1996-97; Labour Force Surveys; Censuses of Manufacturing

Industries; Censuses of Small-scale and Household Establishments.

5. The large-scale sector: Main features

Large-scale manufacturing in Pakistan is dominated by the so-called "Big Four" industries -

sugar, textiles (cotton yarn and cloth), cement, and fertilizers while accounting for only 6.9 per
cent of the units in the sector in 1991, consisted of 37.6 per cent of net output, 40.2 per cent of
exports, 35.0 per cent of employment and 43.2 per cent of the capital stock employed in large-
scale manufacturing. (7) Unlike its contribution to output and exports, the large-scale sector's
contribution to employment has been moderate, even in periods of rapid growth. On the whole,
manufacturing industries in Pakistan, have failed to create sufficient employment: employment
levels were almost the same in 1994-95 as they were in1982-83. During 1980-95, when total
employment grew by 2.3 per cent per year, employment in large-scale manufacturing increased
at only 1.8 per cent per year. (8) Over the same period (1980-95), large-scale industry absorbed
only 1.4 percent of the additional employment in the economy. (9) Slow job creation in large-scale
manufacturing was accompanied by a substantial rise in capital intensity and labour productivity
in the period (10), as assets employed per worker increased from Rs. 50,000 in 1980-81 to
Rs.192,000 in 1990-91. As a result, the labour content in output and the share of wages in value
added dropped in most industries (table A4.3). It is therefore quite clear that labour productivity
as well as capital intensity have risen on trend in the large-scale manufacturing sector in Pakistan
(table A4.6).

It has also been suggested above that, despite the slowdown of overall growth, employment and
output growth have not moved in opposite directions in the large-scale sector until very recently,
whereas they showed signs of this in the small-scale sector as early as the mid-1980s. The share
of large-scale manufacturing employment has been around 17 per cent of manufacturing
employment in 1990-91, while its output share was around 70 per cent in the same year.

From an employment point of view the separation of large from small-scale as well as the
distinctness of the high-growth 1980s and low-growth 1990s are important facts. The centrepiece
of an employment strategy within manufacturing is the small-scale sector, which is larger in
weight and has been facing problems since the mid-1980s, In contrast the primary focus of the
revival of growth is relevant to the large-scale sector where the bulk of manufacturing output is
produced and where employment is still growing, albeit slowly. It is this sector's growth which is
likely to have positive linkages with other sectors, including activities in the manufacturing as
well as non-manufacturing small-scale sector. Since we are discussing the large-scale sector in
the present section, this difference must be kept in mind.

6. An examination of productivity in the large-scale manufacturing sector

Apart from describing some specific features of the manufacturing sector in Pakistan, the
discussion above highlighted that the growth process in the large-scale manufacturing sector is
characterized by a low employment elasticity and that if it is decomposed over time, labour
productivity dominate employment expansion as the source of growth. We also saw that both
labour productivity and capital intensity have increased in the large-scale manufacturing sector.

We now attempt to examine the determinants of labour productivity as well as employment over
time in a more systematic way. There are two basic sources of increases in labour productivity.
First, there can be an autonomous increase, arising from better management, skill upgrades
(possibly via training), longer working hours and greater effective effort. Productivity gains that
result from better management and skill upgrades are desirable. These are likely to show up over
time.

Second, productivity can increase from increases in the use of machinery and non-labour inputs.
This would largely be reflected as the effect of capital intensity. (11)

The question to ask at this stage is: given that labour productivity has shown an increase over
time, what is the extent to which it has been driven by changes in the composition of capital (the
capital-labour ratio) and to what extent is it due to autonomous increases in productivity? Since it
is expected that in the course of development the composition of capital effect is dominant, we
are interested in knowing whether autonomous increases in productivity have any potential in
manufacturing in Pakistan.

A regression analysis conducted for the period 1980-97 (see table A4.4), which focuses on the
determinants of labour productivity and employment in large-scale manufacturing, suggests that
labour productivity in Pakistan has been influenced by changes in capital intensity (i.e., the
capital-labour ratio) as well as increases in 'autonomous' productivity. The capital intensity effect
on productivity clearly dominates in manufacturing.

Labour productivity and capital intensity have a significant positive relationship (for equations in
which it used), and this is according to expectation. The level of value added in manufacturing
also has a positive relationship with labour productivity (it is significant in two specifications out
of three) which suggests that high value added production is associated with high labour
productivity, which is also expected. The positive relation also holds true for the time variable
(statistically significant in two equations), which can be seen as a proxy for skills development,
learning or 'autonomous' increases in productivity. (12) So there are some grounds to expect a
potential for autonomous productivity increases in Pakistan.

Employment on the other hand is significantly and positively associated with value added (in two
out of three equations). The capital-labour ratio, the measure of capital intensity, is significantly
and negatively related to employment. The time variable simply shows a negative sign showing
the growth rate trend. Three matters are deducible from this analysis which have strategic
implications. First, that increasing capital intensity which increases labour productivity also has a
negative effect on employment. Second, that higher value added production, though positively
related to labour productivity and capital intensity, is likely also to have a direct beneficial
impact on employment. This means that the promotion of high value added production has two
possible effects on employment, through capital intensity it is likely to reduce employment, but
through the overall positive association between increase valued added production and
employment it is likely to increase employment.

Third, and most importantly, we know from the analysis that autonomous increases in
productivity are not unknown in Pakistan. This is a significant finding and can provide a basis
for an employment-friendly investment plan.

7. The structure of large-scale manufacturing in the 1980s and 1990s

We now try to differentiate the two periods of the 1980s and 1990s. We know that one was a
low-growth period and the other a high-growth period. We also know that the overall trend is of
increasing labour productivity and capital intensity in the sector. A decomposition of total factor
productivity is useful in this context. (13) The increase in productivity in the large-scale
manufacturing sector shows that the increase in total factor productivity from 1982-83 to 1996-
97 has been slight, and has been declining, on trend, since 1992-93. Labour productivity, as we
know, has shown an increase on trend, (except for the decline for 1996-97). Capital productivity
shows an increase up to 1992-93 and then shows declines. Therefore, it is really both capital and
labour productivity which increased in the 1980s boom. In contrast, while labour productivity
continued to increase, capital productivity showed a decline in the lower growth 1990s. This is a
crucial difference. (14)

Table 4.4: Productivity in large-scale manufacturing (1980-81=100)

Labour productivity Capital productivity Total factor productivity

1982-83 122.5 110.1 101.2
1987-88 166.9 136.3 102.5
1992-93 205.2 155.8 103.0
1994-95 208.9 148.9 102.7
1995-96 211.9 143.1 102.4
1996-97 201.7 135.6 102.4

Source: DRI/PIDE Study on Technology 1997.

The output and employment growth policy in manufacturing needed in Pakistan is intrinsically
tied to the labour productivity-led growth process which the country began to witness in the
1980s. The causes for increases in labour productivity are critical to assess. We have done this
across the two periods fairly systematically in the regression analysis above, which suggested
that while the capital intensity effect dominated, autonomous productivity increases were not
unknown. For a periodized decomposition of total factor productivities we found that the
difference between the 1980s and 1990s was located in capital, not labour productivity. The
1980s saw an increase in the latter, the 1990s a decline. We now attempt an assessment for the
1980s and 1990s separately and at a sectorally more disaggregated level.

The high-growth 1980s

The 1980s were a high-growth period, particularly for the period 1982-82 to 1987-88, after
which a decline set in. Indicators of capital intensity for parts covering the period also tend to
confirm that capital intensity increased in this period. This process has continued between the
high-growth 1980s and the low-growth 1990s (table A4.2), but for different reasons. It is
reasonable to argue that if growth is positive, as it was in the 1980s, and capital intensity also
increases, as was also the case in 1980s, then labour productivity (value added per unit of labour)
is also likely to rise. This is the case for the evidence we have for the 1980s (table A4.6). So the
increasing capital intensity argument behind the high labour productivity is further corroborated
for the 1980s.

There are some other indicators which explain the 1980s story a little more. Data on investment
for the 1980s suggest that it remained around a 3 per cent proportion of GDP from 1983-88 and
increased to 4.7 per cent by 1992-93 (table A4.7). This is not only consistent with the capital
intensity argument made above, but it also shows that it was the increase in value of capital stock
as well as employment increases which characterized growth in the 1980s. Labour productivity
driven growth in the 1980s, was due to increasing overall capital intensity and the number of
persons employed, which was being sustained by a relatively stable investment pattern.

Alterations in the composition of investment began in the 1980s. There are falls (table A4.8)
during 1982-83 to 1988-89 in the shares of the chemicals sector and the cement sector, while
there are increases in the textiles and food sectors. So it would appear from investment patterns
that while the overall intensity of capital seemed to be increasing, a sectoral shift was also taking
place in the 1980s to less-capital intensive sectors. We need to examine the capital intensities of
sub-sectoral shifts to explain this.

During the period 1980-81 to 1990-91, in the large-scale sector, the share of food products
declined from 24.3 per cent to 14.2 per cent (table A4.9). This is interesting because food was
not a highly capital intensive sector, and although the share in value added of the food sector was
declining, investment in it was increasing; (15) the share of textiles increased from 24.3 per cent to
26 per cent and textiles on the whole are even less capital-intensive than food. It is also clear that
both food and textiles are on the middle to lower end of the capital intensity scale in the large-
scale sector taken as a whole. The chemical sectors share increased from 13.2 per cent in 1980-
81 to 23.5 per cent in 1985-86 and then declined to 14.9 per cent in 1987-88 and further to 13 per
cent by 1990-91. Industrial chemicals constitute the larger part of this sector and are very capital-
intensive. Investment figures reported earlier which show a decline for the chemical sector after
1985-86 tend to suggests that there was over-capitalization in the sector in the early 1980s. (16)
These are the only significant changes in the period; the rest of the sectors are mostly not major
and generally tend to fluctuate with respect to their value added shares in smaller margins. It
appears that the net result of sectoral shifts has been an increase in capital intensity and this
needs to be explained.

There are two factors at work here. Although the major sectoral changes (as well as investment
patterns) suggest production may have been moving towards relatively less capital-intensive
sectors in the 1980s, it is also the case that 16 out of 24 sub-sectors have individually
experienced an increase in capital intensity even in the period 1987-88 to 1990-91 (table A4.2).
Furthermore, while the food sector's (the major loser) capital intensity, contrary to the trend
actually declined in the period , the capital intensity of the textile sector (the main gainer)
increased. Capital intensity of the chemicals sector also declined during the late 1980s.

It can be argued that taking into account overall increases in capital intensity across the
manufacturing sector, and the specific changes in the capital intensity of the main losers and
gainers, the sub-sectoral shifts in the 1980s are likely to have accompanied increasing capital
intensity on the whole. Although, counterfactually speaking, had the shifts in the major sectors
not taken place the capital intensity would have increased even more. (17)

Finally, data on capital-output ratios is also available. An increasing capital output ratio suggests
that the value of capital stock in relation to the value of output is rising. Assuming stable prices,
this is consistent with either an increase in capital stock or a decline in production. A decline in
production, which would tend to raise the capital- output ratio, is consistent with a crisis of
demand and excess capacity building in industry. Therefore rising capital-output ratios are
consistent with building excess capacity. Falling capital-output ratios suggest the opposite. The
latter was the case in Pakistan during the 1980s (table A4.3). To the extent, excess capacity that
it existed was being used up in the 1980s. It was a relative increase in output despite the
increases in capital stock which characterized the capital intensive-labour productivity driven
growth of the Pakistan economy in the 1980s. (18)

We now return to the issue of the low elasticity of the manufacturing economy. It is arguable that
the 1980s high-growth period's low elasticity of employment and shifting source of growth (from
being unequally shared between employment and labour productivity to being labour
productivity driven) is consistent not only with an increasing capital intensity in general across
the large-scale sector, but also a compositional shift to relatively less capital intensive sub-
sectors within manufacturing.

By the end of the 1980s, a slowdown in growth began to take place. What were the
characteristics of this slowdown and what were its causes?

The 1990s: A period of low growth

During the 1990s growth has moved from positive to negative. We cannot say much about
employment levels because of data constraints. With increasing flexibility in labour markets, it is
likely that employment may have declined, and contractual changes occurred. (19)

Even if growth is declining and turns negative (output increases less and less and then declines) a
capital intensity rise (which reduces employment in relation to capital) will show up as an
increase in labour productivity (the production of output or value added per unit of labour) but
this will be for different reasons than in a high growth situation. Capital intensity can rise for two
reasons: an increase in capital stock and a decline in employment. In a period of zero or negative
growth, a rise in capital intensity is likely to be due to a decline in employment as opposed to an
increase in capital stock. (20) This means that if labour productivity increases it does so because
the rate of fall of output (value added) is less than the rate of fall of employment. The issue really
turns on how flexible the labour market is. If the number of employed decline, and output
declines as well, an increase in labour productivity is as possible as a decline is. It depends on the
respective rates of decline. It is not clear whether Pakistan is already in this situation, but it may
be close to it.

Consequently, the same indicators of increasing capital intensity and increasing labour
productivity can characterize two very different situations. It is fairly clear from the data that
growth in the 1990s slowed down (table 4.2). Declining and low as it was it is equally clear that
growth was even more dominantly based on labour productivity increases than employment
expansion than in the 1980s. What was the sectoral basis of this rising labour productivity?

Investment declined in the sector from 4.7 per cent of GDP to 2.7 per cent from 1992-93 to by
1996-97. It is, however, still likely that capital intensity in the sector increased, from the
foregoing discussion and the data at our disposal. The 1990s also indicate only slight changes in
the composition of output (table A4.10). (21) By and large, shares of output show variations of a
small margin for the main sectors. The 1990-91 pattern of industrial composition continues. The
only sector which shows any serious increase is the textile sector. The relatively more capital-
intensive sectors reveal a trend decline within a small margin.

It is, however, very clear that unlike the 1980s, there is an excess capacity build-up in some of
the major sectors of the economy (table A4.11). We have information for 1990-91 when capacity
utilization was around 60 per cent. Recent trends based on Planning Division estimates suggest a
declining trend in selected sub-sectors. In the recent period from 1992-93 to 1995-96, capacity
utilization has declined on trend in the spinning, sugar, and cement sectors. It has remained
stagnant in weaving and increased only in fertilizers. This clearly suggests an overall decline.

It can be argued that the 1990s picture is characterized partly by a failure of demand in the large-
scale manufacturing sector. The low level and declining growth of output and employment,
declining investments and the build-up of excess capacity all point to this failure. The increase in
capital intensity (like the increasing labour productivity in the 1990s) which characterizes the
growth process, needs to be matched with declining capital productivity and is therefore more
indicative of shrinking employment than an increasing capital stock and value of output.
What is responsible for the slowdown in growth? Apart from the general failure of demand
argument, there are two broad answers to this question. One relates to macroeconomic policies
and the other to the investment climate.

From the macroeconomic perspective, Pakistan has pursued deflationary policies since the
beginning of the reforms in 1988. This is supposed to have short-run consequences for growth,
which are not inconsistent with what can be discerned for the 1990s. Among other issues this
also includes the withdrawal of the public sector in the economy under depressed demand
conditions. (22)

Since the decline in investment is also for the more recent years, it may partly be due to the
unstable conditions of production and investment (i.e., the law and order situation) in both
Karachi and the Punjab, which have clearly deteriorated in the recent past.

8. Towards a policy outline

The challenge for the manufacturing sector in Pakistan is considerable. A concerted effort is
needed towards increasing the low elasticity of employment as well as output growth. This effort
needs to focus on reviving demand and improving the social climate for investment, on
increasing the utilization of existing capacity and promoting growth in sectors with a potential
for autonomous productivity increases.

Criteria of sectoral choices in an employment-friendly investment plan

Some of the above findings can assist in the formulation of an employment-friendly investment
plan for the future. It is therefore recommended that in the selection of activities to be promoted,
the following factors must be borne in mind when developing the criteria for sectoral choice:

• sectors should have some potential for autonomous productivity growth;

• sectors should have some employment-generating capacity;
• sectors should be producing sufficient value added (such that the capital
intensity/negative employment effect is offset by the expansion-high value added/positive
employment effect); and
• there should be a separate assessment of demand conditions in such sub-sectors and those
which seem relatively unconstrained must be promoted.

The mechanism of sectoral promotion should be affected through two means. First, via the
banking system, which should try to guide investment. Sub-sectors fulfilling composite measures
based on the above criteria need to be identified and a system of incentives offered through the
financial system to realize the desired flows into these sub-sectors.

Fiscal expansion and demand

Given that part of the problem may be in government pursual of deflationary policies under the
reforms, which has led to a decline in demand for manufactured goods, it may be worth
examining the worth of expansionary fiscal policies, to revive demand. To the extent that
capacity is under-utilized (investment requirements become less) and the manufacturing sector is
not primarily export-based, the case may have some merit. (23)

The budget deficit and working capital

A critical factor in freeing affordable resources for the manufacturing sector is the degree to
which the government budgetary deficit falls and the government borrows a smaller amount of
money from the banking sector. Capacity utilization and employment can increase without
substantial increases in investment. There is a clear link between the budget reform government
and the relief of working capital constraints in manufacturing. This is, however, not inconsistent
with the selective fiscal expansion suggested above. (24)

Promotion of sub-sectors through tariff rationalizations

In order to revive growth in manufacturing, the profitability issue needs to be addressed directly.
This entails a serious examination of the structure of tariff rationalizations and the matter is
likely to be critical. The development of the manufacturing sector has become somewhat lop-
sided over the years, as production has moved against high value added products. If corrected
this may benefit the sector as a whole. Tariff rationalization can result in improvements in the
relative profitability of the chemicals and engineering sectors (the sectors falling behind) and
arrest the trend in the overall composition of investment and output in the large-scale sector. This
is important to do for the general health of the large-scale manufacturing sector, even though it
may be true that some parts of these non-traditional sectors may comprise relatively capital
intensive activities.

Capital pricing and directing new investment

Another issue concerns investment itself and the price of capital. It is questionable if capital is
priced in relation to its opportunity cost. If capital were priced at its opportunity cost with
prudential regulations, then the true costs of investment would be transparent to investors and
lenders. This is clearly not the case in Pakistan, and the crisis of bad loans that the financial
sector is facing is testimony to this fact. Arguably the weakest link in the financial sector reforms
which have taken place in Pakistan, it also highlights something that is fairly obvious but often
ignored, namely that in many instances market-based reform must be complemented by
institutional reform in order to be effective.

The co-ordination of capital flows

Unlike the earlier period, when credit plans were coordinated by government to put sectoral
ceilings on bank lending, direct leverage for credit allocation is no longer used by government
and credit is controlled indirectly through discount rates, open-market operations and liquidity
requirements. It is, however, still possible for banks to collude with respect to sectoral lending
priorities, as they have a significant interest in the setting up of new plants and improving the
overall use of capital. Banks therefore clearly have a stake in the provision of capital which is
invested and there is much that can be done in this area.
The revival of sick industries

There is another important issue which needs to be assessed concerning capacity utilization and
the performance of the manufacturing sector in Pakistan . A large number of industrial units have
closed down over the last few years and a considerable number are operating below capacity; as
many as 2,533 industrial units are closed and another 1,252 units are running losses (Report of
Committee on Sick Mills, 1996). The units have become 'sick' for several reasons which need to
be distinguished. The checklist includes: over-capitalization of different industrial units; over-
capacity in the unit's industry as a whole; inappropriate site selection; inappropriate choice of
technology, lack of working capital; and basic mismanagement. Units operating below capacity
could also be facing a slackness in demand, energy constraints via load shedding, or the non-
availability of complementary inputs. Solutions vary according to the dominant cause of the
sickness of unit and these must be identified in a fair amount of detail for a serious attempt at
devising revival strategies. In general, the question is whether anything can be done to increase
the utilization of capacity in the present circumstances.

Tax policy and flow of goods

As indicated above, in recent years Pakistan has been pursuing deflationary policies in the
context of economic reforms, with a direct influence on the decline in demand for manufactured
goods. The increase in sales tax and regulatory duties on raw materials and intermediate inputs
has at the same time made domestic manufacturing less competitive against smuggled goods. It
is therefore important to assess the effect of government taxation efforts on competition, in the
presence of leaky borders. There may be something which can be done here.

Energy pricing

Load shedding has been a constraint to industrial growth in the past in Pakistan. It is expected to
be overcome because of increased capacity, although the whole matter of an inefficient energy
distribution system still needs to be addressed. Whatever the determinants and cost parameters
associated with the growth of the energy sector, it is fairly clear the issue of energy prices will be
critical for the growth process. Higher energy prices may still constrain the utilization of
capacity. Consequently, a critical factor in the increase in the utilization of capacity in
manufacturing is the degree to which energy prices increase in the economy.

9. Upshot

We have attempted to explain the trends of employment and growth in the manufacturing sector
in Pakistan over the 1980s and 1990s. There are some features of this review which need to be
highlighted.

A low employment elasticity is a structural feature of the manufacturing sector in Pakistan. We

find that trends in growth rates suggest a decline. The 1980s were a high growth period while the
1990s are characterized by low growth. Growth in manufacturing since the 1980s has been
driven by labour productivity as opposed to employment expansion; the last period in which
employment expansion took place was the (low growth) period of 1970s. It can be argued that
output growth began de-linking itself from employment in the 1980s and became de-linked from
employment expansion altogether in the 1990s. Part of the explanation of this feature lies in the
distinction between the small and large-scale sectors in

CHAPTER FOUR
The Manufacturing Sector
1. Introduction

In Chapter Two, we concluded that at an aggregate level an employment strategy in Pakistan has
to have the manufacturing sector as a critical focus. The argument was based on two
observations. First, that given the problems with the elasticity measure, at least a simultaneous
examination of employment and labour productivity growth was needed. Second, that cross-
sectoral employment linkages also seemed to be important. It was consequently argued that
despite the fact that there was limited room within the manufacturing sector to generate
employment directly, if manufacturing growth could be employment-based, it would have
positive employment effects on the rest of the economy.

Within manufacturing, a distinction can be made between "small-" vs. "large-scale"

manufacturing. (1) This section looks at manufacturing as a whole and then focuses on large-scale
sector. In a separate chapter (Chapter Five) devoted to the Small-Scale Enterprise Sector (SSE),
we look at small-scale manufacturing.

2. Elasticity, employment and output growth

Figure 4.1 gives a visual plot of employment elasticity, as well as employment and output
growth rates, in the manufacturing sector over the years in Pakistan. Plotting growth rates of
employment and output is useful for an overview and we can start with the same point we made
at the economy-wide level about the limitations of elasticity measures taken on their own. A
stable and very low elasticity has accompanied fairly diverse output and employment growth
patterns in manufacturing over the years in Pakistan. What can be claimed with some degree of
confidence is that elasticity of employment is low (2) in manufacturing, and this at least seems to
be a structural feature of the sector. The latest period of the 1990s in Pakistan is showing a
decline in both output and employment growth and this is a seriously worrying matter for the
sector (3). The reason for this low elasticity of employment in Pakistan's manufacturing sector is
therefore a critical policy question.
3. Decomposing output growth in the manufacturing sector

Having observed the trend of output and employment growth, we will now conduct a
'decomposition of growth' exercise for the manufacturing sector. (4) We will first examine how
the contributions of labour productivity and employment relate to output growth, and second,
whether any trend can be observed in these contributions.

In the first period of the 1970s, although growth itself was uneven (higher in the first half, lower
in the second) it was roughly equally divided between productivity and employment. The next
period of 1980-81 to 1991-92, the period of consistent high output growth, was based dominantly
on the productivity effect (about 81 per cent) while the contribution of employment to growth
was low (8 per cent). Clearly, a shift was already taking place in this period of high growth of the
manufacturing economy. The last period of the 1990s is one of low and declining growth,
especially in the recent years, and the contribution of employment to output growth has been
negative. The entire growth process now seems to be based on labour productivity. (5) This trend
makes the task of boosting and restructuring the industrial sector, from an employment
perspective, somewhat difficult. We need to bear in mind the cross-sectoral employment linkage
caveat made in the Chapter Two, to emphasize the role of manufacturing.

Table 4.1: Decomposing output growth: productivity and employment effects -

manufacturing

Year Productivity Effect Employment Effect Multiple Effect

1969/70 - 1980/81 0.460 0.419 0.120
1980/81 - 1991/92 0.816 0.089 0.094
1991/92 - 1994/95 1.868 -0.680 -0.188
4. Output and employment in the manufacturing sector

A low elasticity of employment has been observed in the manufacturing sector in Pakistan.
Progressively over the last two decades growth in manufacturing has become more labour-
productivity driven (than employment-expansion driven) and in the 1990s it seems to have been
de-linked from employment expansion altogether. This picture is quite consistent with the low
and declining elasticities of employment already observed. The sources of this growth need to be
further explored.

While the share of manufacturing in GDP has increased from 15.1 per cent to 18.2 per cent, its
share in employment declined from 13.54 per cent to 10.12 per cent. The rate of growth of value
added in the manufacturing sector as a whole has been declining on a trend in Pakistan, over the
Plan periods since 1982-83. This is true for manufacturing as a whole as well for large-scale
manufacturing. In particular, large-scale manufacturing has experienced a serious slowdown
from 1994 onwards and growth was negative in 1996-97. The 1980s were the high growth period
of the manufacturing sector in Pakistan. There has been a clear decline, on trend, in the growth of
output ever since (6).

Table 4.2: Growth rates of manufacturing output over the sixth, seventh and eighth plan
periods

Period Total Large-scale

1982-83 to 1987-88 8.2 8.1
1987-88 to 1992-93 5.9 4.9
1992-93 to 1996-97 3.8 1.7
1992-93 5.4 4.1
1993-94 5.5 4.3
1994-95 3.6 1.5
1995-96 4.4 2.2
1996-97 1.8 -1.4

Source: Based on Economic Survey (1996-97 and previous issues).

Manufacturing comprises both the small-scale and large-scale sectors in Pakistan. The small-
scale sector dominates employment in it, while the large-scale sector dominates output. Table 4.3
shows that although output growth has taken place in the manufacturing sector in both its small
and large-scale sections, employment began to decline in the small-scale sector in the mid-1980s.
There seems to be some constraint that the small-scale sector begins to face at this time. In other
words, the de-linking of employment from growth which was taking place in the manufacturing
sector in the 1980s, may have been due to the overwhelming weight of the declining employment
in the small-scale manufacturing sector and not because of the large-scale sector as such. The
picture after 1990-91 is constructed on the basis of National Income Accounts (NIA) and the
labour force surveys (LFS), and there is not much that can be said about the large-scale and
 small-scale manufacturing sector separately here, except that overall growth of the sector has
fallen further, and there has been a negative employment growth. It would seem that at least the
same trend with respect to the small-scale sector employment can be assumed.

Table 4.3:
1987/88 67.Output
50.00and17.60
employment
3.72 in manufacturing
12.84 0.51 3.21 -8.20
60 5
1988/89 70. 51.20 19.10 3.84 12.84 - - 3.20
30
1989/90 74. 53.70 20.70 3.96 12.84 - - 3.10
30
1990/91 79. 56.60 22.40 3.70 12.38 0.62 3.08 -6.60
00 3
1991/92 85. 61.00 24.30 3.88 12.53 - - 4.90
30
1992/93 89. 63.60 26.30 3.53 11.00 - - -10.00
90
1993/94 94. 66.20 28.50 3.34 10.12 - - -4.20
70
1994/95 98. 67.30 30.90 3.49 10.50 - - 3.30
20

Sources: Economic Survey, 1996-97; Labour Force Surveys; Censuses of Manufacturing

Industries; Censuses of Small-scale and Household Establishments.
5. The large-scale sector: Main features

Large-scale manufacturing in Pakistan is dominated by the so-called "Big Four" industries -

sugar, textiles (cotton yarn and cloth), cement, and fertilizers while accounting for only 6.9 per
cent of the units in the sector in 1991, consisted of 37.6 per cent of net output, 40.2 per cent of
exports, 35.0 per cent of employment and 43.2 per cent of the capital stock employed in large-
scale manufacturing. (7) Unlike its contribution to output and exports, the large-scale sector's
contribution to employment has been moderate, even in periods of rapid growth. On the whole,
manufacturing industries in Pakistan, have failed to create sufficient employment: employment
levels were almost the same in 1994-95 as they were in1982-83. During 1980-95, when total
employment grew by 2.3 per cent per year, employment in large-scale manufacturing increased
at only 1.8 per cent per year. (8) Over the same period (1980-95), large-scale industry absorbed
only 1.4 percent of the additional employment in the economy. (9) Slow job creation in large-scale
manufacturing was accompanied by a substantial rise in capital intensity and labour productivity
in the period (10), as assets employed per worker increased from Rs. 50,000 in 1980-81 to
Rs.192,000 in 1990-91. As a result, the labour content in output and the share of wages in value
added dropped in most industries (table A4.3). It is therefore quite clear that labour productivity
as well as capital intensity have risen on trend in the large-scale manufacturing sector in Pakistan
(table A4.6).

It has also been suggested above that, despite the slowdown of overall growth, employment and
output growth have not moved in opposite directions in the large-scale sector until very recently,
whereas they showed signs of this in the small-scale sector as early as the mid-1980s. The share
of large-scale manufacturing employment has been around 17 per cent of manufacturing
employment in 1990-91, while its output share was around 70 per cent in the same year.

From an employment point of view the separation of large from small-scale as well as the
distinctness of the high-growth 1980s and low-growth 1990s are important facts. The centrepiece
of an employment strategy within manufacturing is the small-scale sector, which is larger in
weight and has been facing problems since the mid-1980s, In contrast the primary focus of the
revival of growth is relevant to the large-scale sector where the bulk of manufacturing output is
produced and where employment is still growing, albeit slowly. It is this sector's growth which is
likely to have positive linkages with other sectors, including activities in the manufacturing as
well as non-manufacturing small-scale sector. Since we are discussing the large-scale sector in
the present section, this difference must be kept in mind.

6. An examination of productivity in the large-scale manufacturing sector

Apart from describing some specific features of the manufacturing sector in Pakistan, the
discussion above highlighted that the growth process in the large-scale manufacturing sector is
characterized by a low employment elasticity and that if it is decomposed over time, labour
productivity dominate employment expansion as the source of growth. We also saw that both
labour productivity and capital intensity have increased in the large-scale manufacturing sector.

We now attempt to examine the determinants of labour productivity as well as employment over
time in a more systematic way. There are two basic sources of increases in labour productivity.
First, there can be an autonomous increase, arising from better management, skill upgrades
(possibly via training), longer working hours and greater effective effort. Productivity gains that
result from better management and skill upgrades are desirable. These are likely to show up over
time.

Second, productivity can increase from increases in the use of machinery and non-labour inputs.
This would largely be reflected as the effect of capital intensity. (11)

The question to ask at this stage is: given that labour productivity has shown an increase over
time, what is the extent to which it has been driven by changes in the composition of capital (the
capital-labour ratio) and to what extent is it due to autonomous increases in productivity? Since it
is expected that in the course of development the composition of capital effect is dominant, we
are interested in knowing whether autonomous increases in productivity have any potential in
manufacturing in Pakistan.

A regression analysis conducted for the period 1980-97 (see table A4.4), which focuses on the
determinants of labour productivity and employment in large-scale manufacturing, suggests that
labour productivity in Pakistan has been influenced by changes in capital intensity (i.e., the
capital-labour ratio) as well as increases in 'autonomous' productivity. The capital intensity effect
on productivity clearly dominates in manufacturing.

Labour productivity and capital intensity have a significant positive relationship (for equations in
which it used), and this is according to expectation. The level of value added in manufacturing
also has a positive relationship with labour productivity (it is significant in two specifications out
of three) which suggests that high value added production is associated with high labour
productivity, which is also expected. The positive relation also holds true for the time variable
(statistically significant in two equations), which can be seen as a proxy for skills development,
learning or 'autonomous' increases in productivity. (12) So there are some grounds to expect a
potential for autonomous productivity increases in Pakistan.

Employment on the other hand is significantly and positively associated with value added (in two
out of three equations). The capital-labour ratio, the measure of capital intensity, is significantly
and negatively related to employment. The time variable simply shows a negative sign showing
the growth rate trend. Three matters are deducible from this analysis which have strategic
implications. First, that increasing capital intensity which increases labour productivity also has a
negative effect on employment. Second, that higher value added production, though positively
related to labour productivity and capital intensity, is likely also to have a direct beneficial
impact on employment. This means that the promotion of high value added production has two
possible effects on employment, through capital intensity it is likely to reduce employment, but
through the overall positive association between increase valued added production and
employment it is likely to increase employment.

Third, and most importantly, we know from the analysis that autonomous increases in
productivity are not unknown in Pakistan. This is a significant finding and can provide a basis
for an employment-friendly investment plan.
7. The structure of large-scale manufacturing in the 1980s and 1990s

We now try to differentiate the two periods of the 1980s and 1990s. We know that one was a
low-growth period and the other a high-growth period. We also know that the overall trend is of
increasing labour productivity and capital intensity in the sector. A decomposition of total factor
productivity is useful in this context. (13) The increase in productivity in the large-scale
manufacturing sector shows that the increase in total factor productivity from 1982-83 to 1996-
97 has been slight, and has been declining, on trend, since 1992-93. Labour productivity, as we
know, has shown an increase on trend, (except for the decline for 1996-97). Capital productivity
shows an increase up to 1992-93 and then shows declines. Therefore, it is really both capital and
labour productivity which increased in the 1980s boom. In contrast, while labour productivity
continued to increase, capital productivity showed a decline in the lower growth 1990s. This is a
crucial difference. (14)

Table 4.4: Productivity in large-scale manufacturing (1980-81=100)

Labour productivity Capital productivity Total factor productivity

1982-83 122.5 110.1 101.2
1987-88 166.9 136.3 102.5
1992-93 205.2 155.8 103.0
1994-95 208.9 148.9 102.7
1995-96 211.9 143.1 102.4
1996-97 201.7 135.6 102.4

Source: DRI/PIDE Study on Technology 1997.

The output and employment growth policy in manufacturing needed in Pakistan is intrinsically
tied to the labour productivity-led growth process which the country began to witness in the
1980s. The causes for increases in labour productivity are critical to assess. We have done this
across the two periods fairly systematically in the regression analysis above, which suggested
that while the capital intensity effect dominated, autonomous productivity increases were not
unknown. For a periodized decomposition of total factor productivities we found that the
difference between the 1980s and 1990s was located in capital, not labour productivity. The
1980s saw an increase in the latter, the 1990s a decline. We now attempt an assessment for the
1980s and 1990s separately and at a sectorally more disaggregated level.

The high-growth 1980s

The 1980s were a high-growth period, particularly for the period 1982-82 to 1987-88, after
which a decline set in. Indicators of capital intensity for parts covering the period also tend to
confirm that capital intensity increased in this period. This process has continued between the
high-growth 1980s and the low-growth 1990s (table A4.2), but for different reasons. It is
reasonable to argue that if growth is positive, as it was in the 1980s, and capital intensity also
increases, as was also the case in 1980s, then labour productivity (value added per unit of labour)
is also likely to rise. This is the case for the evidence we have for the 1980s (table A4.6). So the
increasing capital intensity argument behind the high labour productivity is further corroborated
for the 1980s.

There are some other indicators which explain the 1980s story a little more. Data on investment
for the 1980s suggest that it remained around a 3 per cent proportion of GDP from 1983-88 and
increased to 4.7 per cent by 1992-93 (table A4.7). This is not only consistent with the capital
intensity argument made above, but it also shows that it was the increase in value of capital stock
as well as employment increases which characterized growth in the 1980s. Labour productivity
driven growth in the 1980s, was due to increasing overall capital intensity and the number of
persons employed, which was being sustained by a relatively stable investment pattern.

Alterations in the composition of investment began in the 1980s. There are falls (table A4.8)
during 1982-83 to 1988-89 in the shares of the chemicals sector and the cement sector, while
there are increases in the textiles and food sectors. So it would appear from investment patterns
that while the overall intensity of capital seemed to be increasing, a sectoral shift was also taking
place in the 1980s to less-capital intensive sectors. We need to examine the capital intensities of
sub-sectoral shifts to explain this.

During the period 1980-81 to 1990-91, in the large-scale sector, the share of food products
declined from 24.3 per cent to 14.2 per cent (table A4.9). This is interesting because food was
not a highly capital intensive sector, and although the share in value added of the food sector was
declining, investment in it was increasing; (15) the share of textiles increased from 24.3 per cent to
26 per cent and textiles on the whole are even less capital-intensive than food. It is also clear that
both food and textiles are on the middle to lower end of the capital intensity scale in the large-
scale sector taken as a whole. The chemical sectors share increased from 13.2 per cent in 1980-
81 to 23.5 per cent in 1985-86 and then declined to 14.9 per cent in 1987-88 and further to 13 per
cent by 1990-91. Industrial chemicals constitute the larger part of this sector and are very capital-
intensive. Investment figures reported earlier which show a decline for the chemical sector after
1985-86 tend to suggests that there was over-capitalization in the sector in the early 1980s. (16)
These are the only significant changes in the period; the rest of the sectors are mostly not major
and generally tend to fluctuate with respect to their value added shares in smaller margins. It
appears that the net result of sectoral shifts has been an increase in capital intensity and this
needs to be explained.

There are two factors at work here. Although the major sectoral changes (as well as investment
patterns) suggest production may have been moving towards relatively less capital-intensive
sectors in the 1980s, it is also the case that 16 out of 24 sub-sectors have individually
experienced an increase in capital intensity even in the period 1987-88 to 1990-91 (table A4.2).
Furthermore, while the food sector's (the major loser) capital intensity, contrary to the trend
actually declined in the period , the capital intensity of the textile sector (the main gainer)
increased. Capital intensity of the chemicals sector also declined during the late 1980s.

It can be argued that taking into account overall increases in capital intensity across the
manufacturing sector, and the specific changes in the capital intensity of the main losers and
gainers, the sub-sectoral shifts in the 1980s are likely to have accompanied increasing capital
intensity on the whole. Although, counterfactually speaking, had the shifts in the major sectors
not taken place the capital intensity would have increased even more. (17)

Finally, data on capital-output ratios is also available. An increasing capital output ratio suggests
that the value of capital stock in relation to the value of output is rising. Assuming stable prices,
this is consistent with either an increase in capital stock or a decline in production. A decline in
production, which would tend to raise the capital- output ratio, is consistent with a crisis of
demand and excess capacity building in industry. Therefore rising capital-output ratios are
consistent with building excess capacity. Falling capital-output ratios suggest the opposite. The
latter was the case in Pakistan during the 1980s (table A4.3). To the extent, excess capacity that
it existed was being used up in the 1980s. It was a relative increase in output despite the
increases in capital stock which characterized the capital intensive-labour productivity driven
growth of the Pakistan economy in the 1980s. (18)

We now return to the issue of the low elasticity of the manufacturing economy. It is arguable that
the 1980s high-growth period's low elasticity of employment and shifting source of growth (from
being unequally shared between employment and labour productivity to being labour
productivity driven) is consistent not only with an increasing capital intensity in general across
the large-scale sector, but also a compositional shift to relatively less capital intensive sub-
sectors within manufacturing.

By the end of the 1980s, a slowdown in growth began to take place. What were the
characteristics of this slowdown and what were its causes?

The 1990s: A period of low growth

During the 1990s growth has moved from positive to negative. We cannot say much about
employment levels because of data constraints. With increasing flexibility in labour markets, it is
likely that employment may have declined, and contractual changes occurred. (19)

Even if growth is declining and turns negative (output increases less and less and then declines) a
capital intensity rise (which reduces employment in relation to capital) will show up as an
increase in labour productivity (the production of output or value added per unit of labour) but
this will be for different reasons than in a high growth situation. Capital intensity can rise for two
reasons: an increase in capital stock and a decline in employment. In a period of zero or negative
growth, a rise in capital intensity is likely to be due to a decline in employment as opposed to an
increase in capital stock. (20) This means that if labour productivity increases it does so because
the rate of fall of output (value added) is less than the rate of fall of employment. The issue really
turns on how flexible the labour market is. If the number of employed decline, and output
declines as well, an increase in labour productivity is as possible as a decline is. It depends on the
respective rates of decline. It is not clear whether Pakistan is already in this situation, but it may
be close to it.

Consequently, the same indicators of increasing capital intensity and increasing labour
productivity can characterize two very different situations. It is fairly clear from the data that
growth in the 1990s slowed down (table 4.2). Declining and low as it was it is equally clear that
growth was even more dominantly based on labour productivity increases than employment
expansion than in the 1980s. What was the sectoral basis of this rising labour productivity?

Investment declined in the sector from 4.7 per cent of GDP to 2.7 per cent from 1992-93 to by
1996-97. It is, however, still likely that capital intensity in the sector increased, from the
foregoing discussion and the data at our disposal. The 1990s also indicate only slight changes in
the composition of output (table A4.10). (21) By and large, shares of output show variations of a
small margin for the main sectors. The 1990-91 pattern of industrial composition continues. The
only sector which shows any serious increase is the textile sector. The relatively more capital-
intensive sectors reveal a trend decline within a small margin.

It is, however, very clear that unlike the 1980s, there is an excess capacity build-up in some of
the major sectors of the economy (table A4.11). We have information for 1990-91 when capacity
utilization was around 60 per cent. Recent trends based on Planning Division estimates suggest a
declining trend in selected sub-sectors. In the recent period from 1992-93 to 1995-96, capacity
utilization has declined on trend in the spinning, sugar, and cement sectors. It has remained
stagnant in weaving and increased only in fertilizers. This clearly suggests an overall decline.

It can be argued that the 1990s picture is characterized partly by a failure of demand in the large-
scale manufacturing sector. The low level and declining growth of output and employment,
declining investments and the build-up of excess capacity all point to this failure. The increase in
capital intensity (like the increasing labour productivity in the 1990s) which characterizes the
growth process, needs to be matched with declining capital productivity and is therefore more
indicative of shrinking employment than an increasing capital stock and value of output.

What is responsible for the slowdown in growth? Apart from the general failure of demand
argument, there are two broad answers to this question. One relates to macroeconomic policies
and the other to the investment climate.

From the macroeconomic perspective, Pakistan has pursued deflationary policies since the
beginning of the reforms in 1988. This is supposed to have short-run consequences for growth,
which are not inconsistent with what can be discerned for the 1990s. Among other issues this
also includes the withdrawal of the public sector in the economy under depressed demand
conditions. (22)

Since the decline in investment is also for the more recent years, it may partly be due to the
unstable conditions of production and investment (i.e., the law and order situation) in both
Karachi and the Punjab, which have clearly deteriorated in the recent past.

8. Towards a policy outline

The challenge for the manufacturing sector in Pakistan is considerable. A concerted effort is
needed towards increasing the low elasticity of employment as well as output growth. This effort
needs to focus on reviving demand and improving the social climate for investment, on
increasing the utilization of existing capacity and promoting growth in sectors with a potential
for autonomous productivity increases.
Criteria of sectoral choices in an employment-friendly investment plan

Some of the above findings can assist in the formulation of an employment-friendly investment
plan for the future. It is therefore recommended that in the selection of activities to be promoted,
the following factors must be borne in mind when developing the criteria for sectoral choice:

• sectors should have some potential for autonomous productivity growth;

• sectors should have some employment-generating capacity;
• sectors should be producing sufficient value added (such that the capital
intensity/negative employment effect is offset by the expansion-high value added/positive
employment effect); and
• there should be a separate assessment of demand conditions in such sub-sectors and those
which seem relatively unconstrained must be promoted.

The mechanism of sectoral promotion should be affected through two means. First, via the
banking system, which should try to guide investment. Sub-sectors fulfilling composite measures
based on the above criteria need to be identified and a system of incentives offered through the
financial system to realize the desired flows into these sub-sectors.

Fiscal expansion and demand

Given that part of the problem may be in government pursual of deflationary policies under the
reforms, which has led to a decline in demand for manufactured goods, it may be worth
examining the worth of expansionary fiscal policies, to revive demand. To the extent that
capacity is under-utilized (investment requirements become less) and the manufacturing sector is
not primarily export-based, the case may have some merit. (23)

The budget deficit and working capital

A critical factor in freeing affordable resources for the manufacturing sector is the degree to
which the government budgetary deficit falls and the government borrows a smaller amount of
money from the banking sector. Capacity utilization and employment can increase without
substantial increases in investment. There is a clear link between the budget reform government
and the relief of working capital constraints in manufacturing. This is, however, not inconsistent
with the selective fiscal expansion suggested above. (24)

Promotion of sub-sectors through tariff rationalizations

In order to revive growth in manufacturing, the profitability issue needs to be addressed directly.
This entails a serious examination of the structure of tariff rationalizations and the matter is
likely to be critical. The development of the manufacturing sector has become somewhat lop-
sided over the years, as production has moved against high value added products. If corrected
this may benefit the sector as a whole. Tariff rationalization can result in improvements in the
relative profitability of the chemicals and engineering sectors (the sectors falling behind) and
arrest the trend in the overall composition of investment and output in the large-scale sector. This
is important to do for the general health of the large-scale manufacturing sector, even though it
may be true that some parts of these non-traditional sectors may comprise relatively capital
intensive activities.

Capital pricing and directing new investment

Another issue concerns investment itself and the price of capital. It is questionable if capital is
priced in relation to its opportunity cost. If capital were priced at its opportunity cost with
prudential regulations, then the true costs of investment would be transparent to investors and
lenders. This is clearly not the case in Pakistan, and the crisis of bad loans that the financial
sector is facing is testimony to this fact. Arguably the weakest link in the financial sector reforms
which have taken place in Pakistan, it also highlights something that is fairly obvious but often
ignored, namely that in many instances market-based reform must be complemented by
institutional reform in order to be effective.

The co-ordination of capital flows

Unlike the earlier period, when credit plans were coordinated by government to put sectoral
ceilings on bank lending, direct leverage for credit allocation is no longer used by government
and credit is controlled indirectly through discount rates, open-market operations and liquidity
requirements. It is, however, still possible for banks to collude with respect to sectoral lending
priorities, as they have a significant interest in the setting up of new plants and improving the
overall use of capital. Banks therefore clearly have a stake in the provision of capital which is
invested and there is much that can be done in this area.

The revival of sick industries

There is another important issue which needs to be assessed concerning capacity utilization and
the performance of the manufacturing sector in Pakistan . A large number of industrial units have
closed down over the last few years and a considerable number are operating below capacity; as
many as 2,533 industrial units are closed and another 1,252 units are running losses (Report of
Committee on Sick Mills, 1996). The units have become 'sick' for several reasons which need to
be distinguished. The checklist includes: over-capitalization of different industrial units; over-
capacity in the unit's industry as a whole; inappropriate site selection; inappropriate choice of
technology, lack of working capital; and basic mismanagement. Units operating below capacity
could also be facing a slackness in demand, energy constraints via load shedding, or the non-
availability of complementary inputs. Solutions vary according to the dominant cause of the
sickness of unit and these must be identified in a fair amount of detail for a serious attempt at
devising revival strategies. In general, the question is whether anything can be done to increase
the utilization of capacity in the present circumstances.

Tax policy and flow of goods

As indicated above, in recent years Pakistan has been pursuing deflationary policies in the
context of economic reforms, with a direct influence on the decline in demand for manufactured
goods. The increase in sales tax and regulatory duties on raw materials and intermediate inputs
has at the same time made domestic manufacturing less competitive against smuggled goods. It
is therefore important to assess the effect of government taxation efforts on competition, in the
presence of leaky borders. There may be something which can be done here.

Energy pricing

Load shedding has been a constraint to industrial growth in the past in Pakistan. It is expected to
be overcome because of increased capacity, although the whole matter of an inefficient energy
distribution system still needs to be addressed. Whatever the determinants and cost parameters
associated with the growth of the energy sector, it is fairly clear the issue of energy prices will be
critical for the growth process. Higher energy prices may still constrain the utilization of
capacity. Consequently, a critical factor in the increase in the utilization of capacity in
manufacturing is the degree to which energy prices increase in the economy.

9. Upshot

We have attempted to explain the trends of employment and growth in the manufacturing sector
in Pakistan over the 1980s and 1990s. There are some features of this review which need to be
highlighted.

A low employment elasticity is a structural feature of the manufacturing sector in Pakistan. We

find that trends in growth rates suggest a decline. The 1980s were a high growth period while the
1990s are characterized by low growth. Growth in manufacturing since the 1980s has been
driven by labour productivity as opposed to employment expansion; the last period in which
employment expansion took place was the (low growth) period of 1970s. It can be argued that
output growth began de-linking itself from employment in the 1980s and became de-linked from
employment expansion altogether in the 1990s. Part of the explanation of this feature lies in the
distinction between the small and large-scale sectors in manufacturing in Pakistan. It is the
small-scale manufacturing sector employment which declined in the mid 1980s, while its output
grew. In the large-scale sector both employment and output growth have been positive in the
1980s and most of the 1990s. In other words, the de-linking of employment from output growth
which was taking place in the manufacturing sector in the 1980s and which was established in
the 1990s, may have been due to the overwhelming weight of declining employment in the
small-scale manufacturing sector and not because of the large-scale sector as such.