Home / Opinion / Fixing the trade deficit with China won’t be easy

The ongoing military stand-off with China in the icy Himalayan mountain range has once again brought the issue of trade imbalances with that country to the fore. A bilateral trade deficit should not be a worry in normal circumstances. What really matters is the overall trade balance rather than its individual components. China is quite another matter. Its quest for regional military dominance makes trade imbalances with it a strategic concern for a country such as India.

The problem is that the strategic response to this bilateral trade deficit has to go beyond vacuous statements about trade wars or boycotts of Chinese goods. Some soul-searching will also be necessary.

The first step is to understand why India has a nearly $50 billion trade deficit with China. Even that does not fully illustrate the extent of the trade imbalance. Try this: Indian imports from China are nearly five times the exports to it.

One of the most popular explanations bandied about is that China has used a weak currency to push its products into India. The data does not bear this out. The Chinese currency has actually appreciated against the Indian currency over the past 15 years. One Chinese yuan could be bought for Rs5.88 in August 2002. The exchange rate was Rs8.76 per yuan a decade later. It is Rs9.53 per yuan now.

A country can continue to maintain its export competitiveness despite a strong currency if its productivity is growing faster than the productivity of its trading partner. Trade dynamics can sometimes be more complex than expected. Much of the Indian debate is off the mark on this issue.

The other issue that needs more public attention is the composition of trade between the two countries. India sells basic stuff such as iron ore, cotton, copper and inorganic chemicals to China. It buys mobile phones, telecom equipment, power generators and engineering goods from China. The trade pattern tells us something interesting about the position of the two countries in global value chains.

A better way to look at the problem is to see how China trades with countries with which it actually has a deficit. Chinese imports from countries such as Germany, Japan, South Korea and Taiwan are far higher than the exports it ships to them. These countries make the more valuable parts of various gizmos which are then sent to China for cheap assembly. The iPhone is a classic example. It is assembled in China but most of the value created lies in parts of the global supply chain that is outside China. Much depends on the relative position of two countries in the global supply chains that dominate modern manufacturing.

India faces a very similar problem. It exports basic material to China and buys relatively more sophisticated products from it because it has failed to find itself an important place in global supply chains. The failure to build a globally competitive manufacturing sector means that India only sells raw materials to China and buys finished consumer goods in return.

The trade deficit with China is thus not a result of exchange rate but of the inability to either boost productivity or to plug into the international supply chains that span the world. The failure is at least partly self-inflicted. The response then cannot be protectionism after a trade war. China will also retaliate. It cannot be a consumer boycott either, because production is now international rather than national.

However, there is no doubt that China uses various mercantilist ploys to keep other countries from freely accessing its growing markets. Foreign secretary S. Jaishankar had good reason to complain in a recent speech that obstacles to market access are one reason for the large trade deficit with China. India is not the only country to complain about the existence of various non-tariff barriers either. Measures against dumping of products such as solar cells can also be initiated in multilateral forums such as the World Trade Organisation.

An agreement signed with the Chinese government in September 2014 correctly identifies the trade deficit with China as “a matter of high concern for India". It added that the two countries will try to gradually achieve bilateral trade balance over the next five years. What has happened in the first three years does not suggest that this goal is likely to be achieved by 2019.

What steps can India take to begin addressing its trade deficit with China? Tell us at views@livemint.com

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