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The government of India announced a doubling of the gas price it will pay to producers effective April 2014. While this decision attracted much controversy, the rationale behind it seemed to be twofold. One was to incentivize investment in exploration and production. The other was to minimize outflow of foreign exchange due to the import of expensive liquefied natural gas.

Both these reasons are motivated by concerns about the current account deficit, which was 5% of the gross domestic product in the year ended March, much above the danger mark of 3% notched up in the crisis year of 1991. In the current fiscal, the trade gap is unlikely to fall below 4%. It is customary to blame oil and gas imports, as well as gold for the woes. The finance minister has appealed to the people to reduce gold consumption, as if that would solve the crisis. Import duty on gold has been quadrupled in the past few years, but that has had little impact on curbing demand for gold. In any case, there is also a valid debate about whether gold purchases should be counted in the current or capital account.

The focus on oil and gold tends to obscure other important determinants of the deficit, which are equally structural, and policy induced. For instance, India has the third largest coal reserves in the world, and yet imported 135 million tonnes in 2012-13. It remains a substantially agrarian economy with 15% of GDP and 50% of employment coming from agriculture. Yet, one-third of the annual consumption of fertilizer has to be imported. This import proportion is rising. Since farmers pay a subsidized price, it also costs the exchequer Rs1 trillion annually in subsidies, most of which goes to finance imports. No domestic production capacity has been created in the fertilizer sector for some two decades. India is one of the largest consumers of edible oils in the world, which are largely imported as crude palm oil from countries such as Malaysia and Indonesia.

The ban on iron ore mining in several states has meant that steel producers now have to import the ore. The less said about the swamping of Chinese imports in sectors as diverse as power equipment and consumer items, the better. Small and medium enterprises bear most of the brunt of the Chinese onslaught, legitimate or otherwise. It is worth remembering that half of the total non-oil trade deficit is with China alone. Of course India-China trade has grown rapidly, and it’s a good thing. But its asymmetric growth, and widening bilateral deficit, calls for an urgent policy fix. China’s vast consumer market, and its conscious move to rebalance its economy away from investment spending, and away from export-led growth, means India’s exporters have a big opportunity.

Most of the Asean partners of China are part of production supply chains, which end up as exports of finished products from China to the West. But in these chains, the intermediaries are net exporters to China. India is not yet a part of any such supply chain, although it has gained in terms of relative wage costs when compared with China.

There is thus much more to the widening trade and current account deficit, than meets the eye. The best case highlighting structural features underlying the deficit was made in a strategy paper published by the commerce ministry more than two years ago. It was written when the economy was just finishing two consecutive years of 9% GDP growth, and it was prescient in anticipating the deficit crisis. It predicted that by 2013-14, the trade deficit would be close to $300 billion, almost 12% of GDP, nearly three times as big, in only five years. The accuracy of that forecast is uncanny, and rather uncharacteristic of various government-produced long-term forecasts. The sheer size of the trade deficit means that for it to come down below an acceptable level of 3% of GDP, earnings from services and remittances would have to contribute 9% of GDP, or close to $180 billion in the current fiscal. It is a herculean challenge, which to the commerce ministry’s credit, was identified long ago. The strategy paper provides various ideas to boost export earnings, with product and market strategies. As T.N. Ninan recently wrote in the Business Standard newspaper, India missed the bus on garment exports, with countries such as Bangladesh, Vietnam and Turkey moving ahead in absolute terms.

But, due to increasing wages in China, there may be a second chance for India to catch the bus on export opportunities in garments, clothing, fabrics, yarn, carpets and handloom. All this is dealt with in the ministry’s strategy paper. There are other suggestions for electronics, pharma, light engineering, gems and jewellery and agro processing. The report is remarkably detailed in its sector-wise recommendations.

An interesting part of the document explores ways of compressing imports. It is here that the blame is squarely put on domestic policies. The burgeoning imports of edible oils, pulses, fertilizers, coal and now iron ore, even cellphone instruments, have all benefited from domestic industrial policy, which at best was negligent, or worse, downright hostile. No amount of rupee depreciation, or multi-city road shows for foreign direct investment in places such as London, Hong Kong or Dubai, or fervent appeal to citizens to forego purchases of gold, can undo the damage done by policy lethargy.

We must now focus on recovering lost ground in labour-intensive exports, increase domestic production of fertilizer, edible oil, iron ore and coal, and negotiate directly with the Chinese to swap the trade deficit for inbound Chinese investment. This is a policy agenda mostly identified by the government itself two years ago, and addresses structural aspects of the trade deficit. We ignore it at our own peril.

Ajit Ranade is chief economist AV Birla Group.

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