The trade policy India needs

The book highlights the role played by global value chains (GVCs). These have not only driven the growth of trade, they have also changed its nature. A successful export strategy no longer involves producing a product made largely in one country for export to consumers abroad. Instead, the multiple components of a typical export product are produced by different companies, often based in developed countries but offshoring production to locations in developing countries based on the competitiveness of that location in producing that particular component. Components are often shipped to other locations for further value addition. The final product is ultimately assembled somewhere else for final shipment to centres of consumption. The iPhone, for example, has 178 components that are sourced from 200 different suppliers across 26 countries!

This process of offshoring has led to a reduction in the share of developed countries in the export of manufactured goods and an increase in the share of developing countries which had the necessary human skills and physical infrastructure to enter the value chain. India has benefited from this new world, thanks to the 1991 reforms. Our share in world exports of goods had been declining before the reforms to reach 0.5% in 1990. It improved in the post-reforms period to touch 0.7% in 2000 and 1.8% in 2021.

However, while our performance improved over the past, it is China that drew the most benefit, increasing its share from 3.9% in 2000 to 15% in 2021. This star performance reflects the fact that it shaped its trade policy to take advantage of the GVC phenomenon.

The Prime Minister has now set an ambitious objective: integrating the country with global supply chains and indeed even making it a hub. Designing policies that will achieve this objective is the task before the commerce ministry as it prepares the new trade policy. It must start with the recognition that there is a divergence between what has been happening and the new goals.

Commenting on India’s backward integration with GVCs for manufactured exports—an important indicator of integration with global supply chains— Professor Batra finds it is not only lower than other regional economies, but, more disturbingly, it has declined in recent years. In fact, it is lower than it was in the early 2000s!

One policy weakness identified by Professor Batra is the increase in import tariffs implemented over the last four years. Lowering India’s very high tariff levels was a critical element of the 1991 reforms and this process was continued by successive governments. Those who feel they were lowered too much should remember that despite the reduction, our import tariffs remained significantly higher than in East and South East Asia. Professor Batra argues that if we want better integration with global value chains, we must revert to the earlier trend of gradually reducing customs duties to levels prevailing in East Asia.

Another weakness in our policy is that our bound tariffs are much higher than applied tariffs. Our trade negotiators tend to view this as an advantage because it gives us ‘policy space’ to raise duties if we want. But as Professor Batra points out, it also adds uncertainty because investors can no longer be sure whether duties on their inputs will suddenly be raised.

Looking ahead, East and South East Asia clearly have the greatest potential for expanding trade and hosting GVCs. It makes sense for us to try and integrate as closely with this area as we can. This is also an area where geopolitical developments are likely to lead to diversification of existing GVCs to a ‘China plus one’ policy, from which we stand to benefit. In this context, Professor Batra notes that our decision to opt out of the Regional Comprehensive Economic Partnership (RCEP), after several years of negotiation, was a missed opportunity.

We cannot undo the past, but perhaps the Indo Pacific Economic Framework (IPEF) agreement which we have joined offers a new opportunity. The trade pillar in the IPEF does not, as of now, deal with market access. However, it may evolve in that direction in future, and if it does, it has the advantage of including the US, Japan and Korea, while excluding China, which is a bugbear to our producers because of a fear of unfair competition. We should work to push the IPEF towards a trade agreement.

More generally, we must recognize that trade liberalization agreements in future will require deeper ‘behind the border’ integration of standards relating to labour, the environment, intellectual property rights and even investment protection. We have traditionally opposed including these ‘extraneous issues’ in trade agreements, but we need to rethink our position. Accepting such alignment may be essential if we want to attract investments directed at greater integration with GVCs.

It is worth noting that China has applied to join the Comprehensive and Progressive Agreement for Transpacific Partnership, which is the new incarnation of the old Trans-Pacific Partnership that was trashed by former US President Donald Trump. It includes many provisions for deeper integration. If other developing countries are willing to join such agreements, there is no reason for us to hold back. We can always negotiate for longer periods for complying.

Digital trade, e-commerce and digital payments are new areas which will play a major role in global integration in the years ahead. We have substantial strengths in this area, but we seem to be ambivalent about entering negotiations on it. We should shed this hesitancy and be actively involved in the development of global rules acceptable to all.

Indian industry needs to be more closely involved in discussions of policy options. Industry groups do not speak with one voice, and often do not express their concerns transparently. But there is no substitute for fuller articulation of the pros and cons as seen by industry, while also involving civil society groups and think-tanks in the process.

Finally, trade policy needs to be supported by other policies which are outside the realm of the commerce ministry. Providing better infrastructure and easier procedures are no-brainers. The government’s production-linked incentives (PLI) scheme is a new initiative in building a competitive domestic industry. Since the scale of such assistance will inevitably be limited by the fiscal space available, it should be limited to new areas with high potential. Equally important, it should be provided on the clear understanding that the beneficiary must compete with imports subject to reasonable tariffs. The need to keep Indian access to imports open is especially important in areas where technology is changing rapidly (as in green energy). New and more efficient technologies may come up and keeping such products out by raising import barriers will only make the domestic economy more uncompetitive. PLI beneficiaries should not be allowed to lobby for an increase in import duties beyond the level initially in place.

Montek Singh Ahluwalia is former deputy chairman, Planning Commission, and currently distinguished fellow at the Centre for Social and Economic Progress