India should integrate into global value chains

Mar 04, 2022 03:55 PM IST

Creating goods and services not just for India, but for the world, is critical to ensuring large-scale employment, wealth creation, and human development

In late 2019, when India withdrew from the Regional Comprehensive Economic Partnership (RCEP) – a trade agreement involving Southeast Asia, China, Japan, South Korea, Australia, and New Zealand – it was perceived as New Delhi stepping away from global trade. The pendulum has now swung, with India concluding a trade agreement with the United Arab Emirates (UAE), and in negotiations with Australia, the United Kingdom (UK), Canada, and Israel. The shift reflects the increasingly political character of international commerce. Concerns about further dependence on China, particularly given RCEP’s lax rules of origin, stand in stark contrast to the prospect of greater integration with more complementary (and friendly) advanced economies.

Is India set to seize this opportunity? Not yet. (AFP) PREMIUM
Is India set to seize this opportunity? Not yet. (AFP)

Yet trade agreements are but one means to what is arguably a more important national objective: Increasing the global share of India’s exports. Creating goods and services not just for India, but for the world, is critical to ensuring large-scale employment, wealth creation, and human development that takes fuller advantage of India’s favourable demographics. Additionally, as the pandemic has underscored, globally competitive manufacturing is critical to ensuring national resilience, particularly in critical sectors such as health, energy, and digital technologies. China has demonstrated, much as colonial powers did in a prior era, how export power can be leveraged for political purposes.

Admittedly, India’s quest for exports has faced adverse headwinds. It is not rich in natural resources such as oil and gas. Politics has created further hurdles. India today accounts for around 3% of the world’s economy (ranked 6th) yet contributes only about 2.2% of global exports (ranked 12th) and barely 2% of merchandise exports (ranked 14th). Over half of Indian goods exports come from refined petroleum products, gems and jewellery, pharmaceuticals, machinery, organic chemicals, automotive parts, and iron and steel. These are (with few exceptions) not generators of large-scale employment.

Today, two developments have collectively created an opportunity to redress India’s anaemic exports. First, Beijing’s growing assertiveness and economic nationalism have caused some governments to reconsider their dependence on trade integration with China. This extends to the United States (US), Japan, South Korea, Taiwan, UK, and Australia, as well as some European countries. Some see Southeast Asia and India as potential alternatives, although they recognise that diverting value chains away from mainland China will take many years, given sunk costs. A second factor has been the coronavirus pandemic, which has offered an opportunity for a reset, as trade and supply chains have been disrupted.

Is India set to seize this opportunity? Not yet. The challenges are that certain policies intended to promote self-sufficiency, rather paradoxically, risk moving India further away from that objective. Boosting Indian exports will require further integration into global value chains, and thus recognition that production will still be dispersed across borders. India consequently faces at least three major obstacles to fully realising its export potential: Restrictions on imports, regulatory uncertainty, and inadequate infrastructure. These concerns have been identified both by domestic manufacturers and multinational corporations (MNCs) interested in further investment in India.

The most immediate challenge involves recognising that increasing exports requires facilitating imports. Final assembly in India necessitates importing raw materials, as well as intermediary goods until full domestic manufacturing ecosystems can be established. After all, China and Germany – which enjoy enormous trade surpluses – are also two of the three largest importers. Yet Indian manufacturers confront a series of challenges to importing necessary components, including high import duties, complicated licensing procedures, large penalties, double-taxation on reimports, price controls, and local content requirements in products lacking local suppliers.

A second challenge relates to regulatory uncertainty, which deters long-term investment, often with implications for pricing. In certain sectors, customs duties are applied arbitrarily, often to the disadvantage of the Indian private sector. Similarly, the electronics sector – a government priority – faces constantly changing regulations and certification requirements. Local standards are often in conflict with prevailing global norms, creating further disincentives for exports.

Finally, while India’s infrastructure has improved considerably, constraints remain. These extend to port congestion and inadequate dedicated freight corridors, and also such hurdles as a lack of electronic forms for necessary paperwork. Such factors raise costs, often rendering Indian exports non-competitive. By one reckoning, the real cost of logistics in India is almost twice that of some competitors.

There are certainly other challenges, such as inadequate human capital, land, market access, arbitration, and low-interest financing. But facilitating the import of intermediary goods, generating regulatory certainty, and addressing infrastructure bottlenecks would go a long way towards making Indian manufacturing more competitive, relative to its real competition like Vietnam, the Philippines, and Mexico.

Global value chains are a two-way street: For exports to rise, imports must be facilitated, albeit in a manner that prevents dumping. Creating a self-sufficient manufacturing and export ecosystem cannot happen overnight and will need to be nurtured with policy predictability and efficient infrastructure. Addressing Indian manufacturers’ concerns is paramount. In this matter at least, the Covid-19 pandemic and China’s belligerence offer perhaps the last opportunity for India to take full advantage of its demographic dividend.

Dhruva Jaishankar is executive director, ORF America

The views expressed are personal

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