Financial Express - 15 January 2021
Triggering growth: Are free trade agreements the answer?
By JS Deepak
The signing of the Regional Comprehensive Economic Partnership (RCEP) agreement by 15 countries of the Asia-Pacific, accounting for 30% of the global trade, late last year, and the launch of the African Continental Free Trade Area (AfCFTA) comprising 54 countries in January 2021, have revived the narrative on free trade agreements (FTA). The parallel development to ‘take back control’ that propelled Brexit highlighted the backlash against globalisation and free trade. Nobel laureate Milton Friedman held that the economics profession has been almost unanimous on the desirability of free trade. However, good economics is not always good politics. From India, which in the last five years has hiked tariffs on a fourth of all products traded, to the US, which promotes buy American, protectionism is the flavour of the season.
Trade, one of the engines of economic growth, has not fired for India in the last decade. Merchandise exports that create jobs in manufacturing have been flat around $300 billion. Simultaneously, import of goods—which generates employment in services like transportation and logistics, provides value and choice to consumers and cheap inputs for our exports—has also remained stagnant. This is a double whammy as our comfortable foreign exchange reserves allow us to safely leverage the advantages that imports offer. It is noteworthy that India’s trade as a percentage of GDP has plummeted from 56% in 2011 to 40% in 2019, a period during which we have not signed any FTA.
What is an FTA?
FTAs between two or more countries increase trade by reducing customs duties and non-tariff barriers on substantially all trade. They also cover services and non-trade issues like investment. ‘High standard’ FTAs, being aggressively promoted by the US, also include rules on e-commerce, intellectual property, labour standards and environment protection measures. FTAs became popular as the world lost patience with the ‘consensus by exhaustion’ approach of the World Trade Organisation. Today, the spaghetti bowl of FTAs includes about 500 arrangements with linkages and overlaps.
India’s first comprehensive FTA was in 2005 with Singapore, an entrepôt with a near-zero tariff regime. We reduced duties on a range of products, getting little in return. Perhaps it was the price we paid for entry into the ASEAN+6 club. The ASEAN FTA in 2009 was worse. A ‘goods only’ agreement with a number of manufacturing tigers, when our main strength was services, ended up sacrificing many industrial sectors. Moreover, bereft of negotiating leverage, we were forced to accept a dud as the ASEAN Services Agreement.
Surprisingly, the better deals were with stronger economies like South Korea and Japan. These FTAs of 2009 and 2011, respectively, enhanced our trade deficit, but also our competitiveness in some key areas. Take for example automobiles. The Japanese and Koreans negotiated lower tariffs for their special steel. Investment in car production in India increased, riding on robust promotion and protection measures incorporated in the FTAs. Their auto majors expanded factories in India to meet the huge domestic demand and by leveraging cheap skilled labour helped transform India into a small-car hub. Later, with economies of scale, they made inroads into the extremely competitive export market.
Negotiating FTAs can be a challenge as it involves an element of give and take. Since companies trade and not countries, some benefit while others lose out. That is the nature of the beast! Negotiators can fight for the king, the queen and bishops, but have to throw away the pawns. This is contentious as it can create losers who end up kicking and screaming. However, FTAs can help India gain substantial access to large markets at concessional duty for products where we are competitive. Sectors like automotive, textiles, handicrafts, leather, pharmaceuticals, light electricals, some chemicals, many agricultural items, jewellery and professional services, which are all employment-intensive, could benefit. It can trigger huge job creation riding on exports. In textiles and clothing, our competitors Vietnam and Bangladesh enjoy tariff-free access to the large and lucrative EU and US markets on account of their FTAs or LDC status. Tariff elimination under FTAs can provide our exporters a level-playing field and stop erosion of our market share and profits.
What should then be the path for the future?
Reduction in tariffs on intermediates enhances competitiveness of finished goods. Doing so under FTAs allows trading off liberalisation. Therefore, we need to restart our FTA journey urgently and scale it up rapidly with the past experience serving both as a lesson and a warning. Conclusion of the India-EU agreement should be a priority. Negotiations tottered on differences on Indian tariffs on wines, Scotch whisky and luxury cars, and EU intransigence on country-specific quotas for Indian IT professionals. But the real deal breaker in 2015 was India’s insistence on free cross-border data flows, which the EU found inconsistent with its privacy law. In the era of artificial intelligence, data is the new oil. With technological evolution there is an opportunity of monetising India’s data so our position on this issue has reversed, removing a major hurdle to a deal.
An FTA with the UK should be a low-hanging fruit too in view of the complementary interests in services and the desire of the UK to rapidly diversify trade to cushion the impact of Brexit. Leaders’ meetings leading to the G7 summit in the UK in June 2021 offer an opportunity to prepare and cement the vision for a deal. Engagement with the Eurasian Economic Union (EAEU), comprising Russia and many of the erstwhile Soviet republics, should be another high priority area. The EAEU is rich in energy resources, has a hunger for our pharmaceuticals, textile and agriculture exports, and traditional goodwill for India. Africa is another large, growing market and we should leverage their apprehension of Chinese dominance and take a lead in initiating a dialogue with the AfCFTA.
Equally important is drawing up a negative list of FTA partners. China, the factory of the world, with its huge subsidies and scale of manufacturing, is clearly one. The government wisely abandoned the RCEP, where the proposed tariff elimination on 80% trade would have wrecked our domestic industry. The US, with its insistence on binding rules on digital trade and intellectual property and ambitious market access for US exports, is another one to avoid. Many experienced negotiators liken an FTA with the US to the software licensing agreement of a website. Ultimately, you have to put aside all your concerns and sign off ‘I agree’.
For the rest of the world, India is ready.