India’s FTAs: What Hasn’t Worked? What’s The Change In Strategy?

India's renewed focus on Free Trade Agreements- are we wiser today?

<div class="paragraphs"><p>Commuters drive along Sheikh Zayed Road past commercial and residential properties in Dubai, United Arab Emirates.</p></div>
Commuters drive along Sheikh Zayed Road past commercial and residential properties in Dubai, United Arab Emirates.

For perhaps the first time, Budget 2022 will have specific trade-related packages and trade policy being addressed, Commerce Secretary BVR Subrahmanyam recently said at an online industry event.

Subrahmanyam’s comment was in response to industry’s apprehension on whether India’s renewed focus on free trade agreements will yield results.

India has preferential access, economic cooperation, and FTAs with about 54 individual countries, and bilateral trade deals in the form of comprehensive economic partnership agreements with some 18 groups.

Yet, in Subrahmanyam’s own words, “given the size of the Indian economy, its share of global trade isn’t commensurate.”

The value of world imports and exports of goods hit $5.6 trillion in the third quarter of 2021, as per United Nations Conference on Trade and Development data. Trade in services stood at about $1.5 trillion.

For the last 10-12 years, Indian exports have been hovering around $300 billion, +/- $30 billion. The highest ever being $330 billion about three years ago, after which we’ve had two bad years due to Covid-19. The advanced economies are expected to grow at 5.2% and the emerging markets at 6.5%—the gap is narrowing. Which means the developed world is going to become a big consumer of traded goods.
BVR Subrahmanyam, Commerce Secretary

This is a huge opportunity for India to plug into global demand, he added.

The response to this opportunity was articulated as “address the low hanging fruit” by Minister of Commerce and Industry Piyush Goyal at an event to mark the finalisation of terms of reference for the FTA with the United Kingdom

“We’ll be fast-tracking an interim or an early harvest agreement where we hope to capture the low hanging fruits which will provide opportunities for businesses in both the countries. The co-operation will extend in areas like tourism, technology, startups, education, climate change. Both sides have agreed that sensitive issues are not a priority.” - Piyush Goyal

An early harvest agreement is a precursor to an FTA between two trading partners. This is to help the two trading countries identify certain products for tariff liberalisation pending the conclusion of FTA negotiation.

Currently, India is negotiating FTAs with the United Arab Emirates, Israel, Australia, U.K. and the European Union. BloombergQuint asked trade policy experts on what hasn’t worked for India under the existing FTAs and how’s the strategy changed for the ongoing negotiations.

India’s FTAs: What Hasn’t Worked?

In the earlier days, India used FTAs as tools for diplomacy, rather than for economic gain, Suhail Nathani, managing partner at ELP, pointed out. In the next phase, he elaborated, there were meaningful engagements, for instance, with Thailand, Korea, Singapore and Japan.

But, these were truncated on account of lack of government continuity or industry opposition or other priorities for the counterparts.
Suhail Nathani, Managing Partner, ELP

The balance of trade in almost all FTAs has been adverse to India as the export opportunities using FTAs was not significantly exploited and at times decision to make and sell versus import and sell tilted in favour of imports, Rahul Shukla, trade policy expert at Price Waterhouse & Co LLP, said.

There’s been a philosophical dilemma—protectionism vs liberalism—that India hasn’t yet been able to resolve, opined Raj Bhala, professor at the University of Kansas, specialising in international trade. Consequently, if you look at most of the counterparties of existing FTAs, they are commercially meaningless, Bhala explained.

The ambitious deals with the U.S. and the EU are nowhere near completion. The reason is, for instance, there are 10,000 goods traded in the Harmonized Tariff System. India’s average tariff rate is in double digits for most of these, compared to U.S. which has tariffs between 0-4%; the EU at 4% . Similarly, on the services side—banks, bollywood, hotels, restaurants, lawyers—India has failed to open itself.
Raj Bhala, Professor, University of Kansas

So, India needs to first address the domestic tension between protecting its own industry versus the aspiration of expanding its role in global trade.

Subrahmanyam attributed India’s limited role in global trade to a flawed administration approach.

The commerce ministry never created an FTA-negotiation wing within itself. It had territorial divisions which looked at apples, oranges, mangoes, and bananas kind of stuff with different countries. When FTAs started coming up, individual officers were handed over the task of FTAs but they were never trained for these negotiations. Negotiating is a different tactic than sorting everyday issues like cargo stuck at some port etc.
BVR Subrahmanyam, Commerce Secretary

Rohan Shah, an independent counsel, who has represented the government on trade issues internationally, points out two failings in India’s existing FTAs.

First, the government didn’t get qualitative inputs from the industry and a lot of the negotiations were done at a bureaucratic level. Once we got into those FTAs, there was a lot of hue and cry saying how has the government conceded this position.

“For instance, picture tubes could come in from Thailand at 0% tariff. The consequence was the domestic television manufacturing industry was adversely impacted.” - Rohan Shah, Independent Counsel

It became a blame game. Bureaucrats said industry doesn’t bother to give us qualitative inputs. Industry said nobody consulted us, Shah added.

Second, India and the international trading community at large, all discovered over time as to how some ­­­­­­­­­­­­­­­­­­­unscrupulous exporters started manipulating the issuance of the country-of-origin certificate.

For country-of-origin, the FTAs would typically have prescribed:

  • Minimum value addition in the local country.

  • Change in the HSN classification.

Over time, Shah pointed out, exporters from other countries started manipulating the certificates. For instance, India was getting copper items from Sri Lanka, which far exceeded their capacity of producing the primary ore, he said.

Obviously, entities in other countries were sending their goods through Sri Lanka and wrongly getting Origin Certificates from Sri Lanka. Similar issues were seen in gems and jewelry from Thailand. Jewelry had some sort of concessions, but some people would minimally cast gold and just bring it to India and melt the gold.
Rohan Shah, Independent counsel

Perhaps why, as recently as in 2020, the government amended the customs law to mandate importers to do the due diligence to ensure the originating criteria requirements are met. The amendment also allowed for verification of origin from foreign authorities, temporary suspension of preferential treatment, and situations under which a claim can be denied, or a certificate can be rejected.

Is India Wiser Now?

The ministry has set ambitious targets for completion of FTA negotiations. May 2022 for an early harvest scheme or a limited trade agreement with the U.K. to lower tariffs on certain goods and services and concluding the FTA by the end of 2022. A similiar deadline has been set for the Australia FTA. The one with EU, which has been stalled for over six years, per Subrahmanyam will likely achieve finality by mid-2023 given that it needs consensus by 27 member states. The one with the UAE is near the finish line.

To achieve these deadlines, the ministry has made both administrative and strategic changes, Subrahmanyam said.

The ministry has created two trade policy wings—multilateral and bilateral. Most countries, he pointed out, have a huge trade promotion wing. We don’t. DGFT is sort of an incentive-distributing office. It was born out of Foreign Trade (Development Regulation) Act 1992—soon it became a regulator and forgot the development part. So we’re now restructuring the department, Subrahmanyam elaborated.

We also realised trade policy cannot exist in a silo. When I came in July last year, by the end of the month we made representations to all the ministers who mattered for foreign trade policy—finance minister, external affairs etc. There are strategic reasons, for instance, Israel is not necessarily important to us as an economy but very important strategically. So there’s a buy in from other ministries and then countries, regions are prioritised by us accordingly.
BVR Subrahmanyam, Commerce Secretary

The strategic change, he pointed out, is two-fold:

  • One, remove tariff disadvantages because when margins are thin, even a 10% advantage can make all the difference. India is the only major economy is the world which has not signed into a large regional trading agreement or with a large economy. Consequently, India is getting shut out.

You go to the U.K., Vietnam has a tariff advantage compared to India. Bangladesh has benefits. Major exporting sectors in India like textiles, leather, garments—all suffer tariff disadvantages. Therefore, we’re looking at market access now with interim agreements and market access for the future.
BVR Subrahmanyam, Secretary, Department of Commerce
  • Two, go for new markets and new products. And services. In the past, we’ve had FTAs with our neighbours. Now, we’re negotiating with advanced economies, whose product line is complimentary to that of India. Therefore, in the short term, there will be visible benefits.

  • And three, look at lost market share and focus on that. Take gems and jewellery. Our peak exports were $40 billion about five-seven years ago. It was at $30 billion two years ago. "So we were dominant. But we’ve lost market share."

Shah pointed out, thematically in the “early harvest” mechanism, India is now more focused on allowing imports of raw material or minerals or assemblies/ components. This ensures that per force there is significant value addition made in India post import.

Typically, 20 to 70% value has to be added in India. This approach also helps support our “Make in India” and “Value add in India initiatives”. We have now linked “early harvest” lists with enhancing our export potential in electronics, mobile phones and other areas.
Rohan Shah, Independent Counsel

Further, areas of vulnerability of domestic industry are being actively identified—where we have a large manufacturing base like textiles, or areas where employment is high, where there are high investments already made, either promoter-led or institutional capital, Shah pointed out.

The expectation also is that unlike in the past, the new FTAs will not be limited to trade in goods, Shukla opined. They will cover services, trade facilitation, trade barriers and remedy, IPR, investment, innovation, environment and climate change, etc.

Bhala is optimistic about the low hanging fruit approach, all or nothing doesn’t work. Sensitive sectors can be avoided initially and there are precedents for it – agriculture being avoided by U.S.-Israel; services being excluded by Australia-New Zealand in their agreements. Both got added later; but the approach should be to start preparing your industry for it today, he opined.

The way to address domestic industries’ concerns are to use tools like transition periods, phasing categories. So, for instance, if a credible case can be made by the textile industry that it needs 10 years, the FTA can provide for tariffs to be phased out. So, then you’re not negotiating on whether to open up the textile sector or not but on the time period of phasing out the tariff.
Raj Bhala, Professor, University of Kansas

The other tool to use is adjustment assistance to workers, companies. If a company can show it went bankrupt because of an FTA, its workers get salary, training benefits to move into a different sector etc., Bhala added.

In conclusion, Nathani pointed out, just the renewed focus on trade talks is encouraging. Today, he added, multilateralism is dormant, the world’s largest economies are looking for a “China-plus-1” supply chain and perhaps most importantly the geopolitical alignments have changed—trade is increasingly being done amongst like-minded countries. “In this climate, India must engage actively with its friends.”