Policy: The Great Balancing Act

By racing ahead of the WTO's deadlines for freeing imports with the new ExIm Policy, Union Commerce Minister Ramakrishna Hegde has cleared the way for India Inc. to plug into global trade. BT analyses the ExIm 99 trade strategy.

Export-Import (ExIm) Policies are, usually, dull affairs. The Union Commerce Minister announces an ambitious export target, tinkers with several export-promotion schemes, and cites Balance of Payments considerations while randomly removing a few Quantitative Restrictions (QRS) on imports. Union Commerce Minister Ramakrishna Hegde's first ExIm Policy, in 1998, stuck to this formula. Fortunately, his second one does not.

For starters, there is no export target. Chastened by the previous year's experience, when exports shrank by 1.60 per cent in the first 11 months against a target of 15 per cent, the minister has refrained from projecting an export growth rate. Over the same period, however, imports rose by 8.10 per cent, causing the trade deficit to surge past $8 billion. But the deteriorating trade balance has not stalled import liberalisation efforts. ExIm 99 has removed all restrictions on the import of 894 items, and another 414 can now be imported against a Special Import Licence (SIL). Observes B. Bhattacharyya, 55, Dean (Research), Indian Institute of Foreign Trade (IIFT), Delhi: "The policy sensibly recognises that the government can no longer micro-manage trade."

However, that does not mean that there is no macro-strategy underlying ExIm 99. Undeterred by the uncertainty swirling the fate of his government, Hegde used the occasion to unveil a surprisingly bold reforms agenda--to present his vision of what needs to be done to get trade reforms moving once again.

THE EXIM 99 IMPORT STRATEGY. Accelerate the import liberalisation process. The immediate pay-off: a stronger bargaining position at the World Trade Organisation's (WTO) ministerial meet in November, 1999. In the long run, import competition will help build industrial competitiveness.

The logic is faultless, but the extent of acceleration may be exaggerated. Through a series of bilateral agreements with Australia, Canada, New Zealand, the European Union, Switzerland, and--more recently--Japan, the Government of India had committed itself to a 3-stage phase-out of all QRS on imports by March 31, 2003 (a settlement has still not been reached with the US). As per these agreements, about 1,000 items had to be moved out of the restricted list in the first phase--i.e., by March 31, 2000. As ExIm 98 had lifted restrictions on only 340 items, ExIm 99 had to move at least 660 items off the negative list. And pressure for an even-faster phase-out is likely to intensify as the US wants all curbs to be removed immediately.

So, what items has Hegde liberalised ahead of schedule this year? Mostly agricultural goods. Import restrictions on a host of vegetables (including onions), fruits, dairy-products, and soya-products have been lifted. That does not pose much threat to the domestic producers. India is, in any case, the world's third-largest food producer and, in most cases, domestic prices are below world prices. Freer imports will, however, benefit the domestic consumer. Since import decisions will no longer depend on bureaucratic discretion, price-fluctuations will be ironed out quickly.

But if market forces are to operate freely, controls on agricultural exports must also be dismantled. Although the lifting of all export controls forms part of Hegde's reforms agenda, ExIm 99 does not prune the negative list of exports, which consists largely of primary products. Points out Ashok Gulati, 45, NABARD Professor, Institute of Economic Growth: "Blocking exports while freeing imports will minimise the gains accruing to farmers from liberalisation."

As for corporates, gains in terms of improved competitiveness will be maximised only if the QR phase-out is synchronised with other reforms. These include Customs tariff cuts and the dereservation of products reserved exclusively for the small-scale sector--measures that are beyond the purview of the Commerce Ministry. Sure, by itself, the move to switch from quotas to tariff-based protection will limit the degree of inefficiency. Competition from imports should force corporates to move into the high quality-low cost spectrum, which, in turn, will help them compete in export markets.

But the impetus for such improvements will be feeble if tariff-walls are high. The bulk of industrial items that have been delicensed will attract the peak Customs duty rate of 40 per cent--far higher than tariff rates in other countries. Indeed, the next round of negotiations under the WTO is likely to push for much lower industrial tariff bindings. Argues R. Gopalakrishnan, 53, Executive Director, Tata Sons: "Convergence towards WTO norms is the end-point. Long-term trade policy should work backwards from there to announce a tariff-adjustment schedule so that industry can plan its adjustment."

Dereservation too should proceed according to a schedule since current policies have created a mess. While successive budgets have dereserved select items haphazardly, successive ExIm policies have progressively placed products reserved for the small-scale sector on the Open General Licence list. Of the 830 odd items reserved for the small-scale sector, about 660 now operate under a free-trade regime. In effect, small Indian firms are competing with large-scale imports. And reservation prevents them from investing in the scale and technology necessary to take on those imports. "There is a policy contradiction but, then, dereservation requires political consensus," admits N.L. Lakhanpal, 56, Director-General of Foreign Trade. Unfortunately, by the time that elusive consensus is reached, QRS may be long gone.

THE EXIM 99 EXPORT STRATEGY. Streamline export incentive schemes to reduce transactions cost. To cut through a tangle of procedures, develop Free Trade Zones (FTZs), and involve the states in export promotion.

Reducing the procedural clutter infesting various export incentive schemes does not amount to an export strategy. It will only trim transaction costs. And not by much. Complains Navratan Samadria, 48, President, Federation of Indian Exporters: "The Commerce Ministry cannot really do anything. It is the harassment by Customs officials and limitations imposed by an inadequate infrastructure that are responsible."

Indeed, the only way to effectively rationalise incentive schemes is to simply phase them out. Argues T.K. Bhaumik, 48, Senior Policy Advisor, Confederation of Indian Industry (CII): "Administration of these schemes spawns a web of procedures; the schemes themselves are non-transparent, and malpractice, rampant." Worse, they are also counter-productive. Globally, as tariff-barriers fall, new non-tariff barriers rise. Especially worrying for Indian exporters has been the increasing use of anti-subsidy or countervailing measures by our trading partners.

Under the WTO's rules, subsidies are boxed into 3 categories: prohibited subsidies, actionable subsidies, and non-actionable subsidies. Prohibited, or red-box subsidies include all forms of export subsidies, which developing countries must phase out by 2003 if they have a per capita income exceeding $1,000 (Rs 42,000). Although India is far from reaching that level, Commerce Ministry officials have indicated that export subsidies that have been notified to the WTO will be withdrawn.

Explicit export subsidies include the income-tax exemption for export income, concessional interest rates on export finance, and SIL premiums. Licences, which allow the exporter to import items that are otherwise restricted, can be sold for a premium to importers, and, therefore, amount to an outright cash subsidy. However, as more items are moved to the free list, premiums will automatically drop. Already, they have crashed to less than 1 per cent. Yet, ExIm 99 has chosen to reverse the process by arbitrarily tripling the value SILs will fetch upon their surrender. Hiking subsidies that are supposed to be phased out will only create uncertainty for the exporter.

Also unclear is which box schemes like the Duty Entitlement Passbook Scheme fall into. Drawback schemes typically seek to reimburse the exporter for all the taxes paid on production. Rebates on indirect taxes for exports is an internationally-accepted practice; excessive rebates are not. Given our opaque indirect tax structure, determining whether rebates are excessive or not is a matter of judgement. Exporters claim that the incidence of local taxes is not neutralised, and that refunds are subject to massive delays. Our trading partners, however, contend that excessive rebates have resulted in price-undercutting and are, therefore, actionable subsidies. Until we move to a comprehensive value-added tax system, the disputes will continue.

In the interim, switching to non-actionable or green-box subsidies would be a smart strategy. Assistance for R&D, concessions for brand promotion, and facilitation of technology imports are allowed under international trading rules. So, do away with income-tax exemptions, but provide rebates for expenditure on r&d. Abolish complicated drawback schemes, but allow for the free import of technology. Phase out interest rate subsidies on export finance, but provide venture-capital support to brand-development programmes. Sums up CII's Bhaumik: "Transform the incentive regime from one that subsidises inefficiency to one that promotes efficiency."

The advantages go far beyond circumvention of the growing number of anti-subsidy actions. A green-box export regime will provide a thrust to fast-growing service exports; it will also help propel existing exports up the value ladder. Agrees Vasant Kumar, 38, Director, Strategic Planning, Ranbaxy Laboratories: "In the US, policy support to R&D helped hone competitive advantage in knowledge-based exports; here, a policy structure based on sops ensured that our exports remained at the bottom of the food-chain."

Indeed. Resource-based and low-tech exports account for 80 per cent of our total exports. The global average is 35 per cent. Worse, nearly two-thirds of our manufacturing exports consist of products whose share in world trade is declining. So, although volumes have been growing, unit value realisations have been falling--a grim indicator of both the extent of price-competition that the majority of Indian exports face, and the low rung of the value chain they occupy. Says Arindam Banik, 40, Professor (International Economics), International Management Institute: "There is no way we can have export-led growth unless our export basket, which has remained the same over the last 50 years, changes."

The basket has not changed because, for much of the last 50 years, ExIm Policies have looked at the trade sector in isolation from the rest of the economy. But barriers between the domestic market and the global market are crumbling, eroding the ability of ExIm Policies to manipulate export profitability and influence trading patterns. To its credit, ExIm 99 recognises its own diminished role. Asks Lakhanpal: "In a liberalised economy, why do we need an ExIm Policy?"

Yet, we do need a trade policy that is integrated with an overall investment policy. Many of the measures outlined by Hegde--dereservation, changes in labour laws, tax reforms--are beyond the purview of his ministry. But they have to form part of the trade reforms agenda of any government. The present ExIm Policy has recognised its limitations. Hopefully, a future trade policy will begin to tackle these limitations.

'Personally, I Would Like To Disappear'
He hope that ExIm 99 will make him redundant. N.L. Lakhanpal, 56, the Director-General of Foreign Trade, explains why to BT's Rukmini Parthasarthy. Excerpts from an exclusive interview:

The highlight of ExIm 99 has been the acceleration of the import liberalisation process. What was the rationale for the acceleration?

L.N. Lakhanpal With this policy, we have met all our Phase-I obligations for the removal of Quantitative Restrictions on imports. We chose to accelerate the liberalisation of items where duty protection is already high. So, even though the manufacturer has some protection, he is exposed to competition. You can no longer be inefficient and survive. We are now on the threshold of a New Millennium. It is time we discarded the baggage of being a developing country which is entitled to concessions. We should deal with other countries as an equal trading partner.

Why wasn't the negative list for exports also pruned?

Export restrictions are mostly on food items. To phase these out, we will have to intensively examine our food requirements. Food security is paramount. Of course, all controls should go--and will go. The question is of pace. That will be determined in consultation with the Ministry of Agriculture.

The coordination between ministries seems to be rather poor. The Labour Ministry is objecting to the proposal to amend labour laws for Free Trade Zones (FTZs)

To the contrary, the co-ordination between ministries has been excellent. Sure, everyone argues intensely but when, finally, a statement of policy emerges, it is based on consensus. Besides, the Commerce Minister did not say that labour laws would not apply to the ftzs. He simply said that the issue would be examined.

Will FTZs be viable if labour laws are not amended? In China, FTZs allow flexibility to hire--and fire.

It is a mistake to keep citing the Chinese example. China is a Socialist economy; it had to create those zones to attract foreign investment. India has always been a relatively freer economy. A more valid comparison is provided by the American ftzs. All the laws of the land, including labour laws, apply to their ftzs. Of course, there can be a case for reforming the law for the entire country, not just for the ftzs.

Isn't the fall in unit-value realisation of exports reflective of the structural problems with our exports?

This is a temporary decline. Our exports are facing stiff competition from East Asian economies as their currencies have depreciated considerably. Our exporters have had to slash prices to stay in the market.

But we are vulnerable to such depreciations because we have failed to build value into our products

Yes, unfortunately, that has been the trend. We did not design our economy for exports; the emphasis was on self-sufficiency. Since there was a complete clamp-down on imports, there was no need for industry to export because the domestic market was fully protected. The imperatives of quality and of brand-building were never faced. With increased competition from imports, those imperatives will now have to be faced.

Isn't it also imperative to phase out all export subsidies? Many of our trading partners are slapping anti-subsidy duties on our exports

The problem arises because our taxation system is complicated and its anti-subsidy investigations are motivated. Refund of the indirect taxes which exporters are required to pay at various stages is a worldwide convention. The only difference is that most countries have a straightforward system of final tax whereas we do not have a full value-added tax. Since we also have multiple taxing authorities, there are multiple schemes to provide refunds. These are conveniently dubbed as subsidies by our trading partners. Once we have rationalised and simplified our taxation structure, they will lose that handle.

What about the premium on Special Import Licences (SILs)? That is an outright cash subsidy

Our trading partners have recognised sil as an intermediate stage between the free list and the restricted list. Yes, to that extent, it is a subsidy. Section 80 HHC (of the Income Tax Act, 1961) is also a subsidy that has been notified to the World Trade Organisation. We are not hiding this; these will be phased out.

As these are phased out, the role of ExIm Policy will shrink

It should shrink. Why should we influence trade patterns? As long as we can remove obstacles, it is enough. Other countries do not have ExIm policies. Ideally, we need to move to a situation where business is left to the businessman, and exports are left to the exporter.

What, then, will the Directorate-General of Foreign Trade do?

Personally, I would like to disappear.