A Balancing Act: Navigating Complexities of the Trade Terrain

In recent years, there has been a flurry of activity on India’s Free Trade Agreement (FTA) front. News has been abuzz with FTA developments – be it the India-UAE Comprehensive Economic Partnership Agreement (CEPA) of 2022, the Australia-India Economic Cooperation and Trade Agreement (ECTA) of the same year, or the FTA with United Kingdom still in the pipeline. The Trade and Economic Partnership Agreement (TEPA) between India and European Free Trade Association (comprising Switzerland, Iceland, Norway and Liechtenstein), concluded early this year, is indeed a landmark agreement for multiple reasons. EFTA forms a significant bloc of developed countries in Europe, ranked as the tenth largest trader in merchandise trade and eight largest in trade in services globally in 2021.  The agreement’s inclusion of chapters on trade and sustainable development, as well as the protection of intellectual property rights, is notable. The highlight of the TEPA has been its commitment under investment promotion and cooperation to increase foreign direct investment of the EFTA states in India by $50 billion within 10 years from when the agreement enters into force and another $50 billion in the subsequent 5 years. Additionally, EFTA states aim to generate 1 million jobs in India within 15 years from the time the agreement enters into force. However, amidst the heady fervour around big numbers related to the agreement, it is important to see this is an opportunity to discuss challenges plaguing India’s FTAs for a long time.

Despite entering into FTAs with certain nations, widening trade deficits with partner countries has been cited as a growing concern, bringing into stark relief the lopsided gains in certain agreements. This challenge has been highlighted in the context of India’s FTA with Japan, for instance. India has called for a renegotiation of the Comprehensive Economic Partnership Agreement (CEPA), signed between the two nations in 2011, to make the partnership more “balanced and equitable”. India’s trade balance with Japan has gone from -$7,910.94 millions in 2018-19 to -$11,033.99 million in2 022-23, indicating a widening deficit for India, with exports increasing at a slower rate as compared to the rise in imports from Japan. Among other reasons, issues regarding market access for India’s goods and services in Japan remain a pressing concern. This goes to show that tariff reduction does not necessarily boost export growth to the partner country. Understanding reasons behind trade imbalances is crucial to assess the extent to which an agreement is benefiting partner countries in an equitable manner. While any assessment of India’s agreement with EFTA should happen over time, it is pertinent to note India’s existing trade deficits with EFTA nations.  India has a negative trade balance with EFTA nations barring Iceland with which India’s exports surpassed its imports in 2022-23 by US $5.46 million.

Why do trade deficits persist despite FTA provisions? How do we review FTAs to guard ourselves against trade imbalances?  These are crucial questions to be raised. Addressing these issues calls for a multi-pronged approach. An Inverted duty structure has been identified as one of the major inhibitors of export growth.  A recent Parliamentary Standing Committee report highlights this persisting challenge that Indian exporters are faced with. In simple terms, an inverted duty structure refers to a situation wherein higher import duties are applicable on inputs more than those on finished products. It makes importing finished products a more lucrative choice rather than using raw materials to produce those goods, thus stifling domestic manufacturing. The Committee report discusses an example that illustrates the adverse impact of such a situation. On one hand, the India-ASEAN FTA offers zero-duty to Copper Tubes and Pipes; and on the other, raw materials utilized in the production of Copper Tubes and Pipes – Copper Cathode and Copper Scrap – attract import duties of 5 percent and 2.5 percent respectively. Policymakers need to address structural issues such as inverted duty structures to ensure a conducive environment for domestic manufacturing and export growth.

What can further add to the complexity of the situation are variations in tariff rates imposed by partner countries. Asymmetric tariff situations may create imbalances in trade flows such as in the case of India and UK. Indian imports from the UK face a Most Favoured Nation (MFN) weighted average tariff of 13.46 percent while exports from India to the UK see approximately 3.29 percent in tariffs levied, as per 2021 WITS data. This essentially means that Indian goods entering the UK confront lower average tariffs compared to UK goods entering India. Thus, tariff reduction through an FTA between the two nations may disproportionately benefit the UK.  Switzerland’s recent development in its tariff policies further sheds light on international trade and tariff rates’ complexities. A report by Global Trade Research Initiative (GTRI) highlights how Switzerland’s recent decision of tariff-free entry for industrial goods may limit India’s gains from the EFTA TEPA. From India’s experience with FTAs signed in the past, the need for a comprehensive assessment of these agreements is felt strongly.

It is important to understand that signing an FTA is only a starting point. The India-EFTA TEPA is a big step forward. To make an FTA truly successful, it is crucial to assess components that may be thwarting exporters from maximizing their benefits from the agreement. This essentially calls for multifaceted efforts. Setting up mechanisms to undertake continual assessments of agreements signed, monitoring them, and making modifications accordingly is an integral part of these efforts. More importantly, it is crucial to perceive FTAs as one instrument among many others to catalyze trade. Complementing FTAs with supportive policies such as infrastructure development, streamlining operations, and capacity building initiatives amplify FTAs’ impact on economic growth. Alongside the establishment of new trade ties with nations, one should inquire how our customs procedures can be further streamlined, how our trade dispute mechanisms can be improved, and how skills can be developed to ensure that our businesses are able to reap the benefits of India’s expanding trade relations. Furthermore, maintaining a constant and proactive dialogue or engagement with stakeholders is a prerequisite for a flourishing trade ecosystem.

The article was published with Financial Express on May 29, 2024.

©2024 Amit Kapoor


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