Chinese are Coming: Are we to welcome them with FTA?

The Chinese President Mr. H U Jintao landed in India with an entourage that consisted of top executives of many companies, besides political heavyweights. Reports indicate that the visit is meant for unveiling several new initiatives, notable among them could be forming an “energy-investment alliance” to jointly explore overseas oil fields and give a boost to their bargaining power to buy foreign energy assets, work out a strategy to strengthen negotiation-leverage at the World Trade Organization, besides framing more robust commercial relationships. There were also indications in the press that the scope for Free Trade Agreement (FTA) may also be discussed. No surprisingly, the idea of FTA with China has evoked negative response from many quarters, including academia.

FTAs are “agreements among two or more parties in which reciprocal preferences are exchanged to cover a large spectrum of parties’ trade in goods.” Although historically free trade agreements are expected to expand markets and enhance economic efficiency T N Srinivasan, Professor of Economics, Yale University, argues that theoretically, FTAs are inferior to multilateral trade liberalization. FTAs, being private agreements between two countries, the administrative mechanism, available under WTO that guarantees smooth flow of trade within a rule-based trading system, is not available for administering and settling disputes under FTAs.  It is thus not feasible under FTAs to enforce anti-dumping rules, subsidiary restrictions, etc.

What is more, free trade agreements are not only antithetical but also engender a lot of problems in terms of defining and policing rules of “origin of goods”. Such rules are quite essential since tariff preferences are accorded only to goods actually produced in the partner country but not to the goods from the rest of the world that could make an entry through the partner country with the lowest external tariff. The rules of origin (ROSS) that govern preferential treatment are invariably complex. According to Prof. Srinivasan, they only provide ample opportunities for bureaucrats to make non-transparent and opaque protectionist measures by manipulating the rules. For instance, the rules of origin under the FTA between the US and Singapore said to run to almost 203 pages. Despite these disadvantages, FTAs are mushrooming all over that, too, more out of non-economic considerations.

It is true that our GDP grew at an average annual rate of 6.2% during 2000-04 while that of China at 10.6% and it is also true that such high growth means increased demand for goods and services. This is already evident from the fact that the bilateral trade between India and China grew from $338 mn in 1992 to $13.6 bn by 2004 and it is projected to touch $100 bn by 2015. This obviously poses a question: When economy of both the countries is in such a pink, why not an FTA, which is a potential tool for bettering the economic cooperation between India and China.

But there is embedded risk in it: All said and done, our economic miracle though real is just confined to the highly specialized IT services, outsourcing and similar areas. China, by virtue of its efficient manufacturing abilities has already become a manufacturing hub of the world, and thus stands better globally integrated than India. Unlike China, we are not a main exporter of consumer goods. China’s share in the world exports under manufactured goods is 6.5% while ours is a dismal 0.9%.  Even in terms of value-addition under manufactured goods, China is far ahead of us with a share of 8.5%, while we are languishing at a minuscule share of 1.4%.  Around 64% of our exports to China are in the form of primary goods—iron ore etc. while 50% of our imports from China are value-added manufactured goods. Over and above, the ruling import tariff on manufactured goods in our country stands at around 17-19% while it is 5 to 7% in China. In view of these inequalities, Indian exporters can gain no substantial advantage under the proposed FTA vis-á-vis Chinese exporters.

Secondly, under the proposed FTA, our domestic manufacturers are likely to face a threat to their survival. According to one estimate, China has lower cost in many products than India and thus we have lost market share in third markets to China and this trend is likely to continue in the future unless we catch up with China in costs. That aside, under the proposed FTA, imports from China will become cheap which is sure to impact sales of domestic manufacturers adversely. The increased competition from China under FTAs is certain to threaten the survival of some of the rural production units in India, notable among them being raw silk and other agricultural produces. As we are already suffering from a none-to-happy performance under rural economy, adjusting to the proposed FTA may prove costly.

On any count, it may not be an appropriate time for us to rush for FTA with China. Instead, as Prof. Srinivasan opined, it is better that along with China, we focus our efforts in ensuring that the multilateral process of trade liberalization under WTO get started soon. We may also jointly work for the repeal of the article XXIV of GATT/WTO on customs unions and FTAs and get a new clause inserted whereby, trade preferences of any regional or other agreements are extended to all members of the WTO.

(December, 2006)