By Rahul Sen & Amarendu Nandy
India decided to opt out of the Regional Comprehensive Economic Partnership (RCEP), the proposed 16-nation mega trade deal, after participating in 27 rounds of negotiations. The RCEP, with India on board, would have represented the world's largest trading bloc, with member countries collectively accounting for 45% of global population, nearly a third of global GDP, 30% of global trade, and over a quarter of global FDI.
Several reasons are being forwarded to explain the government's decision. The first concerns the timing of the deal. India is in the midst of a slowdown, with growth projected to be <6% in FY20. At such a time, further opening up of the markets to RCEP partners, with most of whom (significantly, China) India runs a large trade deficit, could result in further drag on the economy, owing to a net negative external demand.
The second argument is, without credible assurance on market access and comprehensive negotiations on non-tariff barriers, the competitive dynamics will favour China more, and RCEP provisions will basically serve as a conduit to dump cheap Chinese products in the Indian markets, sounding a death knell for several domestic industries.
Third, the government is unwilling to embrace unwarranted political risk and further alienate key electoral constituencies-farmers, SMEs, and new entrepreneurs-who, arguably, were most affected by demonetisation and GST rollout. These are critical to the government's plan of generating employment and growth in the current phase of economic gloom; but, more significantly, ignoring their call for protection against external competition could have yielded ground to political rivals, who appear to be championing their position.
India's decision on RCEP, however, raises questions on the country's economic philosophy; renders domestic economic policies inconsistent with policies on the external front; and in general, sends conflicting signals about the government's intention, particularly its seriousness in graduating from "Look East Policy" to "Act East Policy".It is important to recall some key lessons of international trade economics while reflecting on this decision.
First, with respect to timing of the deal, it needs to be borne in mind that geo-economic and geo-strategic decisions-likely to have long-term structural impact on the economy-should not be viewed from the narrow prism of business cycles. The argument that existing FTAs with some RCEP members like ASEAN, Japan, etc have only widened the bilateral trade deficit is a weak one, and can be viewed as an admission of the ineffectiveness of Make-in-India, which, among other objectives, aimed to improve the external competitiveness of Indian industry. In fact, as globalisation has led to production processes being spatially fragmented, RCEP would have provided an opportunity to partake in the ever-expanding Global Value Chains (GVCs) by expanding India's access to cheaper intermediate inputs.
Second, the fear that cheap Chinese imports will destroy domestic industries reminds us of the infant-industry argument and the import-substitution economic paradigm of the post-Independence era, which resulted in massive inefficiency and sub-optimal growth over decades. With experience of around three decades of liberalisation resulting in discernibly better real outcomes, such rationalisation signals a pessimistic mindset. Ample empirical evidence suggests that, at a country level, trade liberalisation measures, like reducing tariff barriers and having greater certainty of rules around trade, lead to net welfare gains. Notably, any trade deal provides an opportunity for consumers (the biggest section in any society) to gain from cheaper imports and access to variety. RCEP would have been no different.
Third, while admittedly there are adverse income distribution effects on import-competing producers due to trade, from empirical evidence, it is hard to conclude that trade liberalisation is primarily responsible for job losses, with domestic policies, including skill-based technological change often being the primary driver. Labour market impacts of trade are best addressed by domestic labour policies, and not trade protectionism. Job loss issues are unlikely to be resolved if India stays out of RCEP.
Fourth, while import restrictions protect against foreign competition, they also adversely affect job creation in export-oriented industries or those that import intermediate inputs. Therefore, reducing trade deficit through protectionism is unlikely to have a strong impact on lowering unemployment. By being a part of RCEP, Indian exporters could have gained by lower trade costs of accessing RCEP-15 markets, and greater harmonisation of trade rules could have encouraged India businesses to explore opportunities in those markets.
Fifth, an important counterargument against FTAs in India is that they have not been utilised well and are misused by importers to gain cheaper access. There needs to be a lot more research on causes of FTA underutilisation by exporters. In the East Asian context, limited survey evidence suggests lack of information, and compliance costs under multiple FTAs as key reasons for underutilisation. Clearly, implementation integrity is key to make any FTA successful, and India could have learnt lessons from its RCEP counterparts on addressing this issue.
Finally, our trade policy agenda needs to move away from complex, overlapping, costly, and often inconsistent bilateral FTA route to regional FTAs, considered the trade sweet-spot between multilateralism and bilateralism. By walking out of RCEP, we have surely missed such an opportunity after seven years of hard negotiations.
From an economic and strategic sense, while India is indispensable for the success of RCEP, going forward, policymakers should consider re-engaging with RCEP-15 partners, while creating domestic policy support mechanisms to adjust to trade liberalisation.
Sen is senior lecturer, economics, AUT University, New Zealand, & Nandy is assistant professor, economics, IIM Ranchi Views are personal