We need more trade, not trade war with US

The decision by the Trump administration to withdraw preferential treatment to Indian goods should serve as a strong warning to the New Delhi that prioritising narrow domestic politics over good economic policy can have dangerous consequences.

On March 4, President Trump wrote a letter to the US Congress stating his intent to remove India’s designation as a beneficiary country under the Generalised System of Preference (GSP), a move that would increase import duties on about $5.6 billion worth of exports from India.

The GSP is a programme designed to benefit predetermined developing countries by waiving import duties and tariffs on select goods. India was one of the biggest beneficiaries of the GSP, accounting for over 25% of the total volume of goods allowed under the programme. In response, India has threatened to retaliate by levying import duties on $10.6 billion worth of American imports.

Trump’s decision to levy import duties on erstwhile exempted goods did not, as commonly understood, come out of the blue, nor was it the first strike in an emerging trade dispute. The US Trade Representative has appealed to New Delhi multiple times in the past to remove the trade barriers that it has imposed on US goods and investments. This move by the US is largely due to three distortions introduced by the government that hurts not only US business interests but also Indian consumers.

First, in February 2017, the National Pharmaceutical Pricing Agency (NPPA) capped the prices of coronary stents, resulting in as much as an 85% drop in prices for certain varieties. The three big American manufacturers protested against this move and proceeded to withdraw their latest products from the Indian market. The NPPA had also capped the prices of knee implants, resulting in as much as 65% drop in prices. US medical device manufacturers had been lobbying with the Trump administration to review India’s inclusion in the GSP trading arrangement.

The second point of contention has been the draft e-commerce policy and the clarification on FDI investment issued by the Department of Industrial Policy and Promotion (DIPP). In short, the DIPP ruled that foreign e-commerce firms could only function in India as a marketplace and cannot sell their own products on the platform. This means that Amazon cannot be both a retailer and a marketplace platform in India. Between the two of them, Walmart (the majority stakeholder in Flipkart) and Amazon owned 30 private labels, which could no longer operate in India. Further, the new e-commerce policy had severe restrictions on product pricing and discounts.

The biggest blow, however, was the emphasis on data localisation -– foreign e-commerce firms were supposed to store and process all data in India itself, which would require massive investments in setting up data servers in the country. Both companies have paused to rethink their long-term investment plans in India while lobbying with the Trump administration to intervene on their behalf.

The third area where India and the US are locking horns is that of dairy imports. India has banned all US dairy imports on religious sentiment grounds. The Indian government maintains that the ban will stay in place unless it is given a certification specifying that imported dairy items were not from animals raised on feed made of bovine extracts. The dairy manufacturers have again pressed upon the Trump administration to retaliate, resulting in the current predicament.

The road ahead

First, we have to realise that this move by the US is not arbitrary, it is retaliation against our increasingly protectionist trade and investment policies. Instead of retaliatory tariffs, India should have a hard look at what our current trade policies are achieving. The price caps on coronary stents are driving away the latest and sophisticated products from the market and reducing choice, apart from lowering supply in the market.

The e-commerce policy will lead to higher prices, lower investment, lower jobs created, and a general decline in consumer welfare. There are other policy solutions to deal with the supposed problems these policies are attempting to solve. The dairy ban can be got around by simple labelling requirements. Not all India has a uniform ‘religious sentiment’. India could ask for the products to be labelled accordingly and let the Indian consumer choose.

It is not in India’s national interest to get into a trade war with the US. We have more to lose than them by doing so. India should drop the threat of escalating the trade war. Relative size of an economy and dependence on trade with the other partner are crucial in determining whether trade barriers can achieve the necessary outcomes. The US is a lot more important trading partner for India than India is to the US.

Geopolitical realism instructs us that India cannot afford to indulge in such a trade war and that the damage we can inflict upon the US is not big enough to force it to change its trade regime. If India escalates the matter, it could very well lead to a full-blown trade war that could potentially witness bigger retaliation from the US in the form of higher tariffs on pharmaceutical products or non-trade barriers on Indian software products, which can truly hurt the Indian economy. We could also suffer due to decreased investment by US firms in India and, at a time of decreasing domestic investment, this can be damaging.

In an atmosphere of increasing trade barriers, India, a consumption-driven economy, can gain by traversing in the opposite direction. If the US and China fail to come to an agreeable trade deal, India can fill the void by signalling that it is open to freer trade. Trade policies tend to be reciprocal in nature. When we open our door, other countries will reciprocate, which can help Indian manufacturers. Ultimately, we will have to reverse many of the distortions in our domestic markets. Doing so can increase overall social welfare as well as benefit the country in the international trade arena.

(The writer is Research Fellow, Takshashila Institution)