After RCEP look to LatAm, Africa to grow exports

In 2004, the late Nobel-winning economist Paul Samuelson wrote a paper which showed that a globalizing country’s ‘winners’ may not be able to compensate its ‘losers.’ Had India joined the Regional Comprehensive Economic Partnership (RCEP), it is likely that it wouldn’t have found enough winners to compensate the whole gamut of certain losers spanning both manufacturing and agriculture. It is therefore not surprising that India decided to ultimately pull the plug on this rather lopsided and anachronistic, ‘one size fits all’ free-trade agreement (FTA). Indeed, the key learning from the RCEP experience for India is that it is better off pursuing limited trade deals with its major trading partners that can typically be negotiated on a more reciprocal basis.

It was always a bit fanciful for India to think that it could have secured its interests in an RCEP framework whose core agenda is driven by a network of East and South-East Asian producer economies, now led by China. The participants of this regionalized ‘Confederacy of the Value Chain’ have their relative strengths which is reflected in the fact that a significant proportion of their mutual trade is in the form of the movement of components to a final processing site for export to other regions.

Of late, this confederacy has been under considerable pressure due to the US-China trade war. As a result, it has sought to expedite RCEP in a bid to send a message to the Trump administration about Asian solidarity. However, the amplification of this message always required the acquiescence of the main net importer of goods in Asia, which is India, to serve as a greater sponge for confederacy exports. So, all members of the confederacy were enthusiastic supporters of the de facto India-China FTA that the RCEP was going to be, with an early reduction of tariffs by New Delhi. Conversely, India’s proposal to use 2019 as a base year for tariff reduction (as opposed to 2014, when tariffs for various goods were lower) did not receive much support within the group. Also, with the US-China trade war leading to a pile-up of industrial inventories across suppliers in the confederacy, India’s bid to put in place a tariff auto-trigger mechanism for blunting possible import surges from China did not find takers either.

Given their outlook and the extant geo-economic situation, the confederacy was never going to agree to a ‘two-speed RCEP’ which gave these types of concessions to India, even at the risk of the latter opting out. In fact, even for some items that India did not offer for tariff reduction to China, RCEP’s lax rules of origin would have ensured their mass arrival on Indian shores via ASEAN anyway. After all, the ASEAN-India FTA (AIFTA) is nowadays being used by Chinese exporters to circumvent Indian tariffs through re-export from ASEAN ports, while claiming significant value addition. This is a key reason why New Delhi is currently renegotiating AIFTA with a view to putting a stop to this kind of duty evasion.

But what about the claim that with RCEP, India would soon have become a member of the confederacy itself? Well, similar claims were advanced when AIFTA and India’s FTAs with Japan and South Korea were put in place. The result, however, was a ballooning of India’s trade deficit with confederacy members and scant integration with their value chains. No doubt, geography has played a role. One only has to observe the distance between China’s Pearl River Delta (a major manufacturing area) and Vietnam’s Hanoi to understand why the latter’s industrial parks are sought after by Chinese firms looking to escape Trump’s tariffs. But equally important has been the fact that India’s transaction costs continue to be higher given its weaker infrastructure among other things.

Whatever electronics manufacturing FDI India has managed to attract from the confederacy is chiefly on account of the tariffs it has in place. India’s acceptance of RCEP membership would have meant that it would have given up the one instrument that had actually worked for it. Alongside India, Australia and New Zealand were also slated to be among the importers of the net goods within RCEP. But even they would have benefited from RCEP to the detriment of India on account of their prowess in industrial agriculture which would have decimated India’s small-scale farms and dairies, already under pressure from other FTAs such as the one with Sri Lanka.

Surely, none of this was a surprise to New Delhi. Why then did it persist with RCEP negotiations for seven years? Well, it probably believed that the lure of the Indian market would allow it to get the requisite safeguards. Also, there was the fond hope that India’s low-cost services sector, which enjoys a comparative advantage vis-a-vis its counterparts in confederacy member-states would have got the much-desired market access that ‘Act East’ has been working for. Unfortunately, that has not turned out to be the case, with confederacy members ringfencing their services sectors with non-tariff barriers. China, in particular, imposes the greatest range of so-called technical barriers on trade against India’s services exports.

In sum, had India joined RCEP, it would have in effect been an example of unilateral trade liberalization. While ideological proponents of free trade may say that even that would have led to efficiency gains, the deep fears of a range of producers in India suggest otherwise. A rump manufacturing sector and a deeper agrarian crisis would have been the result at a time when the Indian economy is already headed towards deflation as the peak liquidity shock of demonetization is experienced.

All this, while aiding China in its endeavour to internationalize the yuan through greater regional integration. Now, however, the game may be changing. RCEP’s attractiveness sans India stands diminished and this has already been echoed by some confederacy members. On the other hand, India is now in a position to derive greater benefit from the US-China trade war, the temporary truce notwithstanding. An early India-US trade deal would certainly posit India as a lucrative destination for foreign manufacturers looking to exit China. Of course, to really capitalize on this, India must get its act together by setting up modern industrial parks with connectivity to much more efficient ports. Labour laws can be relaxed in these parks, with the land acquired for the same in concert with the relevant state governments.

Be that as it may, India must not bet the farm to secure a trade deal with the US either. Unrealistic US demands on India diluting its data localization and local content norms as a quid pro quo for market access should be resisted. Safeguards for the agricultural sector must also be built-in. Meanwhile, India must recognize the potential for healthy two-way trade with Latin America and Africa, the two regions where Indian exports have actually grown of late. In this light, the forthcoming FTA with Mauritius would be a good start.