We need DESH and more to catch the Manufacturing bus

The draft ‘Development of Enterprises and Services Hub (DESH)’ Bill is reportedly facing resistance from the Ministry of Finance over its tax incentives. The Bill aims to replace the SEZ Act, 2005, and cover all large, existing and new industrial enclaves to optimally utilise infrastructure and enhance export competitiveness.

The Bill allows DESH units to sell in the domestic tariff area, subject to payment of duties foregone on raw materials and avail a concessional corporate tax rate of 15%. This came into dispute since different sections of the government feel that with this, the country would have some business units under DESH that are exempt from taxes while those in other locations would be taxed, which would be seen as discriminatory and create conflicts.

Let’s see what’s at stake here.

Special Economic Zones have more liberal economic laws as compared to the domestic law of the land. When SEZ Act, 2005, came into being, several existing Export Promotion Zones converted into SEZs. Currently, there are 268 SEZs employing nearly 2.3 million people, 64% of which are in five states – Tamil Nadu, Telangana, Karnataka, Andhra Pradesh and Maharashtra.

According to the Ministry of Commerce and Industry, SEZ exports rose from Rs 22,840 crore in 2005-6 to nearly Rs 7.6 lakh crore in 2020-21, and investment in SEZs rose from Rs 4,035 crore to Rs 6.17 lakh crore in that period. Nonetheless, it is often argued that the SEZ scheme in India has not enjoyed the same success as it did in China, where it was the primary driver of its rise. SEZs contribute about 22% of China’s GDP, 45% of FDI into the country, and 60% of its exports. This explains the current bid to improve the Indian playing field.

An interesting aspect of the current dispute between the finance and commerce ministries is that both view the SEZ scheme from the domestic standpoint. In China, they had been designed to play a somewhat different role -- that of being a change agent or demonstration zone for some crucial reform attempts, and thus be able to entice FDI. A large swathe of territory, strategically selected as being most likely to succeed, was used as an experimental zone for new reform policies.

They recognised that large-sized enclaves have inbuilt logistical efficiencies as compared to widely distributed smaller enclaves. Illustratively, the first four Chinese SEZs were set up in South China in 1980 -- the smallest, Shenzhen, in 2,000 sq km, and the largest, Hainan, in 34,000 sq km. The attempt was to create a combination of modern cities and proximate industrial zones similar to those found in the West.

The results started flowing with the dawn of the globalisation era of the 90s. China experienced a virtual flood of FDI from the US and EU as large, well-developed manufacturing areas contiguous to numerous easy-to-reside modern cities became available for companies looking to off-shore production into low-cost centres.

China responded with other types of reform in other geographies. It currently has 6 SEZs, 14 open coastal cities, 4 pilot free-trade areas, and five financial reform pilot areas. There are also 114 national high-tech development parks, 164 national agricultural technology parks, 85 national eco-industrial parks, 55 national ecological civilization demonstration areas, and 283 national modern agriculture demonstration areas. Its experience indicates that policy continuity, geographical selection, resources, market, and capital are all necessary for successful reform. Also, different geographies require different types of reform. The country as a whole benefits more if industrialisation is concentrated for logistical efficiency and other parts of the country are developed through other focused types of economic activity.

Any attempt to compare the two performances should also examine their inbuilt design differences. Unlike China, we did not invest in creating foreigner-friendly cities as an integral part of the SEZs. The target investors were domestic firms or joint ventures. Also, our SEZs are much smaller, so scale efficiencies are missing. Additionally, the golden era of globalisation ended with the Global Financial Crisis of 2008. The Indian experiment thus took place in a less conducive global environment compared to the Chinese SEZs.

However, now again, opportunity beckons. The ongoing US-China trade war and the revealed Chinese governance over-reach in the post-Covid period will induce thousands of foreign firms in China to adopt a ‘China+1’ policy, if not a total exit from it. A strategic de-coupling between China and the West is thus underway. India has, in a way, been given a second opportunity to climb onto the manufacturing bandwagon. However, Vietnam apart from the ASEAN, Serbia, Turkey and other low-cost EU countries are also keen to do the same. We thus need not only DESH but also widespread, State-sponsored urban infrastructure development to quickly get our house in order.