India’s inward orientation can be self-defeating

Ritesh Kumar Singh
India’s dance towards economic nationalism is going to hit its consumers hard
Chief Economist of Indonomics Consulting and Former Assistant Director of the Finance Commission of India

India’s dance towards economic nationalism is going to hit its consumers hard

Amid heightened border tensions with China and a worsening economic downturn, accentuated by stagnant exports and muted private investment, India’s economy is gradually turning inward. 

The target of New Delhi’s protectionist moves is China, but in the past couple of years, import duties on several items have been increased by the Narendra Modi government on a most-favoured-nation basis. This means they will apply to imports from all countries except free trade agreement (FTA) partners.

New restrictions have been imposed on foreign companies, especially those in the e-commerce space. India has let bilateral investment treaties—that provide protection to foreign investors from regulatory abuse—with as many as 58 countries expire, and as a result, no protection will be available to new investments made after 1 April 2017. Additionally, New Delhi’s defensive attitude on investment protection treaties suggests that India is becoming increasingly uncomfortable with the idea of an open economy.

The spat with China has thrown India’s growing economic nationalism into the spotlight. The country could be turning inward just at the moment it should be looking out, and as written on these pages earlier, that is a “real risk” and “could be very damaging for India”.

Explaining India’s march toward protectionism

Supporters of India’s increasing protectionist approach say that openness has not served the country well. India’s FTAs, especially those with ASEAN, Japan and South Korea, have led to more imports than exports. While India’s imports have surged in the past decade, exports have remained stagnant at around $300 billion (Figure 1).

In this time, India’s gross domestic product (GDP) has grown by 60% to $2.9 trillion from $1.8 trillion.

Figure 1: India’s merchandise exports per annum

Source: DGCIS, Department of Commerce (Government of India)

Even without an FTA with China, India’s trade deficit with its northern neighbour has surged from $39 billion in 2011-12 to $48 billion in 2019-20, according to official data. Moreover, India now also registers trade deficits with Hong Kong and with Vietnam, which is a major ASEAN partner that is also a recipient of substantial Chinese investment.

India’s worries over increasing imports and its desire to protect its domestic industries by shielding them from import competition likely explain why it dropped out of the Regional Comprehensive Economic Partnership, and is treading slowly on other trade pacts such as those with the EU.  

The real reason behind India’s trade woes

India’s exports suffer from multiple internal factors such as a narrow export basket, excessive raw material protectionism and inefficient logistics infrastructure that successive governments have not addressed despite an ambitious target of $1 trillion in goods and services export by 2024-25.

With the country fast losing its labour cost advantage, and in turn, labour intensive exports of apparel and leather goods to economies such as Bangladesh, Cambodia, Ethiopia and Myanmar, India must move up the value chain towards high tech manufacturing.

The spat with China has thrown India’s growing economic nationalism into the spotlight. The country could be turning inward just at the moment it should be looking out, and that is a real risk and could be very damaging for India.

But its share of high tech exports in total manufactured goods export has either declined or remained stagnant on an annual basis between 2009 and 2018 – it was at 9.6% in 2009 but fell to 7.4% in 2012 and then again rose to 9% in 2018.   

Besides, India’s FTAs are a story of both omission and commission. India has signed FTAs in goods with countries that do not help its exports—such as ASEAN, Japan and South Korea—but it hasn’t signed FTAs with regions that could help in this regard – such as the EU, Eurasian Economic Union and Latin America. 

Furthermore, Indian exports are also suffering from external headwinds such as Brexit-related uncertainties and slowing growth in Germany, France and UK, and the increasing trade protectionism in general – especially in the US under President Trump. Together, these factors are holding Indian exports back and adding to the country’s trade woes.

Now, with swadeshi and self-reliance dominating the political discourse in the country, it is safe to argue that India will turn more inward in its economic policy, reversing the trade liberalisation started by the former Prime Minister PV Narasimha Rao and his then Finance Minister Dr Manmohan Singh, in 1991.  

Who wins from growing protectionism?

While support for an inward-oriented economic policy may be growing across the countryprompted primarily by China’s growing belligerence along the Indo-China border and a looming economic recession at home brought about by gross internal mismanagement—it is unlikely to work for India, if India’s economic history is any indication.

India’s GDP grew from $37 billion in 1960 to $270 billion in 1991 – a 7x increase. Since liberalising its economy in 1991, its GDP has grown by 10 times in 28 years to reach $2,875 billion in 2019. This period has also coincided with a sharp reduction in absolute poverty in the country.

Thus, as much as Indians approve of self-reliance through import-substitution, India’s economic history shows and it is not hard to conclude that it was India’s outward-oriented economic policy that has resulted in bigger GDP gains.

But India has not been able to maintain its export momentum for close to a decade now. From peaking at 24% in 2008, the ratio of goods and services exports to India’s GDP has fallen to an estimated 18% in 2019. In this time, India’s GDP growth rates have slowed down further with slowing exports.

The declining share of exports in GDP indicates that India is losing in terms of export competitiveness to other countries.

At a time when this needs to be addressed urgently, India is making the politically popular choice of turning inward. In doing so, it is also receiving complete support and voice of approval from the top guns of the otherwise reticent Indian business world, who are eying the opportunity to make gains, invariably at the expense of Indian consumers.

An increase in import barriers and protectionism leads to complacency in domestic industry, affecting quality standards and cost efficiencies.

Thus, protectionism eventually make exports uncompetitive. India learnt this the hard way during four decades of the license-control raj. Therefore, it is a bit difficult to understand the right wing’s junking of outward orientation for growing trade protectionism and economic nationalism.

With swadeshi and self-reliance dominating the political discourse in the country, it is safe to argue that India will turn more inward in its economic policy, reversing the trade liberalisation started in 1991.

Blocking competitively priced imports—especially those from China—will enable Indian businesses to sell their merchandise at relatively higher prices than otherwise possible in a free market, to unorganised Indian consumers with reduced buying options. This explains Indian business tycoons’ enthusiasm and support for efforts to block the import of Chinese goods.

Take the automotive sector, for example. New entrants such as MG Motors and Kia are making strong inroads in Indian markets despite sluggish consumer demand. As a result, Indian automobile majors  fear losing market share, particularly as many other automobile players are planning to drop anchor on Indian shores too – such as Chinese auto conglomerate, Great Wall Motors, which has committed an investment of over $1 billion in India.

Paying more for locally manufactured goods

Blocking foreign investment including venture funds also helps traditional Indian businesses—which are entering high potential tech sectors such as retail and mobile apps quite late—to buy up tech startups cheap and keep competition at bay. This is not difficult to understand since less competition means more scope for rent-seeking. The opposite is also true. 

Indian middle-class consumers, who are increasingly getting carried away by propaganda to block imports, should be prepared to pay more for all kinds of consumer goods and start getting accustomed to poor post-sales services

Protecting consumer interests does not imply that the Modi government should not support indigenous businesses. Indeed it should; but it must find novel ways to accomplish this. Simply blocking competition from foreign goods and investment might be politically expedient domestically, but is unlikely to help the Indian economy.

It could, however, end up punishing Indian consumers, and we might involuntarily have to revisit the days of the so-called Hindu rate of growth of under 4%.

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Chief Economist of Indonomics Consulting and Former Assistant Director of the Finance Commission of India

Ritesh Kumar Singh is a business economist and currently the CEO of Indonomics Consulting Private Limited, a policy research and advisory startup based in India. He was a former assistant director of the Finance Commission of India.

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