Panagariya 6 2 06

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Trade and Foreign Investment: Comparing India and China: Trade and Foreign Investment: Comparing India and China Arvind Panagariya Columbia University Pan Asia Conference at Stanford University June 1-3, 2006

Broad Outline: Broad Outline Growth Experiences Aggregate Trade Flows and Openness Measures The Pattern of Trade Foreign Investment Inflows Trade & Foreign Investment Policies Why India Lags Behind China Looking Ahead: The Doha Round and an India-China FTA

More Detailed Outline: More Detailed Outline Growth Experiences Aggregate Trade Flows and Openness Measures The Pattern of Trade Foreign Investment Flows Trade and Foreign Investment Policies Why India Lags behind China Looking Ahead Merchandise Exports Merchandise Imports Services Exports Policies in the 1980s Policies in the 1990s and Beyond Services and Foreign Investment The Doha Round An India-China FTA

Points to Note: Points to Note In terms of the shift to 6% plus growth rate, India is approximately a decade behind China Even post-1988, China has grown at least 3% per-annum faster. The gap is higher in per-capita terms. This has meant rapidly diverging per-capita incomes in the two countries

Evolution of Trade Openness: Evolution of Trade Openness As measured by exports/GDP ratio, China was already more open than India in 1982 Over 1982-03, exports/GDP ratio grew rapidly in both countries but it grew much more rapidly in China In the early to mid-1980s, exports in both countries grew less rapidly than subsequently (Overvalued exchange rate in India; planning through export targets in China) China’s share in the world trade grew almost five-fold during this period

The Share of Services is Higher and Growing in India: The Share of Services is Higher and Growing in India

Closer Look at Merchandise Exports: Closer Look at Merchandise Exports Between 1984-90 and 2001-04, the average share of SITC 6, 7 and 8 rose From 55% to 62% in India From 57% to 86% in China India concentrated in SITC 6; China in 7 & 8 Great dynamism in the Chinese exports SITC 8: 24% in 1984-90; 37% in 1990-00; 29% in 2001-04 SITC 7: 12% in 1984-90; 25% in 1990-00; 42% in 2001-04

Factor Intensities of Leading Exports: Factor Intensities of Leading Exports Haphazard in India Software (skilled-labor intensive) Gems and jewelry (semi-skilled-labor intensive) Apparel (unskilled-labor intensive) Textiles; Petroleum and petroleum products; and Iron & steel (capital intensive) Coherent in China Apparel, textiles, toys, footwear, sports goods in 1990s Office machinery, telecommunications, electrical machinery, apparel currently China more specialized by the stage of production

Merchandise Imports : Merchandise Imports China’s imports have been concentrated in machinery and transport equipment (SITC 7)—46% during 2001-04. In India, SITC 7 accounts for only 19% imports Mineral fuels and lubricants (SITC 3) account for 31 percent of India’s imports The structure of imports also points to a very capital intensive production structure in India

India’s Software Exports ($billion): India’s Software Exports ($billion)

Connection to the Policies: Connection to the Policies Claims by openness skeptics Domestic reform (Agriculture) preceded the opening up in China Growth shifted up in India before the 1991 opening up Both India and China grew under high degree of protection Why skeptics are wrong Coincident with agricultural reform, China’s open-door policy began December 1978 Technically India also began to open up in the late 1970s and made significant progress in the second half of the 1980s Both countries grew with declining trade barriers that contributed to the rapid expansion of trade

Trade Policy in the mid 1970s: Trade Policy in the mid 1970s ALL trade centrally controlled in both countries India Licensing The “Red Book” of allowed imports and their quantities issued every six months China Centrally controlled FTCs directly under the Ministry of Foreign Trade

Liberalization in the 1980s: India: Liberalization in the 1980s: India Scope of “canalized” imports reduced Open General Licensing (OGL) expanded: 30% imports freed up by 1990 East-Asian style export incentives in the second half of the 1980s More than 30 percent real depreciation of the rupee in the second half of the 1980s Tariffs raised to mop up the quota rents

Liberalization in the 1980s: China: Liberalization in the 1980s: China End to the central monopoly: Multiplication of FTCs at provincial and local levels and by line ministries (>5000 FTCs by 1988) and conferral of trading rights on larger enterprises Special Economic Zones and Open Cities Joint venture status with 25% foreign investment. Direct trading rights to the JVs FX retention rights to FTCs and enterprises depreciation (RMB 1.5 per dollar in 1979; 2.8 in 1981; 3.7 in 1986; 21% devaluation in 1989; 8.7 in991) Licensing (46% imports in the late 1980s), canalization, tariff hikes (avg.: 43% in 1985)

Comparing India and China: Comparing India and China China was more open in the 1980s Default regime in India: Licensing; actual user and domestic availability conditions (except OGL) In China: No restriction on the companies authorized to trade except for products subject to canalization or licensing Overvalued exchange rate in India in the first half of the 1980s Foreign investment regime far more open in China (esp. in the SEZs and open cities)

1990s and Beyond: India: 1990s and Beyond: India End to licensing in capital and intermediate goods in 1991; in consumer goods in 2001 Highest industrial tariff down from 350 percent in 1991 to 12.5 percent currently Agriculture: Very high tariff equivalents (bound at 100 to 300 percent) Services: On balance more open now than China (exceptions: distribution services and insurance) DFI: Negative list approach; only a handful of sectors with sectoral caps below 51 percent.

1990s and Beyond: China: 1990s and Beyond: China Scope of licensing reduced: by 1997, only 5% of the tariff lines under licensing Average industrial tariff down from 43% in the late 1980s to 40% in 1993, 23% in 1996, 15% in 2001, and 9% by 2006 under the WTO entry conditions Agricultural tariff: 15% under entry conditions Substantial liberalization of services under the WTO entry conditions (including distribution and insurance sectors)

Why India Lags Behind China: Why India Lags Behind China Trade openness is not the major factor: in industry and services India is almost as open as China It is the domestic policies stupid! Small-scale industries (SSI) reservation Business houses with $27 million or more in assets limited to 19 “core” capital-intensive industries (list expanded in the 1980s) Foreign investment limited to 40% in most cases Labor market rigidities Infrastructure (power is the biggest constraint)

Answers are now well-known: Answers are now well-known Walk on Two Legs Traditional Labor-intensive Industry Labor market reforms Infrastructure (power) Fiscal deficit Modern IT Industry Higher Education Urban infrastructure

Looking Ahead: An India-China FTA?: Looking Ahead: An India-China FTA? If India and China want to take the bilateral road as they are currently doing, better to have a bilateral with each other Given Chinese competitiveness, less scope for trade diversion in India Can serve as the focal point for the other Asian countries and pry open the EU and NAFTA to Asia from which they have diverted trade Promote an alternative template

Thanks You and That is All: Thanks You and That is All