Abheek Barua: The emperor's new clothes

Instead of the exim policy the government should think out a meaningful trade policy

If column inches and sound bytes were a measure of importance, the exim policy announced a few days back should be quite near the top of the Indian policy pantheon.

The fact, however, is that the commerce ministry's annual announcement on trade policy lacks the power and punch to make any significant dent in India's trade performance.

The commerce minister might set somewhat brave targets for export growth over the next five years but unfortunately, there is precious little that his ministry can do to push exports up to these levels.

Let me argue my case by identifying the critical drivers of export growth .The first is, of course, the exchange rate that determines the effective price of our products in world markets.

This falls in the central bank's domain, and has very little to do with the commerce ministry. Through intervention in the currency markets, it can make sure, to a degree, that prices of Indian goods remain competitive.

The second driver is the growing penetration of international markets by Indian goods.

How successful this penetration strategy will be depends on the imperatives that domestic firms face in diversifying from domestic markets and seeking foreign buyers and of course, the quantum of resources they devote to achieving this end.

Let's take the case of the Indian pharmaceuticals industry, which has seen a quantum jump in exports over the last few years.

The single most important factor that has driven Indian drug companies to seek foreign markets is the impending change in the domestic intellectual property rights regime, which has until now recognised only process patents.

From 2005, that is set to change and the local drug laws will start recognising both product and process patents. That, in turn, means that Indian firms can no longer survive on assured margins they earned by reverse engineering (read this as "creatively copying", if you are averse to euphemisms) drugs that were patented in the regulated western markets and selling them locally.

The Indian drug industry's strategic response to this has been to aggressively explore both the US and European markets for generic medicines.

Generics are drugs whose patents have expired and are open to manufacture by firms other than the patent holder. Thus, Indian companies are leveraging their manufacturing skills to offer aggressively-priced products in these developed markets. This has translated into a rise in exports.

However, this has not been a costless option. Regulatory clearances even for generic drugs are complex. Brand awareness and credibility do not come easy either, especially for medicines.

Indian companies have surmounted these problems by acquiring foreign companies (some with existing regulatory clearances), setting up international operations, or collaborating with distribution networks. This has meant fairly large investment outlays.

Thus, the rise in Indian drug exports is a story of an endogenous response of the industry to market challenges""trade policy, as such, has had virtually no role to play.

The only bit of policy support that pharma companies have had has been the liberalisation of norms for outbound investments from India that have helped their foreign forays.

The third factor that determines export performance is productivity and competitiveness of Indian exporters. Here some of the policy issues relate to specific sectors.

For instance, the dismantling of the MFN quota regime opens up a huge global market for Indian textile firms. However, the critical barrier for India exporters, especially when it comes to competing with countries like China, is an absence of globally optimal scale.

Large segments of India's textile industry are hugely fragmented, a legacy of a skewed fiscal system that has rewarded small-scale units at the cost of integrated operators.

The set of fiscal measures for the textiles sector in the 2004 Budget does go some way in correcting these anomalies. More such measures in other sectors need to be taken if the legacy of inefficient production is to be undone.

Sectoral policies like these, to harp on my central point, fall outside the commerce ministry's remit.

There are two other issues on competitiveness and productivity I want to highlight. The first relates to the question: Are we seriously interesting in mimicking the Chinese model of export growth?

My call is that if we are indeed to raise our export share to 2 per cent of global exports, then the Chinese model seems to be a sensible strategy of getting there.

The critical element of this model is a dual economic structure where within the export production zone some of the domestic regulations simply don't apply.

To be more specific, we need to create enclaves of export production where producers can not only import inputs duty-free and borrow at global interest rates, but also work with a flexible labour regime, face little or no bureaucratic interference, and get cheap power.

A dual labour regime is particularly critical if these enclaves are to attract investments and enhance competitiveness.

Bangladesh, which has successfully implemented the China model for its textile export-processing zones, banned trade union activities in these zones. This not only needs collaboration across ministries; it also needs the consensus of political parties across the board. The commerce ministry alone can only play a facilitating role in creating these enclaves.

The creation of these special zones would also automatically remove some of the barriers to foreign direct investment (FDI) that currently exist.

Where does FDI fit into the exports story? I think that if we are seriously interested in stepping up rates of export growth, we will have to rely on "export platforming" to a large extent.

Thus, India has to peddle its cost advantages (particularly labour cost) and location (that entails access to both South-East Asia and Western Asia) to establish itself as a manufacturing base for multinationals to export to third countries.

This is happening to a very limited extent in the automobiles sector and has to exend to other sectors.

Where does all this leave the commerce ministry then? I think it's about time that the government abandoned the annual exim policy charade.

The policy is perhaps the biggest relic of the licence-permit raj. Its role is essentially to simulate a situation in which exporters pay the average global import tariff rates on imported inputs rather than the inflated rates that prevail in our country.

This is done through a convoluted system of cash transfers that in effect "compensate" the exporter for the higher duty paid.

As with other mechanisms of its kind, it can be highly discriminatory and susceptible to interest group pressures and some of its schemes are just incompatible with WTO norms.

Instead of continuing with it, the commerce ministry should make a serious pitch to the finance ministry to slash import duties in the interest of raising export volume.

In the new scenario, the commerce ministry will emerge as the principal trade strategist for the country. Its remit would be to increase market access for Indian products through negotiations both within the multilateral WTO framework and through bilateral negotiations.

And instead of an annual exim policy that announces a grand target for export growth, it could focus on evolving a real and meaningful trade strategy, identifying the products and markets in which we really fall short of potential, and help with the logistics of getting our merchandise there.

(The author is Senior Economist, Crisil)