India's FTA ambitions in perspective

A protectionist tariff structure and an inability to integrate with global value chains may prove to be major challenges for India as it seeks deeper trade agreements

As the second year of the pandemic draws to a close, global trade recovery continues apace with world trade in goods having attained record high levels in the third quarter of 2021 and trade growth continuing at about 1 per cent each quarter (Global Trade Update, United Nations Conference on Trade and Development, November 2021).

Major trading economies, conscious of this trade momentum, have persevered with their pre-pandemic schedules of trade agreements, especially in mega regional trade agreements. The US-Mexico-Canada Agreement (USMCA) entered into force on July 1, 2020, and the EU-Vietnam FTA a month later. In Asia, the 15-member Regional Comprehensive Economic Partnership (RCEP) was signed in the midst of the pandemic in November 2020. China and Taiwan, with maximum gains in global trade during the pandemic, have both applied for membership to the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP) in September this year. The UK initiated its negotiations for membership to the CPTPP earlier this year. The recent statement by our commerce secretary, therefore, that trade will find specific focus in the forthcoming Budget and that India’s FTAs will be “very deep” (Business Standard, December 15, 2021) appears to be in line with global developments. This article offers a perspective on our FTA ambitions.

First, deep trade agreements are less about tariffs and more about regulatory policies. Since global most-favoured-nation (MFN) tariffs have fallen significantly over the last two decades, preferential market access is only a “minor” motivation in FTAs. Deep trade agreements have been designed over the last two decades to facilitate complex global value chains and the underlying trade-investment-services linkages (see “Self-reliance and supply chains”, Business Standard, June 30, 2020). The predominant focus in these agreements has been on issues related to investor protection, intellectual property rights (IPRs) and labour standards. India has found it difficult to negotiate these issues in its earlier free trade agreements. Among the many issues that led to a suspension of the FTA negotiations with the EU in 2013 were those related to labour. That these difficulties continue to persist is evident from reports that the FTA with the EU is being pushed to 2023 (Business Standard, December 15, 2021) on account of earlier unresolved issues, including labour standards (Business Line, December 9, 2021). Furthermore, India’s 2016 template for a model investment treaty, which is more state-friendly and includes some burdensome provisions for the foreign investors, may make it difficult for India to negotiate the investor protection provisions as included in most deep-trade agreements.

Second, even though tariffs are not the most important part of the current FTA design, these are negotiated and included in all FTAs. With relatively lower tariffs, most countries come to the FTA negotiating table with 90 per cent or more tariff line liberalisation as a foregone conclusion. India has, however, struggled with FTA negotiations primarily at this preliminary stage of tariff liberalisation. India’s hesitation to offer tariff concessions of the same order, most apparent in the recent past, in its three-tier offer of tariff liberalisation at the RCEP, stems from a tariff structure wherein the average MFN tariffs in the manufacturing sector have been relatively higher than in comparator emerging market economies. The applied, weighted mean tariff rate for manufactured products in India increased from 5.5 per cent in 2008 to 6.6 per cent in 2019 as against a decrease in the case of Vietnam from 5.6 per cent to 1.4 per cent over the same period (WDI, World Bank). A protectionist tariff structure, if not corrected, could remain a hurdle at the preliminary stage of FTA negotiations.  

Illustration: Binay Sinha

Third, global value chains (GVCs), the leading global trade mechanism, are centered around three major regional hubs: North America (NA), Europe and East Asia. In each case, FTAs have been a major contributory factor in facilitating deeper integration and value chain consolidation.  Expanding membership has helped acceding economies to integrate with these regional value chains and develop. Consequent development of supplier networks, export-oriented investment in manufacturing with employment-intensive backward linkages created significant positive spillover effects for these economies. The NA auto value chain was initiated with the 1965 US-Canada auto pact and further consolidated with CAFTA (Canada-US FTA) followed by the North American Free Trade Agreement, or NAFTA, in 1994. NAFTA provided for significantly higher regional value content requirement/ rules of origin (RoOs), which came to underpin the consolidated regional automotive value chain and enhanced intra-regional trade in NA.  NAFTA has been re-negotiated with a set of deeper and labour friendly provisions as the USMCA. Similarly, the EU, whose evolution has coincided with progressively deeper economic integration, has shown the highest levels of intra-regional GVC activity. Later accession of the Central and Eastern European economies to the EU, that meant lowering trade barriers and harmonised EU-wide standards, resulted in their integration in the EU production networks. In Asia, Japan was an early user of the common effective preferential tariff in the auto sector, under the ASEAN FTA, to transport parts and components from ASEAN economies. While the electronics value chain in the region is attributable to the Information Technology Agreement (ITA)1 and ITA2, to which regional economies have been signatories, the China-ASEAN FTA helped intensify regional value chain trade in the sector. The RCEP will help further consolidate regional value chains in East Asia. 

India’s proposed FTAs with Israel and the UAE will not bring it any closer to the objective of integrating with these regional GVC hubs. FTAs with Australia and the UK are being negotiated as early harvest schemes that are restricted in their coverage of goods and services (see“India’s revamped FTA strategy”, Business Standard, September 16, 2021). Post-pandemic, as the trend towards regionalisation of GVCs accelerates further in the “China plus one” strategy of MNCs, India’s inability to participate in any regional GVC hub through a regional FTA may be a major handicap in attracting investment flows and establishing linkages with GVCs. 

In this context, it may not be inappropriate to revisit the decision to join the RCEP. In terms of deeper provisions, RCEP is lighter than the other mega regional pact in Asia, the CPTPP. It might also be useful to view the RCEP not as a China-led trade formulation but in terms of its major achievement, that is, the cumulative, common RoOs that now enable the member economies to be treated as a single economic entity. India would do well to use its unprecedented observer status and the 18-month waiting period waiver accorded to it under the RCEP to further its trade and FTA agenda.

The writer is professor, School of International Studies, JNU. Views are personal