FTA benefits elude India

The high import and low export trend is likely to continue with free-trade agreements under negotiation

A free-trade agreement (FTA) is a pact between countries to make trade easier by reducing tariffs and other barriers on imports from each other. Globally, over 350 FTAs are currently in force.

Over the past four years, India has signed FTAs with Mauritius, the UAE, Australia, and the European Free Trade Association, or EFTA, countries (Switzerland, Norway, Iceland, and Liechtenstein). Agreements with the UK and Oman are nearly finalised.

India has a total of 14 trade agreements with 25 countries and is negotiating new deals with over 50 countries, including the European Union (EU) and the US-led Indo-Pacific Economic Framework. Additionally, India has six smaller trade agreements with 26 other countries. Soon, India will have FTAs with all major economies except China. However, India and China do have limited tariff concessions on about 25 per cent of tariff lines under the Asia-Pacific Trade Agreement.

From financial year (FY) 2019 to FY2024, India’s exports to its 21 FTA partners grew by 14.48 per cent, from $107.20 billion to $122.72 billion. Imports increased by 37.97 per cent, from $136.20 billion to $187.92 billion. These FTA partners include six South Asian Free Trade Area (Safta) countries (including Sri Lanka), 10 Association of Southeast Asian Nations (Asean) countries, and Japan, South Korea, the UAE, Mauritius, and Australia.

To understand how FTAs have performed and whether they benefit India, we analysed the performance of India’s FTAs with Asean, South Korea, and Japan. Signed in 2010-11, these agreements are considered the most critical by Indian industry. We did not study FTAs with Mauritius, the UAE, Australia, and EFTA as these agreements are less than five years old and the tariff reduction process for most products is ongoing. In the absence of specific preferential trade data, we included all trade from an FTA partner, even though some of it may not have used FTA concessions

Our analysis of India’s FTAs with Asean, South Korea, and Japan reveals two trends. First, India’s merchandise trade deficit with these partners increased significantly more than its global trade deficit. Specifically, trade deficits grew by 302.9 per cent with Asean, 164.1 per cent with South Korea, and 138.2 per cent with Japan, compared to an 81.2 per cent increase in the global deficit. This comparison is based on pre-FTA (2007-09) data and recent trade data (2020-22). The trend continued in 2023.

Second, India’s exports to these FTA partners have increased at a lower rate than its imports. For instance, with Asean, exports grew by 123.9 per cent and imports by 175.7 per cent; with Japan, exports grew by 56.4 per cent and imports by 98.5 per cent; and with South Korea, exports increased by 89.1 per cent and imports by 127.3 per cent.

India’s high tariffs (most-favoured nation or MFN tariffs) and the low tariffs in partner countries are key reasons for its low exports and high imports with these partners. MFN tariffs are the regular tariffs a country charges on imports, often eliminated for partner countries under FTAs.

Many Indian firms avoid using FTAs because the compliance costs outweigh the benefits as partner countries already have low or zero MFN tariffs. The average MFN tariffs on Indian products in partner countries are very low: Singapore (0 per cent), Japan (2.4 per cent), Malaysia (3.5 per cent), Mauritius (1.1 per cent), the UAE (3.5 per cent), and Australia (2.6 per cent). This limits the benefits of FTAs for Indian exporters. In contrast, India’s average MFN tariff is high at 18.1 per cent, so eliminating these tariffs under an FTA gives partner country exporters a significant price advantage.

This pattern continues with India’s new FTA partners. Also, a substantial share of imports into these countries is already at zero MFN duties: Canada (70.8 per cent), Switzerland (61 per cent), USA (58.7 per cent), UK (52 per cent), and EU (51.8 per cent). In contrast, only 6.1 per cent of India’s global imports are at zero MFN duty. Given these factors, India may not see a significant export increase, while partner countries could benefit more from the FTAs with India.

Negotiating new subjects: New trade agreements typically include two types of measures. Border measures involve eliminating import tariffs on products from partner countries. Behind-the-border measures deal with harmonising domestic regulations in areas such as the environment, labour, intellectual property rights, digital trade, and gender. Developed countries push for the inclusion of these subjects in FTA negotiations.

While high environmental standards are beneficial, adopting the US or EU standards in India could raise the cost of power and food, halting many economic activities. Similarly, agreeing to high minimum wages could lead to higher product prices and hurt exports. Adopting more restrictive standards for medicines than those agreed upon at the WTO will raise medicine prices.

There are other concerns. One, allowing UK or EU companies to participate in government procurement through FTAs would create competition for small domestic firms. In contrast, government procurement markets in the EU and UK are restrictive and complex for Indian firms to access. Also, stricter sustainability standards in the FTA with the UK may prevent Indian apparel from qualifying for tariff concessions.

These subjects are new non-trade barriers pushed by developed countries. India should establish its rules for labour, gender, environment, and digital trade before committing to FTAs. India is not only negotiating new FTAs but also reviewing and expanding existing ones with Sri Lanka, Asean, Japan, Korea, Malaysia, Chile, and Mercosur (Argentina, Brazil, Uruguay, Paraguay). High priority is given to the review of its FTA with Asean.

An important area for renegotiation in the Asean  FTA would be agreement on product-specific rules of origin. When the FTA was signed in 2010, detailed rules were not negotiated due to a lack of time, and one common rule for all products was adopted. This makes trade in many products unviable.

To achieve better FTA outcomes, the government may consider the following strategies in negotiations: Create a common exclusion list for merchandise trade, focus on sector-specific agreements with smaller economies instead of comprehensive FTAs, prioritise achieving real market access on the ground, negotiate new areas like environment, labour, and digital trade cautiously to maintain domestic regulatory autonomy, and account for the impact of carbon taxes and regulations like the Carbon Border Adjustment Mechanism.

Despite having zero duty trade on most industrial products with Asean, Japan, and South Korea for over a decade, India hasn’t become a major part of Asian supply chains. The main reasons are the long time it takes to clear goods at ports and the low ease of doing business. Improving these areas will quickly boost India’s exports and the benefits of its FTAs.

The writer is the founder of Global Trade Research Initiative