Mar 23, 2018

Rethinking Export promotion in the era of trade wars

(This article was first published few days ago on Swarajya Online Magazine with the heading "Export promotion in the era of trade wars" at this link)
The newspapers are awash with analysis of President Donald Trump’s tariff hikes and the subsequent threat by United States Trade Representative (USTR) to pull India to World Trade Organization (WTO) dispute panel for maintaining export subsidies to the tune of $7 billion. The current popular narrative revolves around how the US’s tariff move is bad for the world trade, and why India should stick to the stand of promoting multilateralism in international trade. The arguments are usually sound and include the fact that there is ultimately no winner in a long drawn trade-war. However, it is important to understand and analyse the matter in more depth, as the stand we take now would affect the direction of our industry and trade policies in future. In addition, it is also important that we understand and account for the emerging big picture in order to fine-tune our strategy for future.
The pundits and the papers have been almost unanimous in declaring Trump's tariffs economically harmful to the US. However, what they miss is that Trump is trying to do a Reagan of 80s who extracted so-called ‘voluntary export restraints’ (VER) from the exporters to the US. When Reagan went hard on trade and imposed tariffs on a wide range of goods including textiles, automobiles, electronics etc, people warned and recalled the horrors of Smoot-Hawley Act of 1930s, when tariffs destroyed trade and exacerbated the depression. That didn’t stop Reagan from going ahead. While it is debatable if VERs helped the US economy, it did make for a good PR, especially when the agreement with Japan was reached. It paved the way for low resistance towards further globalisation in the next decade when WTO was founded.
Today when Trump talks about reciprocal tariff measures and imposes duties on items ranging from washing machines to steel, one needs to factor in the need for Trump to do a good PR on this front. Renegotiating ‘bad’ trade deals has been one of the key planks on which Trump got elected. To that extent any discount that Trump extracts through the noise and actions would make for good PR. Only this time the world might not be ready to accommodate the US, and the US economy might indeed suffer more than it gains. Nevertheless, we should expect the noise to last the term at the least.
That brings us to India, as India has started figuring lately in Trump’s trade talks, after China. He has not taken kindly to high tariffs India maintains on some items. A favourite of Trump has been the tariffs India imposes on motorcycles (50 per cent) versus the tariff the US imposes (zero). Despite the recent reduction in duties by India, Trump was not happy. It doesn’t matter that US President’s favourite export product constitutes almost 25 per cent share of India’s motorcycle imports, whereas the US figures at 22nd place in the list of countries to whom India exports the item, with a share of 1 per cent in total (read more for details). Trump quoted the tariffs imposed, called it unfair, and warned about imposing reciprocal tariffs. A few days later USTR came down heavily on India’s alleged exports subsidies and sought consultations. Trump’s rants are less harmful than potential USTR actions.
To start with, one may safely ignore Trump’s threat of reciprocal tariffs on countries such as India as it is not easily implementable unless the US decides to violate the principle of most favoured nation (MFN) at WTO. If done, it would lead to unraveling of WTO and the rule-based trade ecosystem that the US has helped build over decades. While the US has undermined WTO in the recent years through measures such as blocking appointment of judges at dispute panels, it is safe to assume for the time being that the US is not willing to break the system completely. This is attested by the fact that when Trump imposed tariffs on steel and aluminum, he used the pretext of ‘national security’ in order to not fall foul with the WTO rules.
The USTR’s allegation that India provides export subsidies is partially true as acknowledged by Indian counterparts. Therefore, greater danger lies in the potential actions that USTR may propose if the consultations fail. India needs to be wary about it. The timing couldn’t have been worse given that India’s exports are slowly showing an uptick despite recent shocks to the economy. India has defended the move well so far. Under the agreement on subsidies and countervailing measures (ASCM) of WTO, certain exemptions and remissions are allowed. India would easily defend allegations on some of the schemes that she runs for export promotion; especially the ones where the indirect taxes are nullified. Other exemptions such as special economic zones and export-oriented units would take deft to defend by proving that they do not violate the spirit of ASCM. Some schemes such as merchandise export incentive scheme would be difficult to defend in the long run.
India was supposed to stop the subsidies once it reaches the GNP per capital level of $1,000 (ASCM Annex to Para 2(a) of Article 27), after 2015. There, India has taken the correct stand that a time of eight years to phase out the subsidies as mentioned under ASCM should be allowed, as allowed for other members at the time of agreement. In the end, it all boils down to the consultation process, and how well it is handled. There is a good likelihood that the consultations might go well and the countries reach an agreed middle ground. However, the allegations should act as a warning for the policymakers in future.
In a developing economy context, it is difficult to dictate that governments should stay away from all kinds of subsidies and assistance to industrial growth. The non-actionable subsidies allowed as per ASCM under Article 8 include research and development (R&D) support, generic support to disadvantaged geographical areas, and one-time assistance to comply with new environmental regulations. In addition, indirect tax nullification is allowed as per general rules. Apart from these any kind of direct or indirect support can be quantified under subsidies. Annexure I to ASCM maintains an illustrative list of export subsidies that covers almost everything that the government does in the name of export promotion/industry development, and effectively leaves little flexibility to the government to help the industries.
Therefore, the coming years should see industrial and trade policies aligning to these requirements. A good way to move forward would be to let the individual states formulate their export strategies. The individual state level solutions catering to local industries and trade would be more difficult to quantify and countervail. Assistance in the form of alleviating pain areas in industry development through process simplifications, easier documentation, support for integrated logistics infrastructure, R&D support for key sectors and special packages for backward districts would not fall foul with ASCM requirements. Government is already moving in that direction.
In addition, it is time India prepares its own team to counter bodies such as USTR. There is a severe manpower crunch when it comes to countering ASCM allegations from other countries. In addition, offense may be best form of defence in trade matters. The team should also research on potential subsidies provided by other countries and launch investigations aggressively. India may do well to groom and train a dedicated sizeable team of hundreds to man these positions. International trade has evolved from being a pastime for economists to being a part of strategic arsenal for a nation. One needs dedicated teams working full time on these matters.
Finally, India should continue with the principled stand of multilateralism in international trade. It is heartening to see that India is hosting informal talks for trade ministers and officials from WTO on 19-20 March. While bilateral and regional partnerships may have their charm, there is nothing that matches the WTO in terms of reach and potential. Many a times India has been singled out as being the deal breaker, yet the unwavering faith in multilateralism that India has shown at WTO is not easily matched.
WTO’s continued importance is underlined by the fact that despite efforts to dilute the effectiveness of dispute settlement mechanism in the recent years, the US still uses it to settle disputes with other members. WTO has shown the way to accommodate the less endowed members through the special and differential treatment clauses, and more often than not, has helped countries gain through trade. If we keep at it, probably in a decade or so, these years might appear like the Reagan era that ushered in hyper globalisation in the next decades, and today’s discontents.