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India and China to bridge the trade deficit

India and China to bridge the trade deficit

By Prashansa Srivastava 

With India’s trade deficit with China in danger of steadily expanding, newly appointed Commerce and Industries Minister Suresh Prabhu said that the two countries will be taking measures to set up industry specific working groups to boost Indian exports. The large bilateral trade deficit of $51 billion has also made the Centre seek greater investments from Chinese firms, including in India’s export-focused Special Economic Zones (SEZ).

Foreign Direct Investment (FDI) from China in India between April 2000 and June 2017 was worth only $1.67 billion—or a minuscule 0.49% of the total FDI inflows of $342 billion during that period.

The issue of the widening trade gap between India and its neighbour has been a cause for concern for the commerce ministry for a while now. Prabhu’s immediate predecessor Nirmala Sitharaman had informed the Rajya Sabha in July 2014 that “trade deficit can be reduced to sustainable levels through more exports from India to China, as well as by China’s investing in building manufacturing capacities in India”. This seeks to increase shipments from such manufacturing facilities in India to China by catering to specific demands in that country.

Measures to facilitate investment

In addition to seeking greater investments from China, the Centre is also offering measures to facilitate investment even in SEZs. Chinese investment will come in the form of various industrial and infrastructure development projects. These investments are welcome by the Centre especially in areas where they can absorb the large unemployed workforce. Prabhu and his Chinese counterpart, Zhong Shan have also agreed on holding a (bilateral) Joint Economic Group (JEG) meeting soon. To address the issue of the trade imbalance with India, China will be sending a high-level official team, led by Zhong San, by December-end to New Delhi.

In November 2016, a Memorandum of Understanding (MoU) was inked between India and China on ‘Cooperation on Industrial Parks in India’ with a view to providing a platform for the cluster-type development of the enterprises of both countries. Subsequently, a number of MoUs were signed by Indian State Government Agencies and Chinese investors. These include setting up of multi-purpose Chinese Industrial Park in Gujarat and development of an integrated Entertainment Park-cum-Industrial township in Haryana. Though cheap labour costs make India an attractive destination for Chinese investors, political turmoil and infrastructural lacunae hinder investments. The complex labyrinth of government regulations further reduces the ease of investing. To ensure long-term investments, India must formulate policies to protect investors and ensure the safety of their assets and personnel. If bureaucratic tape becomes insurmountable, the promises of industrial parks and other foreign investments may fall by the wayside.

Sinking in China’s surpluses

The India economy, on the other hand, is sinking in China’s industrial surpluses and there is a pressing need to diversify Indian exports. However, lack of market access has long restricted exports of agricultural and pharmaceutical products. Indian pharmaceutical firms complain that China’s growing aid to other developing countries often includes the provision of medicines, Chinese-made ones, which means that the recipient countries buy fewer Indian-made drugs than they used to. Unfamiliarity to the business environment also discourages Indian exporters. Trade is heavily skewed in favour of China. Where Chinese exports to India are dominated by value-added products like mobile phones, plastics, electrical goods, machinery and parts, among others, India’s exports to China are primarily raw materials like ores, cotton and mineral fuels.

Detrimental effects of the trade deficit

The increasing trade deficit can have major macroeconomic repercussions. Halving the trade shortfall with China would be enough to eliminate India’s overall current-account deficit, and thus the need for external financing. It is also the result of a persistent problem of relative demand of Chinese and Indian goods, in favour of China. When a country spends more on imports than what it receives from exports, it has adverse effects on economic growth and stability. When the demand for Indian exports falls, the rupee also declines in value. A downward pressure on a country’s currency devalues it, making the prices of goods denominated in that currency more expensive; in other words leading to inflation.

Long run macroeconomic theory suggests that persistent trade deficits will thus be detrimental to a nation’s economic outlook by negatively impacting employment, growth, and devaluing its currency. There needs to be sustainable economic cooperation between India and its largest neighbour so as to bridge the trade gap before the detrimental effects of such a whopping deficit become even more pronounced.

Featured Image Source: Flickr

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