India-China Trade: ‘Higher Duties Won’t Work Without Focused Production Plan’

If your domestic production fundamentals are skewed, then a duty increase is not going to facilitate production, says Rajeev Kher.

Shipping containers stand at the Jawaharlal Nehru Port, operated by Jawaharlal Nehru Port Trust (JNPT), in Navi Mumbai. Photographer: Dhiraj Singh/Bloomberg
Shipping containers stand at the Jawaharlal Nehru Port, operated by Jawaharlal Nehru Port Trust (JNPT), in Navi Mumbai. Photographer: Dhiraj Singh/Bloomberg

Over the course of the last week, India is learned to have worked on a wide range of potential trade actions aimed at stemming the tide of imports from China. It also banned the use of 59 mobile applications of Chinese origin, and barred firms from Asia’s largest economy from participating in highway projects and investing in micro, small & medium enterprises.

These deliberations and actions follow the violent face-off in Ladakh between the militaries of the two countries on June 15, that resulted in the death of 20 Indian Army soldiers, and the subsequent public campaign to lessen reliance on Chinese goods.

However, duty increases done in a sporadic manner are “going to be counterproductive, if not accompanied by a proper strategy,” warned former Union Commerce Secretary Rajeev Kher, in an interview. “If your fundamentals of domestic production are skewed, then a duty increase isn’t going to facilitate production,” he said. While calling for targeted production-linked incentive programmes, of the kind that gave a boost to automobile manufacturing in the late 1990s and cellular phone assembly in the 2010s, Kher cautioned against “juvenile reactions” like the delaying of inbound consignments from China at Indian ports, by the Customs Department.

Edited excerpts:

Do you think that this is the appropriate time to take action on standards, tariffs, and non-tariff barriers, given the context of the events of the last few weeks?

I have read that particular news item on Bloomberg. We need to look at it in a much broader context. My perspective on it is that it might appear as if this is a response to what has happened in the recent past, but it’s a mix of many things. First of all, this whole focus on standards, and technical regulation isn’t something new. Particularly, since 2012 or 2013, India started putting a lot of focus on developing standards, adopting them, and notifying what is called technical regulations.

The whole idea behind doing this was:

  1. To raise the standard or quality of the products manufactured in India.
  2. To help access markets that were refined or qualitatively higher markets. Because if you’re producing at a lower standard, your market access to that market comes against a non-tariff barrier and you cannot enter the market. So, raising the quality of your products helps you in accessing developed and refined markets.
  3. To add value and to increase the value content of your product. Because when you’re producing to a higher design, higher quality, and higher technology, then you’re adding greater value in the product.
  4. Lastly, and this is what is getting accentuated at the present moment, but that’s only one of the elements in the plan—to create an environment in the context of product standards where cheaper quality and inexpensive products do not flood the domestic market crowding out domestic products. So, when the standards are raised—not only for exports because they cannot be—the WTO norms clearly say that there is a concept of “national treatment”. When you adopt any standard, you have to adopt it uniformly for the products which will be consumed domestically both by way of local production and imports as well.

Therefore, we should set the context very clearly. It is in this context that this whole dimension of standards has to be seen. It has become a little more accentuated because, at the moment, we are going through this major issue of imports particularly from China.

Next is the issue of tariffs. Now, if you recall… from 2017 onwards, the government has been increasing tariffs now and then on a variety of products. I don’t exactly recall how many tariff lines have been subjected to increases, but it is a significant number. So, to say that this is happening at this particular moment will not be exactly correct. But yes, the value of this action, which started from 2017, is further accentuated because it is considerably more relevant at the moment as we are now addressing a specific kind of imports coming from a specific country. So, this whole issue of import duty has to be seen in that context. This should not be understood to mean that I support this tariff rise in fits and jerks.

How effective are they as a whole, in warding off import volumes that may be seen as relatively unwanted? Let me take the example of steel and the glut of supply from China, from your time at the Commerce Ministry. Anti-dumping duties were levied, but those were being countered by the producers lowering prices further at their end. Seeing all this the ministry had to switch to the minimum import price mechanism. If duties are just ‘price barriers’, and if there is a competitive advantage to a much larger scale in the originating country, how effective will these duties be?

The anti-dumping duties are essentially imposed when the examination shows that a product is being passed off in an export destination at a price lesser than the price at which it’s done in the domestic market. To that extent I don’t think the point that you stated is applicable in the context of anti-dumping duties. As far as a general increase in duties, you have to choose the product in a very cautious and calibrated manner. Let us say, it’s a capital goods product and your domestic manufacturers aren’t good enough to produce the product at that particular price at which the import is coming. Then by imposing greater duties, you’re simply forcing your domestic buyers to buy domestic capital goods at a higher price. You end up making the process of manufacturing and the consequent product more expensive. Similarly, if you are putting import duty on the intermediate, you are forcing the domestic importer—who is bringing in that intermediate to produce the final product—to make it at a price which will be higher than what he has been doing so far. So, you are making it more un-competitive rather than competitive.

In order to help one segment of the industry, you are making the rest of the downstream chain costly and less competitive.

It all depends on whether your domestic industry is capable of producing a certain product at a price where it can compete with the import price, then it should thrive and you may not actually need protection… or maybe need some marginal protection, to begin with. Ultimately there is the whole issue of political acceptability. Are you prepared to sacrifice this sort of competitiveness—which is coming to you through imports—because the import is coming from a specific producer? That is a big issue and is what is very loosely being debated on social media.

So, duties will mainly help when the local production is up and running in a space and is able to take the place of what you wish to protect it from. It is not necessarily the catalyst for local production that is yet to commence. With the help of duties, you cannot ignite domestic manufacturing that has not yet kicked off, is that a fair understanding?

Absolutely. If your fundamentals of domestic production are skewed, then a duty increase is not going to facilitate production. Duty increase, on the contrary, can actually put additional burden on your importer and thereby, in the long run, is going to cause you a problem. So, it has to be done in a very judicious manner. I don’t recommend a duty increase in that case at all.

Switching from the inflow of goods to that of investment. One way to build out a long-term platform for production to scale is to say to companies, come build here. What do you do when you’re putting up barriers to goods from a country, but don’t necessarily want to turn away investment that might come from that country?

When the whole objective is that a certain product needs to be produced domestically and you want to use duty as an instrument. In the past, India has very successfully used this particular strategy in 1996 when we came out with the Automotive Mission Plan. It introduced what was called the ‘phased manufacturing’ programme. We jacked up the duties to very high levels on automobiles and at the same time, we invited investments from the major automobile manufacturers. This was done recognising that we were leveraging our market. In 1996, as you can imagine, post-1991 [reforms] things were looking up in this country. There was this huge attractiveness of domestic consumption. One after the other, the top manufacturers globally came and invested here. Even to this date in the second phase of this phased manufacturing programme, we are giving duty protection to the automobiles—particularly the small cars. Today, India is one of the most competitive manufacturers of small cars.

Duty protection with a particular strategy in mind and accompanied by an investment strategy and policy, leveraging the size of your market has been used as a good strategy for promoting a certain sector.

A similar thing was done a decade ago by introducing the Modified Special Incentive Package Scheme or M-SIPS for the electronics sector. They increased the duties on cell phones and the components and gave some production incentives in India. People came and invested here and found that India could assemble cell phones, and then India was exporting a huge number of cell phones. It helped the cell phone industry, but then a point came when components needed to be manufactured here. The real value comes out of the components of cell phones and not the assembly. To manufacture the components here, you need three things: investment, technology, and scale. Top manufacturers recognised that this was missing in India. As a result, while the assembly was going well, Components were not there and only 8-10% of value addition was not giving enough return, gradually the cell phone export from India started coming down.

Consequently, what the government has done in November last year is to bring in a production-linked scheme internalising the initial experience and by trying to remove disabilities which producers face in India in comparison with what they experience in other competing jurisdictions. It is a Rs 46,000 crore package in which the government is supporting manufacturing of components and the scale has been increased keeping in mind that it is the global market that India should address because that is where the volumes will come and bottom lines will improve. The Indian market alone will not be able to sustain that kind of technology absorption or that kind of an ecosystem creation required to absorb technology and reduce costs.

If you go on increasing duty here and there, in a sporadic manner, it is only going to be counterproductive, if not accompanied by a proper strategy.

What other pockets of production or sectors do you see it primed for this dual approach that you have detailed – making sure the right amount of investment incentives come along with duty support – like what’s been done with automobiles and cell phones?

The third space – and this at the time of this pandemic terror – we were deficit in the active pharmaceutical ingredients production. Almost 70% APIs are imported from China and particularly in the context of the pandemic as well as what is happening in the bilateral context, the alarm bells are ringing. What the government has done in February is to again introduce a production-linked programme, for the manufacturing of chemical APIs and for fermentation-based biologicals. In a programme of around Rs 13,700 crore, they are going to develop three industrial parks for manufacturing of chemical-based APIs and for fermentation-based APIs. Besides that, there is a programme for production-linked incentives for the manufacturing of APIs. We know very well that export-led incentives are violative of the WTO norms, so gradually we are withdrawing from that. We should have withdrawn much earlier. As we do that, incentives will have to be given to neutralise the disabilities that people face in India in manufacturing. So, if your competitor, let’s say, Vietnam, is giving incentives with which people find it more attractive than India and you want investment, you will have to compare yourself at least with Vietnam, forget about China. China is giving many more incentives and at times you don’t even know what those incentives are – they keep floating from one territory to another and to the third. What they do is, today one state comes with an incentive, tomorrow another does, and the third day yet another state does that. So, it is very difficult to address Chinese incentives.

If you want to bring in investment and compare and compete with Vietnam, you have to bring in at least as much incentive. Then you have to structure a production-linked programme where you have a certain amount of ability. For example, we are very good in the pharmaceutical sector. In fact, at one point we were the largest manufacturer in the developing world of APIs. But over time, China took that know-how and has gone far ahead, so much so, that we are scared that very soon, within a few years, we might completely lose that sector.

After pharma, some segments of electronics and machinery can be considered. Machinery is a long-sustaining sector in this country. We have the technology base, but the real issue is that there is a huge load of the small manufacturer here. It is the small sector which needs to be revved up. If you need to do that, you need to address the credit programme, and the quality dimension. Merely by regulating the technical content of a product, you cannot make the manufacturer capable. You have to run a composite programme which includes technology absorption, and the intellectual property component.

Any country doesn’t need 25 such programmes. As discussed, we already have programmes for mobile handsets, active pharmaceutical ingredients, and automobiles. We need to rev up textile and garment manufacturing and have a couple of programmes for machinery and traditional areas like leather, handicrafts, jewellery and the like. On the same basis, we must focus on some services.

Rather than frittering our attention in 25 product streams, we need to have about seven-eight product streams and focus all our efforts on that.

What do you make of the steps in the last three days—the ban on Chinese mobile applications, and Chinese participation in highway projects?

Please don’t forget that even without the impact of our present stalemate with China, we and many large players in the global market place have resorted to protectionist policies. As a matter of fact, at one point it appeared as if they were running a race for who is more protectionist. Look at what is happening between India and China now in this background. By all accounts, India is deeply hurt by the Chinese behaviour on the borders. There is a socio-political angle to all this. The government surely recognises that in many areas the Indian economy is deeply integrated with the Chinese economy. For example, almost $40 billion worth of capital goods and intermediates come from China. Any significant tinkering with those flows in the short-run is not possible without impacting the domestic consumption and our capacity to export competitively. Since there is little that can be done in the short run, you see such acts. Apparently, the government is constrained to show that it is acting decisively by taking such measures. The app ban being a service-related matter is partially influenced by a global discipline. Similarly, the highway construction again being a service as well as government procurement matter, is free from any discipline and the government must have felt free to act.

But let there be clarity that this will add to costs, bad-mouthing, and litigation. That is a politico-economic choice the government is making. 

It has few options otherwise in the short run. That’s exactly why we need a China strategy but we have somehow favoured actions in fits and starts. In the long run, India can do many things and this may not be a place to talk about them. Suffice to say that making India competitive in selected product areas and showing greater thrust in our foreign trade endeavour—rather than going inwards and distancing ourselves from global developments—is the most potent option.

What else would you have done had you been leading the Commerce Ministry right now, to address both the immediate socio-political requirements and also to build out for the long term?

We are essentially referring to short-term action. I appreciate that in a socio-political milieu, it is imperative for the government to also respond in a short-term context. After all, there is out there a constituency, which is craving for a response or reaction. It is very difficult for a government to not take some action. That is exactly where the government must be very clear and give a clear perception to the people at large that such a situation, which is emerging by the day, need not be responded in a knee-jerk manner. You are dealing with the second largest economic and military power. It is not India alone it is every country in the world that is hugely dependent on that particular country. So, no knee-jerk reaction is going to help you. That’s number one. That impression needs to be given very clearly.

Second, we need to recognise that juvenile reactions will not help our objectives.

It has been reported that the Customs Department in India has delayed certain consignments and we also read that there was a corresponding retaliation in China on Indian products. We don’t have to do all this. Ultimately, a product which is coming into the country is either feeding a consumer or feeding the producer. If it is feeding the producer, it is extremely important because you are then disturbing the entire supply chain. If it is feeding the consumer and it is a flimsy product such liberties may be available. Please don’t do it as a generic thing and don’t give this liberty to people down at the field-level because they don't know how to discern between these various products. Using this particular instrument to settle scores is, in my view, not right.

The third point which is most important, is that you clearly identify products where you feel that your downstream industry or the downstream consumer isn’t going to get adversely affected and then create retaliatory measures if required. Today, many nations are taking such retaliatory measures. The largest economy is doing it every day. If you are compelled to settle a certain political score, then you also do it. But be very clear that it should not adversely impact your own economic development process unless you are very conscious and clear that you are prepared to pay the price, which I don’t think India is.

Fourthly, it is much overdue that we should have a long-term production strategy both for goods and services recognising the challenges we face today or might face tomorrow. For example, have we looked at alternative suppliers other than China? How will it neutralise the cost disadvantage to our producer in that case? Can we think of institutional mechanisms such as trade agreements that will help us deal with the cost disadvantage, etc?

Lastly, this is once again the time for us to look at how we can expand our markets, make our manufacturing competitive, reorient sectoral economies informed by the new technology developments, establish new alliances, pursue new ideas or pick up existing ones which we may have shied away from so far, for example, look at the need for disciplining state enterprises and consider joining the group of nations who wish to pursue such initiatives, make your association with Africa both politically and economically deeper, resume the economic leadership in South Asia, enlarge the scope of South Asian economic engagement by connecting deeper with the CLMV segment of ASEAN. Review our reluctance to accept FTAs as institutional supports, refresh our perspective on the WTO reforms allowing some liberty of thought for the long haul. They will all pay long-term dividends.