Trading with the 'enemy'

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The international trading system is characterised by growing intra-region trade, but South Asia lags far behind on this count

By Hussain H Zaidi

Trade within regional blocs constitutes more than half of the global trade. When it comes to South Asia, however, the picture is dismal. Trade among the countries of the region is less than five per cent of their global trade. The major reason for this is the low volume of trade between Pakistan and India, the largest economies and trading nations in the region.

Though formal Pak-India trade (the two countries have informal trade of more than $ 3 billion a year) has increased from $ 236 million in 2001-2002 to $ 1.57 billion in 2006-07, it still constitutes less than one per cent of the global trade of the two countries. This means a lot needs to be done for an appreciable increase in trade between the two largest economies of the South Asian region. Another notable feature of Pak-India trade is that trade balance has remained heavily in favour of India. Pakistan's trade deficit with India has gone up from $137 million in 2001-2002 to $893 million in 2006-07.

The increasing trade deficit of Pakistan is one of the two major reasons for Pakistan not granting the most favoured nation (MFN) status to India, while New Delhi has already granted the same to Islamabad. The MFN status, it may be mentioned, is not a ;special' or 'preferential' treatment -- but normal treatment.

The MFN principle requires that any trade concession -- for instance, application of tariffs -- granted to one member of the World Trade Organisation (WTO) must be extended to all other members unconditionally. Thus, MFN status means -- more than anything else -- non-discrimination among trading partners. Pakistan trades with India on the basis of a 'positive' list of products that can be imported and with the rest of the world on the basis of a 'negative' list (import of all products is allowed, except those contained in the list for such reasons as religion, morality, national security, health, environment, etc).

The other major reason is the political tension between the two countries because of the Kashmir issue. Thus, reasons for restricted trade with India are two-fold: economic and political. We take the economic ones first:

The basic economic argument for restricted Pak-India trade is that, despite enjoying the MFN status, Pakistan's exports to India lag far behind those of India to Pakistan. Hence, if the bilateral trade is opened, cheaper Indian goods would flood the Pakistani market. This would not only cause serious problems for the import-competing domestic industry besides large-scale unemployment, but would also increase Pakistan's trade deficit with India and, thus, aggravate the country's already difficult current account position.

A related argument is that the grant of MFN status to Islamabad by New Delhi has not helped significantly increase Pakistan's exports to India, mainly because the latter maintains high tariffs, as well as non-tariff barriers, on products of export interest to Pakistan. This high, solid wall of protectionism, the argument goes, makes it difficult for exports from Pakistan to have an effective access in the Indian market; and, thus, offsets any advantage conferred by the grant of MFN status.

There is an element of truth in these arguments. In case Pak-India trade is liberalised, imports from India would probably price out Pakistani products and, thus, further widen the trade imbalance. It is also true that products of export interest to Pakistan face tough market access barriers in India; and that, despite the grant of MFN status, Pakistan's exports to India have remained at a very low level.

For instance, whereas average Indian applied tariffs on industrial products are 16.4 per cent, those on textile and clothing products -- which account for almost two-thirds of Pakistan's global exports -- are 20.2 and 22.4 per cent, respectively. The maximum tariffs applied by India on textile and clothing products are 268 and 103 per cent, respectively. Moreover, Indian tariffs on textile and clothing products include both 'ad valorem' -- based on the value of imports -- and 'specific' -- based on weight or volume of imports -- duties. For a country like Pakistan, which is an exporter of low-end textile and clothing products, 'specific' duties are very restrictive -- the greater the weight of import consignment, not necessarily its value, the higher the duties.

Having said this, a few things, however, need to be noted: One, the grant of MFN status or even preferential treatment in itself is no guarantee that exports will register a considerable increase. The foremost condition for considerable increase in exports is their competitiveness, which is a function of both quality and price. A country's competitive advantage rests on either high quality products or their low price. Both these components of competitiveness entail essentially overcoming supply-side constraints. A country's export performance is as good or bad as its industrial performance. Hence, for increasing Pakistan's exports to India, or for that matter to any other country, supply-side constraints have to be overcome. This, however, does not mean that once the supply-side position is improved, a restrictive Indian import regime will cease to be a serious issue.

Two, regarding high Indian tariffs, as well as non-tariff barriers, on products of export interest to Pakistan, the international trading system (WTO) does not specify how much tariffs or non-tariff barriers are to be reduced -- such matters are to be settled largely at bilateral level through negotiations. However, international negotiations are based on a quid pro quo. If Pakistan asks India to cut its tariffs and non-tariff barriers, the former will also have to offer the latter increased market access in the shape of MFN status. Besides, grating the MFN status to other member countries is a basic requirement under WTO rules and no country can get away with that indefinitely.

Three, Pakistan has unhindered trade with China whose products are as cheap, if not cheaper, as India's. Pakistan has signed a free trade agreement (FTA) with China, under which the two countries are required to give each other duty free or preferential market access. As a result, Pakistan's trade deficit with China ($ 2.94 billion) is much higher than that with India ($ 894 million).

Four, certain safeguards are available under the WTO to protect the domestic industry -- for instance, under the Agreement on Safeguards, a country can restrict imports of a product if they increase to such a high level as to cause, or threaten to cause, serious injury to competing domestic products. Imports can be restricted either by increasing the bound rate of tariffs or by clamping quantitative trade restrictions (or quotas) on them. Normally, the safeguard measure has to be adopted in a non-discriminatory manner -- against imports from all countries affecting the domestic industry. In special circumstances, however, quantitative restrictions may be applied to only one country -- in case imports from that country "have increased in disproportionate percentage in relation to the total increase of imports of the product concerned in the representative period." The safeguard measure, however, is a stopgap arrangement available only for a maximum of 10 years, during which the competitiveness of the local industry has to be increased.

Five, under the General Agreement on Tariffs and Trade (GATT), a part of the WTO, a country can restrict imports to overcome balance of payment (BoP) problems. Hence, if Pakistan faces BoP problem due to a possible onslaught of Indian imports, the said article can be invoked. However, again, this will only be a temporary arrangement.

Six, trade with India will yield certain advantages. For instance, it will benefit Pakistani consumers, who will be having access to cheaper goods, particularly autos and medicines; as well as industrial buyers, who will have access to cheaper capital goods and raw materials. Since India is Pakistan's next-door neighbour, lower transport costs will also reduce the cost of doing business and, thus, help increase competitiveness of the country's exports. The legalising of trade through smuggling will also enable the government to earn revenue in the form of import duties.

As for the political reasons, Pakistan has in the past linked normalisation of economic relations with India with peace, especially resolution of the 60-year-old Kashmir dispute. India's standpoint, however, is that political relations between the two countries should not affect their economic relations. The Indian argument, in principle, is sound.

There are quite a number of examples of countries -- China and Taiwan, the United States and the former United States of Soviet Russia, China and India to name a few -- having normal trading relations notwithstanding political tensions between them. Besides, improved economic relations between Pakistan and India will lead to creation of common stakes, which will contribute substantially to defusing political tensions.

In short, normal trading relations with India will have several advantages, though one must also be alive to their possible negative effects on the domestic industry, employment and BoP position. The important thing, however, is that whether Pakistan has restricted or open trade with India, the decision needs to be made primarily on economic -- and not political -- considerations.

(Email: hussainhzaidi@yahoo.com)