Trade pacts will help drive India’s economic rise

THE Australia-India Economic Cooperation and Trade Agreement (AIECTA) came into effect on December 29. This was India’s second trade deal for 2022, the first being the India-UAE Comprehensive Economic Partnership Agreement in May. Talks with the United Kingdom are in their sixth round and an agreement is likely by March 2023. These deals break a decade-long gap where India didn’t sign a free trade agreement with any large economy. Over that same period, India’s share of global exports stagnated at less than 1.8 per cent.

India’s bilateral trade with Australia is at present small. Total trade between the two countries in 2021 was roughly US$28 billion or about 3 per cent of India’s trade with the world. We expect that to grow to US$50 billion within five years of the signing.

Like most trade deals, AIECTA reduces tariffs, which will boost trade, especially for pharmaceuticals, textiles, jewellery and commodities. Given that these exports from India make up a small share of Australia’s imports (pharmaceuticals about 4 per cent, textiles around 5 per cent, jewellery some 12 per cent) there is significant room for growth. Factors other than tariffs can also be gamechangers.

AIECTA removes a major tax issue for Indian IT companies, which have faced double taxation on earnings from Australian clients, first as royalties in Australia and then as income in India. India is a global leader in IT and IT-enabled services, so this opens possibilities to increase services exports to Australia.

Australia has offered to extend the length of post-study work visas for Indian students who hold a first-class graduate degree in STEM or ICT. This will make Australia as attractive as other major education exporters, like the United States. It should boost Australia’s higher education exports and strengthen India’s global human capital footprint.

Importantly, the positive response to AIECTA shows how important trade deals can be. Geopolitical tension is leading manufacturers to find new sources of supply. India can meet some of that demand by offering preferential access and incentives. The government aims to increase domestic manufacturing as a share of GDP from 18 per cent to 25 per cent in the medium term, through infrastructure spending and production incentives of around 1 per cent of GDP. To maximise growth, it also needs policies that boost exports.

It is worth comparing India’s trade position with that of Vietnam, which has found an important place in the “China Plus One” strategy of global manufacturers. Several trade deals have given it preferential access to the major economic blocs that make up nearly 81 per cent of global GDP. India’s trade agreements represent less than 20 per cent on a preferential basis. Between 2010 and 2021, Vietnam increased domestic manufacturing from 18 per cent of GDP to 23 per cent and its share of the global export market from 0.6 per cent to 1.5 per cent. In short, an economy one-ninth the size of India now exports nearly as much to the world.

The economies rising up the global trade ranks have all increased their participation in the supply chain and exports of electronics. Vietnam has grown rapidly in this sector in the last decade, thanks to its supply of cheap skilled labour and its trade agreements. The sharp increase in its Revealed Comparative Advantage (RCA) index over the last decade for electronics underscores this. The RCA is the export share of a good in a country’s total exports, over the world export share of that good.

India also has great potential to increase electronics manufacturing and exports, not least because of its ability to scale up production and the size of its domestic market. Global giants, like Apple, are planning to increase the share of their India-based production to 45 per cent over the longer term, compared to the current low single-digit level.

Despite stiff global competition in recent years, India’s traditional exports, like textiles and chemicals, still have a strong RCA. They employ large numbers of people, so any deals that boost external demand for these sectors would help create jobs domestically.

Foreign trade policies that are predictable and simpler are key to releasing India’s potential. They will increase investor confidence in the government’s support of manufacturing and exports. While largely diplomatic, free trade agreements will be important structural drivers of India’s much anticipated rise in global economic rankings.

The writers are economists at ANZ Research