Towards free trade in services

Anybody seeking a brief but expert look at India’s trade performance and prospects should read a new book by T N Srinivasan and Suresh Tendulkar. The title is significant: “Reintegrating India with the World Economy.” We talk about opening up the Indian economy, as though this is something new. In fact India was a great trading nation for most of history, and benefited enormously in consequence. Only after independence did Nehruvian socialism shrink us into a cocoon of self-sufficiency in the mistaken belief that this would accelerate growth and reduce poverty. Srinivasan and Tedulkar give a succinct summary of how that approach failed, of how the half-baked reforms since 1991 have given us half-baked success, and how bolder trade reform can help accelerate prosperity.

Nehru saw international trade as a “whirlpool of economic imperialism,” and free trade as a British device to keep India poor and non-industrialised, dumping manufactures on it.

This was the standard refrain of the independence movement, yet was false. Between 1850 and 1914, India created the world’s largest jute manufacturing industry, the fourth or fifth largest cotton textile industry and the third largest railway network.

Even after 1914, India’s index of manufacturing (base 1913) rose to 239.7 by 1938. “Only Japan’s production index at 552 exceeded that of India—others including Canada, Chile, Italy, Germany the US and the world as a whole, had a lower index of production.” How did Nehru’s followers shrug off these facts? By pretending that cotton textiles were primitive manufactures that didn’t count, and that machinery alone mattered. This left the path clear for the Asian tigers to become rich by occupying the textile space that India stupidly vacated. Self-sufficiency saddled Indian industry with machinery costing double what tigers paid. The thrived and we stagnated.

India’s export/GDP ratio fell from 7.3% in 1950 to 3% in 1965 remained below 4% till 1973. It then improved slowly to 5.8 % by 1990. Then came the 1991 reform, and the ratio is now up to almost 10% for merchandise alone, and two-thirds more if we include services.

Imports have risen commensurately. So the ratio of merchandise trade (imports plus exports) to GDP in India has risen from 16.6% to 24.2%, a sea change. Yet it pales in comparison’s China’s 49%. Despite dismantling most non-tariff barriers and reducing tariffs, India continues to have among the highest tariffs in the world. The import-weighted tariff fell from from 49.6% in 1990 to 28.5% in 1999, but China’s declined in the same period to 14.7% and is now around 7%. No wonder India is a high-cost economy.

What transformed India in the 1990s from a dollar-scarce to a dollar-abundant economy? The authors give much credit to flexible exchange rates and trade reforms. A realistic exchange rate is probably the main reason why remittances from overseas Indians quadrupled: this represented not a real increase so much as a shift in remittances from hawala to banking channels. But the big dollar saviour of the 1990s was, of course, the boom in services exports, notably IT. This made Indians totally confident of competing with the West, and changed mind-sets like nothing else could.

However, the data culled by the authors highlights a major mystery. Between the middle and late 1990s, invisible receipts shot up from $16.5 billion to $24.4 billion per year.

Miscellaneous service exports rose from $2.04 billion to $8.73 billion. But this was not solely or even mainly on account of IT service exports, which went up from $0.66 billion to $3.69 billion. The authors say that other “unidentified” service exports have provided a flood of dollars, but surely much more needs to be said on this matter.

Research is required immediately to identify what is driving these gargantuan “miscellaneous” exports. It seems absurd that a phenomenon as important as this can be called miscellaneous. India has detailed figures on irrelevant exports but insufficient detail on some of the most important service exports.

What are these non-IT service exports? They cannot be tourism receipts: India gets only 2.2 million tourists a year against China’s 23 million and Malaysia’s 7 million. They surely cannot be receipts from foreign students in Indian universities, or foreign patients in Indian hospitals: the numbers are too large. Do they represent a surge by Bollywood’s films and music? Or the new interest in India as a global R&D centre? We need to know much more on this.

The authors make a strong case for India taking a pro-active stance in WTO, using this to open up Indian trade as well as reduce global agricultural protectionism. Yet they express qualms about the expansion of WTO into new areas, such as free trade in services. I find this last worry uncomfortably close to the old Nehruvian worry about free trade in merchandise. I believe that services represent a huge area of comparative advantage for India, and that the infocom revolution (causing the “death of distance”) will enable India to dominate this, the fastest-expanding part of the global economy.

Many politicians in the US and UK are so petrified of India that they now seek to prevent back-office jobs and call-centres from migrating to India. Free up other services — legal, audit, medical, educational, financial, the lot—and even more will migrate. We need to overcome domestic vested interests and foreign protectionists in these fields, no less than in agriculture or manufacturing.

What do you think?