So whats the next best strategy In the brave new world of globalisation, we dont need to stock up domestically, but can try and control (and own) some of the global oil production facilities directly. Thats exactly what we have done. We have bought stakes in oil facilities in Russia and Vietnam. These investments are small, limited by what we can afford, but these are bold steps reducing our vulnerability to both price and quantity fluctuation.
Similar thinking has been applied to our urea problem. India is a major importer of urea. Whenever we step into the world market to buy urea, prices move adversely. Finally, we have realised the need to own some urea production facilities globally. And this is the logic behind our part ownership of the urea plant in Oman. What has helped facilitate this in a globalising world is the relative lowering of international barriers, which now makes cross border ownership of oil and urea plants more acceptable to even Indians.
But this column is not about our oil or fertiliser policy. These are but two examples of how far we have come from inward looking import substitution policies of several decades ago. We have certainly given up export pessimism, and significantly also, pessimism about agricultural exports. We now think of agriculture as one of our core comparative advantages and also a possible engine of growth. The vision is that if China can be a manufacturing workshop to the rest of the world, then India can at least be a kitchen to the world.
The Exim policy of 2002-2007 envisages a 12 per cent growth in exports and a central role to be played by agriculture and agro-based industries. Indeed, during the 1990s export pessimism was replaced by export optimism. Indias trade to GDP ratio improved from 16 per cent in 1991 to 23 per cent in 2001. The compound annual growth rate in exports expressed in dollar terms was almost 9 per cent per annum. This was also a decade when the hitherto largely non-tradeable services sector became available as increasingly tradeable through the emergence of communication technology. Thus an American X-Ray can now be diagnosed by an Indian radiologist, which amounts to exporting Indian radiology skills.
Last year, India also started to export diesel and other refined petrochemical products, which is quite remarkable considering that India is a large importer of crude. But since we have excess refining capacity, the new thinking goes, why not use it to export refined crude oil products Sort of like importing uncut diamonds and exporting cut and polished diamonds and jewelry.
So how are we supporting exports First, we make sure that all domestic taxes paid by exporters are stripped off at the border, through the duty drawback scheme, so as to nullify the effect of excise and import taxes. Thus, these products compete off-shore solely based on their comparative advantage. Second, in many cases we exempt export income from domestic income taxes. Third, through the Export Credit Guarantee Corporation, we make sure that exporters get paid or are insured against bad creditors. Fourth, we provide bank finance at subsidised rates.
Some of these measures may be called subsidies. Export subsidies are justified as compensation for the handicaps that Indian exporters face, such as higher electricity tariffs, higher interest rates, un-refunded taxes at the state level, inflexible labour laws and poor physical infrastructure. These are significant transaction costs which tend to make Indian exports uncompetitive in the international market. But of course, the best way to deal with these handicaps is directly, and not by neutralising them with subsidies. In any case, such subsidies may eventually be World Trade Organisation incompatible, although trade policy is becoming increasingly strategic.
However, there is one area where we can take unilateral action. This is the area of export finance. The current system is such that the burden of providing subsidised credit to exports falls mainly on the banking system. In the past the banks were compensated by the Reserve Bank through cheap export refinance. These refinance limits have been falling steadily and are expected to go to zero. In fact, the banking sector as a whole has not been fully utilising the refinance limits from the RBI. Which means that either their own funds are cheaper than RBIs refinance rates, or market determined export finance rates are just fine for banks. It then doesnt make sense to use an essentially quasi-fiscal device (priority sector lending obligation) to prop up exports.
There should be either direct fiscal relief, bypassing the banks, or more appropriately a WTO approved macroeconomic tool, ie exchange rate management. Banks struggling with problems of their own need to be unyoked of this burdensome obligation of providing subsidised export finance.
Ajit Ranade is Chief Economist, ABN Amro Bank, India