Trade, import and export for MSMEs: India has vigorously switched gears to get into a trade deal overdrive of late due to multiple factors to fuel its ambition of an export powerhouse, racing past China. With nearly 50 per cent of its exports coming from the MSME sector, the country revived its focus on free trade agreements (FTAs) beginning with an agreement with Mauritius in 2021 after years of being unconvinced about previous trade deals’ outcomes.
What new FTAs mean for MSMEs
Last year in February, India signed two ambitious deals – a Comprehensive Economic Partnership Agreement (CEPA) with one of its top export destinations the UAE and recently an Economic Cooperation and Trade Agreement (ECTA) with Australia in order to reduce or strike out trade barriers particularly import tariffs for MSMEs and other businesses. Similar pacts are under discussion with the UK, the European Union, Canada, Israel and the Gulf Cooperation Council (GCC) – a political and economic alliance of six Middle Eastern countries viz., Saudi Arabia, Kuwait, Bahrain, Oman, Qatar, and the UAE.
MSMEs are expected to be the primary beneficiaries of India’s renewed optimism with trade deals as they are the “one to create jobs and use the benefit of the duty becoming zero as MSME accounts for the majority of our exports,” Commerce Minister Piyush Goyal had said last month during the trade pact launch between India and Australia.
For the government, FTAs with both Australia and the UAE are a milestone in India’s new global trade outlook given that both countries are among India’s major export markets. The UAE was the second top export market for India in fiscal year 2021-22 after the US while China stood third, according to the FY22 Economic Survey. India’s annual exports to the UAE are around $26 billion. On the other hand, exports to Australia jumped by 20 per cent to $4.7 billion in the April-October period and was India’s 10th largest trading partner during the period.
According to SP Sharma, Chief Economist at industry body PHD Chamber of Commerce, the two FTAs assume importance as they are among the first in the post-Covid world. Moreover, “With India improving its ease of doing business scenario over the years with multiple business reforms for exporters along with its focus to integrate itself in the global supply chain amid supply chain disruption, need for self-reliance, and overcome trade imbalance, it is the right time for the country to sign trade deals with promising trade partners. Australia and the UAE play big roles in global economies and hence engagement with them is the need of the hour,” Sharma told FE Aspire.
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The reasons for India to tap into FTAs are also geopolitical. According to Rajendra Prasad, Professor of Marketing at the Indian Institute of Foreign Trade (IIFT), India’s rise on the global stage as the fifth largest economy in September last year coupled with China’s economic slowdown, India’s vaccine diplomacy, and more have worked in the country’s favour to strike trade deals with global economies. “Geopolitically India is well placed and the world recognises India. So, the time is right for new FTAs with the world trusting India.”
According to the trade agreement with Australia, India’s exports from labour-intensive sectors such as engineering, textiles and apparel, gems and jewellery, leather and footwear, furniture, select pharmaceutical products and medical devices etc., which have a significant presence of small businesses, have got zero duty access to all tariff lines from India.
A tariff line is an item or a product listed in a country’s tariff schedule which is a comprehensive list of items with applicable duty rates to be paid as the item enters or leaves a country.
Earlier these products were subjected to import duty of 4-5 per cent by Australia vis-à-vis competitors with which Australia has FTAs such as China, Thailand, Vietnam, South Korea, Indonesia, Malaysia and Japan.
For instance, 70 per cent of India’s textile products and 90 per cent of apparel products, which hit their overall highest export level in FY22, reaching $44.4 billion, up 41 per cent over FY21, face duty on export to Australia. Now, with the elimination of duty, India’s exports of textiles and apparels are expected to gain from $392 million to $1100 million in the next three years, according to ECTA. This would lead to additional employment of 40,000 people per annum and new manufacturing units in Tier 2 and Tier 3 cities and rural areas.
“While India has been exporting to Australia but exports haven’t grown much in comparison to China’s exports. However, Australia was waiting for the trade deal with India amid diplomatic tensions with China. With import duty exemption, apparel and textile exports to Australia and the UAE are expected to grow significantly with UAE being the window to GCC as well,” Narendra Goenka, Chairman, Apparel Export Promotion Council (AEPC) told FE Aspire.
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Similarly, India’s gems and jewellery export to Australia is expected to grow from current around $350 million to $800 million in three years. According to the trade pact, with the elimination of duty, there is likelihood of an increase in exports of jewellery which otherwise suffered from a 5 per cent duty impact in Australia. The ECTA estimates that immediate duty-free access will overall enable around 10 lakh jobs in India and additional exports of $10 billion from India to Australia in the next five years.
In terms of India’s imports from Australia, merchandise imports consist largely of raw materials, minerals and intermediate goods. 74 per cent of it is coal and 71 per cent of coal is coking coal other than tanning, dyeing extracts, pigments, which will help Indian MSMEs and others in sectors such as steel, aluminium, garments, etc., to become competitive in manufacturing with 90 per cent value of imports from Australia getting zero duty access to the Indian market.
For the uninitiated, India has offered concessions on tariff lines of products including coking coal and thermal coal, wines, agricultural products including cotton, almonds shelled and in shell, oranges, etc., metals including aluminium, copper, nickel, iron and steel, and minerals such as manganese ore and calcined alumina.
Another important benefit provided under ECTA has been with respect to the Double Taxation Avoidance Agreement (DTAA). The DTAA is essentially a tax treaty that India has with over 80 countries so that taxpayers or companies don’t have to pay ‘double’ taxes on their income from the source country, which is Australia in this case, as well as their residence country – India.
While India had a DTAA with Australia as well, a “provision” in the DTAA was used to tax Indian companies, particularly IT firms’ offshore revenues in Australia, according to ECTA. Commerce ministry had also noted in a statement earlier this month that Australia has no domestic provision for charging tax on royalties, fees and charges by firms sending these (remittances) to parent companies. This led to the discrepancy in levying taxes that irked Indian enterprises and MSMEs as well.
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However, with ECTA being implemented, Australia has made changes in its tax laws, removing this discrepancy. “The agreement will also eliminate Double taxation on IT services from April 1, 2023, which was making us less competitive and making us less profitable in the IT sector. We will save millions of dollars right now, and over a billion dollars going forward, maybe five-seven years going forward, giving us a competitive edge and also creating a lot many jobs,” Goyal had said.
Coming to CEPA with the UAE, the pact was the first full FTA, instead of an interim one, signed by India with any country in the past decade, comprehensively covering almost all of 11,908 tariff lines by India and 7,581 tariff lines by the UAE. The agreement benefits India’s exports to the UAE by elimination of 5 per cent import duty on 97 per cent of its tariff lines corresponding to 99 per cent of imports from India.
The zero-duty market access by UAE covers all labour-intensive sectors, most of which are MSME-dominated, such as gems and jewellery, textiles, leather, footwear, sports goods, plastics, furniture, agricultural and wood products, engineering products, medical devices apart from automobiles.
“The UAE is a gateway to all of Africa, many other gulf countries and Europe. It also has a large number of Indian diaspora and a huge market for products like textiles, gems and jewellery, leather, footwear, and food products, which are labour oriented and provide economic opportunities,” the agreement read.
According to the commerce ministry, the CEPA “is already creating a significant positive impact on India-UAE trade with exports to the UAE, excluding petroleum products, grew to $5.92 billion during June-August 2022 period from $5.17 billion during June-August 2021, indicating 14 per cent increase. The exports during the period were dominated by gems and jewellery, electrical machinery and equipment, cereals, nuclear reactors and boilers, sugar and sugar confectionary, inorganic chemicals, etc.
On the other hand, India’s imports, excluding petroleum-related imports, from the UAE during the three-month period jumped to $5.61 billion, up 1 per cent from $5.56 billion during the year-ago period. Overall, petroleum and petroleum products, precious metals, stones, gems & jewellery, minerals, chemicals, wood and wood products are generally the major items of imports from the UAE.
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CEPA expects India-UAE bilateral trade to grow to $100 billion in goods and $15 billion in services by 2027. On the other hand, according to a January 2023 study India-UAE FTA: Unleashing Export Potential by the industry body PHD Chamber of Commerce and Industry, India’s exports to the UAE are likely to be worth $50 billion by 2027. This will connect Indian industries to global value chains and open up huge prospects for Indian businesses and create employment opportunities with increased production of labour-intensive commodities, the study said.
“With new definition, MSMEs’ contribution to India’s exports is more than 50 per cent. Hence, it is pertinent for India to promote MSME export given that large businesses are relatively well-connected and have more power to absorb global shocks. Hence, these new trade pacts are designed to push sectors with high MSME density. UAE is integrated with the global value chain and has a big Indian diaspora as well while Australia’s exports of raw materials will benefit Indian MSME manufacturers to become cost competitive globally,” said Sharma.
The flurry of trade deals with the UAE, Australia, and other countries indicates India’s change in approach to “fair and equitable” pacts that benefit India as much as partner countries, Goyal had said at the 27th Wharton India Economic Forum earlier this month. “We decided that we must talk to like-minded countries, particularly countries which have a rule-based trading order, which are transparent in their economic systems as India is and enter into arrangements which are win-win for both the sides and which are fair, equitable and balanced”.
The minister’s remarks indicated focus on making new and upcoming FTAs succeed after trade pacts, particularly with ASEAN (Association of Southeast Asian Nations) countries, South Korea and Japan signed in the past decade couldn’t tremendously enhance India’s exports and reduce imports.
For instance, despite the FTA with the ASEAN (Association of Southeast Asian Nations) grouping, the trade deficit between the two increased to $25 billion in FY22 from $14.78 billion in FY16 with imports growing from nearly $40 billion to $68 billion against exports that jumped from $25 billion to $42 billion during the said period, according to the data from the Department of Commerce. Likewise, the India-South Korea trade deficit also widened from $8.1 billion in FY21 to $9.5 billion in FY22.
“Japan, South Korea or Asean grouping haven’t been big export destinations for India. These weren’t traditional export markets for India unlike the UAE and Australia which have been among top countries for exports from India. India has learnt from mistakes made in these pacts to have balanced trade deals with new FTAs,” A Sakthivel, President at the trade promotion body Federation of Indian Export Organisations (FIEO) told FE Aspire.
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According to Prasad, the mistakes in previous FTAs have been on the implementation part. “They were not thoroughly deliberated and discussed by India which went in favour of other countries. That’s why this time, ample time has been taken by the government to execute deals with the UAE and Australia with measures in place to check import influx,” Prasad told FE Aspire.
For instance, to support domestic Indian MSMEs and other players from any sudden surge in imports due to tariff concessions to the UAE that may hurt domestic MSMEs and other plays, the CEPA has a “permanent safeguard mechanism.”
“Under the bilateral safeguard mechanism, the applicable duty is restored to most-favoured-nation (MFN) level of duty on the date of the application or immediately before the day of entry into force of this agreement. This is of significance since it will protect the Indian industries, especially MSMEs against such sudden surge in imports from UAE at any given point of time till this agreement is in existence,” the agreement noted.
“This would protect local manufacturers from unfair competition with restricted benefits for other countries exporting goods to India,” said Sharma.
According to the World Bank, the MFN tariff is one that WTO (World Trade Organisation) member countries promise to impose on all of their trading partners who are also WTO members unless the country is part of any FTA. This means that MFN rates are the highest rates WTO members charge each other.
Fearing a rise in imports, India had also pulled out from the famous Regional Comprehensive Economic Partnership (RCEP) in 2019 which was claimed to be the largest trade agreement in the world so far. RCEP involved China and 14 other Asia-Pacific countries such as Japan, South Korea, Singapore, Malaysia, etc., with which India already had ongoing FTAs.
With respect to China, according to official data, India’s imports from China jumped to $75.87 billion during Apri-December 2022 period, up around 12 per cent from the year-ago period while exports to China dipped 35.58 per cent to $11 billion during the period. In fact, the India-China trade deficit hit $101 billion in 2022 from $69.38 billion in 2021.
Animesh Saxena, Managing Director and CEO of Gurugram-based apparel export house Neetee Clothing believed for FTAs to find success, consistent post-agreement measures are also required. “The government has to participate in the trade fairs in those countries, organise its own exhibitions, take business delegations abroad to discuss ways to promote trade and give the opportunity to MSMEs to understand the market requirements of that country,” Saxena told FE Aspire.
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However, Goenka claimed, “trade fairs and delegations on various sectors and industries are going on between India-UAE and India-Australia ever since the agreements were signed with them last year for awareness and promotion of exports.”
Meanwhile, the Reserve Bank of India (RBI) had also last year highlighted the poor performance of FTAs for India. A trade analysis of India with its 30 major trading partners including 10 FTA partners during the 1995-2020 period suggested that trade agreements do not have any positive and statistically significant impact on India’s exports, RBI had noted in its report on Currency and Finance 2021-22.
“Evidently, India has recorded higher trade deficits with some of the ASEAN countries in the post-FTA period, underscoring the limited benefits of FTAs due to a combination of factors such as an unequal decline in tariffs vis-à-vis trade partners, high cost of compliance of FTAs, and non-tariff measures continuing even after entering into FTAs. In fact, India’s net imports in certain segments increased manifold,” the report noted.