Trade winds

The Union minister of trade and commerce, Kamal Nath, has unveiled a new foreign trade policy with some fanfare. But does India need such a policy to boost exports? Or, does it need better domestic policies that allow it to integrate in global production chains. Is economies of large scale production in manufacturing by removing small scale industry reservation and changing exit policy, ensuring better infrastructure and less red tapism not the best route to higher exports? Why does China have a high rate of growth of manufactured imports, while India lags far behind? The explanations lie not in differences in trade policy but in labour laws, infrastructure, regulations about FDI and, very importantly, the tax system.

Kamal Nath has made the export of services free from tax. What India needs is a full-scale country-wide VAT on all goods and services replacing all other indirect taxes levied by the central and state governments. As the minister says, we should export products and not our taxes. Most export oriented production all over the world takes place using ‘global production chains’. If a 1 per cent octroi is slapped on the value of a product which has only a 10 per cent value addition, then it looms large. The firm cannot complete with a firm in China which does not have to pay such a tax. Exporters should be refunded all the indirect tax that is embedded in their goods. This needs a simultaneous removal of all cascading taxes like octroi, sales tax, and so on, and implementation of VAT. Every exporter would add up the VAT payment that is shown on all invoices of his raw material purchases. The exporter would get a full refund of all these payments when export takes place.

An expansion of the duty drawback schemes is only a stop-gap arrangement. There remains the question of custom duty embedded in inputs that is paid by exporters. While there is a concept of ‘duty drawback’, to refund customs for exporters, it only applies to direct imports. For India to be fully integrated into global production chains, we need to get all customs rates down to zero. China, which collects only 3 per cent of its total revenues from customs, offers a striking contrast to India, which collects 10 per cent. By the early ’90s, China had fully put into place the modern architecture comprising low customs rates, a single national VAT, and full refund of VAT on exports. Also, encouraging the export of fruit and vegetables cannot be done in isolation. Agricultural policies need to move away from their pro-cereal bias in subsidies and prices and cold-storage chains set up across the country. Agricultural production needs infrastructure. It’s only then that fruit and vegetable exports can truly grow. It is not, therefore, trade policy that will increase India’s share of world exports, it is better domestic policies.