by Jagath C Savanadasa
"We can choose our friends but we cannot choose our neighbours"
- Dr. Manmohan Singh
Prime Minister of India
(December 21, Colombo, Sri Lanka Guardian) It seems fit to begin this presentation with the above statement, symbolic of pragmatism which amply describes the reality of especially any nation or nations.
India from time immemorial has been our closest neighbour in geographical terms and in many other ways. She will continue to be so in the future too.
Now India has emerged as one of Sri Lanka’s biggest trading partners. She is also the second largest investor in this country.
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| " India has a complex set of rules relating to entry of export products, both at seaports and airports. India also has non-tariff rules that are at times exclusive to a particular state. The later impeded internal transfer of foods from one state to another." |
Her economy is rising rapidly with a GNP growth of around 8% or 9% or more annually. The dramatic upward mobility of India’s population is magnetic as much as it is attractive to those who eye big markets in an era of rapid economic evolution and shift in original fortunes.
The academics and the business community have examined the pros and cons of the ISFTA periodically. Indeed it has been gone through with a fine tooth comb. This essay is an attempt to look sequentially and objectively at the decade old journey of the Trade Agreement including how it began, its current status and what needs to be done to strengthen Sri Lanka’s hand in respect of the ISFTA in future.
Background to the ISFTA
Talking of trade it is gratifying to recall that Sri Lanka’s leading economist Dr. Gamini Corea was the pioneer in alleviating the difficult conditions that Sri Lanka and other commodity, exporting nations faced way back beginning the 1960’s through the creation of the UNCTAD/GATT. Dr. Corea who was Secretary General of UNCTAD was a formative influence in generating an environment conducive to the poor nations.
Towards the 1990’s yet another visionary Economist, Dr. Lal Jayawardena, paved the way for the Indo-Lanka Fee Trade Agreement. Dr. Jayawardena headed an institution named UN Wider which examined the feasibility and justification for a Free Trade Agreement between India and Sri Lanka.
A study was conducted in this regard. It was observed that whilst the regional grouping SAARC through its principal arm, South Asian Preferential Trade Agreement (SAPTA) had examined the prospects of trade expansion within its member countries the potential for a bilateral trade agreement between India and Sri Lanka also seemed worthy of examination. Of course its modalities and operational areas needed to be defined. Such an agreement it was further noted would promote the interests of trade in the region.
A second report had highlighted the areas of expansion of trade, the way for a negotiated agreement on tariff the lowering of tariff barriers, and also the way towards technology transfers and joint ventures. It was also observed that from Sri Lanka’s point of view a bi-lateral trade treaty would help diversify her export markets.
There was during this period of time difficulties experienced by developing countries such as Sri Lanka in entering the OECD nations. Competition to enter such markets was growing. On the other hand the OECD countries themselves were experiencing a period of declining growth. As a result protectionist tendencies within them were on the rise.
Trade Blocs
A significant factor observed in the second WIDER report, related to the emergence of Trade Blocs in the 1990’s.
These Blocs involving major industrial nations like those within the EEC and the NAFTA – the North American Free Trade Area were in effect another challenge to the developing nations to sustain their share of markets in such countries. Hence the need for a fresh approach to export marketing within the bounds of South East Asia.
The WIDER study thus felt that these emergent circumstances warranted by a bilateral trading tie-up for the mutual good of both India and Sri Lanka.
Institutionalized Approach Advocated
The WIDER study/report advocated an institutionalized mode of operations the principal components in addition to others of which were:-
a) That trade between the two countries to be within the framework of a full agreement barring about 10 to 15 of their total imports.
b) Agreements for technology transfers.
c) Reduction of Tariff and either removal or reduction of non-tariff barriers.
Subsequent to the WIDER deliberations and Reports their emerged yet another follow up. An essential feature arising out of the latter related to the modalities of preferential trade between the two countries. This inter-alia recommended that tariff reductions should be made in respect of all items traded, excluding of course the items exempted from the Agreement.
Failure of SAPTA & APTA
By this time (the) SAPTA was well into implementation but its progress was highly disappointing. Similarly yet another regional trade pact – The Asia Pacific Trade Agreement or APTA, earlier known as the Bangkok Agreement, an initiative of ESCAP too was operational. This too proved to an abject failure in generating more regional trade.
Also they (the two pacts) had very little impact on liberalizing trade within the SAARC region. If you examine SAPTA it is very much evident, that (L DC’s) Least Developing Countries within SAPTA to which category Sri Lanka did not fall into, stood to gain much more in-terms of tariff concessions than those in the developing category.
And India by far the biggest economy in the region, offered such concessions on almost 3000 products. Out of this, only about 500 were for non-LDC’s.
If you consider APTA the agreement was only confined to goods. Negotiations between the six member countries were not as frequently held as required and concessionary trade was confined to only 4000 products. Preferential treatment once again favoured LDC’s (60%) whilst non-LDC’s were offered such treatment only to the extent of 27%.
ISFTA and the Initial Fears
When the intention of the two countries to enter into a Free Trade Agreement was announced their arose fears that India had designs to dominate the Sri Lankan market with her products and we would be swamped by our large neighbor. On the Indian side too there were fears about some Sri Lankan exports.
Such anxiety may have been justified to an extent in consideration of geopolitical factors and history of Indo-Lanka relations especially during the regimes of Indira Gandhi and Rajiv Gandhi on the Indian side and those of J R Jayawardena and R Premadasa in Sri Lanka.
Asymmetries between the two nations and the relative strengths of the two also added fuel to such apprehensions. There was also Sri Lanka’s unfavourable balance of trade with India for years. As a consequence the implementation of the Agreement) was delayed.
Renegotiation and Negative Lists
Negotiations continued particularly with a view allying fears looming large in the minds of the skeptics. There was no choice but to protect the suspect industries from which the fear element was particularly strong on both sides of the Palk Straits.
Negotiations understandably were protracted. Within it the negative lists formed the core issue. In order to protect industry on the Sri Lankan side the Negative list included more than a thousand products. Among key areas of protective cover through this mechanism included the agricultural, iron and steel sector, Plastic, Rubber manufacturing and electrical goods sectors in addition to some others. In the same way the Indian Negative list was so designed to protect principally, her garment, rubber and plastic manufacturers.
Results and Initial Fears
The ISFTA was finally implemented in 1998. But it really took off in the year 2000. If you study the initial 5 or 6 yeas of the Agreement one could state without any degree of hesitation that the original thoughts and fears that some expressed about being swamped by India were misplaced.
The doomsday scenario of a big nation swallowing a smaller one was a definite misjudgment. Perhaps the repetitive trade deficits and the unfavourable balance of trade factor, precedent to the Agreement as referred to earlier too were important in forming this view.
There was also the view that the bilateral free trade agreement with India should have been so designed to create a sort of "parity of status" between the two nations.
But such a position is only illusionary and is often beyond the pale of reality. In international trade more especially in bi-lateral trade the results are different. On the other hand as has been clearly proven in case of this particular Agreement Sri Lanka was a genuine beneficiary in other ways (to be described in detail later)
The Facts
A leading Sri Lankan Economist, Dr. Saman Kelegama pointed out recently at a seminar on the Agreement that consumer goods of Indian origin had a demand in Sri Lanka even prior to the Agreement. He proceeded to mention imports such as Motor Cycles, Jeeps, Buses and Three wheelers besides others such as pharmaceuticals, tractors, office equipment and, textiles.
Dr. Kelegama added that some of these products were originally imported from Japan. But once the Indo-Lanka trade began to progress in the 1980’s, an import diversion occurred. An alternative source of imports in the form of India emerged.
In a crux, whilst imports of such products from Japan decreased there was concurrent increase of them from India.
This shift in sourcing did not cause any harm to Sri Lanka. It did however lead to a widening of the trade deficit with India. Such changes took place after this country liberalized imports in the late 1970’s. On the other hand there was also a partial liberalization of the Indian economy beginning the mid 1980’s in addition to a refreshing export promotion drive which she launched during that time (particularly through Indian Export Promotion Councils). These developments heralded the start of a journey of growth which yet continues unabated.
If you also look at the overall external trade picture of Sri Lanka say for over a decade we have had repetitive trade deficits with bigger economies with which we regularly conduct trade namely China, Japan and Singapore. On the other hand Sri Lanka enjoyed a trade surplus with the US and the EU. But this fact hardly attracts attention.
ISFTA - further insights
It is a fact that Indian exports to Sri Lanka for a period of 8 years from 2000.- 2008 have shown a big increase. In 2000 it was a mere US$ 600 million but by 2008 had increased to US$ 3443 million. Though much less in terms of trade turnover Sri Lanka’s exports too increased substantially – from US$ 58 million in 2000 to US $ 418 million in 2008.
The question is could Sri Lanka’s increase be attributed to the FTA? Yes, to a high degree should be the answer when considering the new Tariff factor, though novel exports also had a role in the increase. As had been pointed out in an Institute of Policy Studies concept paper, in a preamble to a Seminar held a few months ago, whereas Sri Lanka’s exports in 1999 were under 555 Tariff lines they had expanded to 1062 by 2005 thereby helping an export product range in crease, from its traditional base like Cloves, Pepper, Scrap Steel and Fruits.
The new products exported following the tariff changes included insulated wires, cables, pneumatic tyres, ceramics, vegetable fat and oil and furniture. The new range is reflective of value addition, a much sought after modern marketing and product development objective.
Non Tariff Barriers
It should however be observed that Sri Lanka’s exports to India, despite the Tariff concessions, faced difficult obstacles in the form of non-tariff barriers (NTBs).
India has a complex set of rules relating to entry of export products, both at seaports and airports. India also has non-tariff rules that are at times exclusive to a particular state. The later impeded internal transfer of foods from one state to another.
The Case of Vanaspathi and Copper
Of course one could be easily deceived by statistics relating to Sri Lanka’s increase in exports to India under the ISFTA unless one examines them closely. Such examination will reveal that just two products Vanaspathi and Copper had a 50% share of the exports.
To put this situation in a different perspective and in terms of the actual export revenue generated for the period 2000 to 2006 if earnings from these two were taken out the total, exports would have amounted to US$ 278 million in 2006 from the US $ 58 in 2000 which year marked the true take off of the FTA. Clearly the exports of these items followed the advantage that those connected to the manufacture/trade of these items took of in terms of the MFN – Most Favoured Nation Tariff, namely its differentials applicable to India and Sri Lanka.
Dramatic Decline
The last 5 year period of trade between the two countries saw a dramatic decline. Sri Lanka’s export turnover declined from an all time high of US$ 400 million in 2009 whilst Sri Lanka’s imports which had hit a peak of over US $ 3000 million in 2005 had reduced to a little over US $ 1500 million by 2009.
As regards Sri Lanka’s exports the drop followed India’s removal of MFN status for Vanaspathi exports. A similar situation arose in case of copper too. A new regulation came into being, defining that imports should conform to prices stipulated by the London Metal Exchange.
In overall terms the steep drop in Indo-Lanka trade could also be attributed to the dramatic drop in prices of crude oil and metals, a direct outcome of the global economic crisis which severely impacted on these and many other products.
The Investments Following FTA on Both Sides
Despite the deep decline in trade between the two nations being a feature of the ISFTA during the last five years, a significant compensatory factor largely arising out of it was the equally steep rise in both direct and indirect Indian Investments in Sri Lanka.
Equally important though not on the same scale and depth were the bold manufacturing and other ventures established in India by a few Sri Lankan firms. One particular such development could be termed a landmark.
Brandix one of Sri Lanka largest textile industries, established the Brandix India Apparel City a 1000 acre apparel complex at Visakhapatnam. This was indeed a watershed in terms of local foreign investment. Similarly the progress achieved by a leading furniture firm, Damro is yet another notable feature as a result of the ISFTA, from Sri Lanka’s point of view. Two other leading Sri Lankan firms Aitken Spence & Jetwing also invested in India, taking advantage of ISFTA and also the potential that the tourism sector has afforded following given the restoration of peace in Sri Lanka.
Indian Investments
The rapid rise in Indian investments in Sri Lanka since the beginning of the ISFTA in 2000 is significant. That year only about 30 Indian firms had invested in Sri Lanka. By 2008 this figure had increased nearly fourfold and more 120 Indian firms had investments in Sri Lanka. Such investments were estimated at Rs.3 billion.
Some 67% of these investments were in the services sector signifying the vital importance of services especially telecommunications, in the local economy. Of the other sectors food beverages and tobacco, metal machinery and Transport, manufactured products in that order have been the main ones. Also importantly, a considerable portion of the revenue of Sri Lankan airlines has been from the Indian market whilst two Airlines from India. Kingfisher and Jet Airways have commenced operations in the country thereby facilitating travel between the two countries. This is a key facet of bi-lateral economic activity.
The above forms the main features of trade and investments between the two countries. Besides, it should be borne in mind that another US$300 million worth Indian investments are in the pipeline. Currently India is the second largest investor in Sri Lanka and she is next only to Malaysia in this regard.
Final Observations
a. The ISFTA as the foregoing report shows has benefited the Sri Lankan economy despite the trade balance being continuously in favour of India.
b. Sri Lanka has not been able to penetrate the Indian market adequately and perhaps our small export base or our limitations in terms of products is a pertinent factor in this regard.
c. On the other hand we need to examine more vigourously the reach and depth of our exports in India.
d. There has never been a sound and in-depth examination of Indian markets. Perhaps this is needed as a matter of priority in order to identify what other products apart from those which are already exported could enter that country. The State Agencies connected to export promotion should play a major role in this regard.
e. One need to always bear in mind the economic changes in India and her demographics - the upward mobility and the purchasing power of its 250 million middle class.
f. Trade and investments with India should take precedence in terms of our overall ties with her. We need to take lessons especially from major economic powers like the US and UK besides other emerging and powerful economies like Brazil in this respect.
g. There is a general clamor among nations to have closer economic ties with an economic giant in the making like India. Her big market should be a constant stimulant to Sri Lanka.
h. It should also be a matter of logical and sound thinking that proximity to a friendly economic giant is clearly advantageous and should be exploited from a marketing perspective.
i. It is equally logical that foreign investors to this country would be from nation’s proximal to it. They perhaps have more access and reach to local markets and are aware of conditions prevalent, than those far away. In this respect India is our closest neighbour.
j. The elimination of NTB’s in India should be considered important and Sri Lankan negotiations should lay focus on this element in the future.
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