The Global Trade War: Can India walk the middle path?

Donald Trump isn’t the first American president to promise a harder line in dealing with China. But he is the first to make a Trade War sound like a renegotiation of rent. Which in this case, is renegotiating terms for access to America markets. “When people or countries come in to raid the great wealth of our nation, I want them to pay for the privilege of doing so.”[2]

The US and China have been engaged in a bitter trade conflict for the past year and a half. It started in May 2018 when the Trump administration imposed a 25% tariffs on $50 Billion worth of Chinese goods. Mr. Trump’s reasoning behind this was to curb Beijing’s “unfair trade practices” and bring down America’s trade deficit with China. The Chinese Commerce Ministry responded by imposing retaliatory tariffs on $34 billion worth of American goods and accused Washington of unleashing the biggest trade war in economic history. This has pitted the two largest economies in the world, that account for nearly 40% of global GDP against each other.

The Chinese are not the only ones taking the brunt of President Trump’s “America First” policy. India was hit by tariffs on aluminum and steel exports last year. Moreover, Washington evicted New Delhi from the Generalised System of Preferences, a scheme that offers tariff-free access to certain goods from developing countries as a spur to development [1]. The primary reason for this according to Mr Trump, was that India was not providing “reasonable and equitable access to its markets,” a necessary condition of the scheme [1]. In response to this, India imposed tariffs on 28 products imported from the US.

The fallout of such a negative shock to world trade can be different across regions. It begs the question as to what impacts could be felt by India? The US-China trade dispute and other protectionist policies that have come as a result of it present both an opportunity and a challenge as per a report published by DBS Bank titled “Trade War and India: Five Factors to Watch”.

The trade war has lead to trade conflicts and protectionist policies by various countries dominating the global economic narrative. If this trade war continues to escalate further. it will have far-reaching consequences for the world economy and global trade. The chief economist of the International Monetary Fund (IMF), Gita Gopinath has gone on record to state that not only tariffs
but “prolonged trade-policy uncertainty” is damaging the world economy [5].

The report published by DBS Bank suggests that India could increase its trade footprint in the midst of this conflict, particularly under categories for which Washington has imposed tariffs on Beijing such as household electrical goods. It is interesting to note that the report rubbishes any claims of India being immune to disruptions in world trade. It points to the fact that in spite of Indian exports accounting for only a small share of global exports, they bear a high correlation with the latter.

Arguments that welcome the trade war point that firms have been looking to relocate manufacturing operations for a while. Labor costs in China were following an upward trend. A significant reason for firms not wanting to disturb the status quo was the logistical problems and uncertainty associated with relocation [3]. Relocating manufacturing involves factors such as initial set-up costs, infrastructure and connectivity [3]. However, trade tensions and falling revenues have forced firms to find an immediate solution.

At first glance, India would seem the ideal location to benefit from such a change in the business climate. Demographically, it has one of the youngest populations in the world with a median age of 30, with 65% below the age of 35. Firms entering the Indian market aim to do so to reap the benefits of comparatively lower costs associated with labor. For example, the average minimum wage for contract workers in India is $ 148 per month and $234 in China [4]. And while labor costs do vary to a certain degree across the country, it still remains cheaper relative to that of China [4].

Policymakers have argued that this can play a crucial role in the country, reaping the benefits of its young population. An economy the size of India cannot depend solely on agriculture to be the main contributor to employment. With a labor force of more than 500 million, finding employment opportunities to cater to such a large segment of the population presents a massive challenge to policymakers.
A majority of the labor force is employed in the informal sector. These jobs often result in lower productivity of workers; i.e: the value added to the final output from such jobs is lower than that of an individual employed by a manufacturing or services firm. Hence, a greater amount of FDI coming into the manufacturing sector would result in greater employment opportunities in sectors contributing greater output to the GDP. Moreover, this can result in greater skill level of the youth. Along with developing an industrial base across India in the form of transfer of technology, this presents India with a unique opportunity to increase the share of manufacturing in GDP, whilst already having a robust services sector.

The government recently announced a reduction in corporate tax rates to 15 % for new manufacturing companies. It is seen by many as a clarion call for Foreign Direct Investment (FDI) by firms relocating manufacturing from China. The government’s ‘Make in India’ initiative has been lauded for its vision. Its success has been mainly limited to the production of smartphones. Apart from trade, diversion in the flow of investment is an opportunity that can benefit India. FDI from America jumped to 6 % of total investment flows in 2018. There has also been a rise in FDI coming in from China [6]. Analysts are of the view that this trend will continue as the country continues to streamline FDI regulations.

Data suggests that with a 1 % change in global exports, Indian exports tend to change by half as much. Hence a scaling back of global trade due to the trade war is a pertinent risk for Indian exports. Keeping in mind that the Indian economy is facing a slowdown, the report concludes that domestic policies need to be accompanied by sustained reforms to counteract global uncertainty [6].
However, several roadblocks remain. The newly announced corporate tax rates are amongst the lowest in the world. Nonetheless, there remains a massive amount of red-tapism in terms of bureaucracy, rigid labor laws, delayed land acquisition, and inadequate infrastructure. In addition to this, there is a crisis gripping the banking sector. Rising bad debts resulting in mounting non-performing assets are manifesting themselves in the falling growth rate of recent quarters. Keeping in mind the fact commercial banks contribute nearly 90% of the economy’s commercial credit, it is easy to see why investor confidence has plunged. There also exists the unpredictability of Trump, who last year had been calling India the “tariff king”. But this year is negotiating a deal to boost bilateral trade, particularly in the sale of arms.

Thus, the trade war marks a major transgression from the trend of globalization and free trade that have characterized the beginning of the 21st century. However, India stands as one of the few countries that can gain from it. Deciding to align between the two largest economies in the world would lead to more negative fallouts. It needs to be able to find a middle path that can safely be tread. Instead of engaging in a tit-for-tat trade war, with a combination of tacit diplomacy, economic reforms and balancing geopolitical interests, it can arrive at a mutually beneficial solution.

2.The Economist, “On your Bike”.

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