Balance of Payments! Read this article to learn about Balance of Payments: Mechanisms, Components, Disequilibrium, Measures and Challenges Before Indian Foreign Trade.
Balance of Payments: Mechanisms, Components, Disequilibrium, Measures and Challenges
Balance of Payments – Introduction
Balance of payments of a country is a “systematic record of all economic and commercial transactions between the residents of the reporting country and residents of foreign countries.” This account is for a period of time, normally one year. These transactions are as between residents of one country with those of other countries.
Balance of Payments – Mechanisms
Balance of payments is maintained on a double entry system with credits and debits of equal size. For every transaction, there is corresponding entry on both the credit and debit sides. Exports are indicated as a credit for outflow of goods on Current Account. Similarly a corresponding entry of debit for claiming on a foreign company or country or increase in foreign assets or claims on foreigners. Imports are indicated debit item for the inflow of goods and the credit item for being paid out are shown by increase in foreign liabilities, reduction of foreign assets or outflow of funds or claims on us.
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In this way, for every credit/debit entry on Current Account, there is a corresponding entry on capital account to match the former. Unilateral transfers include gifts, donations etc. There is no corresponding payment or change in assets or liabilities due to unilateral transfers. The contra entry is donations or gifts on the debit side and for the credit; it is the flow of goods from out of the country. Generally all debits are not matched with credits due to differences in sources and timing of events. If there is discrepancy then a balancing entry is made as errors and omissions.
Balance of Payments – Components
Components of Balance of Payments are as follows:
A. Current Account:
Current account, deals with only those transactions of current nature which are resulting in incomes or expenditure and not leading to asset formation are recorded. Current account includes the following sub-heads (a) Transactions of merchandise of visible items of goods, namely, exports including re-exports and imports, (b) Transaction on invisible account, namely, foreign travel, transportation, banking, insurance and other services, interest, dividends, royalties, Government Embassy expenditures, etc., (c) Unilateral transfers like gifts, donations, charities, etc., (d) Non-monetary gold movements. All the above items can take place on private account or government account and may be subject to government restrictions or controls, if any.
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B. Capital Account:
Capital account deals with those transactions which are short-term capital inflows and outflows for private purposes, official purposes or banking purposes. Private flows of capital include private company remittances for working capital purposes to subsidiaries or branches of foreign companies or short-term loans, grants, etc., from foreign banks, international financial institutions, foreign government etc. These short-term flows may be for investment purposes or speculation on private account or for compensatory purposes on government account. There can also be banking funds which are also included for short-term purposes.
Long-term capital movements also include private or governmental transactions. The private flows include loans and advances granted to private parties (Buyers’ credit), investment in shares, bonds, debentures, etc., by Indians abroad or by foreigners in India, investment in joint ventures, consultancy, turn-key projects, deferred payment credits, etc.
Such flows on official account also take place through governments or governmental agencies or financial institutions in India are also involved in these flows on official account. These flows or transactions include lines of credit, foreign government loans, credits, grants etc., for private long-term purposes.
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The capital account provides a framework for the changes in foreign assets and liabilities of the country. It also affects its creditor/debtor position. An excess of foreign assets over foreign liabilities shows a net creditor position and vice versa. Net changes in current account are reflected by a corresponding and opposite change in the capital account, changing the foreign assets and liabilities position of the country.
Current account is like an income and expenditure statement with surplus of deficit in it transferred to capital account which is like a balance sheet. If all these accounts do not tally, errors and omissions are added to balance the corresponding column of balance of payments. In an economic sense, a country has a surplus or deficit in its balance of payment, when its transactions other than those merely financing the real transactions are not in balance.
Balance of Payments – Disequilibrium
Disequilibrium in balance of payments means long period deficits or surplus in the current account of balance of payments of a country.
Balance of payments is a statistical record of all economic transactions visible and invisible between the residents of the economy and rest of the world during a specific period of time usually one year.
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Disequilibrium in balance of payments refer to the difference between receipts and payments as revealed by sectional accounts of varieties of items in various group and not in total debits and credits in the balance of payments as a whole because it will be always in balance as per rule of double entry system of book keeping.
Disequilibrium in balance of payments may be in form of surplus or deficit. It is surplus in balance of payments when total receipts from the rest of the world exceed the total payments and in deficit if a country’s receipts from foreigners fall short of payments to foreigners.
Any disequilibrium (a deficit or a surplus) in the balance of payments when it persists continuously is certainty undesirable because of its disastrous effects on the country’s economy and orderly world trade. Some of the important measures to correct surplus in balance of payments include revaluation, exchange, appreciation, boosting imports by reducing import controls. However, disequilibrium in form of deficit in balance of payments is more harmful to a country’s economic growth and is therefore to be corrected sooner than later.
India’s Foreign Trade:
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India’s trade growth (in US dollar terms) has been robust at 20 per cent plus since 2002- 03. While India’s trade growth has a strong correlation with world trade growth, it has been significantly higher than world trade growth particularly in two time periods, first just following the 1990 reforms and second after 2003. Unlike many other countries, the global recession only slightly jolted the continued upward growth in India’s export sector with exports rising at a reasonable rate of 13.6 per cent in 2008-09.
The compound annual growth rate (CAGR) for India’s merchandise exports for the five-year period 2004- 05 to 2008-09 increased to 22 per cent from the 14 per cent of the preceding five-year period. However, in 2009-10 export growth was negative at (-) 3.5 per cent, partly reflecting the effect of global recession and partly the higher base effect due to lagged export data of 2008-09. Despite this negative growth, India’s ranking in the leading exporters in merchandise trade which slipped marginally from 26th in 2007 to 27th in 2008 improved to 21st in 2009.
The various policy initiatives taken by the RBI through a hike in the all-in-cost ceiling for improving the trade credit mechanism, enhancement of the limit on overseas borrowings by banks, extending the line of credit as well as swap facility to Exim Bank, have helped in easing the pressure on trade financing.
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This is further corroborated by the increase in share of short-term trade credit (both inflows and outflows) in overall gross capital flows while share of inflows increased from 10.9 per cent in 2007-08 to 15.6 per cent in 2009-10, share in outflows increased from 9.6 per cent to 15.8 per cent during the same period.
However, this shows reasonably good overall picture for the whole year. However, some of the difficulties through which the export sector went down in the 12 crisis ridden months. In the case of India, the rebound in export growth from the second half of 2009-10 and early 2010-11 was as sharp as the earlier fall, partly reflecting the low base and partly global trends. Some deft handling by the Government on the export front also lessened the pain for the exporters in these trying months.
Though export growth decelerated from July to November, 2010 after high spurts from February, 2010 to June, 2010, cumulative export growth in April-December 2010-11 was good at 29.5 per cent with cumulative exports reaching US$ 164.7 billion during this period. Current indications are that India will not only achieve the target of US$ 200 billion but surpass it in 2010-11.
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Export growth in dollar terms decelerated in 2008-09 while in rupee terms it exhibited an opposite movement reflecting the direct effect of the high depreciation of the rupee by 12.5 per cent. In 2009-10, while export growth in dollar terms was negative, in rupee terms it showed a very marginal increase due to the marginal depreciation of the rupee by 3.1 per cent.
In 2010-11 (April-December), export growth was robust both in dollar and rupee terms, the latter being slightly less due to the appreciation of the rupee by 5.0 per cent. Import growth movements in dollar and rupee terms exhibited similar movements during the same period.
The deceleration in export growth in rupee terms in 2009-10 was not only due to the large deceleration of growth in unit values to 1.0 per cent compared to 16.9 per cent in 2008-09 but also due to actual decline in quantum by 1.1 per cent compared to the 9 per cent growth in 2008-09.
This was mainly due to the negative growth in both volume and unit values of manufactured goods. Export volume of food and food articles like rice, coffee, spices, and oilseed cake also fell (though their unit values increased) mainly due to supply constraints and policy interventions like ban on exports in the case of non- basmati rice.
The net terms of trade, which measures the unit value index of exports as a proportion of unit value index of imports, improved by 12.3 per cent. This was despite the very marginal positive growth in unit value index of exports as the growth of unit value index of imports was negative for the first time in this decade at 10 per cent.
Income terms of trade, reflecting the capacity to import, grew at 11 per cent like in the two 2007-08 and 2008-09. But unlike the earlier two years this was due to the high favourable growth in net barter terms of trade while export volume growth was negative for the first time in this decade.
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India’s share in world merchandise exports has started rising since 2007 albeit by a very slow 0.1 percentage point so as to reach 1.3 per cent in 2009 and 1.4 per cent in 2010 (January-June). This was mainly due to the relatively slow rise or greater fall in world export growth than India’s. The increase in China’s share of world exports between 2000 and 2009 at 5.8 percentage points is 50 per cent of the total increase in the share of emerging and developing countries over this period, while India’s rise in share of 0.7 percentage points forms only 6 per cent of the total increase. However, China’s export growth rate which was above 25 per cent in this decade till 2007, moderated to 17.3 per cent in 2008 and became a negative (-) 15.9 per cent in 2009 due to global recession. It improved to 35.1 per cent in the first half of 2010, following the general trend, as a result of recovery and low base effect.
India’s export growth was also negative at (-) 15.2 per cent in 2009 but recovered to 35.3 per cent in 2010 (January-June). While Russia’s export growth in the first half of 2010 at 51.4 per cent is very high, standing at (-) 35.7 per cent in 2009, its fall had been equally great with Russia’s share in world exports falling from 3.0 to 2.5 per cent.
Measures to Control Deficit
Some of the important methods to overcome deficit in balance of payments include the following:
(i) Devaluation:
Devaluation means lowering of the value of the domestic currency in terms of foreign currencies. When the value of domestic currency decreases in terms of foreign currencies, the local commodities become cheaper in the international markets, i.e., the exports increase. It is, however, necessary that the other countries should not devalue their currencies and that the devaluation must be reflected in increase in exports and decrease in imports. Devaluation policy is successful subject to satisfaction of certain conditions.
(ii) Deflation:
Deficits in balance of payments are caused by increase in imports. The aim of deflation is to curtail the demand for foreign goods. Deflation means fall in prices and incomes. Reduction in money income will bring about a fall in the demand for imported goods. Deflation should, however, be used very cautiously because it leaves a trail of unemployment and fall in wages in the economy.
(iii) Exchange Control:
Exchange Control refers to the regulation of exchange rates by the Government and also the restriction on the conversion of the local currencies against foreign currencies. Exchange controls may be direct or indirect depending upon the international trade conditions. The major forms of exchange controls are intervention and restrictions.
(iv) Import Duties and Quotas:
The most common method of deficit Control is to impose duties or tariffs on the imports. Import duties reduce the demand for foreign goods considerably and thus, release pressure on the foreign exchange. It should, however, be remembered that the imports of essential consumer goods and crucial raw material cannot be stopped altogether, unless the country develops sufficient power to produce them domestically. Domestic industries may also be protected through tariffs.
Thus, unfavourable balance of payments (especially deficit) can be corrected by promoting exports and curtailing imports, foreign collaborations, encouraging FDI and remittances in the country, foreign loans, counter trade etc.
Challenges before Indian Foreign Trade
Important challenges for India’s trade sector are as follows:
1. Challenge of Becoming a Major Player in World Trade:
The challenge for India is to achieve a share in world trade commensurate with its size. Despite making great strides in its export growth with 20 per cent plus growth continuously from 2002-03 to 2007-08, India has not made much progress in terms of the share in world trade. While India’s exports were higher than those of China till 1954, they started lagging thereafter. In 1990, shares in world exports of China and India were 1.8 per cent and 0.5 per cent respectively and in 2009, their respective shares stood at 9.7 per cent and 1.3 per cent.
If India can attain at least half of China’s share in world exports, the impact on its employment and manufacturing activity will be enormous. While trade policy measures, shift in focus to some markets and some products, trade facilitation, tariff reforms, etc. have helped in some measure, if India has to achieve a substantial share in world exports, a big push will be needed.
2. Challenge of Real Diversification of India’s Exports:
While India has diversified its export basket as well as export markets over the years, substantial diversification in tune with world demand has not taken place. This can be seen by matching India’s exports with the top 100 imports of the world at the six-digit HS level.
The exercise based on PCTAS data 2010 (data for 2008) shows that India’s presence in these top items of world demand is negligible except for a few items such as diamonds and jewellery, oil cakes, t-shirts, men/boys trousers, flat rolled iron products, and maize (corn). There are many electronic, electrical, and engineering items (the three Es) in the top 100 imports of the world where India’s presence is negligible.
3. Challenge of Increasing Export Competitiveness:
India’s export competitiveness is being challenged not only from China and the South East Asian countries but also from the newly emerging Asian countries, less developed countries like Bangladesh, and small countries like Vietnam in items like textiles. At macro level, the two major determinants of export competitiveness are the exchange rate and inflation reflected in the real effective exchange rate (REER). As per the RBI, there has been a distinct divergence between the movements of six-currency and 36-currency REER indices so far during 2010-11. While the six-currency REER remained above base level by 16 to 20 per cent, signifying higher inflation differentials with these economies, the 36-currency REER largely remained below or around base level, implying that inflation in India has been comparable to or below the levels prevailing in its trading partners in the developing world.
4. Challenges Related to Tariff Reforms:
India has been progressively lowering peak customs duty. The fall in peak duty has not led to the collapse in revenue collections. The duty cuts have neither wiped out the domestic manufacturing sector nor resulted in large-scale unemployment. The data show that progressive peak duty cuts have been accompanied by rise in customs duty collections. However, further bold tariff reforms with minimum revenue loss are needed to reach levels comparable to those in ASEAN both for peak rate as well as total duty.
The proliferation of FTAs in the world is characterized as the ‘spaghetti bowl’ in which trade crisscrossed in a complex fashion between countries based on tariff differentials and complicated rules of origin. In recent years, India too is a part of many regional and bilateral groupings. While there are benefits from these FTAs for Indian exports, in some cases the benefits to the partner countries are much more, with net gains of incremental exports from India being small or negative.
FTAs also lead to a new type of inverted duty structure with duties for final products being lower from FTA partners compared to duties for the previous-stage raw materials imported from non-FTA countries. This acts as a disincentive to local manufacturing which is not competitive against FTA imports because of the inverted duty structure phenomenon.
6. Challenges related to services trade:
Services trade is uncharted territory with plenty of opportunities and challenges. A more conducive environment for trade in services can be created by liberalizing FDI in services as FDI inflows and trade in services have a close relationship given the nature of intra-firm trade of multinational parent firms with affiliates; rationalizing taxes in services like shipping and telecom; going forward with totalization agreements; streamlining domestic regulations like licensing requirements and procedures, technical standards, and regulatory transparency which can help in the growth and export of services; and continuing with the focus on services in multilateral and bilateral negotiations.
These, along with systematic marketing of services, collection and dissemination of market information by setting up a portal for services, streamlining the services data system, and a more focused, coordinated, and synchronized policy by the different agencies involved, could help the services sector make further strides.
Export Promotion: Steps, Need, Obstacles, Role of Government and Suggestions
Export Promotion:
Sufficient foreign exchange is required for the economic development of the country. It is required for the imports of necessary plants and technologies. Similarly, there is need of foreign exchange to fulfill other import obligations. Therefore, there is urgent need to earn more and more foreign exchange through export promotion to minimize the adverse gap on balance of payments.
Export promotion means export encouragement. Under this process, encouragements and incentives are given to existing exporters and new exporters for export promotion.
In practice following form of steps are generally taken for export promotion:
(i) To give cash subsidy to exporters.
(ii) To direct the commercial banks to give adequate credit to exporters.
(iii) To give permission for import of some capital goods, other plants and machineries and other necessary raw materials in exchange of export obligations.
(iv) To give subsidy in railway freight and shipping freight for sending the goods for export.
(v) To allow deductions in terms of custom duty, income tax and other taxes to exporters.
Need for Export Promotion in India:
Due to following reasons, we need export promotion:
1. To correct unfavourable Balance of Payments:
India’s external trade is generally affected by adverse balance of payments and thus, there is decline in foreign exchange reserve. It creates problem in implementation of economic planning. So export promotion is a tool to correct the adverse balance of external trade and earn larger foreign exchange base for giving dynamism to Indian economy.
2. To Reduce Foreign Loans:
Increasing demand of foreign exchange for planned economic development and adverse foreign trade has forced the Government of India to resort for foreign loans. Effective export promotion policy helps in earning of foreign exchange to meet out the repayment of loans and their interest obligations etc.
3. To get Development Project Successful:
To meet out the growing need of foreign exchange for import of machineries and other equipment etc. the governments have to provide sound base for export promotion. With this way we can earn foreign exchange to get the projects completed in time and ensure the accelerated economic development of the country.
4. To get International Market for New Products:
Planned economic development programmes have enabled the innovators and entrepreneurs to produce new products. So they need international market for these products. Export promotion incentives encourage them to go for international market and earn foreign exchange for the country.
5. To Make Economy Self Reliant:
Self-reliance in every field is necessary for sustainable economic development. If we are able to produce everything in the country there may be continuous decline in import burden and foreign loans. Thus, earning maximum foreign exchange is necessary for attaining self-reliance.
Role of Government in Export Promotion:
The government has been assigned to play its role in export promotion in following way:
1. Board of Trade:
The government of India has established Board of Trade to study the problem of external trade and monitor the policies from time to time.
The Board of trade is also responsible to give its suggestions to the government on following affairs:
(a) Development of goods
(b) Expansion of Production capacity
(c) Reform in Export Marketing structure and channels
(d) Arrangement of trade services of trading community with regard to export programmes.
2. Export Promotion Councils:
Various Export Promotion councils have been established by the government of India to seek co-operation of consumers’ producers and exporters in export trade and ensure mutual coordination among these parties. These councils are also responsible for providing consultancy services and suggestions to producers. At present these export promotion counselling are available in the areas of cashew nuts, cotton textiles, silk, leather and leather products, jewellery, diamonds, plastics, spices etc.
3. Commodity Boards:
Different commodity Boards have also been established by the government of India to promote production and development of different commodities. These are mainly related with Tea, Coffee, Spices rubber and Tobacco etc.
4. Export Inspection Councils:
The Government of India has established various Export Inspection Councils under Export Quality Control inspection system for ensuring quality control in exportable goods. The main function of the councils is to inspect the goods before their loading so that only quality goods are to be exported. It will ensure the protection of brand, goodwill and prestige of the exporters and country both in the field of export trade.
5. Establishment of Indian Institute of Foreign Trade:
The Government of India has established Indian Institute of Foreign Trade in 1964. It is responsible for providing training to manpower for foreign trade. It is also engaged in conducting market survey and research.
6. Establishment of Export Credit and Guarantee Corporation:
It was established in 1964. The main function of the corporation is to undertake insurance for export related risks. It also provided export credit facilities to exporters.
7. Establishment of Trade Development Authority:
It was established in 1976 the main function of this authority to motivate entrepreneurs of small and medium size institution for larger exports. It is also responsible for facilitating other activities with regard to export business.
8. Export Processing Zone:
The Government of India is providing all facilities for the establishment of export processing zones. It is an important export promotion plan. Production units working under Export Processing Zones are responsible to ensure hundred per cent of their production.
9. Indian Council for Trade Fairs and Exhibition and Directorate of Commercial Publicity:
It is responsible for organizing industrial and trade fairs and exhibition in the country as well as in foreign countries. It also helps in providing necessary information of Indian goods to agencies involved in import of Indian goods in foreign countries. The Directorate of Commercial Publicity, Government of India also provides cooperation and coordination as a supplement agency in foreign trade.
10. Establishment of Various Corporations:
The Government of India has established various corporations to work as a channelizing agency in import and export business. These are State Trading Corporation (STC), Minerals and Metals Trading Corporation, Project and Equipment Corporation, Handicrafts Export Corporation etc.
11. Trade Agreements:
Trade agreements are playing very important role in improving the volume of export business. Association of South East Asian Nations (ASEAN), European Economic Community (EEC), and South Asian Association for Regional Cooperation (SAARC) has been promoted to ensure smooth functioning of the trade agreements.
12. Establishment of Marketing Development Fund:
It was established in 1963 to provide financial assistance and support to manufacturers engaged in production of exportable items and goods. Assistance is also given to those who are producing Indian goods in foreign countries.
13. Establishment of Export-Import Bank:
The Government of India has established EXIM Bank in 1982 with a capital outlay of Rs.200 crores. It provides credit facilities to exporters and importers.
14. Other Measures:
The Government of India is also providing following facilities for export promotion:
(i) Cash Compensatory Support Scheme.
(ii) Customs Duty Concession.
(iii) Duty Drawback Scheme.
(iv) 100% Export Oriented Unit Scheme.
(v) Direct Tax Concession.
Obstacles in Export Promotion:
Major obstacles in Export Promotion are given below:
(i) Foreign Competition:
Indian goods in foreign countries are facing tough competition. Exporters are facing difficulties in selling their commodities. The Bangladesh is the toughest competitor in jute products. The cotton textiles are facing completion from China and Japan. The Sri Lanka and Indonesia are also providing sincere competition in tea.
(ii) Defective Policies of Indian Exporters:
Policies being pursued by the Indian exporters are also creating problem in export promotion. The biggest problem is that Indian exporters are not sending goods as approved in sample. Importers return the goods and by this way prestige of country is affected adversely.
(iii) High Price:
Cost of production of Indian goods in most of the cases is quite high. Actually higher cost of production makes the Indian exporters out of the market. The China is quite successful in supplying goods at competitive costs. Sometimes, Government of India is forced to compensate the loss of Indian exporters due to higher cost of production as they export their goods under export promotion scheme.
(iv) Substitute Products:
Traditional items are dominating the list of goods being exported by the country to foreign countries. Now these items and goods have substitutes in international market and adversely affecting the export performance of these goods, Jute bags are being replaced by plastic bags. Artificial silk is replacing the demand of cotton textiles.
(v) Tariff Policies:
Many countries have imported higher import duties and fixed the import quota on Indian goods and thus there are declining demand for Indian goods in these countries. About two third of total exportable goods are being affected by this mechanism.
(vi) WTO Effects:
In the era of globalization, countries are required to adjust with the competitive conditions prevailing over the globe. Developing countries specially India are facing problems with regard to export promotion as they cannot subsidize their exportable items and providing incentives for export is also against the WTO agreements. India is signatory of all these agreements so it cannot subsidies export except to motivate exporters for becoming more and more cost effective and competitive.
Suggestions for Export Promotion:
Main suggestions for export promotion are given below:
(i) Export Marketing Research:
Indian Trade Association and Indian Institute of Foreign Trade have involved themselves to give more thrust for market research and identify the countries where export of Indian goods is feasible. Production Schedule and Export plans are to be formulated by keeping the results of above market research.
(ii) Improvement in Quality and Designs:
To compete with foreign producers Indian manufacturers are required to improve quality and designs of their products. They have to give more emphasis on quality control process. These exercises enable the importers to get quality products and also help in the export promotion programme.
(iii) Cost Competitiveness:
Indian manufacturers are required to control their cost of production. Effective Production behaviour and control on wasteful expenditure will reduce the cost of production. It will improve the cost effectiveness as well as strengthen the competitive position of the exporters.
(iv) Wide Publicity:
Efforts should be undertaken to give wide publicity about the new products and existing products by the exporters. Reliable and effective advertisements may improve the image of the exporters as well as demands of the products. Government corporations like STC and MMTC should also be involved in the process of publicity of Indian goods in foreign market.
(v) Incentive to Export Promotion:
Government should try to give more infrastructural incentives for the production of exportable items to avoid the provisions of the WTO agreements. Establishment of Special Economic Zones is viable decision to improve the export performance. Easy availability of raw materials and Power etc. will improve the production base as well as competitive strength of the exporters.
(vi) Trade Agreements:
Bilateral and Multilateral agreements are necessary with those countries that are imposing ban or restrictions on export of Indian goods with the help of these agreements; we can easily enter the desired market and improve the volume of export.
Import Substitution: Efforts, Benefits and Suggestions
Import Substitution:
Import substitution means production of those goods in the country itself which are being imported from foreign countries.
Efforts for import substitution include the following:
(i) If domestic supply of goods is not available in the country then efforts are made to create production capacity or create or develop new sources of production of importable goods within the country.
(ii) If domestic supply of a product or goods is not adequate then efforts are required to expand the supply or production of goods in the country.
(iii) To protect the domestic industries from foreign competition if domestic industries are making loss due to competition or there is increase in foreign supply in the country.
Import substitution become the main basis for the formulation of economic and trade policies. Shortage of foreign exchange due widening gap in the import and export can be reduced by producing more goods or their substitutes in the country itself.
Benefits of Import Substitution:
Major benefits of import substitution are as follows:
(i) It reduces import.
(ii) It eases the problem of foreign exchange.
(iii) It reduces foreign dependence.
(iv) It corrects balance of payments.
(v) It ensures forward move towards self-reliance.
(vi) It improves employment position by establishing more production capacity or production units.
Suggestions to Improve Import Substitution:
Following suggestions are to be implemented to make the import substitution more effective:
1. Priority should be given to production of those goods which are not being produced in the country. For this purpose foreign collaboration should be encouraged in each and every desired segment.
2. Incentive for import substation should be allowed on the lines of cash incentive scheme.
3. Concessional funding arrangement should be given to those production units which are engaged in production of goods under import substitution.
4. Import duty should be reduced with reference to goods under import substitution.
5. Exemption in custom and excise duties should be given in case of raw materials used for production of goods under import substitution.
6. Concessional tariff policy should be formulated for import of coal etc.
7. Necessary exemptions should be allowed in income tax, sales tax and additional depreciation for production of goods under import substitution.
Counter Trade: Forms, Rationale and Limitations
Counter Trade:
It refers to mutual trading relations between two parties under certain conditions. It indicates the trade in which goods are purchased by one party subject to purchase of some other goods by other party from the first one. Thus both parties are expected to work as purchaser and seller for each other, in this way, counter trade may define as a trade in which goods are purchased from the seller only when the seller is agrees to buy some other goods from the purchaser also.
The counter trade policy is popular in international trade when settlement of payment of imports of goods is made through the export of goods in place of money payments. The whole business is based on barter trade. It is exchange of goods of one country against goods of other country.
Forms of Counter Trade:
Main forms of counter trade are as follows:
1. Barter Trade:
It is most popular form of counter trade. The basic principle of the deal is the exchange of goods for goods. The amount involved in payment of export goods is to be received in terms of goods and services from importing country. Both countries are involved in outflow and inflow of goods and services. Cash payment is not involved in the deal at all.
2. Buy Back:
It is a long-term arrangement for payment having larger amount. It is generally available in capital goods industry like process plant, mining and exploration equipments etc. In buy back arrangement, supplier of capital goods, plant and equipment etc. agree to receive the payment in terms of future output of the concerned investment. As per buy back deal, the importer of plant and equipment etc. agree to pay the exporter by sending the future output of the proposed investment at a later stage.
3. Counter Purchases:
It deals with the mutual consent to receive payment of export goods through purchase of goods and services from the importer at a later stage. It is generally available in export of raw materials and import of necessary goods and services having demand in the domestic market. It is collaborative arrangement between the channelizing agencies meant for export and import of goods and services.
4. Switch Trade:
Sometimes, bilateral agreement between two countries create credit surplus of huge amount in favour of one country that is called as first country. Thus, second country has to pay the credit surplus to the first country at a later date. First country also imports goods and services from the third country and has to pay the same to third country at a later date.
But practice of switch trade helps the three countries at the same time. Now first country having credit surplus with second country can transfer its surplus in favour of third country. This process enables the third country to buy goods and services from the second country using the transferred credit surplus from first country. Under this process, second country is under obligation to sell its goods and services to third country clearing the credit surplus of first country.
Rationale of Counter Trade:
Rationale of counter trade is given below:
(i) It helps in expanding the international market base for goods and services of participating countries.
(ii) It increases the volume of business and promotes the concept of laterism.
(iii) It solves the problem of international liquidity.
(iv) It controls the fluctuations in exchange rates of currencies of participating countries.
(v) It helps the exporters and importers to gain foreign contracts for future sales.
(vi) It facilitates the identification of low cost purchasing sources.
(vii) It provides an excellent mechanism to enjoy the entry into new markets.
(viii) It avoids the situation of bad debts.
(ix) It develops mutual trust and better customer relationship.
Limitations of Counter Trade:
Main limitations of counter trade are as follows:
(i) It creates problem in multi-laterism process of international trade.
(ii) It prefers export and import of goods and services in bulk trade.
(iii) It restricts the free flow of goods and services and avoids competitive environment in international trade.
(iv) It encourages excessive expansion of tradeable goods.
(v) It fails to provide best and competitive price to exporters.
Special Economic Zones (SEZs): Performance and Problems
Special Economic Zones (SEZs):
India recognized early the effectiveness of the export processing zone (EPZ) model in promoting exports, with Asia’s first EPZ set up in Kandla in 1965. With a view to overcome the multiplicity of controls and clearances; absence of world-class infrastructure; and an unstable fiscal regime to attract larger foreign investments in India, the Special Economic Zones (SEZs) Policy was announced in April, 2000.
The SEZs in India functioned from 1 November, 2000 to 9 February, 2006 under the provisions of the Foreign Trade Policy and fiscal incentives were made effective through the provisions of relevant statutes. The SEZ Act 2005, supported by SEZ Rules, came into effect on 10 February, 2006, providing for drastic simplification of procedures and for single window clearance on matters relating to Central as well as State Governments.
The SEZ Rules provide for different minimum land requirements for different classes of SEZs. In addition to seven Central Government SEZs and 12 States/private-sector SEZs set up prior to the enactment of the SEZ Act, 2005, formal approval has been accorded to 580 proposals out of which 374 SEZs have been notified. The performance of SEZs has been reasonably good despite some criticism.
Performance of SEZs in India:
SEZs are becoming increasingly important in India’s exports.
The performance of SEZs is mainly examined in three areas, exports, employment, and investment:
(i) Exports:
A total of 130 SEZs are already exporting. Out of this 75 are information technology (IT)/IT enabled services (ITES), 16 multi-product and 39 other sector specific SEZs. The total number of units in these SEZs is 3139. The physical exports from the SEZs have increased by 121 per cent to Rs.2,20,711 crore in 2009-10 with a CAGR of 58.6 per cent during 2003-04 to 2009-10 compared to the CAGR of 19.3 per cent for total merchandise exports of the country for the same period. When the whole world including India was reeling under the effects of the global recession, growth in exports from SEZs was 121 per cent in 2009-10 compared to a paltry 0.6 per cent growth in total exports from India.
Exports during the first three quarters of the 2010-11 have been to the tune of Rs.2, 23,132 crore. The share of SEZs in India’s total exports has increased consistently from 4.7 per cent in 2003-04 to 26.1 per cent in 2009-10 and 29.7 per cent in the first three quarters of 2010-11.
One of the criticisms SEZs face is that exports are mainly from the old SEZs which were formerly free trade zones (FTZs) and not from Greenfield SEZs. It is interesting to know that not only have many greenfield SEZs started exporting but also the exports of new SEZs, i.e. SEZs notified under the SEZ Act, 2005, have grown rapidly over the years resulting in the highest share of 53.4 per cent for this category in 2009-10 compared to Central Government SEZs and State Government/private SEZs established prior to the SEZ Act, 2005.
(ii) Employment:
Out of the total employment of 6,44,073 persons in SEZs, an incremental employment of 5,09,369 persons was generated after February, 2006 when the SEZ Act came into force. At least double this number obtains indirect employment outside the SEZs as a result of the operations of SEZ units. This is in addition to the employment created by the developer for infrastructure activities.
(iii) Investment:
The total investment in SEZs till 31 December, 2010 is approximately $ 1,95,348 crore including $ 1,91,313 crore in the newly notified zones. In SEZs 100 per cent FDI is allowed through automatic route. The Government’s role has been more as a facilitator by fast tracking the approvals rather than providing any direct monetary support. SEZs being set up under the SEZ Act, 2005 are primarily private investment driven.
Problems before SEZ Programme:
Industrial units working under SEZ development programmes are facing following problems:
1. Land acquisition programme in 2008 created problems for the developers who started setting up SEZs. Demand was good and abundant capital available. So there was a rush to set up SEZs as most developers hoped to attract sufficient clients. That turned out to be an over-estimation. Singur and Nandigram erupted and reframed the debate on land acquisition.
Till then, the government had been buying land for industry, often on the pretext of ‘public purpose’ and at sub-market prices, lending credence to the charge of SEZs being a ‘land play’. Amid mounting public backlash, the government stopped purchasing land. Industry had to now negotiate with landowners and also pay market prices.
2. Due to recession in the globe in 2008 and still today cash evaporated from the world economy, including India. Real estate prices tumbled and developers fell into a debt trap. They had no money to build, and with the apparent land arbitrage in SEZs gone, they had less reason to build one.
3. The draft of the Direct Tax Code (DTC), which was released in late-2009, has also created tax implications for the entrepreneurs working under SEZ Programme.
4. The budget 2011-12, shows that the commerce and finance ministries pulling in different directions. No income tax for SEZs became history. Finance Minister Mukherjee, citing equal sharing of the corporate tax liability and foregone revenues of Rs.8,614 crore, slapped a 18.5% minimum alternative tax (MAT) on SEZs, he also levied a 15% tax on dividends declared. This has affected out cash flows of SEZ’s.