Potential for India-Pak Trade 10 Times Current Amount, Says Study

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By Sujeet Rajan | February 1, 2013 4:42 PM EST

Civilian, military, and business leaders on both sides of the India-Pakistan border have long resisted normalizing trade with their historic rivals. But two new reports commissioned by the New America Foundation's National Security Studies Program from leading Pakistani economist Mohsin Khan and leading Indian economist Nisha Taneja argue that economic analysis reveals massive untapped trade potential between the two countries, which leaders of key manufacturing sectors in both nations now understand.

Both reports demonstrate the removal of tariff and non-tariff barriers could result in an expansion of trade between the two countries from its current value of 2 to $2.5 billion to estimates ranging from $20 to $50 billion.

New America Foundation is a nonprofit, nonpartisan public policy institute in Washington, DC, that invests in new thinkers and new ideas to address the next generation of challenges facing the United States.

Though the Pakistani and Indian governments have recently made moves toward improving trade relations - exemplified in Pakistan's granting of Most Favored Nation (MFN) status to India, business owners in both countries still fear the political backlash that might occur if they sell their products on the other side of the border. Restrictive visa regimes and insufficient transportation systems across the border continue to depress trade and investment exchanges. Both Khan and Taneja outline reason for hope in their illuminating reports but also note many hurdles will need to be overcome before the historic enemies can claim full economic ties.

Khan's report, India-Pakistan Trade Relations: A New Beginning, acknowledges that Pakistan will have both winners and losers in result of opening of trade relations, but the number of new opportunities it would bring to the country's struggling economy would outweigh any pain that could also occur. For example, Pakistan's automobile and pharmaceutical industry would likely suffer from free trade with India, but the entire nation would gain access to India's more advanced technology and machinery.

Similarly, Taneja, a professor with the Indian Council for Research on International Economic Relations in New Delhi, found three categories with the largest export potential from India to Pakistan are machinery, mechanical appliances and electrical equipment, and chemicals and textiles, accounting for 54 percent of total export potential. At a disaggregated level, the largest potential items include cellular phones, cotton, vehicle components, polypropylene, xylene, tea, textured yarn, synthetic fiber, and polyethylene.

The three categories with the largest import potential to India from Pakistan include textiles, jewelry and precious metals, and base metals, accounting for 45 percent. At the disaggregated level, the items with largest import potential include jewelry, medical instruments and appliances, cotton, tubes and pipes of iron and steel, polyethylene terephthalate, copper waste and scrap, structures and parts of structures, terephthalic acid and its salts, medicines, and sports equipment, she said in her report.

A substantial proportion of India's export potential - 58 percent - is in products that are on Pakistan's negative list for India or on Pakistan's sensitive list applicable to India under the South Asian Free Trade Area (SAFTA) agreement. Similarly, 32 percent of India's import potential from Pakistan is in items on the sensitive list for Pakistan applicable under SAFTA.

Pakistan's negative list indicates that the automobile and component industry is the largest sector that enjoys protection from Indian imports. Overall reduction in tariffs would further benefit the development of the automobile sector that India has witnessed. On the other hand, agricultural items, in which resistance to liberalization is building up, are unlikely to have any impact as this sector has already been liberalized. Pakistan's sensitive list indicates that textiles account for 24 percent of the items on the list, but this sector accounts for only 3 percent of India's export potential of items on Pakistan's list.

India's sensitive list under SAFTA applicable to Pakistan indicates that the textiles sector is protected the most - a sector in which Pakistan enjoys a comparative advantage. Most of the items on the sensitive list are fabrics, which if allowed at preferential (lower) tariffs into India will compete with large firms (rather than small firms) in India that produce comparable quality. Even though these firms are likely to oppose liberalization, there is no rationale to protect large firms.

Taneja says there are also opportunities in the services sectors such as information technology and business process outsourcing, health care, and entertainment. These services would require the movement of people to consume and provide services.

To realize the untapped trade potential between the two countries, several physical and regulatory impediments need to be addressed, she says. The physical infrastructure at the land routes is inadequate even though new facilities have been put in place for cross-border road transportation of goods. The transport protocols between the two countries need to be amended to allow seamless transportation of containerized cargo in each other's territory without the requirement of transshipment of cargo at the land borders. A much larger increase is expected once the road-based positive list is dismantled. Opening of land borders should also be used for linking seaports in both countries. India could also link up with Central Asia through Afghanistan if it were granted transit rights. These measures could bring about a substantial reduction in transaction costs of trading between the two countries.

Non-tariff barriers have been a key issue with Pakistani business people while accessing the Indian market. While there are genuine non-tariff barriers related to the complexity of regulatory procedures, non-transparent regulations, port restrictions, and problems related to recognition of standards and valuation of goods, these are not discriminatory and are being addressed in India's ongoing reform process. It is more difficult to address "perceived" barriers that business people face in entering each other's markets. Business people fear entering these markets as they are not sure their goods will be welcomed. This is more so in the consumer goods market segment. However, there is evidence that some businesses have made a bold entry with their country labels and have not met much resistance. Exhibitions and fairs are an effective way of dealing with these perceived barriers.

Even as tariff and non-tariff barriers are lowered, informal trade is likely to co-exist with formal trade for some time. Third-country traders have played a dual role as facilitators and guarantors of trade transactions between Indian and Pakistani traders. Until business partnerships can materialize through market forces, payments can be ensured, and trust in business relationships can be established, informal trade may not shift to formal channels.

For deeper and stronger trade linkages, it is important that there are foreign investment flows between the two countries. India has now permitted outward flows of investment to Pakistan and inward flows of investment from Pakistan. If a bilateral investment treaty is put in place, it will improve business confidence to invest in the other country.

A key determinant of the realization of trade potential is the liberalization of visas, she says. The revised visa regime provides only an incremental improvement over the existing system. The two countries should move to a more liberal visa regime without compromising on security.

Khan, Senior Fellow at the Rafik Hariri Center for the Middle East, Atlantic Council, says in his report that one of the more significant recent economic developments in South Asia was the revival of trade talks between India and Pakistan in 2011.

"It is clear to most observers that Pakistan's economic development will depend to a large extent on normalizing relations with India to pave the way for South Asian regional economic integration," says Khan. "Facing diminishing marginal returns to traditionally growth-leading sectors, Pakistan is in need of larger and growing export markets to tap the potential of industrial hubs in the south and west (Baluchistan coastline and Karachi in Sindh), in the central belt (Multan, Lahore, Gujrat, Gujranwala, and Sialkot in Punjab), and in the north (Peshawar in Khyber Pakhtunkhwa)."

Trade with India, with its large and growing market, can be an important factor in realizing this goal, he adds. For India, trade with Pakistan is not only advantageous in itself, but would also facilitate trade with Afghanistan, China, Iran, and the Central Asian countries. Thus, for both countries, increased trade with each other would be a win-win outcome, he opines. (GIN - (GIN - AmericanBazaarOnline.com

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