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Preferential Trade Agreements

  • While remaining committed to multilateralism, India like many other countries, has negotiated a series of free trade agreements (FTAs), notably with trading partners in Asia
  •  FTAs have led to increased imports and exports, although the former has been greater
  • the average effect of an FTA is to increase overall trade by about 50 percent over roughly four years.
  • ASEAN FTA has had the greatest impact, possibly because tariff reduction by India has been greater under it
  • results also suggest a bigger impact on metals on the importing side and textiles on the exporting side.
  • All WTO members except  Mongolia have concluded at least one Preferential Trade Agreements,
  • broad category of Preferential Trade Agreements, one can distinguish five forms,
    1. Partial Scope Agreement (PSA): A PSA is only partial in scope, meaning it allows for trade between countries on a small number of goods.
    2. Free Trade Agreement (FTA): A free trade agreement is a preferential arrangement in which members reduce tariffs on trade  among themselves, while maintaining their own tariff rates for trade with nonmembers.
    3. Customs Union (CU): A customs union (CU) is a free-trade agreement in which members apply a common external tariff (CET) schedule to imports from nonmembers.
    4. Common Market (CM): A common market is a customs union where movement of factors of production is relatively free amongst member countries.
    5. Economic Union (EU): An economic union is a common market where member countries coordinate macro-economic and exchange rate policies.
  • IndIa and Free-trade agreements

    • There have also been two regional trade agreements, the South Asian Free Trade Agreement (SAFTA, 2004) and the India-Association of Southeast Asian Nations Agreement (ASEAN, 2010). Outside Asia, FTAs have been agreed with Chile (2006) and MERCOSUR (2004).
    • all FTAs are not the same, and these differences need to be recognized when analyzing their impact.
  • mega-regionalism

    • two major megaregionals are the Trans-Pacific Partnership (TPP), which has been signed but not yet ratified by member countries, and the TransAtlantic Trade and Investment partnership (TTIP), which is currently being negotiated
      • TPP comprises twelve member countries: Australia, Brunei, Canada, Chile, Japan, Malaysia, Mexico, New Zealand, Peru, Singapore, United States, and Vietnam
      • The TPP will cover 40 percent of global GDP2 and 33 percent of world trade3.
      • TTIP, when concluded, will be a PTA between the United States and the European Community of 27 member states and representing “30 percent of global merchandise trade, about 40 percent of world trade in services, and nearly half of global GDP”4.
  • possible impact of the TPP.

    • World Bank estimates that by 2030 the TPP will raise member country GDP by 0.4-10 percent, and by 1.1 percent, on a GDP-weighted average basis, mainly owing to measures to reduce non-tariff barriers.5
    • Vietnam and Malaysia would be amongst the TPP member countries benefiting the most.
    • the Bank also estimates that non-members will suffer a marginal reduction in GDP
    • In India’s case, the effect on exports is marginally positive, but its effect on the country’s GDP is -0.2%
  • Figure
  • to Preferential trade agreement or not to Preferential trade argreements?

    • Any reduction in tariff barriers should spur trade between partners, by offering greater market access for firms and encouraging specialization within industrial subsectors.
    • Trade diversion occurs when tariff preferences offered under an FTA causes a shift of imports from firms in nonFTA member countries to less efficient firms within the trade bloc, which now become competitive due to tariff reliefs.
    • trade flows between countries are directly proportional to the “size” of the two countries – as measured by GDP – and inversely proportional to the distance between them.
      • Distance is a proxy for all trade costs between countries, including not just transport costs, but also those related to language, currency, policy etc.
      • The idea being that countries having a similar language, currency, political system or colonial links are more likely to trade with each other because all costs other than transportation will be lower.
  • maIn results

    • Increased Trade
      • overall effect on trade of an FTA is positive and statistically significant.
    • Persistent Effects
      • within a year of the agreement coming into
      • force, the effect of FTAs become positive and significant, with effects even increasing in the subsequent few years.
    • Especially for ASEAN FTA
      • While ASEAN and the Korean FTA show statistically significant and positive effects on trade values, the effect of the Japanese FTA on trade is not statistically significant
    • Especially for Imports
      • FTA effects on exports and imports separately. They are of the order of 27 per cent and 63 per cent, respectively
      • In case of the ASEAN FTA, the country has benefitted on both sides of trade flows with a statistically significant 33 per cent increase in exports and 79 per cent increase in imports.
      • the Japan FTA has had a significantly negative effect on exports (a fall of 18 per cent) and a statistically zero effect on imports.
    • Especially for Metals and Textiles
      •  FTA tariff reduction in four major sectors: textiles, metals, automobiles and machinery
      • On the import side, a ten percent reduction in FTA tariffs for metals and machinery increases imports by 1.4 per cent and 2.1 per cent respectively, compared to other products from FTA or all products from Non-FTA countries (note this is the marginal effect of importing metals and machines from FTA countries relative to all products from NonFTA countries). However, the effect on auto imports is not significantly different from the comparator group.
      • lines, textile exports to FTA countries increase by 2 per cent relative to comparator group for 10 per cent decrease in tariffs.
    • Disaggregated Effects
      • a ten per cent reduction in tariff increases overall trade by 3.1 per cent, irrespective of whether the reduction occurs unilaterally or preferentially.
      • The trade elasticity reduces to 2.7 per cent for a 10 per cent tariff reduction but continues to have a strong significant effect.
  • conclusIon: PolIcy ImPlIcatIons

    •  India’s FTAs have worked exactly as might be expected.
    • They have increased trade with FTA countries more than would have happened otherwise.
    • Increased trade has been more on the import than export side, most likely because India maintains relatively high tariffs and hence had larger tariff reductions than its FTA partners.
    • On the export side, FTAs have led to increased dynamism in apparels, especially in ASEAN markets.
    •  Multilateral trade liberalisation remains, of course, the best way forward.
    •  In the current context of slowing demand and excess capacity with threats of circumvention of trade rules, progress on FTAs, if pursued, must be combined with strengthening India’s ability to respond with WTO-consistent measures such as anti-dumping and conventional duties and safeguard measures.