Lately, India has taken several steps aimed at building up its manufacturing sector capacities, lost to non-strategic trade and investment liberalisation under the WTO and free trade agreements (FTAs). In this context, the news about NITI Aayog advocating that India join the Regional Comprehensive Economic Partnership (RCEP), the 15-member mega-trading bloc, warrants attention. India had quit the RCEP negotiations in 2019 following widespread understanding that a deal would have a significant negative impact on the economy.

Ironically, the government is also reportedly reviewing the existing FTA with ASEAN, after acknowledging the damage it has caused to the domestic manufacturing base. The same arguments employed in the 2000s to rationalise the FTA with ASEAN are being advanced to advocate a re-think on RCEP. One of the key arguments here is that India’s participation in FTAs will enable it attract FDI and integrate into global value chains, improving exports in the process.

ASEAN experience

The experience with ASEAN FTA has been that imports from the partners have grown faster than Indian exports to their markets. Yet, we are repeatedly told that India will be able to achieve significantly higher export growth by entering into even larger free trade zones. RCEP includes not only the 10 ASEAN member-countries but also Australia, Japan, New Zealand, South Korea and China. Even in the absence of a full-fledged FTA, India already faces a humongous trade deficit with China and we are struggling to counter China’s manufacturing and technological prowess built over decades of policy support.

India’s weak export performance across several manufacturing industries indicates that driving exports through liberalised import of parts and components is unsustainable. Sustained export growth will happen only by building and upgrading indigenous manufacturing and technological capabilities. However, policy discussions on extending meaningful support to the private sector for R&D spending are yet to translate into coherent action.

There is also no basis in the argument that India’s participation in FTAs enables it to attract more FDI into manufacturing. The ASEAN FTA has led to erosion of economic incentives for MNCs to establish local production, or to expand and upgrade existing production in India. This is because a region-wide FTA makes it ever easier for GVC (global value chain) lead firms to consolidate their value chain segments in their existing locations across partner countries, and import them duty-free into India.

Getting RCEP out of the way has thus been a critical factor behind any successes the government can claim for policies like Make in India or the Production-Linked Incentive (PLI) schemes. Particularly in the strategically significant electronics industry, policy focus has been on attracting some of the principal actors in GVCs to include India in the ongoing realignment of their supply chains. Liberalised trade under region-wide FTAs provides ever greater flexibility to MNCs to source components from their existing affiliates and suppliers in FTA partner countries, and will therefore dis-incentivise foreign component manufacturers to relocate to India or expand/upgrade their local production.

Domestic manufacturing

Critically, they will also derail domestic component manufacturers’ investment and expansion plans, through which we can reduce import dependence and improve domestic value addition. These arguments will apply to other industries such as telecom, pharmaceuticals, medical devices, and renewables as well, in all of which the government’s professed aim is to build strategic domestic capacities.

Meanwhile, the popular discourse treats GVC integration as an end in itself, without examining the implications of the nature of integration. There’s a large body of empirical evidence to show that long-term beneficial impact to the host economy through MNC-led technology upgradation efforts is largely determined by the manner in which policies induce domestic backward linkages from foreign affiliates, for the substitution of imported intermediate goods and services.

One of the popularly used analytical frameworks defines that a country can increase its GVC participation through both greater ‘backward integration’ and greater ‘forward integration’. The former is defined as foreign value added (which are imports) in a country’s exports and domestic sales, and the latter is defined as domestic value added going into its exports.

However, increased imports in an industry that gets captured as higher foreign value added estimates for that industry necessarily leads to lesser scope for increasing domestic value added, when these imports end up displacing domestic production and backward linkages within the economy.

Clearly, without building up domestic backward linkages and indigenous technological capabilities, there is less scope for increasing the level of domestic value added that can go into India’s exports.

A transition towards greater value addition requires new thinking around the design of coherent policies that leverage our domestic market, for which supportive trade policies are a prerequisite. These FTAs do not fit in with India’s priorities for improving and sustaining domestic value addition and employment opportunities.

The writer is an economist based in Delhi

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