Act East, court West: Trade agreements with the EU and US cannot be a substitute for close ties with our Eastern trade partners

By Devasmita Jena & Swati Saini

After initially showing interest in joining Asia’s mega-trade agreement, the Regional Comprehensive Economic Partnership (RCEP), India finally stayed away, citing concerns about ballooning trade deficits with China and the Association of South-East Asian Nation (ASEAN) countries, from signing the mega-deal.

India’s decision to stay away follows growing scepticism with regards to our trade partnerships with other Asian economies. Today, there is a strong view that trade agreements with the Asian countries, which were signed as part of India’s Look East (and later, Act East) Policy, have benefited only the partner countries. A 2018 Niti Aayog policy note argued that partner countries have successfully reduced their import-export ratios, while India’s exports to these countries have remained muted. Parallelly, India has initiated a review of India-ASEAN FTA (AIFTA) and is working towards concluding an FTA with the USA and European Union (EU).

Does the evidence on trade warrant such a radical shift from ‘look East’ to ‘look West’?

If we use the trade deficit as the only yardstick to answer this question, the answer may well be yes. India has a favourable trade balance with both the EU and US after all. But such a view, focused on just one narrow yardstick, is myopic, as it does not take into account the overall impact of trade relations on the economy, and considers trade deficits as unambiguously and universally harmful. It may be more useful to look at a broader metric to assess the impact of trade ties on the Indian economy. One such metric that captures both the growth and distributional impact of trade is employment.

In a recently published research paper, one of us has attempted to examine the impact of India’s trade ties with major eastern and western partners through the lens of employment. The research suggests that the long-run impact of exports to both the West (EU plus USA) and the East (RCEP region) is positive in terms of employment gains. But contrary to the mainstream view, the negative effects of imports from the RCEP region on industrial sector employment appear to be insignificant.

Within the RCEP region, there is a clear divergence between gains from trade with China and trade with ASEAN countries. While India’s trade with ASEAN has been employment enhancing, with China, it has had a negative impact on employment. India’s imports from China are mostly concentrated in labour-intensive industries such as textiles, manufacture of non-metallic mineral products, machinery and equipment, and electrical and optical equipment. Moreover, India’s exports to China (mainly agricultural industry) seem to have displaced unskilled labour in favour of skilled labour. With ASEAN, the story has been different.

India’s labour-intensive imports, especially in food products, beverages and tobacco industry, have been used as inputs by Indian exporters, and have, therefore, aided growth in India’s exports and export-oriented employment. However, the growth in such exports has been slow.

India’s trade with the US and EU has had a mixed impact on employment over the past two decades. India exports labour-intensive products, such as electrical machinery, medical and optical equipment, mechanical appliances, textiles, wood products, etc, to the US and imports capital-intensive products such as chemical and chemical products and rubber and plastic product. Hence, India-US trade ties have on balance been positive for India’s employment prospects. In the case of India-EU trade, there hasn’t been any positive impact on employment. This could be because India’s share in the EU’s imports has been small, at roughly 2%. India also imports labour-intensive products, such as paper and paper products, non-metallic mineral products, machinery and equipment, electrical and optical equipment, etc, from the EU, which would have, therefore, displaced local labour.

The empirical evidence suggests that it is in India’s interest to pursue an ‘Act East’ policy to boost India’s employment potential. This potential could rise in the coming years as Asia grows at a faster clip than the West. Trade theory also suggests that trade partnerships with countries sharing common borders, maritime links, culture and ethnicity are likely to be more successful than with others.

Deeper integration with Asian neighbours also makes strategic sense. India can import intermediate and capital goods at internationally competitive prices. This, in turn, will improve the productive capacity of India’s industrial sector and can make Indian exports competitive, thereby generating employment opportunities. If India wants to take part in reshaping global value chains, it can ill-afford to ignore ‘Factory Asia’. It should pursue a policy of closer integration while simultaneously carrying out structural reforms to bridge the competitiveness gap with Asian peers.

Trade agreements with the EU and US cannot be a substitute for close ties with our Eastern trade partners. India should reconsider RCEP and strengthen ties with ASEAN even while negotiating FTAs with the USA and EU. To make the most of its trade ties, India should intensify intra-industry trade with its East-Asian partners to entrench itself in global value chains while simultaneously exploiting export markets in the West. India can make bigger gains in the West if it has stronger ties in the East.

Jena is a lecturer, Madras School of Economics and Saini, assistant professor, economics, Delhi University. Views are personal