MFN and India – prudent liberalisation or trade blasphemy?

A common fallacy is that the MFN status is considered a term that translates into a complete opening of barriers to another country, however that is not quite the case. India granted Pakistan the MFN status more than a decade ago and despite that trade from Pakistan to India has not gained much leverage. This is mainly due to the fact that the granting of the MFN status does not translate into converting the trade regime to become preferential towards a particular country, open or accessible. It merely means that the trade policies of a country will formally give the same treatment to the MFN country in terms of tariffs and regulations that it gives to the rest of the countries on its trade list. Trade from Pakistan to India has been largely restricted due to the fact that there have been high non-tariff barriers which have restricted import from Pakistan. However the latest composite dialogue between the two countries seems to provide a glimmer of hope for improving trade relations between the two neighbours.
Secondly, it needs to be understood that while Pakistan and the government is pursuing a policy of liberalising its trade regime with India that does not translate into the country sidelining the Kashmir issue, a fact re-iterated by sources in the Commerce Ministry. Critics might argue that the present regime will be biased towards its own policies however we need to take into account the possible benefits for Pakistan by increasing bilateral trade with India. This year total exports of Pakistan rose to over $25 billion while imports increased to a phenomenal $40 billion. This implies that the trade deficit of the country has widened excessively to over $15 billion, due to which it will incur balance of payment woes. More importantly Pakistan will have to finance this deficit from the foreign exchange reserves that in the absence of the IMF funding are inadequate despite crossing the $18 billion mark this year. Increased trade has tremendous benefits and the Indian market of over 1 billion will provide the local businessmen with an opportunity to expand their businesses across the region. A major hurdle in the low inter-regional trade of South Asia is due to the acrimonious relationship between Pakistan and India. Given that trade between the two countries has accounted for one per cent of either country’s global trade, we can employ the gravity model – an analytical tool used by trade economists to estimate trade flows – to estimate the “peace dividend” or in other words, what would have been the trade between the two countries had they not been engulfed in military confrontation. During the period between 1948 and 2000, conflict between the two countries had a tremendous impact on aggregate trade between Pakistan and India. According to the gravity model employed by a World Bank report, the statistics or in other words the peace dividend, would have resulted in an enormous 405 per cent increase in bilateral trade which the two countries have foregone due to bitter relations. The gravity model further estimates that for instance in a particular year say 2000, the recorded trade between the two countries was $117 million then in the absence of bitter relations, this trade would have been $591 million in that particular year, paying off a peace dividend of $474 million.
In the recent meetings between the Commerce Ministers of both the countries a number of positive steps have been taken to change the status quo. Firstly it was a momentous achievement by the Foreign Ministry, the Commerce Ministry and the officials to get India to de-link Pakistan’s EU trade deal with the MFN condition. An outcome of the meetings between the two countries was that it was mutually agreed that India would remove its objections to the EU unilateral trade concession offered to Pakistan last year in the wake of the devastative floods. EU offered Pakistan specific tariff concessions in the form of autonomous trade preferences under which 75 Pakistani products would benefit from duty free access to European markets. These trade concessions however required a WTO waiver. EU applied for the WTO waiver. The waiver request enjoyed the support of 150 of the 152 members of WTO. India out rightly opposed it and Bangladesh expressed certain reservations demanding compensation. While designing the package, EU adopted a win-win approach which is to say that they tried to ensure that there were little if any consequent commercial disadvantages for EU member states or other trading partners of the EU such as India. Incidentally India at no stage claimed that its trade with the EU will be disadvantaged with this trade package. In an interview conducted previously with Pakistan’s ambassador to Belgium, Luxembourg and the European Union, Jalil Abbas Jillani said that since these concessions were Pakistan specific and not available to all other WTO members on an MFN [most favoured nation] basis, therefore the EU was obliged to seek a waiver from the WTO. India opposed it on grounds that granting of this waiver will set a wrong precedent for the WTO system as a whole for the future. However, he said that the WTO system and law has the provision for a waiver precisely because it was visualised that there would be times when individual member countries would need to be given waivers to cope with extraordinary circumstances and the 2010 floods in Pakistan were globally acknowledged as such circumstances. With the recent developments, it is expected that Pakistan will now be able to secure the Pak-EU trade deal. However, surprisingly the joint statement released after the meetings between the Commerce Ministers, made no mention of the EU trade deal. Moreover, our sources in Geneva have also confirmed that the EU secretariat in Geneva have not received any formal intimation in this regard. Commerce Ministry officials however have pointed out that developments and formal intimation in this regard by the Indian officials would be made soon.
According to a study employing the Peterson Institute for International Economics (PIIE) gravity model, total trade between the neighbouring countries of India and Pakistan have a potential to increase to a phenomenal $42 billion from the current levels of $2.1 billion if certain roadblocks are sincerely addressed.
Pakistan has of late expressed its desire to grant India the MFN status. Similarly India has also expressed its sincere intention to remove the high tariff rates for goods of supreme importance to Pakistan such as textiles, leather, mineral onyx etc. However trade can only improve if the transport linkages between the two countries that remain relatively poor and make trade between the two countries costly are enhanced. These include railway and road connections which remain to be inadequate along with sea shipment that is mainly constrained by bureaucratic inertia, red tape and political opposition. Furthermore visa constraints and regulations on modes of payments and cumbersome customs procedures further limit the scope of trade. According to a fellow at PIIE at present Pakistan accounts for less than 0.5 per cent of India’s trade while India accounts for a little over 1 per cent of Pakistan’s total trade. Relationship between Pakistan and India has remained fragile over the years however it needs to be understood that there is great potential for trade between the neighbouring states.
Officials within the Commerce Ministry of Pakistan have revealed that there has been a drastic change of stance in the official foreign policy regarding India. Firstly both the countries have realized that war is not an option. Secondly being two nuclear powers they realized the importance of address their issues through diplomatic channels. Thirdly both the countries realized the potential of paving way for enhanced trade. With the freedom of media in both the countries such an approach has gained popularity.
Following the attack on the Indian parliament the situation between the two states went from bad to worse that brought the countries on the brink of a nuclear confrontation in 2001-2002. However what is most important to note is that these tensions greatly reduced the economic activities in both the countries and as the fissures widened between the leadership, it had a negative impact on businesses in India. As a result, the business community of the country put pressure on its government to de-escalate tensions with Pakistan. The rising tensions also resulted in a 30 per cent increase in Indian military spending which effectively gave rise to public debt. As a result of the deteriorating relationship with neighbouring Pakistan, the fiscal deficit increased from 4.9 per cent in 97-98 to 6.1 per cent in 2001-2. While growth in India recovered mainly due to a recovery in agriculture however the export sensitive manufacturing sector witnessed growth of only 2.7 per cent.
Given the above statistics it is clear that there is great trade potential for both countries most importantly due to the fact that Pakistan and India almost account for 90 per cent of South Asia’s GDP. Therefore low trade volumes between the two states is an impediment to growth of the South Asian region. According to data available on the UN Comtrade database, South Asian trade increased from $12 billion in 1980 to $126 billion in 2005, while East Asia which is a region of almost comparable size in population and GDP, witnessed its trade increasing from a paltry $48 billion in 1980 to well over $1 trillion in 2005. A world bank report states that over the same period, intra-regional trade as a share of total trade in the South Asian region registered an increase from 3 per cent to 4 per cent however, East Asia managed to increase its trade share in excess of 14 per cent. The same report went on to state that South Asia, is the least integrated region of the world.
Soon after partition almost 70 per cent of Pakistan’s trading transactions were with India, while 63 per cent of Indian exports were to neighbouring Pakistan. The need of the day now is to build upon the recent gains from the composite dialogue process. The approach of the policy makers therefore must be to ensure that firstly the security situation between both the countries improves along with a better political environment and most importantly a permanent solution of the long standing Kashmir conflict, with the mandate of the UN and a consensus amongst the citizens of Kashmir.
The dividends of building upon the composite dialogue would be great as it would not only improve trade but also create more opportunities for improving the investment climate in both the countries. A longer term achievement of the composite dialogue would be improved coordination of economic resources along with an increased focus on financing investments in human capital and infrastructure development by cutting down on expenditure that is at present being allocated to defense. A three pronged strategy to enhance trade relations by continuing trade liberalisation through tariff rationalisation, exploiting SAFTA agreement to increase trade volumes and thirdly, economic cooperation in the fields of trade and investment. As far as granting India the MFN status is concerned according to a World Bank report there are three options for Pakistan which are, gradually expanding the positive list; replacing the positive list with a short negative list, or completely eliminating the positive list to India. As far as India is concerned it needs to take measures to remove Indian non-tariff barriers that at present are hindering Pakistani traders from exploiting the Indian market. It also needs to ensure anti-smuggling measures whereby Indian products are smuggled into the Pakistani market. Converting informal trade to formal trade therefore remains to be the key in this regard.
However, a failure to make amends by both the parties over the years has resulted in the countries suffering from low trade volumes that has contributed to hampering trade in the region. What needs to be understood is that the two countries are not impervious to the possibilities of trade but sincere efforts need to be made to benefit from the untapped potential that will reshape the future of South Asia.

The writer is News Editor, Profit. He can be contacted at [email protected]