The Hindu : SAFTA: Trade or development?

Online edition of India's National Newspaper
Monday, Jan 05, 2004

Opinion

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SAFTA: Trade or development?

By Nagesh Kumar

To exploit SAFTA's full potential, the SAARC countries need to complement it by a customs union and then gradually move towards an economic union.

AT LONG last, the SAARC region seems to be heading towards a Free Trade Area, SAFTA, that is an initial step in the evolution of the South Asian Association for Regional Cooperation as a regional trade bloc and an economic union. There is much speculation about its favourable effect on intra-regional trade. Is promotion of trade the only rationale for the recent trend of regionalism all over? Regional economic integration is more about finding an engine of growth rather than trade. Countries — developed as well as developing — have started looking at regional economic integration as a means of strengthening their international competitiveness and as an engine of economic growth in recent years.

By removing strong trade policy barriers to intra-regional trade, SAFTA would lead to expansion of intra-regional trade. By conservative estimates, it may help in trebling of the proportion of intra-regional trade, making it look more respectable compared to a marginal 4-5 per cent as of now. By making it possible to trade directly rather than through third countries, it would also lead to savings of substantial value for the region. However, expansion of mutual trade, saving of freight costs etc., should be seen as the spill-over rather than the real gains from the creation of SAFTA.

The new-found interest in regional trade arrangements (RTAs) the world over is about exploiting the potential of efficiency-seeking restructuring of the industry to take advantage on a pan-regional basis rather than promotion of trade. These efficiencies lead to generation of income and hence could be valuable drivers of growth.

The experience of the European Union suggests that the formation of the Single European Market led to a substantial restructuring of industry on a pan-European basis and hence enabled it to exploit the economies of scale, scope and specialisation. RTAs are also about investments and have led to concentration of FDI inflows in them. In the post-WTO world, RTAs enjoy additional advantages as they can still use the instruments of policy to deepen their industrial structure such as rules of origin under exemptions provided under Article XXIV, which are not permissible to other WTO members. Hence, the formation of trade blocs has been followed by tariff jumping FDI inflows, and mergers and acquisitions as outside MNEs have attempted to secure their access to the markets. Hence, the share of RTAs in global FDI inflows has gone up.

Therefore, RTAs are not about trade as much as investment and industrial restructuring although they also create trade. Will SAFTA lead to such industrial restructuring?

The answer is yes if one goes by the results of limited experiences with trade liberalisation in the region. The Indo-Sri Lanka bilateral FTA for instance, even within a short period of less than three years of implementation, has led to a lot of dynamism in the intra-regional investments. Similarly, India-Nepal FTA of 1996 spurred some Indian companies to shift production of common consumer goods of every day use such as toothpaste for the north-Indian market to Nepal. As a result these items emerged as some of the most important items of Nepal's exports to India.

Thus, SAFTA may help in evolving a horizontal specialisation across the region to enable the most optimal utilisation of the synergies of the member countries for their mutual advantage. Sri Lanka may well emerge as the region's hub for rubber-based industries, Bangladesh for energy-intensive industries and Bhutan, forest-based industries, and so on. The other lesson that comes out of recent experiences of regional economic integration in South Asia, as elsewhere, is that relatively smaller and poorer countries benefit more from RTAs. India-Sri Lanka FTA has brought down the trade surplus of India with the country from 8.6:1 to 4.9:1 in just two years. Therefore, RTAs lead to convergence in the levels of development. Regional economic integration will also make member countries, especially the smaller ones, more attractive destinations for third country investments by obviating the constraint of small domestic market.

Therefore, an agreement to form SAFTA taken by the leaders of the region is a step in the right direction. However, to exploit its full potential for efficiency-seeking restructuring of regional economic integration, they would need to do further work to complement SAFTA by a customs union and then gradually move towards an economic union. The regional economic integration in South Asia could generate billions of dollars of new income, employment, trade and could help the region in its fight against poverty.

(Dr. Nagesh Kumar is Director-General, Research and Information System, a Delhi-based policy think-tank specialising in trade issues. The views expressed here are his own.)

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