QRs' removal: Fears come true

By Prem Shankar Jha

For eight months I have been expressing the fear in these columns that the removal of all remaining quantitative restrictions on imports is being carried out at a time when it could lead to the de-industrialisation of India. My reasons were as follows: First, QRs were being removed when industry was in a deep slump, and consumer demand was stagnant. This meant that any increase in imports of consumer goods would take place directly at the expense of domestic production. This would squeeze profit margins further, and cause weaker enterprises to fail.

Second, Imports were bound to rise because, at the existing exchange rate of Rs. 46-47 to the dollar, costs of production in India were far, far higher than in the countries of East and Southeast Asia, and especially China. So great was the difference that consumer goods imports had been rising in 2000-01 even before the relaxation of QRs had been completed.

Third, Indian manufacturers of consumer goods had already done their sums and realised that even the 30 to 50 per cent duty that India could levy on most manufactured consumer goods would not suffice to shield them, especially when the higher quality of imported consumer goods was taken into account. There was thus a disturbingly large amount of episodic evidence that Indian companies were planning to source their consumer goods from China and elsewhere in Asia, for sale under their brand names in India.

Fourth, this shift from domestic to foreign sourcing - what is called outsourcing in the voluminous literature on globalisation, and the consequent de-industrialisation of the mature industrial economies - has been made especially easy because of a structural feature that is unique to Indian industry. Thanks to the reservation of the production of most consumer goods for the small-scale sector, our so-called manufacturers are actually only traders. They have invested next to nothing in the manufacturing facility, and therefore have nothing to lose by shifting their source of supply to another company or another country. On the contrary, if they can increase their profit or market share by doing so they would be mad not to do so. That is precisely what some of the largest makers of 'white' and other Fast Moving Consumer Goods have been saying in defence of their decision: "All my competitors are doing it. If I do not, I will be ruined". Fifth, de-industrialisation is likely to be especially rapid because while the marketers are going to China, the actual small and medium scale manufacturers, who relied exclusively on them in the past, have no marketing expertise and therefore will soon find themselves operating blind in this new open environment.

Sixth, these manufacturers are in no position to bring down their costs. The main reasons are high rates of interest, power costs, and prohibitive levels of extortion by an army of petty bureaucrats. They have no control over any of these elements of cost.Finally, devaluation, the only way to make imports more expensive in the short run, is ruled out by India's high interest rates, which are in turn a reflection of its high fiscal deficit and heavy annual borrowing from the household sector. This is something that even the central government is powerless to change. My fears were scoffed at. De-industrialisation is a rich countries' disease, I was told. How can a poor developing country with such low wages suffer from it? Competition and a profit squeeze were, in any case, good for industry. There was too much flab on manufacturing costs - accumulated during years of protected living. Manufacturers would be forced to shed it. If some weak companies folded, so much the better. The rest would emerge stronger.

The clinching argument, however, was that there was no statistical evidence to confirm my fears. QRs on most FMCGs had actually been removed last year. While there had been a sharp increase in imports from China, this had taken place over a small base. Overall, non-oil imports had actually shrunk. This year too, the preliminary data for April, the first month after the removal of all remaining QRs had shown a further decline in non- POL imports of a whopping 14.5 per cent, and no increase in consumer goods imports.

Nonetheless, the Government would keep a close watch on consumer goods imports. To do so it had restricted the import of 300 sensitive items to 14 entry points (labour related) in order to facilitate monitoring. The data for April showed that the import of these 300 items had actually shrunk by 30 per cent.

The arguments sounded persuasive, and I was reassured. Till I examined them more closely. The argument that freer imports and a profit squeeze would be good for industry was pure textbook economics. Its main flaw was the implicit adoption of assumptions drawn from the micro-economic theory of perfect competition - that the policy environment was neutral and that entrepreneurs had control of all elements of cost and were therefore to blame if they could not meet competition from more efficient rivals. Nothing could be farther from the truth in the Indian case. The fact that some of the Government's most respected economists were making it suggested that they did not have the faintest idea of what was actually happening to industry.

A closer look at the import data also shows that the Government's complacency is groundless. First, the import of the 300 sensitive items seems to have come down mainly because routing it through only 14 entry points created bottlenecks. This was tacitly conceded by the government two weeks ago when it lifted the restriction and in effect abandoned the attempt at close monitoring. One will therefore have to wait till the data for June come in, to see what the effect of removing the QRs has been. Secondly, a close look at CMIE's compilation for the import of the 300 sensitive items in April shows that the entire decrease of 30 per cent is accounted for solely by the fall in import of edible oils. Furthermore, whereas the import of agricultural products and some basic raw materials like rubber , has gone down by 39 to 99 per cent, there is an ominous item called 'others' accounting for a quarter of total imports, that has increased by 332 per cent!

To top it off, the episodic evidence of de-industrialisation continues to grow, and is coming together to form a pattern. A survey by a financial daily has shown that almost 1,000 Indian firms have been forced by the slump in domestic demand, squeeze on profit margins, high cost of investment and poor infrastructure, to invest their funds in manufacturing ventures abroad. At least a hundred of them have done so specifically to produce goods more cheaply and of better quality for the home market. The most recent addition to their ranks is the tyre major, Apollo Tyres, which is looking for a firm to buy in China. What is truly disturbing is that Apollo is not the first tyre manufacturer who has gone abroad for a production base or for supplies. Most of the others have already done so and have struck deals to market Chinese light commercial vehicle tyres in India. The reason they have done so is that while an Indian truck tyre costs Rs. 9,000, Chinese tyres can be sold in the domestic market after paying duty , for Rs. 5,000.

The reason why the outsourcing of consumer goods has not yet shown up fully in the import data, is that it takes a year or more to firm up production and supply arrangements and longer to set up production facilities abroad. While Indian officialdom is congratulating itself on the success of its do-nothing policy on the basis of a questionable interpretation of a single month's data, the ground is being laid for the loss of hundreds of thousands, perhaps millions of manufacturing jobs. The Government is waiting for data to filter in that will tell it whether any remedial action is needed. But the danger with relying on statistical trends is that by the time they become apparent the damage has already been done and is usually irremediable. It is in fact a classic instance of closing the barn doors after the horse has bolted.

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