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What’s Holding Back the India-EU FTA?

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What’s Holding Back the India-EU FTA?

India must conclude its FTA with the EU to stay competitive amid larger regional and bilateral FTAs.

What’s Holding Back the India-EU FTA?
Credit: India-EU flags via

The EU-28 is India’s largest trading partner, accounting for roughly 15 percent of total trade in goods and services. It is an important market for India’s export of textiles, apparel, pharmaceuticals, gems, jewelry and IT. The EU is also the largest source of FDI inflows to India, accounting for over one-fourth of the total.

Despite several rounds of negotiations that began in 2007, the proposed EU-India Bilateral Trade and Investment Agreement (BTIA), covering trade in merchandise, services, and investment, is still far from being concluded. The recent EU ban on the import of mangoes from India will further strain the bilateral commercial relationship, which is already troubled due to a series of tax disputes involving European companies.

Given the subdued sentiment around foreign investment and trade currently, restoring growth to its normal level remains at the top of the Modi government’s agenda. This would require a fresh approach toward India’s commerce and trade. It would be pertinent to analyze what is holding back the conclusion of the EU-India trade pact, which possesses immense untapped trade and investment possibilities.

India’s Interests   

Given the contribution of the service sector to GDP (57 percent), India is seeking improved market access in services. India’s interests lie in Mode 1 of the BTIA, which covers information technology enabled services (ITES), business process outsourcing (BPO), and knowledge process outsourcing (KPO), and Mode 4 which covers movement of skilled professionals like software engineers.

A recent Reserve Bank of India (RBI) survey on computer software and ITES exports shows that Europe’s share in India’s software exports declined from 27 percent in fiscal 2008 to 20 percent in fiscal 2013. The share of Mode-4 services in overall software service exports declined from 25 percent in fiscal 2008 to 14 percent in fiscal 2013.

Improved market access in Mode 4 will allow skilled professionals such as software engineers to temporarily reside and work in EU countries. The barriers to Mode 4 include work permits, wage-parity conditions, visa formalities and non-recognition of professional qualifications.

India also seeks a data secure status from the EU, as the high cost of compliance with existing EU’s data protection laws and procedures renders Indian small and medium enterprises (SMEs) un-competitive.

EU’s Interests 

The EU’s demands in India’s Mode 3 services includes further liberalization of FDI in multi-brand retail and insurance, and presently closed sectors like accountancy and legal services. The European banks have been eyeing India’s relatively underutilized banking space. However, the surrender of banking licenses by Goldman Sachs, Morgan Stanley and UBS shows that the burden of priority sector lending and financial inclusion have dissuaded foreign banks from entering India’s market.

India’s intellectual property regime (IPR) is another impediment. Any commitment over and above the WTO’s Trade Related Aspects of Intellectual Property Rights (TRIPS) will undermine India’s capacity to produce generic formulations. It is feared that data exclusivity protection measures (which allow pharmaceutical companies to exclusively retain rights to their test results for a certain period) would delay the supply of Indian generic medicines. That explains India’s opposition to the proposal. European pharmaceutical companies are wary of India’s patents law which prevents “ever greening” – a provision that allows companies to renew patents on old drugs by making incremental changes.

Cars and Wines/Sprits

Again, India has reduced duties on parts and components, and other vehicles, but maintains high import duties on assembled vehicles: 60 percent (75 percent in cars with a free on board (fob) value above $40,000 and an engine capacity of 3000 cc for petrol and 2500 cc for diesel). This protectionism remains the most contentious issue in the BTIA negotiations.

The EU also seeks deeper cuts in India’s tariffs on wines and spirits. They feel that high effective duties and additional state-level taxes inflate the price of imported liquor in India. However duties on wines and spirits are a critical source of tax revenue for the government.

Trade in Agricultural Commodities

Agricultural trade is highly distorted in both the EU and India. Even though average most favored nation (MFN) import duties on agricultural commodities in the EU (13 percent) are much lower than in India (33 percent), the EU’s peak tariff rates on certain products such as dairy (650 percent), fruits and vegetables (156 percent), and sugar & confectionary (133 percent) are more than those in India.

Again, the fishery and dairy sectors in the EU are highly subsidized. There is a fear of EU dairy products flooding Indian markets after the FTA is signed. India wants the EU to cut its agricultural subsidies, while the EU has interest in India reducing tariffs on dairy products, poultry, farms and fisheries. Thus, both India and the EU have strong defensive interests with respect to agriculture trade negotiations.

Reconciling the Differences

To be fair, the EU does not have a single market for labor mobility. Regulations related to work permits and visas differ between members. There were efforts to harmonize the EU market through various directives, but they have met with limited success. Moreover the EU’s unemployment problems have reduced policy space for Mode 4 commitments.

India’s demand for greater market access in Mode 1 and 4 remains dependent on its ability to meet the EU’s demands in Mode 3. Strong opposition and a lack of political will on FDI in retail and insurance undermines India’s negotiating capacity.

Car manufacturers in India, primarily of Japanese and Korean origin, fear that reduced duties on cars under the EU-India BTIA will impact their market share and flood India with European cars. Additionally, there are fears that European automakers will have no incentive to set up a local manufacturing base in India. This is debatable though, as almost all major European automakers already have a manufacturing presence in India.

Could European carmakers compete in India’s compact car segment (comprising 80 percent of India’s auto market) by producing in Europe? Studies show that it’s difficult to succeed in India without a strong dealer network and reliable after-sales service. A prohibitive duty on cars looks unjustified when duties on non-car automobile segments have been substantially reduced. This also deprives consumers of choices.

Improving India’s investment climate is a better way to promote investment and jobs. Similarly, exclusive rights to the commercial exploitation of patents incentivizes research and development and brings in FDI. Thus, India needs to strengthen its IPR regime.

A trade pact is about give and take. Failure to conclude the EU-India BTIA will constitute a large opportunity loss, while trade pacts such as the Trans-Pacific Partnership (TPP) and the Transatlantic Trade and Investment Partnership (TTIP) (which together account for two-thirds of global GDP and one third of global imports) are moving global trade away from MFN routes toward bilateral/regional routes. They are setting new trade rules that would be far more difficult to comply with. This calls for taking a long-term view of India’s trade policy options while negotiating its trade pacts.

The authors are corporate economists based in Mumbai. The views expressed here are their own.