FM, Please Close The Dragon’s Maw

Chinese imports are cheap, thanks to an industrial policy that aims to smother all rivals. They threaten India with industrial infanticide. Will the Budget forge a strong defence against this danger?

Do look the Chinese Gift Horse in the Mouth

When GOI presents its Budget 2024 tomorrow, what would be really useful is a focus on forging a new economic strategy, which is now crucial to counter the challenge to investment and growth posed by China’s muscular industrial policy.

On the heels of the 100% import duty on electric cars from China by US, EU has announced 47.5% tariffs on such imports. This would both slow down the energy transition and make it more costly. What is commendable, though, is American and European policymakers recognising Chinese industrial policy’s potential to undermine their own economies.

Such an appreciation is conspicuously missing from the Indian policy discourse. In the run-up to the Budget, Confederation of Indian Industry has submitted three documents to govt: on direct taxes, indirect taxes and economic policy. Together, these mention China only three times, twice bemoaning India’s dependence on China for critical minerals, and once to take note that India has overtaken China as the most populous nation.

At least since the publication, in the 17th century, of Journey to the West, a rollicking Chinese tale loosely based on the travels of Xuanzang to Central Asia and India, the Chinese have been aware of India. India seems to be aware of China only as a military threat, and is content to let imports from China mount, year after year, even as it exports to China barely a tenth of what it imports from that country.

Those who see this as one-sided trade and object to India sustaining such a huge trade deficit with China are only partly justified. On an overall balance of payments basis, India’s current account deficit is small, and the prosperity in many mineral-rich countries generated by huge exports to China, in turn, creates local demand for exports from India. China’s economic heft, thus, helps boost India’s exports to third countries, and contains the overall trade and current account deficits within limits of prudence.

The trouble with the flood of imports from China is not their scale in relation to exports from India. The problem is that China has achieved its stupendous, world-beating export capacity through active industrial policy that has the potential to stunt the growth of industry and manufacturing in developing countries like India.

India has huge ambitions in photovoltaic, semiconductor, electric vehicle and pharma industries. Success in these sectors depends on achieving scale and innovative efficiency in chemicals, steel, electronics, batteries, the minerals that go into batteries, and logistics. Of these, India has a robust capacity in steel, and yet sees significant imports of cheap Chinese steel. Of the rest, China is a dominant supplier to India, including in pharma, with an iron grip on Active Pharma Ingredients, with Indian companies focused solely on converting these APIs into the formulations that doctors prescribe and patients buy.

Since roads, ports and rail tracks are not tradable, India makes these at home, perforce. But the rest are falling prey to Chinese industrial policy. If current needs are met via imports, that would rule out investment for meeting future demand, and depress overall economic growth below the potential.

When we hear policy, we think of strategies and wonks. But Chinese industrial policy translates into billions of dollars of support to domestic industry in strategic sectors. The Centre for Strategic and International Studies, an American think tank, brought out a report titled Red Ink in 2022. It quantifies Chinese industrial policy into dollars of extended support.

Its estimate of China’s industrial policy spending includes nine categories of instruments based on limited data: direct subsidies to firms, R&D tax incentives, other tax incentives, govt-financed business R&D, below-market credit to state-owned enterprises, state investment funds (govt guidance funds), below-market land sales to firms, implied credit advantage among SOEs for their large net payables balances, and debt-equity swaps.

In 2019, such support totalled 1.73% of GDP or $407 billion in PPP terms. The support was no flash in the pan, it had been 1.89% of GDP in 2017, and 1.79% of GDP in 2018.

The problem is neither abstract nor always obvious. A company might appear to be operating entirely within the parameters of market competition – till you notice that $70 billion of its debt has been taken over by a parent SOE. The company might be located on an industrial park built on land given gratis by the state, its workers might have been skilled for free at a state-run institute, it might use tech developed with research grants and subsidies. If such a company then offers a lower price than anyone else operating without such assistance can offer, would you call it superior competitiveness or the gift of Chinese industrial policy?

Indian industry must face fair competition from abroad, and must be made to compete in export markets. But to thwart industrial infanticide at the hands of the Chinese state, Indian industry must be spared the price pressure of Chinese imports. That calls for a dual tariff structure: one set of tariffs for imports from China, which factor in the direct and indirect, market-distorting state subsidy in Chinese imports, and another set of tariffs for the rest of the world.

This, in effect, is what US and EU are doing, and they are not developing countries. India has every right to look the Chinese gift horse in the mouth – it is a gift only to Chinese industry, to smother rivals elsewhere, and achieve global dominance.