President Donald Trump has a way with words. America’s federal income tax department is called the Internal Revenue Service. Trump says he will build an External Revenue Service. It is an appealing concept. Instead of burdening U.S. taxpayers he proposes to tax outsiders. He says America is one of the most open consumer markets in the world, with access given to all exporting countries. But those exporting countries often have high tariff walls protecting their domestic markets. He says that is unfair to America’s exporters. Hence, he has proposed to raise import tariffs to match the exporting country’s tariffs. It’s a tit for tat strategy, which he claims will raise much revenue for America, and punish those who keep their domestic markets protected. 

Never mind that the WTO rules do not allow America to selectively differentiate import tariffs for the same product from different origins. This is called the MFN rule. Never mind that raising import tariffs will hurt the American consumer, since it will raise prices and hence inflation. Trump counters that by saying he will cut income tax, which is not feasible given the huge size of the fiscal deficit.

Never mind that the reason developing countries like India were allowed to have higher import tariffs than countries like the US was to compensate their domestic industries for domestic handicaps like high cost of power, infrastructure, credit and lower labour productivity. This was all a part of the grand design of the World Trade Organization (WTO) to get all on board. India and many other developing countries have enjoyed special and differential treatment for good reason in the WTO. And yet Trump’s threat of reciprocal punitive tariffs has an appeal to the American voter and consumer. It is also true that a country like India, boasting of being the fifth largest economy in the world cannot hide behind high protective tariff walls. High import tariffs do no good to foster competition, nor to Indian consumers who are denied free imports, nor to inefficient industries who thrive in a protective environment.

The Trump tariff proposal gives India an opportunity to overhaul and reduce its import tariffs, at least on those items which are of interest to the US. Such a mutual agreement on tariffs will surely fall afoul of WTO’s MFN rule. But under Trump’s presidency WTO is getting a short shrift anyway and India must calibrate how much it wants to stick to strengthening the multilateral WTO. As such India’s pursuit of several Free Trade Agreements (FTA) reveal a declining confidence in the WTO. 

Reform tariffs, promote competitiveness

The Trump negotiation is a great opportunity to push tariff reform since it will be net beneficial to our export prospects and competitiveness. As such general tariff levels have gone up since 2015 and have drifted up 4 or 5 percent and are for non-agricultural goods on average around 15 percent. Further, the proportion of those tariff lines which have MFN rates above 15 percent has risen to one fourth of all lines. 

The upward tariff drift was justified to incentivise indigenous production under the Make in India scheme, and later as sectoral support for the Production Linked Incentive (PLI) scheme. But the time has come to slash these rates back to what they were before 2015 and progressively move toward a level on par with peers in ASEAN countries. The Trump threat gives India an alibi to do this much needed reform. Just as 1991 reforms were pushed through as part of conditionalities of a loan from the IMF, this tariff reform too could use an “external” justification.

The US is India’s largest trading partner, and this fiscal the exports between April to December have grown at 5.6 percent to reach a level of 60 billion dollars. A substantial contribution is the export of smartphones which will clock 30 billion dollars, including exports to other countries. India has roughly a 45-billion-dollar trade surplus with the US which includes software services export as well. The simple average tariff that India charges on imports, as per WTO data is 17 percent, whereas the U.S. is at 3.3 percent. 

But on a bilateral basis these numbers are likely to be different.  Not a simple average, but a weighted average tariff difference between the two countries is likely to be about 7 or 8 percent excluding agricultural products. A hike in import tariff on India’s exports will hurt steel, aluminium, pharmaceuticals and electronics. But in pharma, as also smartphones, polished diamonds and petro products, the import component is large. So, the net negative impact is smaller.

Trim import duties, boost exporters

India has agreed to increase crude oil purchase from the US which will be factored into the negotiations.  By giving duty free or moderate duty access to Harley Davidson motorcycles or Bourbon whiskey, the loss to India’s economy is negligible. But jeopardising      India’s access to the software services export market of the US is a big risk.  Even in this context, the big services exporters out of India to the US are American companies like EY, Accenture, IBM, Google, Microsoft and Genpact. The proliferation of Global Capability Centres run by major American corporations in India is a tribute to the confidence in Indian talent. That trend needs to be nurtured and enhanced, and if that requires a concession by reducing import tariffs so be it.

India could also tap into the huge untapped potential of export of agriculture products including agro-processing. At 50 billion dollars, India’s exports are barely 1.5 percent of global exports in agricultural and related products. India is the world’s largest producer of milk, has the highest population of cattle, is among the top two or three producers of fruits and vegetables, and has one of the longest coastlines. How well does that translate into export of milk products, cheeses, confectionary, meat, poultry, fisheries, fruit juices, nutraceuticals, organic foods? There is no use in hiding behind the excuse of “protecting the small farmer” for putting large export and import barriers in agricultural trade. The U.S. can be a big exporting opportunity for this relatively neglected sector.

Thus, the Trump offer of tit for tat tariffs is an opportunity for India to trim its import duties and give exporters a big boost. There will be some losers, but on the balance, it can have a huge positive impact.

(The writer is a noted Indian economist and commentator. Views expressed are personal. By special arrangement with The Billion Press)