5r2 Itdian Etauantlt Perlotaunu and policies

Summing Up
Notwithstanding the earlier policy initiatives aimed at
liberalisation of India's foreign trade, the outward-looking trade policy
measures announced in lggl marks the initiation of a new era
in
India's foreign trade. India's foreign trade performance improved
significantly during the recent years and there has been a perceptible
change in the structure of India's foreign trade between the eighties
and
the nineties.
The share of manufactured products has increased in India's total
exports' At the same time, since the introduction of reforms, the
proportions of high-value and differentiated products have increased
in
India's export basket.
Along with the increase in India's aggrelate share in world trade,
the alignment between the country's export basket and world demand
has increased during the nineties.
The relative share of certain capital goods in India's totar imports
has also increased in this period. Imports of manufactured fertilizers
and edible oils also recorded higher growth during the post-1991
period.

. In line with the policy changes, imports

increased sharply during the nineties.
of gold and silver have

Reflecting the increased link between exports and imports, the

shares of certain export-related imports have also increased
iuring the
recent years.
The most remarkable change in the country-wise composition of
India's exports and imports since 1991 has been the increase in the share
of developing countries in India's overall trade.
while the share of the East European countries has declined in
India's total trade, that of the oECD countries has declined in the case
of imports.
India's foreign trade has, however, been adversely affected by
certain unfavourable external developments since 1996.
Notwithstanding these negative developments, India's trade
performance during the nineties as a whole has been better than
that
during the eighties.
Foreign Trade
5r3
BALANCE OF TRADE
Balance of Trade, simply defined is, the difference between the
value of export of goods and the value of import of goods or more
generally between exports and imports or (X - M) where X denotes value
of exports and M, value of imports.
When value of exports is more than value of imports (i.e., X > M)
balance of trade (BoT) is said to be favourable or positive. On the other
hand when exports are less than imports (X < M) or imports more than
exports (M > X), the balance of trade (BoT) is said to be unfavourable,
or negative or there is said to be a deficit in the balance of trade.
Since goods are also called merchandise, the balance of trade or
trade balance is also called balance of merchandise account.

India's Balance of Trade

Ever since the beginning of planning era in 1951, India has
continued to suffer from an unfavourable balance of trade. The only
exceptions to this trend have been the years 1972-73 and I976-77 when
the country had a positive trade balance of Rs. 104 crore and Rs. 68
crore, respectively.
In the early years after Independence, the value of India's exports
as well as imports were low and the difference between them was
small. This resulted in comparatively lower magnitude of deficit in trade
balance. From Rs. 163 crore average annual deficit it rose to an annual
average of Rs. 36,363 crore during 1997 and 2OO2.The early years of
Tenth Plan; it was Rs. 42,069 crore in 2002-03 which increased to
Rs. 62,870 crore in 2003-04. Thus, the trade deficit has not only
persisted since 1951 but has increased widely over the years to reach
alarming levels by the end of the century as is shown in Table 23.11.

Causes of Unfavourable Balance of Trade

Continued excess of imports over exports has perpetuated the
unfavourable balance of trade since 1950-51. To begin with, the trade
deficit was small, but it widened over time, more particularly from the
Sixth Plan onwards, it rose sharply to assume serious dimensions during
and after the Eighth Five-Year Plan. This has happened because exports
from India have not been able to keep pace with the high growth rate of
rmports.
514 hdian Econal: Perlornaue and Policiet

TABLE - 23.11
India's Baiance of Trade

Arerage Annual
Exports Imports

First Plan 605 735 - 130

(I 9s6-6 l) 606 973 -36'7
Third Plan (1961-66) '753 r,240 -48'1
Annual Plans (1966-69) I,238 1,998 -760
Fourth Plan (1969-74) 1,8 10 1,973 -t63
Fifth Plan (1974-79) 4,728 5,53 8 -8 l0
Annual Plans (1979-80) 6,418 9,t43 _) 7)\
Sixth Plan (1980-85) 8,967 t4,683 -s,7 t6
Seventh Plan (1985-90) 1.'7,382 25,112 -7,730
Annual Plans (1991-92) 38,297 45,52s -7,278
Eighth Plan (1992-97) 86,557 97,609 -1t ,352
Ninth Plan (199'7 -02) 1,68,400 2,04,763 -36,363
Tenth Plan (2002-07)
(2002-03) 2,55,r37 2,97,206 -42,069
(2003-04) 2,93,367 3,5 9,108 -65,7 41
' (2004-05) 3,61,879 4,90,532 -r,28,653
(2005-06)
(Apr.-Dec.) t_91 829 4,25,667 1,31,937

Soarce : Compiled fron Economic Survey, 2003-2004, 2005-06.

Large Increase in Imports

In terms of value, India's imports have increased sharply between
1950-51 and 2005-06 from a level of Rs. 608 crore to estimated
Rs. 4,90,532 cror'e in 2004-05. Some of the factors that have contributed
to this massive import growth are as below:
(i) Large Increase in Developmental Imports: Under planned
economic development of the country starting with the First Plan, there
has been a continuous expansion in imports of capital goods, machinery
equipment, etc. The value of capital goods imports (including transport
equipment) increased from Rs. 366 crore in 1960-61 to Rs. 1,910 crore
in 1980-81, Rs. 10,486 crore in 1990-91 and Rs. 63,I75 crore in 2004-
2005. Similarly there was increase in raw materials and maintenance
Foreign Trade 5lj

imports such as equipment needed to replace the worn-out machinery

and maintain it in working order.
(ii) Large Increase in Import of Petroleum: Petroleum, oils and
lubricants (POL) have registered more than 5OO-fold increase between
1960-61 and 1991 as the value of POL imports increased frorn Rs. 69
crore to Rs. 10,816 crore, which further rose to Rs. 1,34,094 crore in
2004-05. Petroleum is a major source of energy used in industry and in
surface as well as air transport. It is also used for domestic fuel in the
form of kerosene and cooking gas. Personal transportation modes
comprising motor cars and scooters, motorcycles, etc., depend on
petroleum. Petroleum is also used in industry as raw material for many
synthetic products. Therefore, a massive increase in demand for and
import of POL is thus inevitable.
(iii) Fertiliser Imports: In spite of increased domestic production,
fertilisers are imported to meet their fast growing consumption
requirements. Thus, between 1960-61 and 2000-01, import of fertilisers
has gone up from Rs. 13 crore to Rs. 3,034 crore in 2000-01 and
Rs. 5,143 crore in 2004-05.
(iv) Import of Pearls and Precious Stones: The import of
unfinished and finished/worked precious and semi-precious stones
has increased from Rs. I crore in 1960-61 to Rs. 42,336 crore in2OO4-
05.

Modest Growth in Exports

Growth of exports was quite low and insignificant till the Third
Five-Year Plan. The total value of exports increased from Rs. 642 crore
in 1960-61 to Rs. 32,553 in 1991, Rs. 2,03,571 in 2000-01 and
Rs. 3,61,879 in 2004-05. Both external and internal factors are
responsible for this modest growth.

External Factors
(i) Low World Demand: The world demand for many goods has
remained low due to continuing recession and economic downturn in
many countries.
(ii) Low fncome and Price Elasticity of Goods Exported: Many
of the goods exported by India are primary products such as cereal
preparations, fish and marine products, etc. The demand for these goods
is generally less elastic, i.e., the demand does not change'much with
change in income or prices. Thus, when we make efforts to sell more
5t6 Indian Econony: Performaue ad Policiet

and increase supply, prices fall but demand does not increase much.
Hence, we end up earning lower value even for larger quantity sold and
our export earnings either do not increase much or sometimes may even
decline.
(iii) Import Restriction on Our Goods Entering Foreign
Countries: Many countries have imposed restrictions on goods
imported by them and this adversely affects our exports. These
restrictions may be in the form of quotas, (not more than a certain given
quantity of a given product is to be imported from outside), tariff
restrictions (imposition of import duty on goods entering the country
and thus making them costlier for purchasers in the home market of the
importing country) or non-tariff restrictions such as health laws that do
not permit import of agricultural goods from underdeveloped countries
in USA and some other countries on grounds of posing health hazard to
the people. Such physical restrictions and tariff as well as non-tariff
barriers by USA and countries of European Union have contributed to
slow growth of exports from India.
(iv) Disintegration of the Soviet Union: The Soviet Union/USSR
was among our largest trading partners and a big market for Indian
goods. Its disintegration caused a major setback to our exports.

Internal Factors
(i) Increasing Domestic Demand: Increase in income of people
due to growth of the economy has contributed to higher domestic
demand. The supply side has however not been able to match this
increased demand due to slow growth in agricultural and industrial
output. Not much is thus left for exports as producers sell bulk of
output at home quite profitably. This reduction in surplus of goods
(over domestic consumption) for exports has contributed to their slow
growth.
(ii) Low Quality and High Cost of Production: India emerged
as high cost low quality production country which could not face
foreign competition either at home or abroad. Hence, Indian goods
were not favoured by foreign buyers and, therefore, our exports
remained low.

Measures to Cowect Deficit in Balance of Trade

The Government of India has been adopting and implementing
various policies for restricting imports and promoting exports to reduce
trade deficit.
Foreign Trad.e 5t7

Restrictions on Imports
Following measures have been taken to regulate imports:
(i) Licensing of Imports: For quite a long time, the import of non-
essential consumer goods was not permitted while the importers of
capital goods essential for country's delvelopment were given import
licences. However, now under the liberalised trade policy, licensing
requirements for most of the goods have been abolished; only a small
negative list of import items remains under licensing system.
(ii) Tariff Restrictions: For the goods that are permitted to be
imported under licence from the government, further restrictions are
imposed by way of custom duties or import duties also called import
tariffs. This means a tax is imposed on the goods which arrive at the
Indian ports and thus the price of such goods becomes higher for the
Indian buyers. The higher the rate of custom duty, the greater is the
price that Indian buyers need to pay for imported goods. These high
prices of imported goods are expected to reduce their demand in the
domestic market and thereby to restrict imports.
(iii) Quantitative Restrictions: The government may determine the
total import quota of goods, i.e., the total amount of goods that can be
imported and allot this quota to various importers. Nothing beyond the
quota is allowed to be imported. This naturally limits the quantity of
imports. However, under an agreement with the World Trade
Organization (WTO), such quantitative restrictions have been removed
on many goods, while for others they are to be removed in near future.

Export Promotion
With the continuing large deficits in India's balance of trade and
limited scope for imports reduction, the only long-term solution to the
problem lies in promotion of exports to earn sufficient foreign exchange
to pay for our growing imports. Export promotion measures opening
up wider international market for our entrepreneurs will stimulate
industrial development in the country under the incentive of larger world
demand for our goods.

Export Promotion Measures

The export promotion measures adopted by the Government of India
include monetary and non-monetary incentives, fiscal reliefs, credit
facilities, establishment of institutions to help exporters as well as strict
quality controls and inspection of goods meant from export. Some of
the major steps in this direction are as below:
518 Indian Econonl: Perfornaut aild Pzli.ier

(i) Devaluatio: In July 1991, the rupee was devalued by about 20

per cent in terms of major world currencies. This was expected to
cheapen our goods to foreign buyers thereby encouraging our exports.
(ii)
Cash Assistance: Under this scheme cash assistance is given
to exporters to compensate them for indirect taxes (e.g., custom duties)
levied on the imported inputs that are used in production of goods for
exports.
(iii) Income Tax Concessions: Income from exports is given
several concessions under the income tax laws. For example profits from
exports are totally exempted from income tax.
(iv) Import Concessions: Several concessions in imports of
machinery, equipment and technology are given to export production
units. Export oriented units are allowed duty free imports of machines,
raw materials and technology. Exporters are also allocated foreign
exchange for import of raw materials used in production of export
goods.
(v) Concessional Bank Credit to Exporters : For financing
production meant for exports and also for financing exports themselves,
banks give credit to exporters at concessional terms.
(vi) Import Licences to Exporters: Since imported goods fetched
very high prices in the domestic market as their imports were highly
restricted, the exporters were granted licences for import of goods up
to a certain percentage of value of goods exported by them. This was
expected to provide added incentive for exports.
(vii) Issue of Exim scrips: The system of granting import licences
to exporters was later replaced by exim scrips. The exporters were given
exim scrips equivalent to 30 per cent of value of their exports. These
exim scrips could be used to import alarge variety of items. The exim
scrips could also be sold in the market. Since these enjoyed a premium,
the exporters could make additional profits from their sale. This could
act as a great incentive to exporters.
(viii) Convertibility of the Rupee: The system of exim scrips was
also replaced by partial convertibility of rupee in March 1992. Under
this scheme, exporters, who earlier had to surrender their entire foreign
exchange earnings to the Reserve Bank of India (RBI) at a rate fixed
by it, were now obliged to sell only 40 per cent of their exchange
earnings at the official rate to the RBI. The rest they were free to sell
in the market at the market determined rate, which was obviously higher
Foreign Tiade 5r9

than the official rate. This indeed was a great liberalisation measure
and a bigger incentive. In March 1997 even this was replaced by a
system of full convertibility of rupee on the trade account.
(ix) System ofAdvanced Licensing: Exporters are given advance
licences for duty free import of goods used in production of export
items.
(x) Relaxation of Controls on Exports and Simplification of
Procedures: Controls on exports have been relaxed. Exports of many
items have been decontrolled while export procedures and formalities
have been simplified.
(xi) Export Processing Zones: Many export processing zones have
been set up. The units operating there are allowed free trade with other
countries. They also enjoy various concessions like five-year tax
holiday.
(xii) Export Promotion Organisations: Some such organisations
are Export Advisory Council, Export Promotion Councils, Directorate
of Export Promotion, etc.
(xiii) Export Import Bank: The EXIM Bank provides financial
services to exporters and importers and coordinates the work of other
institutions engaged in financing export trade. It pays special attention
to export of capital goods.
 .ffi.
"W/ffi
#
"f
tuffi

Balance of Payments and

Trade Policy

Concepts
BALANCE of payments (BoP) is a systematic record of all
economic transactions between the residents of a country and the rest
of the world. Like all double-entry book keeping accounts it always
balances i.e., Sum of credit entries = Sum of debit entries.
There are two types of accounts in BoP, namely, (i) Current Account
and (ii) Capital Account.
Current Account records transfers of goods and services i.e.,
merchandise trade and net invisibles which includes services like travel,
transportation, insurance, etc. and transfer payments.
Capital Account shows transfers of claims to money or titles to
investment between a country and the rest of the world. It includes
foreign investment inflow minus the foreign investment outflow, loans
including external assistance and external commercial borrowings
(inflow - outflow) and other capital which includes rupee debt service,
IMF transactions and SDR allocation.
A current account deficit is financed through net inflow of capital
on the capital account and the change in the Government's foreign
exchange reserve position.

Tfade Policy: An Overviewl

As we embarked on a period of planning, during the fifties, import
substitution came to constitute a major element of India's trade and
1. This section draws from C. Rangarajan's paper, India's Balance of Payments: The
Emerging Dimensions, in Uma Kapila (ed,), Indian Econorny Since Independence 2O0O-01
edition, Academic Foundation, New Delhi.
522 Indian Ecoronl: Petfarnarce and Po/iciet

industrial policies. Planners more or less chose to ignore the option of

foreign trade as an engine of India's economic growth. This was
primarily due to the highly pessimistic view taken on the potential for
export earnings. A further impetus to the inward orientation was
provided by the existence of a vast domestic market. In retrospect, it is
now abundantly clear that the policy-makers not only under-estimated
the export possibilities but also the import intensity of the import
substitution process itself. It has been as a consequence that India's
share oftotal world exports declined from 1.91 per cent in 1950 to about
0.53 per cent in 1992.
The inward looking industrialisation process did result in high rates
of industrial growth between 1956 and 1966. However, several
weaknesses of such a process of industrialisation soon became evident,
as inefficiencies crept into the system and the economy turned into an
increasingly 'high-cost' one. Over a period of time this led to a
'technological lag' and also resulted in poor export performance.
In the meantime, some change in the attitude towards exports became
perceptible. Several export promotion measures were put in place from
the early 1960s. The 1966 devaluation, while not resulting in the expected
improvement in trade deficit due to a combination of circumstances,
brought out the problems stemming from an overvalued exchange rate.
Nevertheless, it will be correct to say that until the end of the 1970s,
exports were primarily regarded as a source of foreign exchange rather
than as an efficient means of allocating resources. Import substitution over
a wide area remained the basic premise of the development strategy.

The Political Economy of the

Foreign Exchange Regimes
The political economy of India's foreign trade and exchange control
regimes before reforms were initiated in 1991 can be understood from
the implications of its selective, discretionary, and non-market-oriented
character. First, macroeconomic instruments, including most importantly
the exchange rate of the rupee, were never used to address balance of
payments problems except for the rupee devaluation of 1966. Given that
QRs on imports were substantially below market demand, the domestic
price of an imported commodity far exceeded its landed cost inclusive of
tariff duties and other taxes. As such there were rents associated with a
licence to import. It hardly requires much imagination to realise that if
rents could be created and allocated, individuals and groups would spend
resources in influencing their creation and allocation in their favour.
 Balance of Payments and Trade policy
523

except consumer goods. It was recognised that trade, exchange rate and
industrial policies must form part of an integrated policy frinework
if
the aim was to improve the productivity and efficiency oi the economic
system.

Trade Policy since l99l

 Indian Econon5,: PetJbrnance and Policiet
524

in other spheres of the economy. The devaluation of the Rupee in July

1991 and the transition to the market-based exchange rate regime
deserve mention in this regard. These measures were aimed at enhancing
the price competitiveness of exports. The policies governing foreign
investment and foreign collaboration also have undergone significant
change, which have a bearing on trade performance. Apart from
unilateral measures, the liberalisation of India's trade policies also
reflects the multilateral commitments of the country to the World Trade
Organization (WTO).
The focus of these reforms has been on liberalisation, openness,
transparency and globalisation with a basic thrust on outward orientation
focusing on export promotion activity and improving competitiveness
of Indian industry to meet global market requirements. In early 2002,
the Government presented a Medium-Term Export Strategy (MTES) for
2002-2007 providing a vision for creating a stable policy environment
with indicative sector-wise targets, with a mission to achieve one per
cent of global trade by 200'7.The new Export and Import (EXIM) Policy
framed for the period 2002-2007 and unveiled on 31 March, 2OO2 also
seeks to usher in an environment free of restrictions and controls (Box
24.1). Synergy between these policies/strategies is expected to realise
India's strong export potential and enhance the overall competitiveness
of its exports.
BO){ - 24.1

Export Import (EXIM) Policy 2002-2007

The Special Economic Zone (SEZ) scheme has been strengthened by
permitting the setting up of offshore Banking Units, hedging of
commodity price risks and sourcing of short-term External Commercial
Borrowings. Supplies by domestic units to SEZs would entitle the
former to avail of Duty Entitlement Passbook Scheme benefit. The
policy has also ensured procedural simplification in the process of
subcontracting carried out by the SEZ units. To ease the power
situation in and around the SEZs, units for generation and distribution
of power have been permitted to be set up in the SEZs.
The Policy gives a major thrust to agricultural exports by removing
export restrictions on designated items. The efforts to promote exports
of agro and agro-based products in the floriculture and horticulture
sector have been sustained with the notification of 32 Agri-Export
Zones across the country. Non-actionable subsidies such as transport

Contd.
Balance of Palment: and Tiade Poticl
525
. Contd

subsidy have been provided for the export of fruits, vegetables,

floriculture, poultry and dairy products. A1l Quantitative restrictions
on exports (except a few sensitive items) have been removed with only
a few items being retained for export through State Trading
Enterprises. To improve the productivity and export competitiveness
of small-scale, cottage and handicrafts sector, the Policy provides a
package of incentives, including exemption from maintaining the
average export obligation under the Export Promotion Capital Goods
(EPCG) scheme, permission to achieve a lower threshold level for
achieving the Export House status, preferential access to Market
Access Initiative funds and duty free access to trimming and
embellishment for achieving value added exports. The towns of export
excellence (such as Tirupur for hosiery, Panipat for woolen blanket
and Ludhiana for woolen knitwear) are intended to be regional rural
motors of economic development for the small scale sector, focusing
on plugging critical infrastructural bottlenecks and enhancing quality
of support services for industrial development.
To provide the necessary impetus to star achievers, EXIM Policy
provides a strategic package for status holders comprising new/special
facilities like issuance of Licence on self-declaration basis, fixation
of input-output norms on priority, exemption from compulsory
negotiation of documents through banks, cent per cent retention of
foreign exchange in Exchange Earners' Foreign Currency account,
enhancement in normal repatriation period from 180 days to 360 days
and not mandating exports in each of the three licensing years for
achieving the status. The Policy has operationalised the procedure for
duty free import of fuel under the Advance Licensing Scheme,
provided the licence holder has a captive power plant.
In view of phasing out of all restrictions on textile products by 2005
under the Agreement on Textile and Clothing (ATC), the EXIM Policy
has focused on measures to encourage value added exports in the
garment sector. Electronic Hardware Technology Park (EHTP) scheme
has been modified to enable hardware sector to face the zero duty
regime under Information Technology Agreement (ITA-1), mandating
only a positive net foreign exchange as a percentage of exports criteria
and obviating any other export obligation for units in Electronic
Hardware Technology Parks. The changes carried out in the gems &
jewellery scheme include abolition of the licensing regime for the
import of rough diamonds, reduction in the value addition norr.ns for
export of jewellery and permitting personal carriage of jewellery.
Contd.
526 Itdian Econanl,: PetJbrnance tnl Palides

The medium-term Policy continues with all the duty exemption/

remission schemes, along with existing dispensation of not having any
value caps. Procedural simplifications introduced in the policy include
abolition of DEEC Book and withdrawal of Annual Advance License
under the Advance License scheme, dispensation with technical
characteristics for audit purposes under the Duty Free Replenishment
Certificate scheme, 12 years export obligation period with 5 years
moratorium for Export Promotion Capital Goods licenses of Rs.100
crore or more and supplies under deemed exports to be eligible for
export obligation fulfilment along with deemed export benefits.
Procedural simplifications have been made in the EXIM policy to
further reduce transaction costs covering Directorate General of
Foreign Trade, customs and banks. These include adoption of 8 digit
commodity classification for imports which would eliminate the
classification disputes, reduction of maximum fee limit for electronic
filing from Rs.l.5 lakh to Rs.l lakh, introduction of same day
licensing, new norms for reduction in percentage of physical
examination of export cargo, introduction of the simplified brand rate
of drawback scheme and permitting direct negotiation of export
documents. Other salient features of the EXIM Policy 2002-2007
include: widening of the scope of the Market Access Initiative scheme
to include activities considered necessary for a focused market
promotion of exports, setting up of 'Business Centre' in India missions
abroad for visiting Indian exporters/businessmen for ensuring a facilitatory
environment for exporters, transport subsidy for exports to units located
in North East, Sikkim and J&K and introduction of Focus Africa with
Focus CIS to follow, to diversify markets.

Trade policy reforms in the recent past, with their focus on

liberalisation, openness, transparency and globalisation, have provided an
export friendly environment with simplified procedures for trade
facilitation. Such continued trade promotion and trade facilitation efforts
of the Government have also aided the current strengthening of export
growth. The Union Budget 2004-05 reiterated the policy approach of
lowering customs duties in a measured way to align India's tariff structure
to those of ASEAN countries. It underlined the need for a special fiscal
and regulatory regime for the Special Economic Zones (SEZs), given their
role as growth engines that can boost manufacturing, exports and
employment. Towards this, a Bill for regulating SEZs, to make India a major
hub for manufacturing and exports, is proposed. Other proposals announced
in the Budget included: identification of another 85 items to be taken out
Balance of Pdymentt and Trade Policy
527

from the SSI reservation list to provide space to these units to grow into
medium enterprises; proposal to set up a Fund for regeneration of traditional
employment generating industries (like coir, handloom, handicrafts,
sericulture, leather, pottery and other cottage industries) for development
of their export potential; abolition of the mandatory Cenvat duty regime
and introduction of a new tax regime for the textile sector to make the sector
more efficient and competitive; and a proposal to set up a National
Manufacturing Competitiveness Council as a continuing forum for policy
dialogue to energise and sustain the growth of manufacturing industries and
to enhance competitiveness in the manufacturing sector. Various trade
facilitation measures announced in the review of credit policy by the RBI
in October 2004 included liberalisation of guarantee by Authorised Dealers
(ADs) for trade credit, relaxation of time limit for export realisation for
Export Oriented Units (EOUs). Government also announced, on August
31,2004, a new Foreign Trade Policy for the period 2004-2009, replacing
the hitherto nomenclature of EXIM Policy by Foreign Trade Policy (FTp).
A vigorous export-led growth strategy of doubling India's share in global
merchandise trade in the next five years, with a focus on the sectors having
prospects for export expansion and potential for employment generation,
constitute the main plank of the Policy (Box 24.2). These measures are
expected to enhance international competitiveness and aid in further
increasing the acceptability of Indian exports.

BOX - 24.2

Highlights of Foreign TFade Policy 2004-2009

Objectives and Strategy
The new Foreign Trade Policy (FTP) takes an integrated view of the
overall development of India's foreign trade and essentially provides a
roadmap for the development of this sector. It is built around two major
objectives of doubling India's share of global merchandise trade by 2009
and using trade policy as an efflective instrument of economic growth
with a thrust on employment generation.
Key strategies to achieve these objectives, inter alia, include:
unshackling of controls and creating an atmosphere of trust and
transparency; simplifying procedures and bringing down transaction
costs; neutralizing incidence of all levies on inputs used in export
products; facilitating development of India as a global hub for
manufacturing, trading and services; identifying and nurturing special
focus areas to generate additional employment opportunities,

Contd.
52E Inlian Ecarunty: Pclbrnance and Po/iciet

Cotrtd

particularly in semi-urban and rural areas; facilitating technological and

infrastructural upgradation of the Indian economy, especially through
import of capital goods and equipment; avoiding inverted duty structure
and ensuring that domestic sectors are not disadvantaged in trade
agreements; upgrading the infrastructure network related to the entire
foreign trade chain to international standards; revitalising the Board
of Trade by redefining its role and inducting into it experts on trade
policy; and activating Indian Embassies as key players in the export
strategy.
Special Focus Initiatives
The FTP 2004 has identified certain thrust sectors having prospects
for export expansion and potential for employment generation. These
thrust sectors include agriculture, handlooms and handicrafts, gems &
jewellery and leather and footwear sectors.
Sector specific policy initiative for the thrust sectors include, for
agriculture sector, introduction of a new scheme called Vishesh Krishi
Upaj Yojana (Special Agricultural Produce Scheme) to boost exports
of fruits, vegetables, flowers, minor forest produce and their value
added products.
Under the scheme, exports of these products qualify for duty free credit
entitlement (5 per cent of f.o.b value of exports) for importing inputs
and other goods. Other components for agriculture sector include duty
free import of capital goods under Export Promotion Capital Goods
(EPCG) scheme, permitting the installation of capital goods imported
under EPCG for agriculture anywhere in the Agri-Export Zone (AEZ),
utilising funds from the Assistance to States for Infrastructure
Development of Exports (ASIDE) scheme for development of AEZs,
liberalisation of import of seeds, bulbs, tubers and planting material,
and liberalisation of the export of plant portions, derivatives and
extracts to promote export of medicinal plants and herbal products.
The special focus initiative for handlooms and handicraft sectors
include extension of facilities like enhancing (to 5 per cent of f.o.b
value of exports) duty free import of trimmings and embellishments
for handlooms and handicrafts, exemption of samples from
countervailing duty (CVD), authorising Handicraft Export Promotion
Council to import trimmings, embellishments and samples for small
manufacturers, and establishment of a new Handicraft Special
Economic Zone.
Balance of Paymertt and Tratl-e Policy
529
Contd

Major policy announcements under gems and jewellery sector

encompass: permission for duty free import of consumables for metals
other than gold and platinum up to 2 per cent of f.o.b value of exports;
duty free re-import entitlement for rejected jewellery allowed up to 2
per cent of f.o.b value of exports; increase in duty free import of
commercial samples of jewellery to Rs.1 lakh, and permission to import
of gold of 18 carat and above under the replenishment scheme. Specific
policy initiatives in leather and footwear sector are mainly in the form
of reduction in the incidence of customs duties on the inputs and plants
and machinery. The major policy announcements for this sector include:
increase in the limit for duty free entitlements of import trimmings,
embellishments and footwear components for leather industry to 3 per
cent of f.o.b value of exports and that for duty free import of specified
items for leather sector to 5 per cent of f.o.b value of exports; import
of machinery and equipment for Effluent Treatment Plants for leather
industry exempted from customs duty; and re-export of unsuitable
imported materials (such as raw hides and skin and wet blue leathers)
has been permitted. The threshold limit of designated ,Towns of Export
Excellence' has also been reduced from Rs.1,000 crore to Rs.250 crore
in the above thrust sectors.
New Export Promotion Schemes
A new scheme to accelerate growth of exports ca|7ed'Target plus'has
been introduced. Under the scheme, exporters achieving a quantum
growth in exports are entitled to duty free credit based on incremental
exports substantially higher than the general actual export target fixed.
Rewards are granted based on a tiered approach. For incremental
growth of over 20 per cent,25 per cent and 100 per cent, the duty free
credits are 5 per cent, l0 per cent and 15 per cent of f.o.b value of
incremental exports. Another new scheme called Vishesh Krishi Upaj
Yojana has been introduced to boost exports of fruits, vegetables,
flowers, minor forest produce and their value added products. Export
of these products qualify for duty free credit entitlement equivalent to
5 per cent of f.o.b value of exports. The entitlement is freely
transferable and can be used for import of a variety of inputs and goods.
To accelerate growth in export of services so as to create a powerful
and unique 'Served from India' brand instantly recognised and
respected the world over, the earlier duty free export credit (DFEC)
scheme for services has been revamped and re-cast into the 'served
from India' scheme. Individual service providers who earn foreign
exchange of at least Rs. 5 lakh, and other service providers who earn
 Inditt Ecomny: Pcjorttanre and Plli.itt
530
Contd....

foreign exchange of at least Rs.10 lakh are eligible for a duty-credit

entitlement of 10 per cent of total foreign exchange earned by them. In
the case of stand-alone restaurants, the entitlement is 20 per cent,
whereas in the case of hotels, it is 5 per cent. Hotels and restaurants
can use their duty credit entitlement for import of food items and
alcoholic beverages.
To make India into a global trading-hub, a new scheme to establish
Free Trade and Warehousing Zone (FTWZs) has been introduced to
create trade-related infrastructure to facilitate the import and export of
goods and services with freedom to carry out trade transactions in
convertible currencies. Besides permitting FDI up to 100 per cent in
the development and establishment of these zones, each zone would
have minimum outlay of Rs. 100 crore and five lakh sq. mts. built up
area. Units in the FTWZs qualify for all other benefits as applicable
for SEZ units.
Further Simplification/Rationalisation/
Modifications of Ongoing Schemes
EPCG scheme has been further improved upon by providing additional
flexibility for fulfilment of export obligation, facilitating and providing
incentives for technological upgradation, permitting transfer of capital
goods to group companies and managed hotels, doing away with the
requirement of certificate from Central Excise (in the case of movable
capital goods in the service sector) and improving the viability of
specified projects by calculating their export obligation based on
concessional duty permitted to them. Import of second hand capital
goods without any restriction on age has been permitted and the
minimum depreciated value for plant and machinery to be re-located
into India has been reduced from Rs. 50 crore to Rs. 25 crore. The new
policy has allowed transfer of the import entitlernent under Duty Free
Replenishment Certificate (DFRC) scheme in respect of fuel to the
marketing agencies authorised by the Ministry of Petroleum and Natural
Gas to facilitate sourcing of such imports by individual exporters. The
Duty Entitlement Passbook (DEPB) scheme will continue until replaced
by a new scheme to be drawn up in consultation with exporters.
Additional benefits have been provided to export oriented units (EOU),
including exemption from service tax in proportion to their exported
goods and services, permission to retain 100 per cent of export earnings
in Export Earners Foreign Currency (EEFC) accounts, extension of
income tax benefits on plant and machinery to DTA units which convert
to EOU/Electronic Hardware Technology Park (EHTP)/Software
Balnnce of Paymenx and Trade Policy
537

Contd

Technology Park (STP)/Bio-technogy Park (BTP) units, allowing

import of capital goods on self-certification basis and permission to
dispose of (for EOU in textile and garment manufacture) leftover
materials and fabrics up to 2 per cent of c. i./ value or quantity of import
on payment of duty on transaction value only. Minimum investment
criteria has been also waived for brass hardware and hand-made
jewellery EOUs (this facility already exists for handicrafts, agriculture,
floriculture, aquaculture, animal husbandry, IT and services). The FTP
proposes setting up of BTPs by granting all facilities of 100 per cent
EOUs. The FTP 2004 has introduced a new rationalised scheme of
categorisation of status holders as Star Export Houses, with benchmark
for export performance (during the current and previous three years)
varying from Rs. 15 crore (for One Star Export House) to Rs. 5000
crore (for Five Star Export House). The new scheme is likely to bestow
status on a large number ofhitherto unrecognised small exporters. Such
Star Export Houses will be eligible for a number of privileges including
fast-track clearance procedures, exemption from furnishing of bank
guarantee, eligibility for consideration under Target Plus Scheme, etc.

Simplification of Rules and Procedures and

Institutional Measures
Policy measures announced to further rationalise/simplify the rules and
procedures include exemption for exporters with minimum turnover of
Rs. 5 crore and good track record from furnishing bank guarantee in any
of the schemes, service tax exemption for exports of all goods and
services, increase in validity of all licences/entitlements issued under
various schemes uniformly to 24 months, reduction in number of returns
and forms to be filed, delegation of more power to zonal and regional
offices, and time-bound introduction of electronic data interface (EDI).
Institutional measures proposed in the FTP 2004 include revamping and
revitalising the Board of Trade, setting up of an exclusive Services Export
Promotion Council to map opportunities for key services in key markets
and setting up of Common Facility Centres for use of professional home-
based service providers in state and district level towns. Pragati Maidan
in Delhi is proposed to be transformed into a world class complex, with
state-of-the-art, environmentally controlled, visitor friendly exhibition
areas and marts. The FTP 2004 also proposes provision to deserving
exporters, on the recommendation of the Export Promotion Councils, of
financial assistance for meeting the costs of legal expenses connected
with trade related matters.
Source: Economic Suney 2004-05.
532 ltdian Lconanl: Perlornanre and Policier

India's Balance of Payment Trends 1950-2000

The Decades of Fifties and Sixties
Prior to 1956-57 , for most years in the fifties, India had a current
account surplus. But the position changed in 1956-57 when India faced
BoP crisis. The trade deficit increased from 3.8 per cent of GDP at
market prices to 4.5 per cent. The BoP crisis of 1956-57 precipitated
the imposition of exchange controls which then became endemic to the
import substitution regime.
The BoP position deteriorated once again in 1966-67. In 1965, the
United States suspended its aid in response to the Indo-Pakistan war
and later refused to renew the PL 480 agreement on a long-term basis.
There was a concerted effort by the United States, the World Bank, and
the IMF to use external assistance as an instrument to induce India
(a) to adopt a new agricultural strategy, and (b) to devalue the rupee.
The rupee was devalued by 36.5 per cent in June 1966, and tariffs and
export subsidies were simultaneously rationalised, on the understanding
that the inflow of aid would be substantially increased.
The BoP improved after 1966-67 but largely because of the decline
in imports. Exports performed indifferently despite the devaluation.
Balance of Payments in the Seventies
A Decade of Comfort
India's balance of payments remained comfortable during the
Seventies. The adjustment to the first oil shock of 1973-74 was rendered
smooth by a happy combination of buoyant exports, spurt in private
transfer receipts and increased inflow of aid. Exports, benefited by the
expansion in global trade, rose at an annual rate of 6.8 per cent in
volume terms and by 15.6 per cent in US dollar terms during the decade.
An effective depreciation of the rupee occurred due to the link with
Pound Sterling until 1973 and later, because of the lower growth in
prices in India relative to other countries. Private transfers rose seven-
fold from $ 296 million in 1974-75 to $ 2175 million in 1979-80 and
in fact, in the post first oil shock period, financed roughly 80 per cent
of the trade deficit. Within two years of the shock, the current account
balance turned into surplus and it was only in 1978-79 that a deficit of
about 0.2 per cent of GDP appeared. The utilisation of aid was
significant and was substantially higher than the financing requirement
for the decade, allowing for a build up of reserves. At the close of the
decade the foreign exchange reserves stood at $ 7361 million providing
cover for over 7 months of imports.
Balance of Payruents and, Tiade Policy 533

Balance of Payments up to 1981-82

The Period of Difficulties
During the eighties, issues relating to the balance of payments came
to occupy the centre stage in terms of India's macroeconomic
management. The impact of the second oil shock of full effects
1979, the
of which spilled over into the eighties, was more severe than of the
1973-74. Between 1978-'79 and 1981-82, imports almost doubled. The
increase in POL imports accounted for a little over half the increase in
the overall imports. This was followed by the second-round effects on
non-POL imports. Export performance was depressed by the severe
international recession of 1980-1983 and recorded a volume growth of
just a little over 3 per cent. Net invisible receipts continued to provide
support to the balance of payments, largely in the form of earnings from
tourism and the sustained buoyancy of private transfers. However, the
sharp widening in the merchandise trade deficit resulted in a turnaround
in the current account balance from a surplus in 1977-78 to a deficit in
1981-82 of the order of US $ 3,166 million or 1.8 per cent of GDP.
Adjustment efforts consisted essentially of an Extended Fund Facility
(EFF) negotiated with the IMF, although there were also intensified
efforts to improve domestic production of crude petroleum.

Balance of Payments during 1982-83 to 1984-85

Easing of Pressure
A reprieve came during the period 1982-83 to 1984-85, with the
easing of pressure on the balance of payments mainly due to a decline
in the volume growth of imports from an average rate of 11.0 per cent
during 1978-1982 to a little over 2 per cent. Net oil imports (net of
crude oil exports which commenced in 1981-82 after the discovery of
crude oil in Bombay High), declined substantially as domestic
production spurted to 29.0 million tonnes by 1984-85. This indeed was
the main cause of the easing of the balance of payments. Non-POL
imports rose at an average rate of 3.6 per cent in dollar terms. Exports
however, grew only at an average rate of 3.2 per cent, in volume terms,
due to a combination of adverse internal and external conditions. The
invisibles account deteriorated as the interest payments to service
external borrowing acquired a steady rising trend. Private transfers
stagnated with the arrest in the labour migration boom. As a result,
invisibles including private transfers and other surpluses, which had
financed 89 per cent of the trade deficit in 1978-79 could meet only 57
per cent of the trade deficit in 1984-85. The current account deficit fell
534 Indian Econonl: Petlornance aild Policie!

to US $ 2,416millionor 1.2 per cent of GDP in 1984-85 and reserves,

which were US $5,952 million at the end of the year, stood to cover a
little over 4 months of imports. Twenty nine per cent of the financing
requirement of the first half of the eighties was met by the EFF.
Commercial borrowings and non-resident deposits emerged as important
sources of finance, meeting 2l per cent and 15 per cent respectively of
the financing need. However, external assistance remained the major
source of foreign capital inflows, accounting for 39 per cent of the
financing requirement.

Balance of Payments during 1985-1990

The Build-up to the Crisis
The second half of the eighties witnessed the building up of strains
on the balance of payments. Current account deficits acquired a
structural character, remaining at high levels throughout. Large trade
deficits occurred year after year despite a robust growth in exports.
Recovering from the stagnation in 1985-86, the volume growth of
exports in the succeeding four years ranged between l0 to l2 per cent
per annum on an average. The share of manufactured exports rose from
56 per cent in 1980-81 to 75 per cent in 1989-90. Imports in US dollar
terms rose in every year of the period. The volume of net POL imports
increased from 12.4 million tonnes in 1984-85 to 23.5 million tonnes
in 1989-90. However, the fall in crude oil prices during the period
helped to contain the oil import bill. On the other hand, non-oil imports
rose sharply by an average of 13.4 per cent in US dollar terms partly
due to large imports of foodgrains in 1988-89. Imports of capital goods
rose by an average of 16.2 per cent during the period. Export-related
imports as well as other miscellaneous imports also rose significantly.
The category of non-DGCIS imports, comprising defence imports and
imports of ships and aircrafts etc., also rose significantly from about
US $1.2 billion in 1985-86 to US $ 3.1 billion by 1989-90. The support
from invisible receipts fell in the face of steadily growing interest
payments and the outgo on account of profits, dividends, royalty,
technical fees and professional fees. The current account deficit
averaged $ 5.8 billion or 2.4 per cent of GDP during the period as
against the Planning Commission's estimate of 1.6 per cent. The period
also marked a deterioration in fiscal imbalances as the ratio of gross
fiscal deficit to GDP rose from 6.3 per cent in the first half of the
eighties to 8.2 per cent during 1985-1990. Repurchases from the IMF
under the EFF exacerbated the deterioration in the balance of payments.
External assistance, commercial borrowing and non-resident deposits
Balance of Payments and Trade Policy >5>

shared equiproportionally in the financing need. The result was a

doubling of external debt and a rise in the debt service ratio from 13.6
per cant in 1984-85 to 30.9 per cent in 1989-90.

The Crisis: 1990-1992

In 1991, India found itself in its worst balance of payments crisis
since 1947. That there was a crisis in the making during the second half
of 1980s had been evident for a long time. The inflow of foreign
borrowing had increased at a rapid rate during the late 1980s' This was
due to the excess domestic expenditure over income-the fiscal deficit
of the Centre and the States soared to over 1l per cent in 1991. During
this period total public debt as a proportion of GNP doubled reaching
the level of 60 per cent and foreign currency reserves were depleted
rapidly.
Matters were made worse by an accompanying double-digit inflation
in 1990-91. The oil price increase resulting from Iraq's invasion of
Kuwait in August 1990 reinforced the crisis-like situation in India.
India's credit rating got downgraded as, for the first time in its
history, India was on the verge of defaulting on its international
commitments and was denied access to external commercial credit
markets. A net outflow of Non-Resident Indian (NRI) deposits
commenced in October 1990 and continued during 1991. The only way
left for India was to borrow against the security of its gold reserves
transported abroad.
But something good emerged out of the BoP crisis of 199L-the
long overdue economic reforms. Apart from an immediate programme
of macroeconomic stabilisation, structural reforms were also introduced
in the industrial and trade policy regimes with a view to improving the
efficiency, productivity and international competitiveness of India's
economy.

The overvalued exchange rate was corrected by devaluation in 1991,

followed by partial convertibility of rupee in 1992-93 and then making
the rupee fully convertible on trade account in 1993-94' Tariffs were
also cut steeply to open Indian industry to foreign competition. The
focus of import liberalisation has primarily been on intermediate and
captial goods industries with the imports of consumer goods remaining.
by and large, regulated.
536 Irdiar Econonl: Perfornann and Policiet

Balance of Payments during 1993-94 to 2005,06

The initial response of the economy, especially exports, was very
good. The years 1993-94 to 1995-96 were years of excellent economic
performance with GDP having grown at 6.2 per cent in 1993-94 and by
more than 7.5 per cent during 1994-95 and 1996-91. Exports grew by
19.7 pu cent during 1993-94 to 1995-96.
The major reasons for such a high growth rate in exports were:2
. World GDP grew by an average rate of 4.1 per cent per annum
during 1994-97 compared with2.4 per cent during L990-1993.
. World trade (dollar terms) grew by an average rate of 9.8 per
cent per annum during 1994-1997 compared with 6.0 per cent
during 1990-1993.
. Imports of advanced countries (dollar terms) grew by an
average rate of 11.5 per cent during 1994-1997 compared with
2.1 pu cent during 1990-1993.
. Increase in India's share in world exports of its three major
commodity groups, viz. Textiles, yarn and fabrics; pearls,
precious and semi-precious stones; and clothing and
accessories during 1994-96.
. Increase in the Index of Comparative Advantage (ICA) of the
above.
. Other export commodity groups in which India gained in terms
of ICA during 1994-1996 include fish and fish preparations;
rice; coffee and substitutes; organic chemicals; footwear; and
gold and silver jewellery.
However, the boom was short-lived. Since 1996, India's export
performance has been poor.
There could be several explanations for this. Firstly, there has been
a major downturn in world trade since 1996, which has affected India's
trade as well. Export growth has been further hampered by an
appreciation of the real effective exchange rate in 1996-97 and, 1997-
98. This trend has, however, been reversed since 1998-99. There has
also been an adverse movement in terms of trade, which appears to have
affected exports. Finally, there are the host of domestic factors-both
policy related and administrative-which continue to hamper imports.
These include infrastructure constraints, high transaction costs, SSI

2. Chadha, Rajesh (1999). "Balance of Payments

and Trade Policy", paper presented at ADB-
NCAER Seminar on Economic and Policy Reforms in India (Dec- 9) India International
Centre. New Delhi.
Balance of Payments and Tiade Policy 537

reservations, labour inflexibility, quality problems and quantitative

restrictions on export of agricultural commodities.
However the surplus on invisibles has helped to reduce the deficit
on the current account. Earnings from invisibles have helped particularly
during the critical years of 1996-97 and 1997-98 when the deficit on
the trade account touched alarming levels close to $ 1.5 to 1.6 billion.
A current account surplus for the third successive year, coupled with
an expanding capital account, further strengthened India's balance of
payments in 2003-04. The year witnessed accumulation of reserves of
US$ 31.4 billion (excluding valuation changes, gold, Special Drawing
Rights and Reserve Tranche at the IMF). Almost one-third of the
reserves were contributed by the surplus in the current account (Table
24.1). Rising surpluses in the current account have been one ofthe
distinguishing features of India's balance of payments in the current
decade, as it has been for most other major Asian economies (e.g. China,
Hong Kong, Japan, Korea, Malaysia, Philippines, Singapore, Taiwan and
Thailand). While for the predominantly export-oriented South East Asian
economies (e.g. Korea, Malaysia, Philippines, Singapore, Taiwan and
Thailand), strong growth in merchandise exports has been the main driver
behind the current account surpluses, buoyant invisible inflows,
particularly private transfers comprising remittances, along with
software services exports, have been instrumental in creating and
sustaining current account surpluses for India.
The strength provided by the surplus in the current account was
reinforced by robust capital inflows in2OO3-04. During the year, capital
account surplus was almost double its previous year's level (Table 24.I).
While major components of loans (e.g. external assistance and
commercial borrowings) recorded net outflows, foreign investment
flows increased more than three-fold. Heavy portfolio inflows,
comprising essentially FII investment, shored up total foreign
investment and the overall capital account surplus. Banking capital
inflows, particularly expatriate deposits, also contributed to the
expanding surplus.
Balance of payments estimates for April-September, 2004-05,
2005-06 indicate the emergence of a current account deficit (Table
24.1).The year 2004-05 marked a significant departure in the structural
composition of India's balance of payments (BOP), with the current
account, after three consecutive years of surplus, turning into a deficit.
In a significant transformation, the current account deficit, observed for
24 years since 1977-78, had started shrinking from 1999-00. The