India-China free trade agreement: Viability, prospects and challenges

Abstract

In recent years India and China have registered tremendous economic growth. Spurred by a slew of liberal policy measures that unlocked their hitherto dormant growth potential, these two economies have now carved out their own niches in the global economy. Table 1 gives an overview of their macroeconomic indicators. Of the two neighbors, China is the larger and faster growing. In fact China has now overtaken Japan to become the world’s second largest economy. Over the last 3 decades, China has metamorphosed from being a centrally planned, closed economy in to a market oriented, open economy. Starting from the late 70s, the Chinese administration has gradually dismantled such edifices as collectivized agriculture and fiscal centralization and opened its economy to foreign investment and international trade. Measures such as liberalization of price controls, development of stock markets and a diversified banking system has seen the world’s most populous nation grow into one of the most anomalous, one characterized by a capitalist economy operating in predominantly communist political regime. The restructuring of the economy and resulting efficiency gains have contributed to a more than tenfold increase in GDP since 1978i . China has transformed from an agricultural economy in to an industrial economy. However the transition is not complete. Even though agriculture now contributes to only 10% of China’s GDP, it still employs about 40% of the work force. The export sector contributes to a significant amount (about half a trillion dollars) of China’s income. Most of its exports come from manufactured goods. China’s principal export advantage comes from its access to low cost labor. Also, the controversial Chinese policy of pegging the renminbi to the US dollar has artificially kept the price of Chinese imports low in developed countries. India was more than decade behind its neighbor in introducing reforms. The reform era which began in 1991 saw the end of such anti?business policies as licensing of industries, price controls, foreign exchange regulation etc. Unhindered by bureaucratic burdens, the Indian economy broke free of the so called ‘Hindu rate of growth’ to become the world’s 5th largest economy (as measured by purchasing power parity). Unlike China, the Indian growth story is driven by its prowess in services. More than 50% of India’s GDP comes from service sector which employs about one?third of India’s workforce. At the same time more than 50% of its labour force is employed in agriculture which contributes to only 17% of its GDP. A large English speaking workforce, a thriving democratic tradition and a robust banking system are India’s primary strengths. One does not have to dig deep in to data to realize that the two economies are complementary. As the preceding discussion shows, the complementarities manifest themselves at as macro a level as sectoral contributions to GDP.