Preferential Trade Agreements (PTAs) have been proliferating, especially since the establishment of WTO and about 619 PTAs have been signed so far of which 413 are already in force <there are only 185 sovereign states according to UN>.

But not all PTAs are same. Go no further before reading this blog to understand hierarchy of FTAS (cover pic) in detail – What is economic integration and what are the different types of trade agreements?

India and FTAs

• India has long-standing commitment to multilateralism under WTO agreements but in line with global trends, India has made use of FTAs as a key component of its trade and foreign policy. If WTO is going nowhere, we can’t just sit and expect WTO negotiation to conclude, we also have to sign FTA or we will be left behind
• So far, India has mainly focused on partnering with other Asian countries, and in goods more so than in services <with SL, Afghanistan, Thailand, Singapore, Bhutan, Nepal, Korea, Malaysia and Japan and regional trade agreements SAFTA and ASEAN>
• Outside Asia, We have signed FTAs with Chile and MERCOSUR <What is MERCOSUR, answer in comments>

But not all FTAs are same and depth of integration offered by different FTAs in different sectors are different. For instance, the India-Korea CEPA contains chapters on Origin Procedures, Telecommunication and Audio-Visual Co-production, but these are not included in the India-Japan CEPA. There are provisions in India-Japan CEPA not included in Indo-Korea CEPA <this all creates complications as number of FTAs increase and they all have different rules, regulations and procedures> <What are rules of origin? answer in the comments below>

Concept of spaghetti-bowl effect / Noodle bowl effect

Concept was propounded by world’s foremost trade economist Prof Jagdish Bhagwati is analogy between the tangling of spaghetti or noodle in a bowl with the tangling of different FTAs, He argues that so many FTAs with their differential tariff rates, rules, procedures muddy water so much that leads to discriminatory trade policy and results in often contradictory outcomes amongst bilateral and multilateral trade partners.

Let’s understand this with an example- Suppose rule of origin rule in TPP implies that Vietnam can only export textile which is made from Vietnami Yarn. Now Vietnam has an FTA with say B’desh or India and Yarn is covered under it. Indian yarn is cheaper yet Vietnam will not buy it because textile manufactured from it will not be covered under TPP. Multiply it across more than 400 FTAs and you can understand how complex it can get and more complex it gets, advantage developed and bigger countries.

Small countries don’t have resources to investigate whether US is actually following rules of origin for it’s exports. At much bigger level, it would look like this

It’s safe to say that developing countries like India should invest their energy in successful negotiation of WTO rounds as they can negotiate them better collectively, outcomes are not very complex thus beneficial to less resourceful. But as we can not wait for that to happen indefinitely we should also sign FTAs which would be beneficial to us.

Mega-Regionalism

Until recently FTAs were signed mainly bilaterally and regionally <india-Bhutan, ASEAN ka SAFTA, North America ka NAFTA, Europe ka EU> but of late PTAs have begun to morph into mega-regional agreements, which would encompass a large share of world GDP and trade. Consider for instance:

1. TPP- 40% of Global GDP and 33% of trade (already sgined)
2. TTIP- 50% of GDP and 30% of merchandise trade, 40% trade in services (negotiations continuing) <TTIP is trans atlantic trade and investment partnership b.w EU and USA>

India is not a member of either of these two grouping but is negotiating it’s own mega regional- RCEP (regional comprehensive economic partnership) which is not as ambitious in scope as the other two agreements.

With the signing of TPP and TPIP, India will have access to these markets at higher costs <member countries will get preferential treatment; resulting in some negative impact on Indian exports and thus our GDP growth. Different studies suggest negative impact on India’s GDP from -0.1% to -.2%.

TPP/ RECP is very, very important topic for prelims/ mains/ interview. For prelims, name of countries in TPP, in RCEP, in ASEAN, in all 3 grouping, in only 2 groupings etc is very important. Look at the figure below, it will help you remember the names well

Other way to remember the names is continent wise

• 4 ASEAN members- Malaysia, Singapore, Brunei ,Vietnam
• 7 RCEP members-  4 ASEAN above + Australia, New Zealand, Japan
• 5 American countries Canada, Mexico, United States, Chile, Peru (3 from North and central America + 2 from South America)
• Please note that China and Korea are not part of TPP

For detailed analysis on TPP for mains/ interview purpose, please read our blogs here- TPP decodified and RSTV summary, importance of TPP

To PTA or Not to PTA?

Over the years, India has signed many FTAs, have they benefited us? As number of FTAs and mega regional pacts are proliferating, should we sign more FTAs?

Any FTA will lead to increase in trade as tariff and non tariff barriers come down but if it leads to much higher imports than exports and thus negative trade balance, impact can be considered as negative.

Concept of trade creation v/s trade diversion

Another aspect of FTAS which like Spaghetti bowl effect is a criticism of FTAS wrt WTO- whether actually trade is being created or is it merely shifting to inefficient firms?

Trade creation -In WTO, a country reduces tariff for every other country in this world and because of this tariff decrease, outside firms can compete with domestic producers and trade increases leading to trade creation.

Trade diversion– occurs when tariff preferences offered under an FTA causes a shift of imports from firms in non FTA member countries to less efficient firms within the trade bloc, which now become competitive due to tariff reliefs.

Let’s understand this with an example-

Suppose country B is imports mangoes from country C and D, Until now, it imposed 20% tariff on both, thus major market share is captured by country D which is more efficient but  now, B and C sign an FTA and now mangoes from C are imported at zero tariff. Consider this

Now C has become more competitive and trade will get diverted from D to C, that’s another side effect of FTAs.

Impact of FTAs on India’s trade

• The overall effect on trade of FTA is positive and statistically significant
• With ASEAN, trade has resulted in more imports than exports, this widening our trade deficit
• Impact of FTAs on different industry segments fall differently <it’s only to be expected>

Conclusion

• FTAs have increased trade with FTA countries more than would have happened otherwise.
• Increased trade has been more on the import than export side, most likely because India maintains relatively high tariffs and hence had larger tariff reductions than its FTA partners
• The trade increases have been much greater with the ASEAN than other FTA.

What should be India’s stance towards FTAs and mega regional trade agreements?

• Multilateral trade liberalisation remains the best way forward
• But the WTO process seems to have been overtaken by preferential trade agreements
• Against this background, India has a strategic choice to make: to play the same PTA game as everyone else or be excluded from this process

In the current context of slowing demand and excess capacity with threats of circumvention of trade rules, progress on FTAs, if pursued, must be combined with strengthening India’s ability to respond with WTO-consistent measures such as anti-dumping and conventional duties and safeguard measures.

• For understanding economy concepts, read through our collections on Economics Concepts Simplified