At a meeting in Western Pennsylvania on June 28, 2016, the then presidential candidate of the United States of America Donald Trump vowed to unleash an unrelenting offensive against Chinese economic practices and impose punitive tariffs on Chinese goods. In January 2017, he was elected to the office and within a year the USA imposed a 30% tariff on foreign solar panels and 20% on washing machines, both of which were majorly exported by China.
In the days that followed, the trade war between the US and China snowballed into an all-encompassing dispute affecting economic relationship in all aspects like market access, intellectual property rights, etc. Global financial markets have been on edge and this has deep implications for the rest of the world including India.
China is the world’s largest exporter, having shipped $2.3 trillion worth of goods across the globe. The US is the largest importer of Chinese goods and has a trade deficit of USD 383 billion which is an irritant to the US administration. India too has a large deficit with China at USD 53.6 billion.
For the US, the problems are not limited to the trade deficit alone. For instance, US has accused China’s leading technology firm Huawei of using its networking equipment to help Chinese military spy. Intellectual property rights ranks high among the complaints. Many have accused China of reverse engineering products from other countries and then manufacturing themselves, harming original innovators. A study by the Federal Reserve Bank of Minneapolis concluded that about half the technology held by Chinese firms was obtained from western firms.
Chinese manufacturers have moved up the value chain and have gained leadership in many sectors. An example is its leadership in renewable energy, electric vehicles and robotics. It has developed the largest high speed rail network and Chinese firms are leading vendors. It has made significant progress in AI, semiconductors and 5G technologies and the US sees these as threats. When western firms began outsourcing manufacturing, the popular theory was that the western world would retain the high value end of the supply chain and remain the innovators while China would be limited to the low end of the value chain, and continue to adopt technology. If anything, China has proven otherwise and is rapidly becoming a significant innovator.
China’s political system and new-found aggressiveness has not only upset the western world but made its neighbours insecure. China is now using its economic muscle, for instance through the One Belt One Road (OBOR) program, to acquire foreign assets for cheap. China’s territorial claims using the “nine dash” line against neighbours has raised the possibility of military confrontation.
China holds large amount of US treasuries and it could dump some of them unsettling global financial markets, though this would cause damage to China as well. The Chinese leadership does seem to have underestimated the resolve of the Trump administration to tilt the economic relationship between the US and China back to a more balanced one.
The US is also using its leadership in finance and capital markets as leverage. Given China’s immature capital markets and inability to handle large capital issues, China has increasingly relied on the US capital markets. For instance, after Alibaba’s IPO in the US in 2014, today 174 companies with a total market cap of $394 billion have their main listing in the US. Poor corporate governance standards of Chinese firms have been a concern to US investors and the SEC. Restrictions on M&A have added another dimension. A new law called FIRRMA would require foreign purchasers of critical technology in the US to get regulatory approval beforehand.
Now that it seems decoupling is inevitable, which sphere would India want to belong — China or the US?
During the cold war between the US and Soviet, India sat on the fence as a non-aligned country. That was a mistaken policy. Every leader of that movement— Jawaharlal Nehru, Josip Broz Tito and Gamal Abdel Nasser — brought their respective countries down. Japan, Taiwan, S. Korea flourished by aligning themselves to one side. India learned the hard way that fence-sitters go nowhere.
While one may argue with the means, it is hard to argue with the end result that the US wants to achieve. The US and China may reach a partial if not comprehensive agreement sometime over the next 12 months. No matter what the shape of the agreement is, it is clear that the globalisation as we know it is set to change. Companies are realigning their business models by reducing exposure to companies that are likely to face US sanctions. They are also thinking hard about the long term future of their supply chains. While rising wages and recent difficulties in finding labour had resulted in companies looking at alternative, this process is likely to accelerate and this involves a shift in manufacturing to South East Asia (Thailand, Vietnam, Cambodia) or South Asia (India, Bangladesh). Foxconn has announced that US-bound iPhones may be manufactured in India in the near future.
Apart from the impact of US-China trade war, rising manufacturing and labour costs and increased stringent environmental norms are making China a non-favorable destination for new investments. The same is reflected in the decline in manufacturing exports from China since 2016.
Under these circumstances, it is essential to know how India can benefit. The looming realignment of supply chains from a China centric to one distributed across rest of Asia offers India a rare opportunity to build a strong manufacturing sector which can provide employment opportunities when the country is at a demographic tipping point.
India’s demographics are favourable and companies have an incentive to shift from China as India is one of the few countries that offers potential to develop a large scale manufacturing value chain. However, one should not lose sight of the reasons that have held back growth in the past and make changes. Additionally, India should resolve trade disputes with the US and improve trading relationship with Europe and the ASEAN.
As of now, SE Asia is better placed than India. The socialist mindset needs to go. Capitalism is the only economic theory left working, whatever version of capitalism and however imperfect it might be. We need to be bold and radical in our views!
India has made progress in the recent past as evidenced by the improvement in Ease of Doing Business survey. However, much more needs to be done to reduce red tapism. Vietnam and Thailand rank higher than India in this aspect. Reforms are needed in a few contentious areas; firstly, restrictive labour laws need to be amended in order to make it easier for firms to exit a business, secondly, land acquisition needs to be made easier.
On a world ranking of Logistics Performance Index, India ranks 44, again behind Thailand and Vietnam. India needs a large amount of investment to upgrade its infrastructure. India should relax norms and regulations which can provide access to foreign investment and should become relatively accessible compared to other major investment destinations like Vietnam, Indonesia, Malaysia, Thailand and Mexico.
India should try to gain market share in merchandise exports especially from China and even a minor shift of orders to Indian companies from Chinese exporters can add significantly to our economy.
India needs to improve its focus and emphasize more on the promotion, implementation of policies like “Make in India”, “Making for the World”. Operational conditions and stable policies are required for global giants to invest into any economy. Taking proactive steps in implementations of the policy announcements are most encouraged.
Recent trade data shows that we have gained marginally from US-China trade war. Factors like norms on improved ease of doing business, stable currency regime, availability of power and ports, lower labour costs, availability of skilled labour, younger population base and low tensions on trade war are making us a preferred destination for companies who wish to expand their manufacturing base. Issues like environmental regulations and skilled labour trainings are required for India to become the top investment destination.
Industry specific policies especially for chemicals, industrials, apparels, leather & electronics and incentives should be given so that our competitiveness increases on the global front. These sectors can add significantly to our GDP over the next coming years.
Our domestic market is large but our domestic companies with international brands look at exports as their major revenues and profits. Hence, we should focus on encouraging our global companies to create hubs for global exports and create strong value chain. At the same time, policy relaxations and incentives should be given to MSMEs for global exports which can help in job creation and encourage competition among domestic participants.
Also India needs to upgrade the skills of its workforce by setting up skill development institutes, re-orienting higher education to a vocational based one and possibly adopt Germany’s apprenticeship model. If these changes are made, then India can benefit from the changes in the world and deliver prosperity to its workforce.
The schemes, policies and announcements of Modi 2.0 would be tracked by most of the global giants before they allocate money to India and if we are able to gain momentum and confidence of these giants, we can make sure we can move towards 8% GDP growth in the next couple of years.
The author is CEO, Karvy Stock Broking