Lifting up the Indo-Pak trade game

Few policy decisions in Pakistan have been subjected to as much rigorous analysis and public debate as liberalising trade with India. Benazir Bhutto's Pakistan People's Party government launched the discourse in 1996 with a major report that concluded that gainers (consumers, farmers, most manufacturers and the government as revenue collector) would far outweigh the losers (some manufacturers) and had strongly recommended normalisation of trade. That robust conclusion has been corroborated subsequently by several studies.

And yet it has taken 16 long years to grant the Most Favoured Nation status to India. This is because the debate is informed mainly by a cost-benefit analysis of gainers and losers in the short term, and a national frame without the context of a strategic regional vision. Such a vision, commonly shared by India and Pakistan, is critical to avoid the inevitable pitfalls that could threaten India-Pakistan trade in the future.

Immediately following the Partition in 1947, India was Pakistan's most important trading partner accounting for half of Pakistan's exports (agricultural produce and minerals) and 32 per cent of imports (mainly manufactured goods).

Difficulties surfaced as early as 1949 for primarily economic management reasons. Pakistan did not match India's decision of devaluing the currency which resulted in a reduction of Pakistan's exports to India and a surge of imports. In the brave old world of quantitative interventions and obsession with bilateral trade balances, Pakistan placed restrictions on imports from India and trade fell dramatically.

Jingoistic dimension

India-Pakistan bilateral trade never really recovered from that early jolt. The wars of 1965 and 1971 and the Kashmir revolt in the 1990s introduced a jingoistic dimension to the debate. The compelling economic argument for resumption of trade was put to the impossible test of “improvement in ground realities”.

It would be a mistake, however, to overlook the economic underpinnings of the reservations over liberalising trade with India. The early restriction on imports of Indian manufactured goods was an important element of the import substituting industrialisation strategy that created a strong industrial base in Pakistan. For three decades, Pakistan's manufacturing sector grew at double digits and helped spur an average annual GDP growth of over 6 per cent.

With sustained high GDP growth, young and increasingly assertive industrial entrepreneurs and rapidly improving infrastructure financed by generous multi-lateral assistance, Pakistan was seen as the poster child of successful economic development. India, in contrast, was mired in the 3 per cent “Hindu” growth rate, its entrepreneurs blunted by stifling state regulation and crumbling infrastructure.

Trade with India is being liberalised in a setting different from those heady days. Pakistan's economy has experienced sharp boom and bust cycles in the last 20 years while India's has been on a steadier upward growth trajectory. India's manufacturing, while not as competitive as China's, is beginning to strengthen. Pakistan's manufacturing, on the other hand, has not built on the earlier momentum and is losing ground internationally. The liberal trade regime with China has flooded the local market, edging out small and medium enterprises that had previously enjoyed protected local niches.

The apprehension of industry in Pakistan is that another dose of trade liberalisation with yet another large economy, where industry enjoys the advantage of scale, will erode profitability further. While China's “friendly fire” has been accepted grudgingly for geo-political reasons, the threatened industry will argue that there is no advantage in losing market share to the “enemy”.

Thus bilateral trade imbalance, rapid loss of market share and associated loss of employment in the affected industry will be watched carefully in Pakistan and the reaction will be loud and shrill. The losers, more visible, better organised, will drown out the amorphous, less visible, gainers. The trajectory of trade liberalisation with India is thus likely to be jagged.

How do we avoid the inevitable pitfalls of India-Pakistan trade liberalisation that threaten quick and sharp reversals? The answer lies in both Pakistan and India lifting up their game to subject the bilateral trade relationship to a longer term strategic cost-benefit analysis than one that is tactical and myopic. Pakistan has to see trade liberalisation with India and China as part of a longer term economic growth and nation building strategy. For sustained improvement in living standards, Pakistan needs an economic growth of 7-8 per cent per annum for three decades or more. Furthermore, given the complex ethnic mix, economic growth has to be regionally balanced. Such a growth strategy has to be built on advantages rooted in history and geography.

The region that now constitutes Pakistan was a contiguous “nation” way back in the era of the Indus Valley Civilisation and then patchily and episodically under the Taxila Buddhist kingdoms, the early central Asian Muslim slave fiefdoms and then most recently under the Sikhs. And yet, the region has had a strong influence on South Asian culture and identity.

This is because the three principal regions of modern day Pakistan, Peshawar, Lahore and Upper Sind were connectors of the lands to their West and North — Iran, Central Asia and China — and those to the East — India — and as such became centres of trade, commerce and culture. This flourishing activity made them growth nodes that brought prosperity to their surrounding regions.

Anglo-Russian rivalry and the long Chinese slumber cut off the land routes and markets to the West and the North, and Pakistan-India disputes truncated the routes to the East. Independent Pakistan invested heavily in infrastructure and trade along the North-South corridor via Karachi replaced trade across land borders. For the first time in history, Pakistan's three historical regional centres achieved a high degree of connectivity defining an Indus Basin market across the length of modern day Pakistan.

The Indus Basin market that spurred growth rates of 6 per cent or more for several decades has now run its course. Pakistan thus has to create a new “vent” for long-term sustained economic growth that is regionally balanced. This requires reverting to geography and history.

Pakistan lies at the heart of a rapidly transforming world around its land borders. To the North and East are the skills and savings-rich economies of China and India with a combined population of over 2 billion growing at 8 per cent or more. To the West are resource rich Central Asia, Iran and the Persian Gulf states. Reopening the historical East-West-North trade routes and linking them with a strong North-South corridor will make Pakistan the trade hub of South Asia. And trade hubs, that lower cost of transporting materials and people, are precursors of industrial hubs that produce sustained economic growth.

This is the strategic vision that should guide Pakistan's trade relations with all its neighbours, including India, and not the short-term cost-benefit analysis of the impact of liberalisation on some niche manufacturers.

And how should India lift up its game? All paths to economic development and prosperity do not have to be routed through sweat shops catering to affluent western consumers. A large and vibrant Asian regional market would constitute a significant and, given demographic shifts, growing part of global demand for products. India's long-term strategic interest is to help create that Asian market. That, in turn, requires strengthening Pakistan to be an effective regional hub that connects the Asia-wide market.

Full-fledged ties

A successful management of the new liberalised India-Pakistan trade regime to scale it up to a full-fledged economic relationship will be key. In the short term, it may well mean exercising voluntary restraint on exports that hurt small and medium-sized Pakistani manufacturers. It would also require focussing on export of machinery and technology to Pakistani firms that currently import these at high cost from more expensive developed country sources.

Joint ventures and other investment strategies would need to be developed to set up production units for the Asia-wide market. Visa regime will have to be liberalised and travel facilitated so that small entrepreneurs develop cross-border business linkages and gains from liberalisation are shared more widely.

Above all, collective punishment as a policy option in dealing with Pakistan will have to be eschewed. Imposing sanctions on people already hurting from barbaric acts of terrorism is counter-productive in realising the vision of a prosperous and peaceful Asian economic region.

(Ijaz Nabi is Visiting Faculty, Lahore University of Management Sciences.)