from Asia Unbound

Economics and Indian Strategy

March 22, 2012

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South Asia is among the least economically integrated regions of the world, in part because partition cleaved apart various natural economic communities. Regions, such as Bengal, which had been well integrated historically, suffered considerable economic ill effects. And post-1947 policies have only exacerbated the problem through tariffs, production restrictions, and various trade controls.

Actually, the lack of economic integration in South Asia is endemic. It’s not just a challenge for India and Pakistan but for many other countries in South Asia as well.

So it’s interesting that Indian foreign policymakers seem, in various ways, to be reemphasizing the economic dimensions of their country’s strategy. At a conference in New Delhi last week, for example, Shivshankar Menon, India’s savvy national security advisor, urged India and its neighbors to refocus on economic integration. Ironically, Menon argued, economic success has raised the costs of not doing business.

To see that, take a look around the region: India, even amid a post-crisis slowdown, continues to grow rapidly. Bangladesh has become attractive to global market participants. Pakistan is, for others, a profitable frontier market, despite gathering investment risks. And the opportunities and challenges are on display in Sri Lanka as well: its economy has grown rapidly as new economic opportunities have opened with the end of the civil war in 2009.

But to sustain growth, Sri Lanka needs to shift from public sector to private sector-driven growth—and that will require new investment in key sectors, such as tourism, agriculture, fisheries, business process outsourcing, and infrastructure. China has picked up some of the slack. But India is a more proximate economic partner. And the same is true of various South Asian countries and one another.

Cronyism, protectionist tendencies, and political risks remain considerable obstacles across the region, including in Colombo. But growth continues across South Asia. And various studies have demonstrated the potential gains from trade. One recent report from an Indian consumer research group, with support from the Asia Foundation, argues that further integration of trade among South Asian economies could yield as much as $2 billion to consumers.

This is why it’s encouraging that Menon and others in India seem to be giving regional trade integration new emphasis. After all, India’s size and rapid growth give it some potential to help lead the way.

Here are three areas that bear watching:

The Strategic Consequences of Indian Growth

First, how will India choose to play the strategic consequences of its economic growth?

My friend, Sanjaya Baru, has long argued that India should work not just for India-Pakistan bilateral cooperation or regional cooperation within the South Asian Association for Regional Cooperation (SAARC) but also on a parallel track. Given the slow pace of the former two efforts, Sanjaya has written, “it may be necessary for India to … see if regional economic cooperation can be pursued at a faster pace in a wider South Asian context.”

One vehicle, he has argued, might be an expanded “Bay of Bengal Community.” This would build eastward off the platform of an existing effort, “BIMSTEC,” which involves technical cooperation among Bangladesh, Bhutan, India, Nepal, Sri Lanka, and two Southeast Asian countries—Myanmar and Thailand. And if Myanmar’s process of political opening ultimately proves to be real (and is matched by an economic opening), then India would be well positioned to help forge new patterns of integration between South and Southeast Asia.

Melding Economics into Indian Strategy

Now, flip from the strategic consequences of economic growth to the economic dimensions of Indian strategy.

Will India increasingly meld economics into its strategic thinking? That will be especially important if Indian foreign policy continues to so ambitiously “look east” in Asia.

Strategically, India has been bottled up in the subcontinent for generations, but it wasn’t always so: Southeast Asia bears the hallmarks of a bygone era in names like “Indonesia” and “Indochina,” and Indian sailors once plied the trade routes from the Indian Ocean to the strait of Malacca. But as it once again “looks East,” India risks being left behind in Asia because of the significant mismatch between its lofty strategic goals and more earthbound economic realities.

Trade plays a growing role in the Indian economy and India has signed preferential trade agreements with the Association of Southeast Asian Nations (ASEAN) and Singapore. Yet scale remains a handicap: in 2009, 11.6 percent of ASEAN’s trade was with China but just 2.5 percent with India. Meanwhile, the backbone of East Asian economies remains integrated supply and production chains to which India is still largely irrelevant.

More manufacturing in India’s southern states could mean greater integration into East Asian supply and production chains. Likewise with outbound investment from corporate India: it could, perhaps, transform India’s interactions with Southeast Asia; but, here too, scale remains a handicap.

Domestic Indian policy choices will matter, in particular. The national manufacturing policy could yield new manufacturing zones with industrial parks, warehousing, and opportunities in special economic zones. And as the Indian government works to increase the share of manufacturing in GDP from around 16 per cent to 25 per cent in a decade, India need not compete only at the bottom of the value chain. It could also aim to compete in machinery, auto parts, and even automobiles, particularly through the adoption of new policies at the state level.

But huge obstacles remain, and some in India view this as a backdoor to relaxing labor laws. Such policies could falter, too, on land acquisition.

South Asia: Watch this Space

Third, various new initiatives in South Asia bear watching, not least among them recent developments between India and Pakistan.

Mohsin Khan of the Peterson Institute has argued that Pakistan’s November 2011 decision to grant most favored nation (MFN) status to India could prove especially significant. Of course obstacles remain, but Pakistan has continued to take important and constructive steps—for example, shifting from a "positive" to a “negative list”-based import regime with a February 29 Cabinet decision. India’s trade minister, Anand Sharma, has noted that this step will increase from 17% to about 90% the number of items that India can trade with Pakistan.

There has been movement elsewhere as well—with Bangladesh and Sri Lanka, for example. Over at Ajay Shah’s blog on the Indian economy, there is a good debate about whether and how India’s growth may have spillover effects elsewhere in South Asia.

The bottom line is this: India’s debate about economics and strategy is intensifying. And to my mind, at least, that is a decidedly good thing. After all, India’s success will increasingly depend on how New Delhi (and India’s states) respond to opportunities generated beyond the country’s borders.