The Hindu Business Line : Case to lower customs tariffs through uniform structure

The speed of `peak' tariff rate reduction has been moderated by the need to preclude absolute reduction in tariff revenues and to provide time and space for alternative revenue sources to fructify.

New Delhi , Dec. 8

WITH the United Progressive Alliance (UPA) Government keen on honing manufacturing industry's competitiveness and the Planning Commission floating a proposal to avail a tiny portion of the country's considerable foreign exchange reserves by building infrastructure through imported equipment, the issue of reducing customs tariffs assumes added significance.

Progressive reduction of the `peak' customs duty rate from 150 per cent in 1991 to 20 per cent in 2004 has had a desirable effect on serving due notice to inefficient domestic units by subjecting them to the cold blast of competitive pressure.

The result was an alluring range, variety and quality of consumer durable goods such as cars, motorcycles, television sets and household appliances.

A recent updated policy brief by the Indian Council for Research on International Economic Relations (ICRIER) Chief Executive, Dr Arvind Virmani, contends that allocation efficiency has also increased, as reflected in the spurt in the intra-industry trade and the augmentation in net exports.

He said the speed of `peak' tariff rate reduction has been moderated by the need to preclude absolute reduction in tariff revenues and to provide time and space for alternative revenue sources to fructify.

He quips that not surprisingly vested interests with clout have sometimes upset this pragmatic approach by getting the tariff rate on their output raised or the tariff rates on specific inputs used by them reduced.

A report of the inter-Ministerial group on customs duty reform led by Dr Virmani had argued in November 2001 that the reform of the import duty structure within the existing commitment to bring the peak duty rate to 20 per cent creates certain constraints on rationalisation of the entire structure and elimination of anomalies by 2004-05; it, therefore, felt it necessary to look at the evolution of import duties beyond this date and recommended achievement of a near uniform tariff rate by 2006-07.

But, the Budget 2002-03 implicitly brushed aside the suggestion for a uniform customs tariff rate by adopting the two-tier structure under which final goods have a duty rate of 20 per cent and intermediate goods 10 per cent.

The most important economic distortions under this include (i) that the effective protection for `final' goods could vary between 21 per cent and 210 per cent (industries such as spinning and refineries would lie at the upper end) and (ii) that within the category of final goods, the effective protection varies inversely with the value added by the producer of the final good with such a structure of tariffs giving the least spur to those producers of final goods who add the greatest value.

Another flaw, as Dr Virmani contends, is that it does not achieve much reduction relative to India's competitors since export-oriented FDI depends on a country's tariff levels relative to that of competing countries, particularly those in East and South-East Asia.

Besides this oblique effect on exports, relatively high tariffs create problems of import diversion and smuggling through neighbouring countries.

It is against this setting that the paper cites the Prime Minister and the Finance Minister's oft-repeated intention of bringing India's customs tariff rates to East Asian levels. As such, it argues that tariff rates be brought down to globally competitive levels through a uniform structure in a phased manner.

In phase I ending in 2006-07, a `near uniform' basic customs duty rate of 10 per cent should be achieved.

In phase II, this should be reduced to a single basic customs duty rate of 5 per cent. A corollary to this is that under phase I, the `peak' duty be reduced to 15 per cent in 2005-06 and to 10 per cent in 2006-07. It is also predicated on elimination of most end-use exemptions as well as temporary exemptions, so that the 10 per cent becomes the standard rate.

Such a uniform tariff would be efficient, simpler, administratively easier and regionally competitive.

Dr Virmani argues that the proposed reduction of duties would be accompanied by a real depreciation of the rupee relative to the exchange rate, which will substantially offset the direct effect of tariff reduction on industrial goods.

It would also result in a quantum jump in export competitiveness and globally competitive (export-oriented) FDI in the manufacturing sector.

The export of labour-intensive manufactures would increase and lead to substantial spurt in employment opportunities to the less educated.

If accompanied by an end to SSI reservation and reforms to increase labour flexibility, it could render India a genuine competitor to China, dubbed the "world's workshop".

Will the Union Finance Minister, Mr P. Chidambaram, traverse on this tack to achieve the objectives of improving the industrial competitiveness of India, more employment to less educated and giving China a run in global commercial arena by sheer product and price competitiveness?