The Hindu Business Line : How to make a success of them

Seldom has any scheme with immense industrial and commercial implications engendered as much interest and controversy as the SEZ (Special Economic Zone) framework.

On the one hand, there has been a virtual gold rush or a mad scramble with over 400 applications, not only from private but also from public sector enterprises and State governments.

While Prof Jagdish Bhagwati feels there is no need to establish SEZs at this stage of post-liberalisation, Mr Raghuram Rajan, IMF’s chief economist, holds that India, with its huge fiscal deficit, can ill-afford such huge revenue loss accruing from the scheme.

The Finance Ministry has estimated revenue loss of over Rs 102,000 crore on the SEZ account for 2006-2010, 54 per cent was on account of direct tax concessions. According to industrialist Mr Rahul Bajaj, SEZs provide incentives disproportionate to the incremental benefits to the economy. The Reserve Bank of India (RBI), in its recent annual report, cautioned that SEZs could aggravate the uneven pattern of development by pulling out resources from the less developed areas.

Rather than promoting new business ventures, SEZs will merely attract investment that would have come in anyway. Fiscal and monetary giveaways are more likely to generate incentives in no way conducive to economic growth.

The Department of Commerce has defended the scheme having an avowed objective of SEZs facilitating $5 billion of FDI inflows by end-2007, creating employment for 5,00,000 by end-2007, in addition to 1.5 million indirect jobs outside the zones, besides fixing the country’s infrastructure deficit in the critical sectors of power, ports, road and rail connectivity and capacity.

Tactically put in deep freeze for now, the SEZ scheme is likely to resurface with some essential safeguards and other amendments. Some 250 SEZ proposals have been approved by the Government.

What the scheme envisages

Under the SEZ scheme, needed are special duty-free enclaves “to be treated as foreign territory for trade operations and duties and tariffs”, as the SEZ Act stipulates. These free zones must perforce be endowed with state-of-the-art infrastructure, streamlined procedures, not merely tax breaks.

A scheme like this can be ideally applied to not more than half a dozen optimally-located large sites in close vicinity to maritime gateways equipped with world-class multimodal connectivity.

Worthy of emulation

It is essential that the Government and industry duly strive to make the SEZ scheme a success . Worthy of emulation is the Jebel Ali Free Zone. Set up in 1985 as a component of the Jebel Ali port, the Jebel Ali Free Zone (JAFZ) has helped cement Dubai as the key hinterland destination for the Gulf.

Widely considered to be one of the world’s most successful free zones, utilising one of the world’s busiest ports and major airports, JAFZ is a regional distribution or manufacturing base for about 1,500 global companies.

When deciding where to invest, companies take into account factors such as political stability, size of the local market, proximity to markets, macro-economic environment, transparency of legal framework, quality of infrastructure and communications, availability, cost and quality of labour, taxation of profits, including withholding taxes.

The Dubai zone is endowed with world-class features. JAFZ support services are available aplenty for engineering, administration, health, safety and recruiting needs, besides world-class intermodal transport services.

JAFZ permits 100 per cent foreign ownership; 100 per cent repatriation of capital and profits; there are no corporate taxes for 15 years; there is no personal income-tax, nor any consumption taxes; no policy or obligation for local hire; no currency restrictions or any exchange control.

There is no need for a local sponsor. A cosmopolitan city, Dubai offers political stability, small local market, but access to many emerging markets, lowest tariffs in the region — 4 per cent — versus Saudi Arabia’s 15–20 per cent.

Poor incentives

The failure to provide a credible package can destroy a free zone. Senegal’s example is a case in point.

The zone’s incentives were insufficient — no standard factory space , leaving companies to lease and build their own factories and, thus, face increased business risks; requirement of minimum employment (150 local staff) and investment levels ($100,000) discouraged many smaller entrepreneurs; Government-mandated labour market rigidities with hiring and firing difficulties led to relatively low productivity; utilities and transport costs remained relatively high, and bureaucratic red tape delayed applications and decisions.

The JAFZ’s success underscores the imperative need for streamlined, prompt and efficient bureaucracy and Customs control as the key; reliable, efficient and cost-effective logistics services; clear and transparent legal and regulatory structure; and stable policy framework, non-preferential treatment of economic actors. It is important that an SEZ or FTZ creates a stable and FDI-friendly economic and political atmosphere.

This implies direct government involvement at the launch phase itself. Once the zone is up and running, Customs, intermodal connectivity, regulatory and supervisory functions can be streamlines, leaving the operations to the private sector.

With the stakes in the SEZ scheme being high, it is hoped both the Government and the entrepreneurs will do their best to make a real success of it much the way China did.

(The author is a former Managing Director of Concor.)