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Indo-Sri Lanka Trade Relations

Indo-Sri Lanka Trade Relations

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Published by Pratibha Mahindru

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Published by: Pratibha Mahindru on Aug 30, 2010
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Attention: Kanak Mani Dixit,kanakd@himalmag.com and Prashant Jha,  prashantj@himalmag.comFrom: Paranjoy Guha ThakurtaDated: Thursday February 15, 2007
In contrast to India’s political relations with Sri Lanka that have encountered difficulttimes, economic relations between the two countries have expanded impressively inrecent years. Despite a number of problems, the free trade agreement between India andSri Lanka has become a model of economic cooperation that has benefited the smaller  partner relatively more than the larger one.India’s political relations with its southern neighbour Sri Lanka has had its share of difficulties: Colombo has occasionally accused New Delhi of turning a blind eye to theovert and covert material and moral support given to the Liberation Tigers of TamilEelam by supporters of the separatist organization in Tamil Nadu in southern India,Indian fishermen have been frequently arrested for fishing in Sri Lankan waters and thereare outstanding issues relating to the settlement of Sri Lankan refugees in Tamil Naduand the granting of citizenship to Tamil speaking persons of Indian origin in Sri Lanka.On the economic front, however, relations between the two neighbours have been on a far more even keel. In fact, India-Sri Lanka trade and investment links have deepened andwidened considerably over the last seven years despite areas of contention and dispute.The signing of a free trade agreement (FTA) between the two countries that becameoperational in March 2000 marked a turning point in economic relations between the twocountries. The FTA is considered to be a model of economic cooperation in Asia: while ithas helped both countries expand trade, Sri Lanka has gained relatively more. This isarguably the most noteworthy aspect of the FTA although there have been surges in themovement of specific tradable items such as cement, copper, pepper and vegetable oilthat have disrupted industries – and jobs -- in both countries.Given their geographical proximity and cultural affinities, India and Sri Lanka hashistorically had close economic ties. During colonial rule, the production structures of  both countries were subservient to British interests. Unlike India, which started openingits economy to the rest of the world from the late-1980s and early-1990s, this process began in Sri Lanka much earlier. In 1977, the Sri Lankan rupee was unified and subjectedto a managed float and this was followed by privatization and deregulation of varioussegments of the economy. Moreover, unlike India, international trade accounts for asubstantial segment of Sri Lanka’s economy. Foreign trade as a proportion of grossdomestic product (GDP) is barely one-fifth in India against three-fourth in Sri Lanka.From the late-1960s till the end of the 1990s, there were a number of inter-government joint committees or commissions to facilitate trade, investment and technical cooperation between the two countries. While the India Sri Lanka FTA was signed on December 28,
1998 by Indian Prime Minister Atal Behari Vajpayee and Sri Lankan President ChandrikaKumaratunga, it has since then, by and large, received the support of the political class in both countries even after the respective governments at that time were voted out of  power. Whereas the bargaining process leading to the finalization of ‘negative lists’ of items – that is, the list of items that would be excluded from the FTA – was supposed tolast only two months, the process took much longer and the FTA became operational 14months later on March 1, 2000.During the bargaining period, fears were expressed that the Sri Lankan economy might be swamped by exports from India. In particular, Colombo appeared reluctant to give uprevenues that accrued from imports of automobiles. As far as India was concerned, therewere apprehensions that ‘cheap’ tea from Sri Lanka would ruin the fortunes of tea plantations, especially those in south India, and similar fears were raised about the fate of units manufacturing garments.Eventually, tariff rate quotas were imposed on trade in tea and garments – in other words,duty concessions were allowed on trade in garments and tea subject to quotas – and rulesof origin were specified that were broadly aimed at encouraging the two countries tosource raw materials needed for exports from each other rather than from third countries.Sri Lanka agreed to increase the ‘margin of preference’ for bulk imports of cement fromIndia and India agreed to offer more ports of entry for Sri Lankan tea and garments.India, which was mainly exporting agricultural items to Sri Lanka until the late-1980s, iscurrently a major supplier of industrial goods and services. The main exports from Indiato Sri Lanka are transport equipment, cotton yarn , fabrics, made-up garments, primaryand semi-finished iron and steel, sugar, man-made yarn, fabrics, machinery, instruments, pharmaceuticals, fine chemicals, wheat, glass and glassware, ceramics, refractories,cement and paper and wood products. India’s principal imports from Sri Lanka are non-ferrous metals (mainly copper), spices (mainly pepper), refined vegetable oil or vanaspati, electronic goods, electrical machinery, scrap metal, paper pulp and chemicals.For India, Sri Lanka is a relatively small market accounting for roughly two per cent of total Indian exports and less than one per cent of total imports. India used to be the 21
destination for Sri Lankan exports in 1998 and the 16
destination in 2000 but becamethe 4
largest destination by 2004 and the 3
largest the year after. Sri Lanka’s top twoexport destinations are the US and the UK to which countries mainly tea, garments andgems and jewellery are exported. After the implementation of the ISLFTA, Sri Lanka’simports from India have stabilized at around 15 per cent of total imports – India is thelargest source of imports for Sri Lanka followed by Singapore, Hong Kong and Iran.The most impressive outcome of the FTA agreement has been the sharp rise in the totalvolume of trade. Total bilateral trade between India and Sri Lanka had been more or lessstagnant at around US$ 500 million a year during the second half of the 1990s. Thisfigure doubled to $1 billion by 2002 and nearly doubled again to almost $2 billion by2005. Close to 90 per cent of Sri Lanka’s exports to India and roughly 45 per cent of India’s exports to Sri Lanka are covered by the FTA agreement.
India’s exports to Sri Lanka rose from Indian Rupees (INR) 22.58 billion in 1999 (beforethe ISLFTA agreement) to INR 59.53 billion in 2004 or an annual increase of 40 per cent,while imports rose from INR 2.16 billion to INR 16.84 billion at a rate of nearly 170 per cent per year. Thus, in this five year period, India’s exports to Sri Lanka doubled whileIndia’s imports from Sri Lankan went up fivefold. The dramatic manner in which the pattern of trade between the two countries changed is evident from the fact that the trade balance in favour of India declined from 15:1 in 1998 to 3.5:1 in 2004 (see Table 1).Despite the overall gains that accrued from the FTA, problems cropped with respect totrade in specific items. There was a spurt in exports of cement from India to Sri Lankafrom INR 692 million in 2000-01 (year ending March 31) to INR 1,250 million in 2003-04 or more than 80 per cent in three years. The Indian market has been flooded with threecommodities that can be imported duty-free under the FTA: copper, pepper and vanaspati(a cooking medium made out of vegetable oil)
(see Table 2)
 At present, more than half of Sri Lanka’s exports to India comprise copper and copper  products. Copper imports have risen from nothing to INR 4.8 billion in 2005-06. SriLanka now has more than 80 per cent share in India’s total imports of copper. Imports of  pepper have gone up 2.8 times from INR 160.5 million in 2000-01 to INR 445.6 millionin 2005-06 -- Sri Lanka’s share in total imports of pepper by India increased from 26 per cent to 37 per cent in this period.Contrary to initial expectations, exports of tea and garments have not surged. Imports of  both these items are less than five per cent of the quotas specified in the FTA. In fact, SriLanka’s exports of tea to India have actually come down from INR 87 million in 1999-2000 to INR 38.9 million in 2005-06. Sri Lanka’s share of total tea imports by Indiacrashed from 34 per cent to barely 3.7 per cent in this period. This was indeed anunexpected development. India is the world’s largest producer of black tea and Sri Lankais the world’s largest exporter – together the two countries account for roughly 60 per cent of world tea exports.The most contentious issue that has plagued the FTA has been exports of vanaspati fromSri Lanka to India. Since Sri Lanka does not levy any customs duty on imported palm oilthat is used in the manufacture of vanaspati, margarine and bakery shortening, tenmanufacturing units came up in Sri Lanka (with an investment of around $ 100 million)after the FTA became operational to specifically export these items to India at low prices.Interestingly, most of these units were set up Indian businessmen. Exports of vanaspatiwent up from 80,000 tonnes in 2002 to 165,000 tonnes in 2005 – by which year SriLankan vanaspati was accounting for around one-sixth of India’s total annual vanaspatimarket of 1.4 million tonnes. In value terms, vanaspati exports from Sri Lanka to Indiarose from INR 0.12 million in 2001-02 to INR 6.59 billion in 2005-06 -- Sri Lanka’sshare in total imports of vanaspati by India jumped from nothing to 63 per cent in 2005-06.In June 2006, after more than 100,000 tonnes of vanasapati had been exported, the Indiangovernment decided to canalize all imports through the National Agricultural

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