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Final Project Report on Economic Zones

Final Project Report on Economic Zones

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Introduction to Economic Zones

“Export else perish “ these are the words of first Prime Minister of India Pt. Jawaharlal Nehru. India being a continent like country having 30 states, more than 1000 languages and world second largest man power having diversified natural conditions right from Rain Forests of Kerala, Ice Mountains of Himalaya, Runn of Kuch to productive land of Bramahaputra has great potentials of world class export worthy products from various industries like Agriculture, Engineering, Chemicals, Software’s, Gems and Jewellry, Pharmaceuticals, Bio technology and many more. During last fifty years, mostly ours exports have been less than our imports and the balance of trade been unfavorable. In 1990-1991 India had faced real pressure on the balance of payment. During this period, exports had stagnated and there was a crisis in foreign reserves which lead to an emergency situation in India. Liberalization policy was announced in June 1991. It is the precious gift of Dr Manmohan Singh to the people of India at a time when the country was in the grip of unprecedented economic crisis and political turmoil. One of the areas in which this policy focused on was on increasing India’s export. And the trickle down effect of these reforms has lead to the advent of SEZ In this age of Globalisation, there is a need for every nation in the world to perform well economically. With the improvements in science and technology and the raising standards of living worldwide, ensuring economic development assumes primary importance in the policies of every nation.

While striving for economic development, every nation takes steps necessary for the implementation of its ambitious plans. But more often than not, these plans cannot be affected successfully throughout the nation. There are always shortcomings in these economic plans. Every nation wants to give its industries ample facilities for efficient production of goods and services and in order to make them globally competitive in terms of price and quality. Some of these facilities can be used by all industries throughout the nation. But sometimes, some facilities cannot be given on account of reasons like the geographical extent and the possibility of misuse.

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For Example: If a country wants to give subsidized power to a specific industry, it cannot do so throughout the nation as keeping a check on whether the subsidized power is going to the right people or not is a Herculean task.

Thus, in order to give the industry certain added advantages, the governments of various nations come up with special schemes and subsidies mostly related to customs duties. These schemes provide an upward thrust to the nation’s products in the global markets on account of lower prices / better quality. Such schemes, if implemented directly, are not allowed by the WTO. This has resulted in many nations coming up with such schemes in an indirect manner. One of the

most popular ones is to set up a special area demarked for the purpose of industrial growth. Various facilities can be offered in this area without the fear of them being misused and also, no resistance from WTO (or any other trading partner / nation) is encountered on account of the scheme not being a national policy, but only limited to a small area demarked for the purpose. This is where the concept of ‘Economic Zones’ comes in.

Types of Economic Zones
Depending on the facilities provided, the level of government control exercised, the type of industries allowed in the zone, and the type of activities allowed in the zone, they are classified into many types by different countries. A few common types are as follows:

Foreign Trade Zone (FTZ) – These are designated sites where special customs procedures are applicable. These procedures allow domestic activities involving foreign trade to take place as if it were outside the nation’s borders, thus relieving them of the Customs of the land. For Example: Miami Foreign Trade Zone, Florida (USA)

Export Processing Zone (EPZ) – These are the most common types of zones. And are similar to the FTZs of USA in many respects. Established for the purpose of promoting exports, these zones concentrate on providing the exporters with all facilities of production in one place and also relax the customs procedures for the foreign trade activities of the units in the zones. For Example: Noida Export Processing Zone (NEPZ), Uttar Pradesh (India)

Free Zone (FZ) – These are the zones in countries mainly like the UAE. Such zones give total exemption from all taxes and duties levied on profits to the units existing in them, besides other financial benefits and incentives. For Example: Dubai – Jebel Ali Free Zone (JAFZ), Dubai (United Arab Emirates)

Special Economic Zone (SEZ) – These are an extension of the EPZ scheme with added benefits and fewer bureaucratic hassles. But these zones do not restrict themselves to export promotion only. They provide all facilities and infrastructure necessary for the development of the industries in the region. They are normally huge in size and hence are suitable for mass-production of commodities, which can be sold domestically, as well as internationally. For Example: Shenzhen Special Economic Zone (Shenzhen SEZ), China

The same zones are also referred to as Free Economic Zones (FEZ) in the Kyrgyz Republic and as Free Trade Zones in many other Asian countries. Essentially, the core concept of all these zones is the same; i.e. to treat the designated zone as a foreign territory for the purposes of customs procedures and to also give them certain added incentives and infrastructure facilities, which are not available to ordinary units operating within the country.

1.1

A permanent solution for corruption: Special Governance Zone (SGZ)

In the 9th International Anti-Corruption Conference in South Africa held from 10-15 December 1999, Shang Jin Wei, Advisor to the World Bank submitted an action plan for the establishment of a new concept; the concept of SGZs (Special Governance Zones).

It advocates establishing a special governance zone (SGZ) within a country as an entry point for an eventual nation-wide anti-corruption program. A SGZ is an enclave within which comprehensive reforms can take place. It is geographically limited so that any unpredictable negative consequences can be contained.

According to the plan, reform measures can easily be explored and fine-tuned within small manageable zones before trying their implementation nationwide. Once successful, its experience can serve as a model for the rest of the country. The World Bank (and other international institutions) can play an important role especially at the initial stage of the program. The SGZ idea reflects a fundamental belief that the quality of public governance in many developing and transition economies can be significantly improved and corruption can be drastically reduced. The proposal is designed to achieve several objectives: to start the reform program within an area small enough to contain unpredictable consequences, to experiment and fine-tune various components of the anti-corruption program in practice, and by the power of example, to build momentum to implement a nation-wide governance-improving program. There are a few basic principles for successfully operating a SGZ. First, whenever possible, a fair market mechanism should be used to allocate resources, to produce and/or procure public goods, to cut red tape, and to reduce the need for permits and licenses. This would limit the opportunities for government officials to take bribes (and to be offered bribes). The reward for civil servants to deliver quality service and not to take bribes should be raised. At the same time, the penalty for civil servants for poor performance and for taking bribes should also be raised and fairly applied.

Genesis of Chinese Special Economic Zones
Chinese Economic Reforms

Historically, China has adopted an inward-looking strategy to its economic development. Successive Chinese governments thought that the economy could grow purely through selfreliance. However, there are always limitations to what a country can do by itself, for example limitations in raw materials, natural resources, technology, etc. These can hold back the growth of an economy and certainly China's economic growth lagged far behind much of the rest of the world up to the 1970's.

By contrast, countries like the USA were achieving significant economic growth in this period because they were practising foreign trade policies, which facilitated free trade. Any shortages in the domestic economy, for example oil in the USA or Japan, wheat in the Soviet Union or cars in India could be compensated for by imports. Foreign trade, then, could help to aid economic growth.

The export trade is also vital. Not only can exports be a means of paying for imports, but they also help to earn foreign exchange. Since 1979, the Chinese government has recognised the importance of exports as a means of fostering economic growth. Economic policies and special incentive programmes have been introduced to increase exports.

Establishment of SEZs When it decided to reform the national economic setup in 1978, the Chinese government embarked on a policy of opening to the outside world in a planned way and step-by-step. A decision was made in 1978 to permit direct foreign investment in several small "special economic zones" along the coast. Shenzhen, Zhuhai and Shantou in Guangdong Province and Xiamen in Fujian Province, and the entire province of Hainan were, under this policy, the first five Special Economic Zones to be established.

The aims of the establishment of the SEZs were to earn foreign exchange, to enhance employment, to attract foreign investment and to accelerate the introduction of technology and management expertise. The five SEZs established were Shenzhen, Zhuhai, Shantou in Guangdong province, Xiamen in Fujian province and Hainan Island. In order to attract foreign investors and develop foreign trade, the five SEZs offered similar packages of favourable incentives to foreign firms. One of the most attractive points of these packages was that income tax was fixed at the rate of 15 per cent, lower than that in other parts of China. Other advantages given were tax exemptions, land use rights, and banking and finance privileges, which were available to firms operating outside the SEZs.

Incentives China lacked the legal infrastructure and knowledge of international practices to make this prospect attractive for many foreign businesses, however. In later years steps were taken to expand the number of areas that could accept foreign investment with a minimum of red tape, and related efforts were made to develop the legal and other infrastructures necessary to make this work well.

Many other non-financial advantages were provided inside the SEZs. Firms were provided relatively free-market environments with minimal government intervention. This means that private and joint-venture enterprises were free to hire their own workers. They were also free to set wages to reflect market conditions. Bonuses could be awarded to workers for outstanding performance.

The common threads of these reforms are the search for efficiency and an assumption that management of the economy by large governmental bureaucracies is unlikely to produce this result.

Performance Primarily geared to exporting processed goods, the five special economic zones are foreignoriented areas, which integrate science and industry with trade, and benefit from preferential policies and special managerial systems. They have summed up their rich experiences in

absorbing foreign investment and developing foreign trade for China to open up to the international market. In recent years, the special economic zones have led the country in establishing new systems, upgrading industries and opening wider to the outside world, serving as national models. In 1999, Shenzhen’s new-and high-tech industry became one with best prospects, and the output value of new-and high-teach products reached 81.98 billion Yuan, making up 40.5 percent of the city’s total industrial output value and coming out in front in the country.

China has so far created 124 export-processing zones. Some 18 million were employed in firms with foreign investment alone, and many millions more in Chinese-owned zone enterprises. Shenzhen has become a window of the country to the outside world and a platform for reform
2.1 China's '99 Kunming World Horticultural expo was opened on April 30. This picture shows a scene built by Shandong Province.

measures, along with Xiamen, Zhuhai and Shantou.

Open Coastal Cities In the period between 1984-85, China further opened 14 coastal cities and three coastal regions to foreign investment. All of these places provide tax treatment and other advantages for the foreign investor. Laws on contracts, patents, and other matters of

concern to foreign businesses were also passed in an effort to attract international capital to aid China’s development. The largely bureaucratic nature of China’s economy, however, poses inherent problems for foreign firms that want to operate in the Chinese environment, and thus the policies to attract foreign capital have had to evolve continually in the direction of presenting more incentives for the foreigner to invest in China. Since 1992, the State Council has opened a number of border cities, and in addition, opened all the capital cities of inland provinces and autonomous regions. In addition, 15 free trade zones, 32 state-level economic and technological development zones, and 53 new- and high-tech industrial development zones have been established in large and medium-sized cities. As a result, a multilevel, multi-channel, omni-directional and diversified pattern of opening, integrating coastal

areas with riverine, border and inland areas has been formed in China. As these open areas adopt different preferential policies, they play the dual roles of ‘Windows’ (in developing the foreignoriented economy, generating foreign exchanges through exporting products and importing advanced technologies) and of ‘Radiators’ (in accelerating inland economic development).

All these efforts of the Chinese government were fruitful and resulted in the success of the concept of Special Economic Zones (SEZs). The most prominent amongst the Chinese SEZs is the Shenzhen SEZ. The growth of SEZs in China has been explained with the example of Shenzhen SEZ in the following Chapter.

2.3 China's Special Economic Zones gear up for WTO, future In recent years, the Chinese SEZs have been focusing on improving the overall economic quality and on developing high-tech industries and other economies with special features. Compared with other parts of China, the SEZs still hold an edge in utilizing domestic and overseas resources and markets and in adapting themselves to international common practices to boost economic development. Experts say that improving overall economic performance is a necessary choice for the SEZs, as China will face fiercer competition after its entry into the World Trade Organization. It is the only way for them to realize modernization. To hit the goal, analysts say, the SEZs should give national treatment to overseas investors for more funding while making efforts to open up overseas markets for their own companies products. By changing the past practice of offering preferential policies to overseas investors in certain fields, the SEZs have lifted all restrictions for them. According to officials, the expansion of reform in the SEZs will focus on systematic innovations, including adjustments in the ownership structure, and transformation of functions of government departments in accordance with international common practices.

‘Window to the World’ – Shenzhen SEZ

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Achievements Already, 48 of the world's 500 top enterprises have taken root in Shenzhen. Coupled with the rapid development of its export-oriented economy, the city achieved an export volume worth US$26.4 billion in 1998, amounting to one-seventh of China's total, topping the list of China's big and medium -sized cities for six consecutive years. Output value of the city's high and new technology products was worth 65.52 billion Yuan (US$7.89 industrial output. billion) in 1998, making up 35.4 per cent of the city's total

The International Architecture Association awarded Shenzhen this year, marking the first urban planning award in China and Asia. Shenzhen's educational, scientific and cultural undertakings have also achieved one success after another.

Computer hardware, software and phone-related products made up 70 per cent of the city's total high-tech exports. Asian markets receive 60 per cent of these goods. North America gets 26 per cent and Europe gets about 10 per cent. And 31 per cent of Shenzhen's high-tech exports were from State-owned enterprises. Wholly foreignfunded enterprises shipped out 30 per cent, and joint ventures made 28 per cent of the exports.

Shenzhen has become one of the world's most important manufacturing bases for high and new technology, namely electronics. City's encouragement of local enterprises to update technology and protect their intellectual property rights has sharpened Shenzhen's competitive edge.

Future of Shenzhen – Next 5 Years

The guideline and goal for the next 5 years is to follow Deng Xiaoping's theory on building socialism society of Chinese characteristics; take "hold on to the opportunity, deepen the economic reform, open up further, promote development, and keep stability of the society" as the guideline. Focus on establishing market economy and mechanism, optimize economic structure, made the city functional better, build new and high technology industrial development zone, regional information center, trading center, distribution center, and turn Shenzhen into a modern, international city.

In more detail, Shenzhen is going to:

1. Expedite the major projects of infrastructure construction. Infrastructure construction is what a city based upon to exist and develop. In the coming five years, in order to improve Shenzhen's investment environment, five networks are to be built: public transit network, water supply network, flood preventive network, power supply network, telecommunication network.

2. Widen the range of structural adjustment of industry; enhance the quality of economic growth and economic efficiency. Increase the input and establish production base to support leading industries. Encourage the merge of production and capital. Adjust organizational structure; strengthen equity management, quality assurance, and financial management. Put emphasis on making use of up to date technology. Introduce new agricultural technology, increase value add and economic efficiency on agricultural products.

3. Develop the service industry vigorously, perfecting the functionality as an international city. Developed service industry symbolizes a modern international city. We are to speed up the development of the service industry, and turn Shenzhen into a financial center, information center, trading center and distribution center.

Construction of the Regional Financial Centre Invite more global banks and financial institutions to open office in Shenzhen; Develop offshore business of domestic banks; broaden the coverage and internationalization of our security industry, increase the radiation power of Shenzhen's financial institutions.

Construction of Regional Information Centre As a hub of domestic and international market, Shenzhen boasts the unique advantage in developing information industry. We are going to strengthen the corporation with world's leading information service organizations, exploit information sources in conjunction with these organizations to form a wide connecting, highly efficient information network.

2.3 China's Special Economic Zones gear up for WTO, future In recent years, the Chinese SEZs have been focusing on improving the overall economic quality and on developing high-tech industries and other economies with special features. Compared with other parts of China, the SEZs still hold an edge in utilizing domestic and overseas resources and markets and in adapting themselves to international common practices to boost economic development. Experts say that improving overall economic performance is a necessary choice for the SEZs, as China will face fiercer competition after its entry into the World Trade Organization. It is the only way for them to realize modernization. To hit the goal, analysts say, the SEZs should give national treatment to overseas investors for more funding while making efforts to open up overseas markets for their own companies products. By changing the past practice of offering preferential policies to overseas investors in certain fields, the SEZs have lifted all restrictions for them. According to officials, the expansion of reform in the SEZs will focus on systematic innovations, including adjustments in the ownership structure, and transformation of functions of government departments in accordance with international common practices.

Impact of SEZs on Chinese Economy
The favourable impact of the SEZs on the economy of China is fivefold: • • • • • They attract foreign investment They help the growth of the export industry They earn foreign exchange They provide employment opportunities They help the indigenous economy improve its level of technology 1. Foreign Investment – The preferential treaties of the SEZ's have attracted foreign investors to invest a huge amount of money in China. For instance, Hainan and Xiamen have attracted investments mostly from Taiwan. By June 1987, a total foreign investment of $2.12 billion had been made in the five zones, amounting to one quarter of the total foreign investment in China during this period. The most marked success was registered in Shenzhen. By the end of 1986, it accounted for $1.4 billion through more than 4000 economic cooperation agreements. One significant factor is that the investment has not been confined to the export industry, but has permeated other sectors such as infrastructure construction, commerce, tourism and real estate. 2. Growth of Exports – As all five SEZs are coastal cities, they are convenient for ocean transport routes and help to promote the export industry. Preferential policies have encouraged foreigners to set up export- oriented factories in the territories. From 1985 to 1987, an annual average real growth rate of 83% was recorded for exports from the five zones. Shenzhen's exports, for example, grew at an average rate of 70% during this period. At the same time the proportion of the SEZs' industrial products that went to export had risen to 53% by 1987. 3. Foreign Exchange – The establishment of the SEZs has opened a way for China to increase its trade with foreign countries. They not only enhance trading activities such as foreign investment and tourism but also help China to earn foreign exchange through these activities.

These points are discussed below in detail:

4. Employment Opportunities – Since the beginning of the open-door policy, small-scale private businesses have been allowed to coexist with state enterprises. This has increased employment opportunities for local people and raised the level of economic activity. Also, many state workers sense that going into business on their own may provide greater income potential. They generally adopt an attitude commonly known in China as "I Bu Zho Er Bu Shu", which, loosely translated, means ‘refusing to work and refusing to relax’. Many prefer to work for jointventure firms for higher wages. So the average income in SEZs now ranks as the highest in China. 5. Improvement in Technology – In theory advanced technology and know-how will also flow into the country as a result of foreign investment. In turn, with increasing exports the force of international competition may bring greater pressure on Chinese firms to adopt more efficient work practices. It is perhaps questionable how much benefit the wider Chinese economy has reaped from these investments. The technology, patents and know-how remain firmly the property of, and are controlled by the parent companies. It may however be the case that in the long run the work culture and practices adopted by foreign companies could have some washback effect over wider economic practices in the country. In conclusion, the establishment of the SEZs has helped to increase the export trade, which in turn has helped to improve the Chinese economy. Preferential treaties have been offered in the five SEZs to attract foreign investment. A large amount of foreign investment has occurred not only in the export trade, but also in infrastructure construction, commerce and tourism. Foreign companies have been encouraged to set up factories in the territories and the export industry has grown. Jobs opportunities have been provided for locals as factories need labour and the average income of the people has increased. In addition, advanced foreign technology has been brought in with the inflow of foreign investment. All these factors have contributed to the growth of the Chinese economy. It remains to be seen if these quantitative advances, in which the SEZs have played an important role, are matched by commensurate advances in the quality of life for the majority of Chinese people.

3.1 Not all roses - Unwanted byproducts of SEZ developments

About 27 million people, 90 per cent of whom are women, work in export processing zones worldwide, often earning low wages in poor working conditions, the International Labour Organisation (ILO) said. The United Nations agency also said that the industrial zones, which import and process materials before exporting them again, were huge employment generators but often lacked meaningful links with the domestic economies around them Vietnamese example The rapid socio-economic development in southern Vietnam’s Dong Nai Province recently has been attributed to its successful Industrial Zones (IZs), which have resulted in impressive job generation and export figures. More than 80,000 jobs have been generated by the IZs over the past five years and more than US$2.7 billion in export revenues has been earned by enterprises operating within them. Total revenues for the IZs during that period topped $4.7 billion, contributing $176 million to the State budget, nearly $1 billion in export receipts Throughout the country most of the projects in the IZs focus on sectors that is expected to provide quick returns on capital such as motorbike and electronics assembly and other industrial consumer goods. Little attention has been paid by investors, to key industrial sectors such as engineering, electronics and chemical production and food processing. Furthermore, nearly 80 percent of foreign-invested projects use obsolete machinery and equipment, resulting in products of low competitiveness aimed at domestic consumers, Another problem was that the occupancy rate of the IZs remains low with only some 41 percent of the total land area let to investors at present.

Current Scenario

WHILE celebrating the 20th anniversary of China's four earliest Special Economic Zones (SEZs) on August 26, the cities of Shenzhen, Xiamen, Zhuhai and Shantou, and Hainan Province mapped out development blueprints for the new century. Analysts believe that by setting the goals for modernization, the SEZs are still leading other parts of the country in development as they were 20 years ago.

Two decades ago, local authorities in Shenzhen, encouraged and supported by senior Chinese leaders including Deng Xiaoping, were determined to blaze a trail for China's reform and opening-up drive. Shenzhen has then become a window of the country to the outside world and a platform for reform measures, along with Xiamen, Zhuhai and Shantou.

To ensure successful reform and opening up in the SEZs, China introduced a wide range of special preferential policies. As the opening-up drive swept other parts of the country, the preferential policies were applied to more regions. The saying that special economic zones are no longer special prevails in the country. However, the SEZs have not lost their vitality. And observers say that the SEZs still shoulder a historical mission today. In recent years, the SEZs have been focusing on improving the overall economic quality and on developing high-tech industries and other economies with special features. Compared with other parts of China, the SEZs still hold an edge in utilizing domestic and overseas resources and markets and in adapting themselves to international practices to boost economic development. While fully expanding economic co-operation with multinationals, Shenzhen is tightening ties with Hong Kong, and Xiamen and Hainan with Taiwan. In Shantou, efforts have been made to attract overseas Chinese, one of the major channels of overseas investment to the Chinese mainland. Experts say that improving overall economic performance is a necessary choice for the SEZs, as China will face fiercer competition after its entry into the World Trade Organization. It is the

only way for them to realize modernization. To hit the goal, analysts say, the SEZs should give national treatment to overseas investors for more funding while making efforts to open up overseas markets for their own companies' products.

By changing the past practice of offering preferential policies to overseas investors in certain fields, the SEZs have lifted all restrictions for them. According to officials, the expansion of reform in the SEZs will focus on systematic innovations, including adjustments in the ownership structure, and transformation of functions of government departments in accordance with international practices. The government should also simplify procedures to make it easier to get businesses up and running and give a bigger role to the market, while improving services, experts say. At the same time, efforts must be made to improve the social security system and the financing system, and have intermediary organs operating according to standards. The forthcoming 50 years will be an important historical period in China's drive to realize modernization and make the Chinese nation's long-cherished dream of building a powerful China come true. Experts are confident that Shenzhen, Zhuhai, Shantou, Xiamen, and Hainan will set the pace in China's drive toward modernization.

Beginning of Economic Zones in India
The policies of Liberalisation, privatization and globalisation (LPG) that were introduced in 1991 removed the highly complex system of controls prevailing in post-independent India. Now, in the new market scenario, it became very important to become competitive in terms of price, but also quality, time, service, etc. India has always paid more attention to its exports, because they earn revenue. To increase them, the idea of Export Promotion Zones (EPZ) was conceived. These were areas where import substitution was not followed and all inputs for any manufacturing process were allowed to be imported freely. Such zones were established to promote trade and to develop a specific industry by providing it with the entire infrastructure it needs.

Evolving Concept This initial concept was called EPZ (Export Processing Zone) and was introduced first in Kandla, Gujarat. The Indian manufacturer was nowhere in terms of international standards of either quality or price. So, to make him globally competitive, the government had to provide some incentives to him. Most of these incentives could be used by almost every producer everywhere. But, there were special incentives which, when given, could result in a very low cost of production for the manufacturer and there was a risk then that the goods could then end up being sold in the domestic market instead of being exported. So, the government established special zones where people could come in, establish their factories, procure (buy domestically or import) whatever they would require for production, produce locally and then export these goods. For such a situation, there needed to be precise control over every importer and all his actions, which could lead to any harm to national interest. To prevent all this, EPZs were established, which were land-locked areas, under constant surveillance by the customs authorities and security personnel of the zone. These zones would regulate all the material coming into and going out of the zone and thus, keep a check on the manufacturers’ actions.

EPZs worldwide Thus, EPZs were set up with the aim of boosting export-oriented investment and for eliminating the constraints imposed by India’s trade and industrial policies. As a concept, EPZ dates back to

1962. Some of the first EPZs were founded in Puerto Rico in 1962, Mexico (1964), Kandla (1965), Taiwan (1966), South Korea (1971), Philippines and Malaysia (1972). The EPZ set up in Mauritius is not based on geographical and locational advantages but is more a functional concept.

Most of these countries have had a good and fulfilling experience by setting up EPZs. EPZs have helped promote an export-oriented industrialization strategy with increasing value-additions in domestic production. Studies have shown that countries where EPZs function have had excellent performances on the trade front.

Of the 850 EPZs worldwide, a large number of them operate in developing countries. The world over, it has been observed that processing exports have outperformed others. In fact, most Asian and Latin American countries have excelled in trade only due to the processing trade.

The Government of India had established seven EPZs over a period of time. These were: 1. Kandla Free Trade Zone (KAFTZ), Kandla, Gujarat – 1965; 2. Santa Cruz Electronic Export Processing Zone (SEEPZ), S. Cruz, Maharashtra – 1974; 3. Cochin Export Processing Zone (CEPZ), Cochin, Kerala; 4. Falta Export Processing Zone (FEPZ), Falta, West Bengal – 1984; 5. Madras Export Processing Zone (MEPZ), Madras, Tamil Nadu; 6. Noida Export Processing Zone (NEPZ), Noida, Uttar Pradesh – 1985; 7. Visakhapatnam Export Processing Zone (VEPZ), Visakhapatnam, Andhra Pradesh. Kandla was the only Free Trade Zone in India and was the first zone to be established in India.

While the Santa Cruz Electronics Export Processing Zone (SEEPZ) was meant exclusively for the exports of electronics and gems and jewellery, all other zones were multi-product zones. 100% foreign equity was welcome in EOUs and EPZs.

Shortcomings & Problems of EPZs
According to an Audit Report conducted on EPZs and FTZs in 1999, SEEPZ earned only US$ 1.25 bn. net foreign exchange in the past 8 years.

The reasons for this were attributed to the following causes: • • • • Failure to elicit full commitment from people as they stay far away from their place of work. Insufficient comprehensive and well-knitted internal and backup infrastructure. High dependence on outside infrastructure created and maintained by different agencies lacking co-ordination. The result: under achievement of actual potential. Limited possibility of improving connecting infrastructure to enhance the performance of existing EPZ/FTZ.

For example: On 12th March 1994, a memorandum was submitted to Shri Zafar Saifullah, Cabinet Secretary, Government of India regarding the problems of EPZs and EOUs. The Development Commissioner, SEEPZ, Santacruz Electronics Export Manufacturers’ Association (SEEMA), and the SEEPZ Gems & Jewellery Manufacturers’ Association, SEEPZ submitted this memorandum in association with the Federation of Indian Export Processing Zones Industries Association. 5.1 The above graph shows that the EPZs never really contributed a substantial amount in the national exports. Also, the share of EPZ unit exports in total exports was more or less at the same ratio over the 3 years from 96-97 to 98-99.

The main problems highlighted in this report were: • Inconsistencies in government regulations – The Import Trade Control and Exchange Control Regulations have changed over time to benefit EPZ units, but the customs regulations were still governed by the notification issued at the time of formation of the zones. This resulted in a situation wherein certain activities permitted by the EXIM policy could not be undertaken, as the same were not permitted by the customs regulations. • Customs working & procedures – The units in the zone were allowed to work 7 days a week to maximize exports, but the Customs department worked only 5 days a week, resulting in the units having to wait for 2 days to get clearance for their activities. Also, there was still a lot of red-tapism left while dealing with issues like returning of export goods, return of rejected components, de-bonding of capital equipment, waste disposal • Modes of transportation – Courier was not recognised as an approved mode of transportation and hence any goods received by courier had to be notified and duty had to be paid on them.

Also, there were problems with the formation of Trade Unions, multiplicity of bonds, fax copies not accepted by customs, hassles in sub-contracting, DTA sales regulations, etc. These, and many other such trivial matters were barriers in the proper working of the units in the zones. Over a period of time, some of these hassles were done away with. But there was never a situation when the units in the zones were really satisfied with the procedures.

The experience of Export Processing Zones (EPZs), which were duty-free enclaves, has not been up to expectations. Even with flexibility to sell 50 per cent of exports in DTA at concessional rates of duties, most EPZ units have failed. The eight EPZs together contributed barely 3.7 per cent of the country’s total exports.

In fact, other than Santacruz Electronic EPZ, the other seven EPZs together contributed to only about 1.41 per cent of the country’s exports. There is a very strong view in the revenue

department that the dismal performance of the EPZ units does not justify the revenue sacrifice or revenue leakage inherent in the schemes. In their eyes, the EPZs have failed.

These shortcomings were responsible for the recent makeover of these EPZs into SEZs. The transition process is covered in the next Chapter.

5.2 Customs probe Bharat Shah's export units for diamond smuggling In January 2001, SEEPZ customs conducted a stock taking of two units from Jan 31, 2000. B V Star and B V Jewels (both owned by Bharat Shah) were probed for suspected diamond smuggling. The following was found: Diamonds worth 26.29 cr (73730 cts) of B V Jewels were found short, allegedly were smuggled out of SEEPZ. Customs duty demanded, therefore, is Rs 12.54 cr B V Jewels had also suppressed the facts of disposal of capital goods worth Rs 58.34 lakh to one SB &T International Ltd, SEEPZ, without permission of customs. The customs duty foregone was Rs 39.31 lakh. That is how the total duty demanded is Rs 12.94 cr Suresh Mehta, a partner in both companies, had shown possession of 23 diamonds of 27.42 cts, valued at Rs 39.63 lakh, for which he could not show legal import documents. B V Jewels exported diamonds worth Rs 27 cr studded in jewellery, between 1998 and Feb 2000, but could not show how they had procured these.

• Further, another unaccounted lot of diamonds of B V Jewels weighing 10631.39 cts and valued at Rs 4.03 cr, were found without corresponding documents to show legal possession. • In the case of B V Star, which had no production since 1997, customs duty of Rs 2.57 cr is demanded because of shortage of 8604.5 gms of gold and 844.16 cts of diamonds revealed in the stock taking.

Change to SEZs
EXIM Policy changes

Realising the failures and shortcomings of the EPZ Scheme in India, the Commerce Ministry decided to improve the existing situation. The changes and fine-tuning done in the existing EPZs was to no avail and was not yielding the required results. An Indian delegation headed by the then Director-General of Foreign Trade, Mr. N.L. Lakhanpal visited UAE and saw the Jebel Ali Free Zone (JAFZ), Dubai and Fujairah Free Zone (FFZ) there. This was the birth of the idea of having similar zones in India.

Toying with the idea of Free Trade Zones / Free Zones After the delegation came back, it submitted a report on the findings of the visit. The report recommended that the Development Commissioners of each zone (in India) should be vested with all the authority regarding their respective zones, thus making them the ultimate local authority on all issues, as is the case in UAE. Also, like their UAE counterparts, the Indian DCs should be required to prepare a Business Guide. The report also stated that the Free Zones in UAE accounted for all duty-free raw material, ensuring it was used for export. Even in the case of DTA, they would ensure that it was after payment of full customs duty on the value of the finished goods. The commerce ministry then decided to convert all existing EPZs into FTZs with SEEPZ, Noida and Kandla being converted that year, and the rest to follow.

Reducing role of Customs According to the proposed policy, the role of customs was to reduce and the new zones would be exempt from all customs department rules and regulations from July 1, 1999. After the proposed conversion of the units to FTZs, the role of the customs department officials was to be confined to working outside the units, giving them total operational flexibility, as proposed in the revised export and import policy (1997-2002). The FTZs would have been outside the customs ambit with checks only at the entry and exit points by customs officers.

Under the new scheme, FTZs would be permitted to sell 50 per cent of their production in the DTA, subject to payment full customs duties. This means the remaining half alone needed to be exported. But, according to ministry officials, for their own survival, the units would have to find markets for their entire production, as DTA sale will prove rather prohibitive.

The Indian labour laws ere to apply to FTZs though the commerce ministry's ultimate objective is to make these inapplicable. The practice the world over is to exempt FTZs from the purview of labour laws.

Arrival of SEZs The plans for the FTZs got shelved eventually. Mr. Murasoli Maran, the Minister for Commerce & Industry, suggested the setting up of Special Economic Zones in India, similar to the ones in China. This decision to set up SEZs was the highlight of the EXIM Policy.

The decision was commendable, but it did not take into account several things. The initial proposed SEZ Scheme was not a major improvement over the existing EPZ Scheme at that time. Basically, almost all the features of the original SEZ Scheme already existed in the form of incentives available to EPZ units. The major advantage for SEZ units was that they had to now achieve only positive net foreign exchange earning as a percentage of exports (NFEP), where as EOU/EPZ units with investment of less than Rs 5 crore in plant and machinery had to achieve minimum stipulated NFEP.

Inadequate extra facilities over EPZs The relaxation for SEZ units was significant but not sufficient enough to sway the decision of the entrepreneurs in favour of setting up units in SEZ. The major advantage for EOU/EPZ units was that they could sell upto 50 per cent of their exports in the DTA at half the rates of customs duties, whereas SEZ manufactures could sell in DTA only on payment of full duties. DTA sale was a very important option for EOU/EPZ/SEZ units, as the international markets are not always booming or lucrative.

Trading units in SEZ/EPZ were not allowed to sell in DTA. Ideally, so long as the trading unit paid full import duties on DTA sales, there should have been no restrictions.

Unmet expectations The commerce minister had announced that the EPZ at SEEPZ, Kandla, Cochin and Viskhapatnam would be converted to SEZ. The transitional arrangements for existing EPZ units who did not want to opt for SEZ scheme was that they had to convert into EOU or de-bond. In either case, they had to move out of EPZ, which was difficult for existing units.

The industry felt that the government needed to make SEZs an attractive destination for entrepreneurs. The most oft-repeated request was that the government should treat SEZ as foreign territory for all purposes. There was also a feeling that the supplies from DTA to SEZ must be treated as physical exports and that all the customs notifications should apply to sales from SEZ to DTA as they apply to physical imports.

Amendments The existing EPZs were converted to SEZs and activated on 1 st November 2000. Also, proposals for the establishment of new SEZs were cleared. This was followed by some notifications being issued which made the necessary changes in the SEZ Scheme. The most prominent among them was the declaration of SEZs as foreign territory. The Finance Ministry declared the area under the SEZs as `foreign territory' for the purpose of duties and taxes. This means that goods supplied to the SEZ from the Domestic Tariff Area (DTA) will be treated as `deemed' exports and goods brought from the SEZ to the DTA will be treated as `imported' goods. Thus, was evolved, the present concept of SEZs in India.

Present SEZ Concept

The facilities available to SEZ units are as follows: Customs related: • • • • • • • • • • • • • • • • • • No license required for import. Exemption from custom duty on import of capital goods, raw materials, consumables etc. Exemption from Central Excise Duty on procurement of capital goods, raw materials etc. from the domestic market. Exemption from Custom/Excise duty on import/domestic procurement of goods for setting up of units in the Zone Supplies from DTA to SEZ will be treated as deemed exports. Reimbursement of Central Sale Tax (CST) on inter-State purchases. Reimbursement of duty paid on Furnace oil as per Drawback rate notified by DGFT. SEZ units have to be a net foreign exchange earner. No pre-determined foreign exchange earning or minimum performance requirement. Access to domestic market. Simplified Custom procedure. Trading activity for exports permitted. Fast track clearance of imports and exports. Job working/sub-contracting facilities for exports, including for jewellery units. Facility to subcontract part of production abroad In-house Custom clearance. Ready infrastructure. Duty free goods to be utilized within the approval period of 5 years. Performance of units to be monitored by a committee consisting of Development Commissioner and Customs.

• •

No separate documentation required under Customs and EXIM Policy. Export defective goods etc. without GR waiver

Investment related: • • • • • • • • 100% FDI permissible for units in SEZs in manufacturing sector barring few sectors. No Cap on foreign investment for SSI reserved items. Exemption from industrial licensing requirement for items reserved for SSI sector. Profits allowed to be repatriated freely without any dividend-balancing requirement. 100% of foreign exchange earnings can be retained in EEFC account. External commercial borrowing shall be subject to usual procedure. Facility to realize and repatriate Export proceeds within 12 months. Attractive tax holiday upto 2010 as per Section 10A of the Income Tax Act.

Foreign exchange related:

Tax related: Labour Laws: The labour laws of the land will apply to all units inside the Zone. However, the respective State Governments may declare units within the SEZ as public utilities and may delegate the powers of the Labour Commissioner to the Development Commissioner of the SEZ.

Role of State Governments State Governments will have a very important role to play in the establishment of SEZ. Representative of the State Government, who is a member of the Inter-Ministerial Committee on private SEZ, is consulted while considering the proposal. Before recommending any proposals to the Ministry of Commerce & Industry (Department of Commerce), the States must satisfy themselves that they are in a position to supply basic inputs like water, electricity, etc.

Terms and Conditions for establishment • Only units approved under SEZ scheme would be permitted to be located in SEZ.

The SEZ units shall abide by local laws, rules, regulations or bye-laws in regard to area planning, sewerage disposal, pollution control and the like. They shall also comply with industrial and labour laws as may be locally applicable.

• • •

The SEZ should have an area preferably of 1000 hectares. Such SEZ shall make security arrangement to fulfill all the requirements of the laws, rules and procedure applicable to such SEZ. Wherever the SEZs are landlocked, an Inland Container Depot (ICD) will be an integral part of SEZs.

The main differences between the EPZ and SEZ Schemes are:

• • • • • • • • • • •

No minimum Export Performance (EP) or Net Foreign Exchange earnings as Percentage of exports (NFEP) is needed in an SEZ, as for EPZ units. Monitoring of performance of SEZ units by a Committee headed by Development Commissioner and consisting of Customs. Duty to be recovered in case of failure to achieve positive NFEP under Custom Act in proportion to shortfall unlike in EPZ. Unlimited DTA sales on full duty. For EPZ, only 50% of exports No linkage with positive NFEP for domestic sale for SEZ units. In EPZ sales are subject to achievement of NFEP. Duty free material to be utilized over five years unlike in EPZ where it is one year. Subcontracting facility available to SEZ jewellery units, which is not available to EPZ units. All imports on self-certification, unlike in EPZ, where attestation of Development Commissioner is required for import of Capital Goods. No routine examinations by Customs of export and import cargo in SEZ. 100% FDI through Automatic Route available to manufacturing SEZ units. In EPZ, FIPB approval required. Procedural simplification for operations like record keeping, inter-unit transfer, subcontracting, disposal of obsolete material, waste and scrap.

Other facilities like tax holiday, retention of 70% of export earnings in EEFC Account, etc. are common for both EPZ and SEZ.

Salient features and schemes of an SEZ in India

Units set up in SEZs which will operate under a single purpose bond, can import or procure goods from the DTA duty-free for manufacture of goods and services, trading, production, processing, assembling etc and exports thereof.

Goods can be sold in the DTA only if the unit achieves the Net Foreign exchange Earning as a Percentage of exports (NFEP) annually and cumulatively as specified in the EXIM Policy. A trading unit has to achieve a turnover of $1 million in five years. Penal action can be taken on default.

DTA sales are, however, banned for goods that have been imported both as scrap as well as for repair. Trading units in the SEZs also cannot sell goods in the DTA.

SEZ units can import and export through port, airport, land customs station, ICD, CFS, courier mode and post parcel. Software development units can import and export through data communication and telecommunication links.

The norms for procurement of goods from domestic sources by SEZ units will be the same as those laid down for the EPZ units. In respect of imported and domestically procured cargo, goods will be assessed on the basis of documents provided by the units and there will be no physical examination. However, customs authorities may examine such cargo when there is specific information regarding clandestine removal.

Exports will be permitted on the basis of self-certification by the units and there will be no routine examination of the consignment by the SEZ custom authorities. At the

gateway port, the SEZ cargo will be subject to the examination procedure as per instructions in force.

SEZ units will have to maintain financial year-wise accounts of all forex inflow by way of exports and other receipts; all forex outflow on account of payment of dividend, royalty, fees etc and sale in the DTA. Units can also undertake job work for the DTA without payment of duty. Provisions have also been made for temporary removal of goods into the DTA and to other SEZ, STP, and EOU zones. Inter-unit transfer of goods amongst SEZs will not be subject to customs scrutiny. Duty remission will be available on destruction of goods within the SEZs. Units have also been permitted to dispose obsolete goods on payment of the applicable customs duties.

In case of imports, the Bill of Entry with specially stamped endorsement as "SEZ Cargo" is filed with the Assistant Commissioner/Deputy Commissioner of Customs in the SEZ for assessment. For procurement of goods from domestic sources by SEZ units, CT-3 certificates are issued to the units and against such CT-3; the goods including capital goods are procured from DTA without payment of duty. In both cases, i.e. both in respect of imported and domestically procured cargo, the goods are assessed on the basis of documents furnished by the units. Goods are not examined physically and ‘out-of-charge’ is given after verifying the marks and numbers on the packages only.

When the import consignments are required to be transshipped to a SEZ located at a station away from the place of import, the same is allowed under normal transit procedure. The unit files the Bill of Entry with the Assistant Commissioner/ Deputy Commissioner of Customs in-charge of the SEZ on the basis of the transit document.

In case of exports, the Shipping Bill along with relevant documents is filed with the Customs authorities in the Zone. As in the case of imports, the SEZ export cargo is not examined in routine and export is allowed on the basis of self-certification by the units. The units, after self-examination of the consignments, are required to submit the shipping bills to the Assistant Commissioner/Deputy Commissioner of Customs for "let export"

order. After obtaining the "let export" endorsement on the shipping bill, the consignment is taken to the gateway port for export. At the gateway port also, the SEZ export consignment is not examined in routine. However, whether at the Zone or at gateway port or during transit of such cargo, the Customs authorities can examine the consignments when there is a specific information/intelligence. For this purpose, the orders of the Assistant Commissioner/Deputy Commissioner of Customs are required to be obtained.

Sub-contracting: The SEZ units are allowed to sub-contract part of the production process abroad. Approval for sub-contracting abroad is accorded by the Board of Approval. The goods sent for job-work abroad are to be returned to the unit for final processing/manufacturing before exports. The unit is required to execute a suitable bond for sub-contracting goods abroad and is required to account for the goods including waste/rejects in the manner as prescribed by the Commissioner of Customs/ Central Excise in this behalf. The SEZ units are also allowed to undertake job-work for export on behalf of DTA units. This is subject to the condition that the finished goods are exported directly from SEZ units and export documents are made in the name of the DTA unit. On export of such goods manufactured by SEZ unit on behalf of the DTA unit, the DTA unit is entitled to refund of duty paid on the inputs by way of brand rate of duty drawback. The SEZ units are allowed to remove the moulds, jigs, tool, fixtures, tackles, instruments, hangers, patterns and drawings without payment of duty to the premises of the subcontractors subject to the condition that such goods are brought back to the unit on completion of the job work within the period specified in this behalf.

Gem and Jewellery units in SEZ: Generally speaking, sub-contracting is not allowed to gem and jewellery units. However, the gem and jewellery units in SEZ are allowed to take out gold/silver/platinum for subcontracting subject to the condition that goods, finished or semi-finished, including studded jewellery, containing quantity and purity equal to the gold/silver/platinum so taken out are brought back to the Zone within 30 days. It is to be noted that diamonds, precious or semi-precious stones are not allowed to be taken out for sub-contracting. The

gem and jewellery units are also allowed to receive plain gold/silver/platinum jewellery from DTA in exchange of gold/silver/platinum of equal quantity and purity. These units are, however, not eligible for any wastage or manufacturing loss against the jewellery received from DTA after processing or against exchange of gold/silver/platinum. The DTA units undertaking job work or supplying jewellery against exchange of gold/silver/platinum are not entitled to deemed export benefits. The gem and jewellery units are also allowed to sub-contract part of the production or production process through other units in the same SEZ subject to records being maintained by both the supplying and the receiving units. Further, the gem and jewellery units in SEZ are allowed certain other facilities as mentioned below: (i) Taking out the items of gem and jewellery into DTA temporarily without payment of duty for the purpose of display and return thereafter; (ii) Personal carriage of gold/silver/platinum jewellery or precious or semi-precious stones or beads and articles as samples up to US$ 1,00,000 for export promotion tours and temporary display or sale abroad subject to the condition that the exporter would bring back the jewellery or the goods or its sale proceeds within 45 days from the date of departure through normal banking channel; (iii) Export of jewellery including branded jewellery for display and sale in the permitted shops setup abroad, or in the showroom of their distributors or agents provided that items not sold abroad within 180 days, shall be re-imported within next 45 days; (iv) Removal of parts & tools of machine temporarily without payment of duty for the purpose of repair and return thereof. (v) Taking out gem and jewellery manufactured in the SEZ to the retail outlets or showrooms set up in the departure lounge at international airports for sale to a tourist, as defined in the Baggage Rules, 1998, leaving India. (vi) Sale of gem and jewellery manufactured in the SEZ to a foreign-bound passenger and transferring the same to the retail outlets or showrooms set up in the departure lounge or Customs warehouse at international airports for being handed over to the said passenger for the purpose of export.

(vii) Removal of moulds, tools, patterns, and drawings into the DTA for job work without payment of duty and to be returned to the unit thereafter. For availing of the above mentioned facilities, prior permission of Assistant Commissioner / Deputy Commissioner is required. In case of gem & jewellery units, scrap, dust or sweepings generated in the unit is allowed to be forwarded to the Government Mint or Private Mint for conversion into standard gold bars and return thereof to the Zone subject to the observance of procedure laid down by the Commissioner of Customs. The said dust, scrap or sweepings are also allowed clearance into DTA on payment of applicable customs duty on the gold content in the said scrap, dust or sweepings. Samples of the sweepings/dust are taken at the time of clearance and sent to mint for assaying. The assessment is finalized when the reports are received from the mint. • Inter-Unit Transfer:

Inter unit transfer of goods amongst

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