India and Nepal have historically shared strong trade and commercial relations as neighbours in the

South Asia region. Even during the times when Nepal faced continuous political uncertainty that
created several barriers to trade and investment, India remained the country’s closest commercial
partner. India is Nepal’s largest export market, the biggest source of its imports, the top investor of
foreign capital stock and is among the largest donors of foreign aid. India also provides Nepal transit
facility through its territory to access seaports for trading with rest of the world, since Nepal is a
landlocked country bordered by India on three sides.

Bilateral Trade Treaties

Indo-Nepal economic relations have been governed by the bilateral treaties of Trade and Transit and
Agreement for Co-operation to Control Unauthorised Trade signed in 1971, 1978, 1996, 2002 and
2009. The rules of origin criteria have played an important role in determining the course of India
Nepal trade. The Indo-Nepal trade treaty of 1996 was a landmark in Indo-Nepal bilateral trade, as
India provided duty-free access to all products manufactured in Nepal on the basis of a certificate of
origin issued by the Nepali authorities with no minimum requirement of domestic value addition.
Only three products were on the sensitive list- namely, alcoholic liqueurs, perfumes and cosmetics
and cigarettes and tobacco. The 2002 treaty re-introduced the value addition norm of 30 per cent
with an additional requirement of a change in classification at the four-digit level of the Harmonised
Commodities Description and Coding System to qualify for preferential access to the Indian market.
A tariff rate quota was imposed on four items i.e., vegetable ghee, acrylic yarn, copper products and
zinc oxide, under which duty-free access was allowed only up to a specified limit. In the 2009 treaty,
the tariff rate quota for copper products was increased by 2,500 metric tons.

An Inter-Governmental Committee (IGC) meeting on matters of Trade, Transit and Cooperation to

control unauthorised and illegal trade was held in December 2011. Both sides had a detailed
discussion on various bilateral issues.

Trade Patterns and Potential

India has had a trade surplus with Nepal which has been growing over the years. The average trade
balance ratio increased from 76 percent in the period 2010– 2011 to 2018–2019, reflecting India’s
expanding trade surplus (Table 1). In 2018–2019, India’s top exports to Nepal at the HS-6
classification of items included petroleum oil and oils from bituminous minerals, light oils, milled
rice, motor cycle parts, semi-finished products of iron or non-alloy steel, cement clinkers and
medicines

Issues Facing India’s Exports to Nepal

 India’s Export Potential and Tariffs Under Bilateral Treaty and SAFTA

The top 10 products (at HS-6 level) with the largest export potential from India to Nepal are semi-
finished products of iron or non-alloy steel, cellular phones, petroleum oils and oils obtained from
bituminous minerals, homeopathic medicines, cement clinkers, mechanical shovels, vehicles,
polyethylene and semi-milled or wholly milled rice aircrafts (Table 6). Out of these 10 high-potential
items, 3 items are on Nepal’s sensitive list, that is, they do not receive a preferential rate of duty
under SAFTA but receive bilateral rebates given to India on Nepal’s MFN rates. Of the remaining
seven non-sensitive items, four are subjected to a higher rate of duty under the bilateral agreement
between India and Nepal than that offered under the SAFTA agreement (Table 6). An examination of
the tariff rates applicable to items with export potential items from India to Nepal indicates that
there is an ‘anomaly’ in the imposition of tariff rates under SAFTA and the Indo-Nepal bilateral trade
treaty. For 17 items, the duty applicable under the bilateral trade treaty is higher than the SAFTA
rate (Table 7). This anomaly needs to be addressed so that India gets the benefits of SAFTA under its
bilateral trade agreement.

 Levy of the Agricultural Reform Fee

While the Bilateral Trade Treaty provides duty-free access to each other’s primary products as the
agreed list, Government of Nepal levies Agriculture Reform Fee at the rate of 5 per cent on import of
primary products from India. When Nepal became a member of the World Trade Organisation
(WTO) in 2004, it had made a commitment to eliminate the duty in 10 years. However, this fee
continues to be levied. Since 2014, the Government of India has been raising the issue ofeliminating
‘Other Duties and Charges’ (ODCs) during the IntergovernmentalCommittee Meeting (IGC). But
Nepal had sought an extension to eliminate tax, citing the adverse impact of a devastating 2015
earthquake on the economy (The Himalayan Times, 2018). India could negotiate the removal of this
duty, in future, at least on the agricultural items on which customs duty has been exempted under
the bilateral trade treaty

 Competition from Chinese Exports

There is a general perception that India faces a looming threat from the growing dominance of China
in Nepal’s domestic markets. However, data shows that even though China’s share in Nepal’s
imports increased from 11 per cent in 2010 to 13 per cent in 2017, India’s share also increased from
64 per cent to 65 per cent during the same period. Therefore, India continues to be the largest
exporter of goods to Nepal (Table 8).

Issues Facing India’s Imports from Nepal

 Import Potential from Nepal

Calculating the value of additional import potential for India to import from Nepal at the HS-six-digit
disaggregated level shows that there is only a small, that isUS$170 million, worth of additional goods
that Nepal can potentially export to India (Table 9), which is less than half of the current imports,
amounting to US$385 million. This gives an indication that products that Nepal is exporting to other
countries do not have a demand in India (as they are not being imported into India from other
countries as well).

 Underutilisation of the Tariff Rate Quota

The 2002 revision of the Bilateral Trade Treaty imposed a tariff rate quota on four items—vegetable
ghee, copper products, acrylic yarn and zinc oxide. Duty-free access of these goods imported from
Nepal into India was allowed only up to a specified quota limit, beyond which MFN tariff is
applicable. The quota, however, has remained grossly underutilised (Table 10). In 2017, the utilised
quota was 23 per cent for acrylic yarn, 12 per cent for copper products and zero of vegetable ghee
and zinc oxide (Table 10). by 2017–2018, the combined share of these products has decreased to 9
per cent. Given the low quota utilisation rates, India may consider removing the quota requirement
Policy Recommendations

From the above assessment of the trends and issues facing trade and FDI flows, it can be seen that
India has been Nepal’s closest economic and commercial partner, but emerging issues need to be
addressed for the two countries to engage beneficially in future. The following recommendations
could help the two countries: The following is a summary of the main recommendations for the way
forward:

1. Recommendations for enhancing trade

2. a. Address the ambiguity under SAPTA: The concessions under SAPTA were to cease
following the completion of the SAFTA process. As Nepal is yet to complete the tariff
liberalisation process under SAFTA, it leaves the status under SAPTA ambiguous. This
ambiguity needs to be addressed.
b. Address the anomaly in tariff concessions between bilateral agreement and SAFTA: India
can negotiate with Nepal to seek concessions on items in which the tariff duties are higher
under the bilateral treaty than under SAFTA.
c. Remove the TRQ: India should consider removing the TRQ on four items, namely acrylic
yarn, vegetable fats, zinc oxide and copper products as the quotas are underutilised.
d. Acceding to request by nepal for minimum 25 per cent value addition may be postponed:
The WTO is in the process of reviewing the use, and application of preferential rules of origin
for LDCs. In June 2018, the WCO had published a practical guide on the Nairobi Ministerial
decision on rules of origin for LDCs (World Customs Organisation, 2018). India should
examine these developments before acceding to Nepal’s request.
e. Change the CTC requirement from 4-digit to 6-digit under bilateral treaty: India should
consider changing the requirement for change of tariff classification under the bilateral
treaty from a 4-digit to 6-digit change of tariff heading. The change of tariff heading at the 6-
digit level is a less stringent requirement and India is already offering it under the DFTP
scheme.

Challenges faced by SAFTA

India has emerged as the region’s unquestioned economic leader. It has failed to reach its full
potential, however, due to tenuous relations with its neighbors. Experiences of the last two decades
(1985-2005) have shown how difficult it is to bring about reasonable economic integration between
such politically acrimonious members of the SAARC as India and Pakistan. Their relationship has
always been one of suspicion. In stark contrast, the small economies of Bhutan and Nepal have
maintained strong trade links with India

Since India constitutes 70 per cent or more of SAARC’s area and population, and has political
conflicts with all its neighbours, India has to redefine its role, from seeking reciprocity in bilateral
relations, to being prepared to go the extra mile in meeting the aspirations of all other SAARC
nations. A shortcoming in the current situation is that unlike Europe, SAARC is not an association of
nearly equally sized countries. India, as stated earlier, is about 70 per cent of the size of South Asia,
and the other SAARC member-nations have a common border bilaterally only with India, and not
with each other. The economic and quality of life disparities among South Asian nations are also
quite wide