Enhancing India-Pakistan Trade

The trade normalization process between India and Pakistan will undoubtedly open new trade opportunities. This study assesses trade possibilities between the two countries, examines the physical and regulatory impediments to realizing the trade potential, and suggests how the trade potential can be realized. The main findings and recommendations are summarized below.

Bilateral trade potential between the two countries is estimated to be $19.8 billion (U.S.), which is 10 times larger than the current $1.97 billion in trade.[i]Of this, export potential accounts for $16 billion and import potential accounts for $3.8 billion. The potential in mineral fuels is another $10.7 billion, of which export potential accounts for $9.4 billion and import potential $1.3 billion.

The three categories with the largest export potential from India to Pakistan are machinery, mechanical appliances and electrical equipment, and chemicals and textiles, accounting for 54 percent of total export potential. At a disaggregated level, the largest potential items include cellular phones, cotton, vehicle components, polypropylene, xylene, tea, textured yarn, synthetic fiber, and polyethylene.

The three categories with the largest import potential to India from Pakistan include textiles, jewelry and precious metals, and base metals, accounting for 45 percent. At the disaggregated level, the items with largest import potential include jewelry, medical instruments and appliances, cotton, tubes and pipes of iron and steel, polyethylene terephthalate, copper waste and scrap, structures and parts of structures, terephthalic acid and its salts, medicines, and sports equipment.

A substantial proportion of India’s export potential – 58 percent – is in products that are on Pakistan’s negative list for India or on Pakistan’s sensitive list applicable to India under the South Asian Free Trade Area (SAFTA) agreement. Similarly, 32 percent of India’s import potential from Pakistan is in items on the sensitive list for Pakistan applicable under SAFTA.[ii]

Pakistan’s negative list indicates that the automobile and component industry is the largest sector that enjoys protection from Indian imports. Overall reduction in tariffs would further benefit the development of the automobile sector that India has witnessed. On the other hand, agricultural items, in which resistance to liberalization is building up, are unlikely to have any impact as this sector has already been liberalized. Pakistan’s sensitive list indicates that textiles account for 24 percent of the items on the list, but this sector accounts for only 3 percent of India’s export potential of items on Pakistan’s list.

India’s sensitive list under SAFTA applicable to Pakistan indicates that the textiles sector is protected the most – a sector in which Pakistan enjoys a comparative advantage. Most of the items on the sensitive list are fabrics, which if allowed at preferential (lower) tariffs into India will compete with large firms (rather than small firms) in India that produce comparable quality. Even though these firms are likely to oppose liberalization, there is no rationale to protect large firms.

There are also opportunities in the services sectors such as information technology and business process outsourcing, health care, and entertainment. These services would require the movement of people to consume and provide services.

To realize the untapped trade potential between the two countries, several physical and regulatory impediments need to be addressed. The physical infrastructure at the land routes is inadequate even though new facilities have been put in place for cross-border road transportation of goods. The transport protocols between the two countries need to be amended to allow seamless transportation of containerized cargo in each other’s territory without the requirement of transshipment of cargo at the land borders. A much larger increase is expected once the road-based positive list is dismantled. Opening of land borders should also be used for linking seaports in both countries. India could also link up with Central Asia through Afghanistan if it were granted transit rights. These measures could bring about a substantial reduction in transaction costs of trading between the two countries.

Non-tariff barriers have been a key issue with Pakistani business people while accessing the Indian market. While there are genuine non-tariff barriers related to the complexity of regulatory procedures, non-transparent regulations, port restrictions, and problems related to recognition of standards and valuation of goods, these are not discriminatory and are being addressed in India’s ongoing reform process. It is more difficult to address “perceived” barriers that business people face in entering each other’s markets. Business people fear entering these markets as they are not sure their goods will be welcomed. This is more so in the consumer goods market segment. However, there is evidence that some businesses have made a bold entry with their country labels and have not met much resistance. Exhibitions and fairs are an effective way of dealing with these perceived barriers.

Even as tariff and non-tariff barriers are lowered, informal trade is likely to co-exist with formal trade for some time. Third-country traders have played a dual role as facilitators and guarantors of trade transactions between Indian and Pakistani traders. Until business partnerships can materialize through market forces, payments can be ensured, and trust in business relationships can be established, informal trade may not shift to formal channels.

For deeper and stronger trade linkages, it is important that there are foreign investment flows between the two countries. India has now permitted outward flows of investment to Pakistan and inward flows of investment from Pakistan. If a bilateral investment treaty is put in place, it will improve business confidence to invest in the other country.

A key determinant of the realization of trade potential is the liberalization of visas. The revised visa regime provides only an incremental improvement over the existing system.  The two countries should move to a more liberal visa regime without compromising on security.

To read the full report, click here.