GED Study: EU-India FTA – Two Unequal Partners?

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Talks between India and the EU about a possible Free Trade Agreement (FTA) have been going on for some while now and have been anything but easy so far. There are many hurdles to take before both sides will be able to agree to a deal. Our newest GED Study examines the economic effects such an agreement could potentially have.

A possible trade agreement would rest on shaky historic ground

India has had a longstanding relationship with Europe through its trade and colonial history. Though the French, the Danish, the Dutch and the Portuguese have been present in India since the 15^th Century, India’s economic, political and cultural relationship with Europe has been anchored around the United Kingdom (UK). Not surprisingly, UK’s joining the EU facilitated a wider and deeper relationship between the two regions. The EU-India strategic partnership was launched in 2004 with a focus on security, trade and cultural exchange. Though its relationship with the EU looks promising on paper, India’s outlook is shaped by its intellectual elites brought up with an Anglo-Saxon worldview. There are some exceptions like defense cooperation, where the Indo-French relationship is decades old and time tested. Of late, economic ties with continental European countries have improved with Germany, India’s largest trading partner in Europe. Though biased towards the UK due to its long historical ties, India’s trade with Europe is varied reflecting the strengths of each country. While the trade with the UK is dominated by IT and financial services, trade with Germany is dominated by automotive and industrial products. This makes an EU-India free trade agreement (FTA) hard to negotiate at a supranational level.

Moreover, India has been a late entrant into the free trade camp with its deep skepticism of giving market forces free rein. The historical experience of colonialism with its purported free market and laissez-faire approach drained the wealth of erstwhile rich kingdoms in the sub-continent. With one foot in the free trade camp and the other in a state controlled (if not directed) economy, India’s FTAs with other Asian countries such as Japan or Malaysia have not boosted its exports. With a partner continent like EU with high labor productivity economies, superb infrastructure and an enabling government, discussions on economic cooperation start on unequal footing. Indian economic interests are a combination of promoting sectors where it can meet the global standards (like IT or business services) while protecting traditional sectors like agriculture where almost half of its workforce are engaged. For India, the acceptance as a data secure nation and easier access to temporary visas for high-qualified Indian workers are important issues, too.

The EU hopes for better market access for European businesses in India, especially in the service sector and in government procurement. Tariff reductions, e.g. in the automotive industry, improved protection of intellectual property rights, as well as, the issue of investor protection are also on top of the list.

The EU and India would both benefit from a free trade agreement – but there will also be losers on the sectoral level

Negotiations on an FTA between the EU and India, which started in 2007, have been sluggish and were even suspended in 2013. There are a range of difficult issues, including investor protection and market access. When Narendra Modi, Donald Tusk and Jean-Claude Juncker met in Brussels in March 2016, they re-confirmed their intention to have a free trade agreement. Formal negotiations, however, have not been taken up again until now. The fact that India has started to let bilateral investment treaties with individual EU member states expire does not really make things easier.

If the EU and India agreed on a comprehensive trade agreement, bilateral tariffs and non-tariff measures would be substantially reduced. India could increase its economic performance measured by GDP by 1.3 percent annually, as shown by a recent study of the ifo Institute on behalf of Bertelsmann Stiftung. Based on India’s GDP in 2015, this would mean an increase in GDP by USD 28 billion.

Taking Germany’s GDP development with and without an EU-India FTA as example, the following graph shows that all effects mentioned are long-term effects and would therefore only be observed after the free trade agreement had been in force for around 10-12 years.

At the sectoral level, business services and textiles in India could expect the highest absolute increases in terms of value-added (6.5 billion and 3.6 billion USD, respectively). In these sectors, India has a strong competitive edge. The top-2 losing sectors would be motor vehicles (USD -1.6 billion) and minerals (USD -1.2 billion). Here, EU companies are strong competitors.

Annual GDP increases for the EU would amount to 0.14 percent on average. Based on the EU’s GDP in 2015, this would mean an increase of USD 23 billion. Individual member states would benefit to significantly varying degrees. Germany and the United Kingdom, India’s most important trade partners within the EU, see the highest absolute increases amounting to USD 4.98 and USD 5.22 billion, respectively.

Croatia would be the EU member state with the lowest gains (USD 0.02 billion). However, a free trade agreement between the EU and India would not result in any overall negative effects for any EU member state at all, which is by no means a foregone conclusion when calculations of this kind are made.

Germany, India’s biggest EU trade partner, would see the highest increases in value added in motor vehicles (USD 1.6 billion) and machinery and equipment (USD 1.5 billion USD). In these sectors, German companies are highly competitive vis-à-vis their Indian counterparts. Business services (USD 559 million), apparel (USD 425 million) and textiles (USD 373 million), would experience the highest losses. The gains in value added in Germany thus appear to mirror the losses in India and vice versa. This could point towards stronger specialization in both countries on those products which are especially competitive in the respective market, in case the free trade agreement is concluded.

Beyond economic benefits: An FTA between the EU and India also has  strategic value – but compromises on both sides are necessary

The benefits for India from a trade agreement with the EU cannot be measured just by the growth of one sector or another. Access to a large market would pay off in the future especially when Indian firms improve their productivity and can compete with the European players in the future. India’s agricultural sector is the back bone of its labor force, but it cannot remain the main employer as productivity levels improve through increased automatization. A step-by-step easing of the agricultural tariffs would allow a gradual growth in productivity and resilience to compete with global markets. India should take a leap of faith with a region with which it shares economic and political values that are becoming rarer in a world faced with a US administration in favor of protectionism and with a rising China whose hegemonic ambitions are being eyed with suspicion by other Asian countries.

The EU in turn could strengthen its position in one of the most dynamic regions through an FTA with the soon-to-be most populous country in the world. India has a relatively young population and a huge economic potential. The agreement could help EU companies to have their share in the subcontinent’s prospect growth story. However, in order to restart negotiations and take them ahead, both sides will need to compromise. For example, the EU should try and lay out fair conditions under which the India may be accepted as data secure nation. Particularly in the IT sector, concessions should be made regarding travel restrictions for Indian professionals. India will also need room to protect its agricultural sector, which still employs about half of the country’s workforce. Especially in the textiles and wearing apparel sectors, some EU member states (e.g. Italy, Spain, Portugal) could suffer job losses and will need help from the EU to mitigate these effects. Generally, the EU should keep in mind that India still is a relatively poor developing country and needs a generous amount of time and flexibility to adapt to the structural changes brought about by a potential FTA.

If you are interested in this topic, please also click here to learn all about our upcoming GED Virtual Roundtable on June 1st!