India - Export performance, problems, policies and prospects (Vol. 1 of 2) : Overview

Report No. 1352-IN FILE COPY India: Export Performance, Problems, Policies and Prospects (In Two Volumes) Volume 1: Overview May 18, 1977 South Asia Programs FOR OFFICIAL USE ONLY Document of the World Bank This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS (as of September 1976) US$1.00 = Rupees (Rs 8.77) Rs 1.00 = US$0.114 Rs 1 million = US$114,000 All years to 1965/66 US$ = 4.7619 Rupees 1966/67 = 7.0 1967/68-1970/71 = 7.5 1971/72 = 7.444 1972/73 = 7.706 1973/74 = 7.791 1974/75 = 7.976 1975/76 = 8.653 1976/77 = 9.000 WEIGHTS AND MEASURES (Metric System) 1 kilogram (kg) = 2.20 pounds 1,000 kg = 1 metric ton = 0.98 long ton 1 meter (m) = 1.09 yards = 3.28 feet 1 kilometer (km) = 0.62 mile 1 hectar (ha) 2 = 2.47 acres 1 square kilometer (km ) = = 100 ha 3 = 0.38 square mile 1 cubic meter (m) = 35.39 cubic feet 50.802 kilograms = 1 quintal Unless otherwise specified all measures are metric. FISCAL YEAR The Indian fiscal year runs from April 1 through March 31. ABBREVIATIONS DCIS Department of Commercial Intelligence and Statistics DEA Department of Economic Affairs DGTD Directorate General for Technical Development DRC Domestic Resource Cost Ratio ERP Effective Rate of Protection FERA Foreign Exchange Regulation Act, 1973 GOI Government of India LDC Less Developed Countries MRTP Monopolies and Restrictive Trade Practices Act, 1969 NCAER National Council for Applied Economic Research REP Import Replenishment License STC State Trading Corporation of India, Limited n.a. = not available n.s. = not significant - = nil (blank) = not applicable  FOR OFFICIAL USE ONLY PREFACE i. This volume was prepared by M. Wolf with the assistance of R. Grawe, W. Dellalfar and Ms. J. Voigt. It draws on the analyses in Volume II, which were prepared under the general direction of M. Wolf (India Division). Those contributing were M. Baird, W. Dellalfar, R. Grawe, and C. Taylor (India Division), and J. Harrison (New Delhi Office). Ms. S. Sengupta (New Delhi Office) and Ms. J. Voigt (India Division) acted as research assist- ants. Ms. K. J. Hong (India Division) advised on preparation of the leather paper. A. Hone and Industrial Development Services of New Delhi served as consultants, with the latter providing most of the analysis of iron ore. ii. The data underlying the reports were collected on Bank missions in October/November, 1975 and January/February, 1976. Wherever possible, the reports have been updated to reflect actual figures for 1975/76 and 1976/77, and policy changes made in 1976/77. However, it has not proved possible to give uniformly adequate treatment to developments since January 1976. This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.   INDIA'S EXPORT PERFORMANCE, PROBLEMS, POLICIES AND PROSPECTS VOLUME I OVERVIEW Page No. PREFACE TABLE OF CONTENTS SUMMARY AND CONCLUSIONS .............................. i-iv PART I - INTRODUCTION .............................. Focus of the Report ............................. 1 Assessing Export Performance ................ 2 PART II - PAST PERFORMANCE ......................... 5 Introduction .................................... 5 The Overall Context ............................. 5 Overall Export Trends ........................... 7 The Pattern of Growth ........................... 10 India's Exports in the World Economy .... ........ 18 The Role of Exports in India's Economy .... ...... 24 PART III - DOMESTIC AND INTERNATIONAL CONSTRAINTS .. 28 Introduction ........ ............................ 28 Domestic Constraints on India's Exports .... ..... 29 Constraints on Industrial Exports .... ......... 33 Constraints on Agricultural and Mineral Exports 41 External Constraints on India's Exports .... ..... 42 Conclusions ....... ............... ............... 44 PART IV - EXPORT POLICIES AND PROGRAMS .... ......... 45 Introduction ........ ............................ 45 Export Incentives and Taxation .... .............. 45 Some Special Export Programs ..... ............... 59 Recent Export Policy Developments .... ........... 60 Incentives and Performance -- an Evaluation ..... 66  Page No. PART V - PROSPECTS AND ISSUES ...................... 72 Introduction .................................... 72 Near Term Prospects ............. .. .............. 72 Long Term Prospects ........... ........ . ........* 73 STATISTICAL ANNEX  TEXT TABLES Page No. 2.1 Growth Rates of Export Volume ....................... 7 2.2 India's Share in World Trade ........................ 8 2.3 Value of Total Exports of Selected Developing Economies .10 2.4 Value and Growth of Major Exports Ranked by Their Importance in 1950/51 .11 2.5 Value and Growth of Major Exports Ranked by Their Importance in 1974/75 .12 2.6 Exports Ranked By Their Contributions to the 1960/61 - 1974/75 Value Increment .13 2.7 Exports Ranked By Their Contributions to the 1960/61 - 1974/75 Value Increment in Constant 1968/69 Prices .14 2.8 Estimated Trend Real Growth Rates of Major Exports 1965/66 - 1974/75 .16 2.9 Manufactured Exports of Developing Economies from 1965 to 1973 .20 2.10 Manufactured Exports of Leading Developing Countries from 1971 through 1974 in Selected Commodity Classes ................................. 21 2.11 Direction of Exports ................................ 23 2.12 Export Orientation and the Effects of Export Growth on a Number of Exports ..... ................ 25 3.1 Purchasing Power Parity Effective Exchange Rates .... 31 3.2 Unit Values of Exports and Imports and Terms of Trade .42 4.1 Cash Assistance Rates and Shares in Cash Assistance . 47 4.2 Distribution of Replenishment,Licenses .50 4.3 Distribution of Duty Drawbacks .52 4.4 Value of Export Taxes and Incentives in 1974/75 55 4.5 Export Duty Rates and Economic Efficiency .58 4.6 Profitability and Efficiency of Some Engineering Exports .68   SUMMARY AND CONCLUSION i. This report reviews the performance of India's exports and the relationship between export trends and the performance of the economy as a whole, with special reference to the manufacturing sector. The focus of the report is fairly narrowly on the factors that have determined past export performance, and will determine future prospects. It argues that an increased emphasis on exports is justified in the Indian context, in order to accelerate industrial growth, remove import bottlenecks, and foster greater competition. The report analyzes the overall constraints that have operated on exports, the export policy framework and its recent evolution. The links from the rest of the economy to exports and from exports to the rest of the economy are an important part of the analysis. ii. The most important single aim of export growth is an increased capacity to import, and this depends not only on the growth of export volume, but also on prices of exports and imports. For India, however, volume is the central issue, both because it is what India can affect most readily, and be- cause it is by far the most important single factor. Nevertheless, exogenous factors such as prices and market access must be taken into account, especially for those goods over whose markets India has some monopoly power. However, accelerated volume growth will usually be beneficial to India, and is the most useful way to assess performance and prospects. iii. Although neither its GNP nor its industrial sector are particularly large by international standards, India's economy is exceptionally, and, until very recently, increasingly closed and self-sufficient. India's past export performance has been relatively poor, but it has also been improving, with the recent trend annual volume growth rate reaching 5 - 6% from 1.3% in the 1950s. India experienced a sustained fall in its share of world trade from 2.4% in 1948 to 0.5% in 1974, but there was an improvement in 1975. The stagnation of initially dominant categories, above all tea, jute manufactures, and cotton textiles, which accounted for more than 50% of India's exports in 1950, was the major determinant of poor overall performance until the early 1960's; however, the stagnation in these categories was not simply the result of adverse world market conditions, since India's share in world trade of these categories has fallen steadily. There have been a number of new and faster growing exports, which are responsible for recent improvements in the overall growth rate, but growth of the individual items has tended to be fragile and unsustained, and even in these categories India has fallen far behind major competitors. iv. India's exports face a number of serious constraints. India's industrial structure has been characterized by fragmentation, wide variations in firm quality, and inadequate product development. In particular, while excess capacity has been a general phenomenon, and has, undoubtedly, been a factor in recent growth of engineering and chemical exports, it is unevenly distributed, with the best firmp having the least excess capacity, and, there- fore, the least incentive to export. Restrictive import policies and the  - ii - policy of protecting all domestic production hindered exports by raising the price of inputs, limiting the range of available inputs, and creating a sig- nificant amount of poor quality production. Analysis of the overall exchange rate regime indicates that the incentive to produce exports has been consis- tently below that to produce import substitutes. Finally, there are overseas market restrictions on a few key goods, such as garments, and rather poor markets for a few others. v. Recent exchange rate changes, increases in export incentives, and reductions in export duties have improved the relative incentive to produce exports. In addition, recent liberalization of import and industrialization policies should also have a beneficial effect. By increasing the range of readily importable items especially among capital goods and industrial raw materials, by removing most quantitative restrictions on permissible items for import, by relaxing industrial policy constraints on the expansion of firms, and by reducing bureaucratic hurdles in both import and industrializa- tion policies, these changes should lead to increased competition and reduced constraints on the growth of efficient firms. However, the principle of pro- tection and the ambivalent attitude towards internal competition persist, and are likely to continue to exercise a powerful effect on the evolution of Indian industry and hence exports. vi. India has a complex system of export incentives and programs to make exports both more attractive and more feasible. These include cash assistance, duty drawbacks, import replenishment licenses, and many other devices. The value of these incentives seems now to be about 7% of the gross value of exports, but the average incidence varies greatly from product to product. Cash assistance and import replenishment licenses, in particular, have historically gone largely to the engineering goods and chemicals indus- tries. Although there are some high potential items in both categories, these groups as a whole are certainly not the only ones of high potential, and some studies indicate that the potential is, in fact, relatively low when compared with more labor-intensive activities like leather and leather goods, marine products, handicrafts, and garments. This same observation applies to agri- cultural products, especially those unconstrained by world demand, such as oilcakes. vii. Since chemicals and engineering goods tend to be more import- intensive than most other categories, the high level of gross subsidization raises the possibility of negative value added exports at world prices, and several such cases have been observed. The incentives' effect has also been diminished by their essentially short-term nature, which has resulted from an inadequate recognition of the need to offset the penalization of exports rela- tive to import substitution implicit in the trade policy regime. Consequently, the value of incentives has been highly unpredictable. Equally important has been the apparent lack of an underlying rationale for the allocation of in- centives. India has also imposed export taxes on a range of exports, predo- minantly primary products and traditional manufactures, such as jute textiles. It appears that the monopoly power that India could exploit was usually smaller than implicit in the tax, and the result has been severely diminished compe- titiveness. These taxes are significant - in 1974/75 their value was half that  - iii - of all the export incentives combined. However, the average incidence of export duties has been falling as has the percentage of dutiable exports. viii. Recent policy changes have been evolutionary, and in the right direction. Industrial licensing restrictions have been eased; cash assist- ance has been extended to a number of new categories, the amounts have been increased and the period for which it is guaranteed has been extended; import replenishment licenses for exporters are more generous and the principle of prohibiting all import of goods produced domestically has been modified; the availability of imported inputs has been increased with the result that the replenishment license is now in excess of production requirements for many producers, which makes it more clearly an export incentive; procedures for arranging duty drawback have been accelerated, and so has payment of cash assistance and granting of replenishment licenses. All these together should make exports more attractive and easier to arrange. In addition, the value of incentives has been increasing in relation to the value of exports since 1974/75. ix. Recent exchange rate policy has had the effect of improving the competitive position of India's export products. Until September 1975 this was achieved through the currency depreciation caused by the link with the pound sterling, but subsequently the major factor was control of inflation. After breaking the connection to the pound, the rupee was revalued by 16% against sterling, and devalued by 0.2% against the US dollar, by 11% against the DMf, and 7% against the Japanese yen by February, 1977. The purchasing power parity adjusted nominal exchange rate declined by 6% between the third quarter of 1975 and the second quarter of 1976, which followed a real deva- luation of 8% between May 1971 and the third quarter of 1975. However, over the past year the real exchange rate has revalued again because of India's accelerating inflation. This makes clear how important it is to ensure that the real exchange rate does not get out of line, especially given the depen- dence of export profitability on discretionary, uncertain, and highly visible incentives, and the small inflationary effect of general depreciation in the Indian economy. x. The incentives are of great importance for Indian exports, and with- out them many industrial exports would be completely unprofitable. With in- centives, export profitability for many categories of engineering goods and chemicals was close to that on domestic sales, though it varied more between industries and was much more uncertain. Export profitability has also been improving. The incentives combined with the prevalence of excess capacity have been the major explanation for the rapid rise in exports of engineering goods and chemicals. However, while incentives have been successful in en- couraging greater exports, India's performance has lagged behind that of many competitors and in 1976 Korea, by comparison, experienced a US$2.8 billion rise in the value of exports. This relatively poor performance is no doubt in part a consequence of reliance on somewhat arbitrary and differentiated in- centives not related to any overall view of trade and industrialization strategy.  - iv - xi. The current incentive policy and overall environment should lead to improved growth, and our current near term projection is about 7-10% p.a. Improved performance can be expected from such labor-intensive exports as garments, leather products, and handicrafts. In the case of engineering goods the question is whether the current policy environment, more attractive though it is, will induce firms to invest in export oriented capacity. Without such a development, export growth will slow down as excess capacity is fully used up. However, incentives are still quite short term and such investment is, consequently, very risky. xii. Long term prospects depend in large part on policy choices, which will have affect well beyond the sphere of exports alone. India now has the opportunity to consider the strategic issues of trade policy in an environ- ment free from immediate foreign exchange shortages. If India continues to move in the direction of the past several years a new virtuous circle of in- creased exports and improved economic performance should ensue. There seem to be two broad strategic options: one is to continue to import only "essentials", however defined, and the second is to pursue comparative advant- age in a more thorough going way. The latter will have very major merits for India. However, both presuppose promoting exports in the most efficient pos- sible way, the former up to some target level, and the latter up to the point at which marginal transformation costs are equated throughout the economy. Export targets have a role to play and even achievement of current long term export targets of 8-10% volume growth will probably require further policy evolution. In addition, incentives should be stable and fairly uniform, and exporters should be permitted access to imports whenever necessary for com- petitiveness.  I. INTRODUCTION Focus of the Report 1.01 The focus of the report is fairly narrowly on exports and, more precisely, on the factors that have determined past performance, and will influence future prospects. This limited scope is largely the result of the origin of the study in an evaluation of the prospects for achieving the official annual export volume growth target of 8-10%. However, the narrow focus is also determined by the immense complexity of the wider issues of trade and industrialization policy and by the view that exports are of great direct importance simply through their effect on import capacity. Never- theless, the links from the rest of the economy to exports and from improved export performance and policy to the rest of the economy are very strong. These issues will be taken up below in the discussion of the problems affect- ing exports and of export prospects and broad strategic options. The report does not enter into the details of policy choice. 1.02 In the Indian context a steady and accelerated expansion of ex- port earnings can be presumed to have strongly positive effects. Wlhile India's current foreign exchange position is quite comfortable, the overall balance of payments surplus is little more than 1% of GNP and, which can easily be absorbed in an expanding economy. Thus, India can readily return to the more usual situation of bottlenecks and shortages that are caused by foreign exchange constraints, which, in turn, will be relieved by improved export performance. In a more comfortable foreign exchange situation further liberalization of the import control regime is feasible and should lead to greater competition for protected domestic manufacturers and more choice for those previously compelled to use domestically produced goods. Indeed, greater concentration on exports should itself have a salutary effect on qua- lity through the effects of competition. In addition, for some categories of goods accelerated growth of exports, should also accelerate the overall growth of the industries. In the longer term an increased emphasis on exports im- plies greater specialization in those products which use India's abundant factors more intensively, and a saving of scarce factors, especially capital. Since the latter is the most rapidly growing factor of production, a capital- saving strategy can accelerate the growth of GNP, and should certainly help to reverse recent trends towards declining capital productivity. Finally, a higher share of exports in GNP may produce a somewhat greater degree of eco- nomic stability, especially for the industrial sector, which is now highly susceptible to fluctuations in agricultural production. For all these reasons it is presumed here that an expanded export drive will have beneficial effects on India, even if it is not associated at all times with scrupulous attention  - 2 - to economic efficiency. However, the benefits of somewhat greater attention to efficiency than at present are considerable, and this issue will be taken up again in the final chapter. 1/ 2/. 1.03 Given the focus on export prospects, this report is concerned largely with the key problems, and with Government policies and programs. For this purpose it draws heavily on the detailed analysis of seventeen major export commodities and categories, which is presented in Volume II of this report, and covers their past performance, major problems, policies and prospects. It also draws on previous Bank Group work on the engineering industries. 3/ 1.04 The report also includes an analysis of past performance whose aim is to put the current situation in context, and to bring out the success of past efforts. 4/ Correspondingly, the discussion is not comprehensive, but deals largely with performance in areas subject to India's control. Assessing Export Performance 1.05 The primary aim of expanding exports is to increase the real capa- city to import, which is dependent on some factors within India's control and on others outside it. Although account has been taken here of external factors like market access and overseas demand, in order to assess prospects for the future, the emphasis is on what India can control, which is both the main determinant of import capacity and the more relevant subject from India's point of view. 1.06 The real capacity to import on the trade side (i.e. excluding capital flows, transfers, and factor service payments) is determined by export volume, export prices, and import prices. Of these India has 1/ On efficiency aspects of the trade policy regime, see IBRD, Economic Situation and Prospects of India, Report No. 1073-IN, March 29, 1976; J.N. Bhagwati and P. Desai, India-Planning for Industrialization, Ox- ford University Press, 1970; and J.N. Bhagwati and T.N. Srinivasan, Foreign Trade Regimes and Economic Development - India, Columbia University Press, 1975. 2/ It should be noted that foreign exchange losing exports have occurred. (See IBRD, Op. Cit., p. 58, footnote 1.) However, this possibility does not offset the general presumption in favor of exports. 3/ See footnotes 2 through 6 on page 35, and 2 and 3 on page 36. 4/ There exist many studies of past performance. See, for example, Manmohan Singh, India's Export Trends, Oxford University Press, 1964; R. Banerji, Export of Manufactures from India, Institut fur Weltwirtschaft an der Universitat Kiel, 1975; Deepak Nayyar, "India's Export Perform- ance in the 1970s," Economic and Political Weekly, May 1976; IBRD, India's Export Prospects, Volumes I and II, Report No. SA-26, May 1971.  a fair amount of control over the first, and relatively little over the last two. Thus effort is largely to be measured in terms of volume growth. 1.07 Export volume is not only what India can most easily control. It is also the most important determinant of import capacity in the long term - at least on the trade side. A 1% per annum rate of growth of the volume of exports has roughly the same effect on the real capacity to import out of export earnings as an equivalent rate of improvement in the terms of trade. However, while 8% per annum volume growth may be achieved, an equivalent sustained rate of improvement in the terms of trade is hardly conceivable, except for a special case like that of the oil exporting countries. 1.08 It should be noted that export volume is not an unambiguous concept. One specific problem is that effort may take the form of increasing the volume of ail exports roughly equally or of emphasizing those exports whose relative prices are rising, or are expected to. rise, most rapidly. A base weighted volume index of the kind used by GOI, will not indicate the latter kind of effort. However, this particular problem can be resolved rather readily since the ratio of an end-weighted to a base-weighted volume index shows exactly the proportion by which exports rise more rapidly because of such a process of quantity adjustment to price opportunity. 1/ 1.09 Index numbers of volume can, therefore, be used as indicators of important aspects of export effort. Nevertheless there are dimensions of 1/ To show this, using the well known identity, let: (1) Vi = PkiLpi ki where V = value index in constant dollars Pq = Paasche quantity index (end weighted) Lp = Laspeyre price index (base weighted) k = constant dollar deflator i = period. If all exports grow in equal proportion, Pqi = Lqi where Lq = Laspeyre quantity index. Then )A _LqiLpi (2) Vi = ki A where V = normalized value in constant dollars. The ratio V/V shows the extent to which the actual value increase in constant dollars exceeds that which would have occurred if the volume of all exports had grown equally. (3) Vi/Vi = Pqi/Lqi  - 4 - response to opportunity that volume indices do not capture. For example, in certain cases India has a degree of control over the prices at which it sells. The most obvious cases are such exports as jute manufactures, silver, tea, cashews, and pepper. In theory, the correct response to such opportunity is to equate marginal social cost to marginal revenue. In practice, this is almost impossible to do, and has proved to be beyond the scope of this study to evaluate. Nevertheless, this is an important qualification to an assessment of export performance based on volume. 1.10 It must also be remembered that indicators of gross exports, either of volume or value, will not necessarily reflect changes in net foreign ex- change earnings. This is a real problem, since the Government is concerned about such changes, and has as one of its main aims increasing value-added in exports. If the change is entirely on the side of exports - for example, further processing of an already exported good - no problem should be created. Such a change will be reflected in the growth both of export value and volume indices, provided the latter are sufficiently disaggregated. However, changes that involve imports will not be similarly reflected. For example, the sub- stitution of domestically produced for imported inputs into exports is, of course, not indicated by gross exports; neither is increased absorption of those imported inputs, or domestically produced import substitutes, which are required for export expansion. Thus, changes in the net foreign exchange position can easily be exaggerated or understated by changes in the gross ex- port figures. This is inevitable, since the figures do not show both sides of the trade picture. Failing a comprehensive input-output analysis, the best way to resolve the problem is to look out for cases where the issue is very obvious, such as cashew kernels, polished diamonds, or electronic goods from the Santa Cruz Electronics Export Processing Zone. This approach will take care of the most obvious examples of associated increases in direct imports. It should be noted, moreover, that, while it will be impossible to assess the impact of exports that use those domestically produced import substitutes, which must in turn be replaced by further imports, such cases will probably be few in the Indian context of foreign exchange licensing and excess capacity. 1.11 Thus, while export volume indices are the best and simplest way to assess effort, they are very far from perfect. Furthermore, it is possible that volume growth will not provide a satisfactory indication of the capacity to import, because of exogenous factors, such as shifts in terms of trade. Thus, volume growth of about 15% between 1972/73 and 1975/76 was associated with a decline in the real capacity to import of about 16%. Consequently, the assessment of prospects, and of the effort that is needed, requires pro- jection of export and import prices. However, current Bank projections are that the terms of trade are not likely to deteriorate further. Thus, growth in export volume should be close to growth in real import capacity, and the emphasis below on export volume is, consequently, justified.  II. PAST PERFORMANCE Introduction 2.01 This section briefly reviews India's past performance and places it in context. It first provides information on relevant aspects of over- all development strategy and performance. It then examines overall growth trends in themselves and in relation to world trade. The pattern of export growth is reviewed, paying special attention to the growth of major export categories and their respective contributions to overall growth. The per- formance of individual categories in relation to world trade is then analyzed, along with a brief look at the direction of trade. Finally, there is a brief discussion of the role of exports in India's economy. 2.02 The major conclusions of the review are that India's is an excep- tionally closed economy; that although India's export performance has gener- ally been poor, it has also been improving, with the recent trend volume growth rate reaching 5-6%. India has experienced a sustained fall in its share of world trade, at least until the last two years. The stagnation of initially dominant categories, above all tea, jute, and cotton textiles, was the major determinant of poor overall performance until the early 1960's; however, the stagnation in these categories was not simply the result of adverse world mar- ket conditions, since India's share in world trade of tea, jute, and cotton textiles has fallen steadily and this is especially true of the latter. There have been a number of new and faster growing exports, which are responsible for recent improvements in the overall growth rate, but even in newer catego- ries India has not only fallen far behind major competitors, but growth has continued to be relatively poor, except when the base has been markedly lower than that of these competitors. Finally, although exports play only a small part in the overall economy, this is not the case for many export activities. There are a number of industries highly dependent on exports, both for sus- taining their level of activity and for generating growth. The Overall Context 2.03 India is the world's second most populous country, but has the world's thirteenth largest GNP. 1/ Its industrial sector in 1973 ranked six- teenth in size among market economy countries, after the Netherlands, Spain, 1/ According to the World Bank Atlas of 1976. The twelve largest in terms of GNP were: USA, USSR, Japan, Germany, France, The People's Republic of China, The United Kingdom, Italy, Canada, Brazil, Poland and Spain, in that order.  - 6 - Argentina, Australia, Belgium, Brazil, Mexico and Sweden, (apart from the obvious list of larger countries). Including the centrally planned economies, India's industrial rank would be about twentieth. W4hile India's overall economic performance has been better since Independence than before, it has been somewhat worse than that of most other countries, especially in the last decade. India's GDP growth between 1965 and 1973 at 3.5% per annum put it in the 89th rank out of 118 market economy countries. Similarly, its indus- trial growth has also lagged: in 1955 India's industrial sector was the eighth largest among market economy countries and tenth in the world. 2.04 India's basic economic strategy and its consequences have been extensively analyzed. 1/ It has been characterized by across-the-board import substitution as an overriding aim and by emphasis on the development of (largely public sector) "heavy industry." India's policies have been noteworthy for extensive reliance on quantitative restrictions on trade (QRs), and on de- tailed, industrial licensing. Thus, India's has been an administered and highl] bureaucratic economic system. The Government has also tended to be pessimistic about export possibilities, especially for "traditional" exports. The view that India faces highly inelastic demand for most products, has been used to justify policies of export taxation. 2.05 As a result of the strong bias towards import substitution, India has a relatively closed economy and an increasingly unspecialized indus- trial sector. As an indication of the latter, a marked shift in the compo- sition of industrial production has occurred, and consumer, intermediate, and capital goods now contribute about one third each of value added, compared to an overwhelming preponderance of consumer goods production twenty five years ago. The ratio of imports to GNP, at 5.5% in 1973 was lower than that for any other country in that year except the USSR, (whose ratio was only a little less, at 4.6%) 2/. The share of manufactured imports in the total utilization of manufactured goods was 9.5% in 1973, which was lower than for all LDCs other than Argentina, and also lower than for most industrialized countries. Thus, for the size of its economy and its industrial sector, India is strikingly self-sufficient. 2.06 Not only is India's an exceptionally closed economy, but it has become increasingly so until very recently. The share of manufactured exports in manufactured output fell from 9.7% in 1960 to 8.6% in 1973 - a virtually unique experience among LDCs. The share of manufactured imports in utilization 1/ See, for example, J.N. Bhagwati and P. Desai, Op. Cit., and J. Mellor, The New Economics of Growth, Cornell University Press, 1976. 2/ See World Bank, World Tables, Table 3. For comparison with other large countries, the ratio for the USA was 7.0%, and for Brazil was 11.0%. Figures for the People's Republic of China are not available.  of manufactured goods fell from 19.3% to 9.5%. Finally, the ratio of imports to GNP fell from 7.5% to 4.5%, while the level of manufactured imports remained virtually constant at about $1.6 billion until recently. 1/ 2.07 To sum up: India's development strategy and performance have sig- nificant implications for any analysis of trade related questions. Although neither its GNP nor its industrial sector are particularly large by inter- national standards, the economy is exceptionally closed and self-sufficient. In addition, these tendencies have been steadily reinforced over the post- Independence period. This situation has profound implications for industrial costs and consequently for international competitiveness and export perform- ance. Overall Export Trends 2.08 The growth of India's exports overall has been slow but improving. Between 1950/51 and 1968/69 the dollar value of exports grew at a compound rate of only 2% per annum. Thereafter the rate of value growth has risen appreciably. Between 1968/69 and 1971/72 average compound growth in value terms was 6% per annum, in 1972/73 it was 18.3%, in 1973/74 it was 24.6%, in 1974/75 it was 28.9%, in 1975/76 it was 9%, and in 1976/77 it was about 18%. However, the rapid rates of growth in current terms between 1971/72 and 1974/75 are misleading, since the bulk of the increase reflects inflation. 2.09 Trends in volume growth are indicated below. The clearest conclusion is that there has been a steady acceleration, with growth rising from a 1.3% annual rate between 1950/51 and 1960/61 to 6.5% between 1969/70 and 1975/76: Table 2.1 Growth Rates of Export Volume (% per annum) 1950/51-1974/75 1950/51-1960/61 1960/61-1970/71 1965/66-1975/76 1969/70-1975/76 2.8 1.3 3.5 5.6 6.5 Note: Growth rates are log linear trends. Source: Statistical Annex Table 5. 1/ See B. Balassa, Export Incentives and Export Performance in Developing Countries: A Comparative Analysis, January 18, 1977, Mimeo, Table 2.  - 8 - 2.10 For recent years, the Bank has prepared its own index, which may be compared with that of the government. 1/ Between 1969/70 and 1974/75 the trend volume growth using the Bank's base-weighted index was 5.1%, while with the end-weighted index it was 5.2%. The very small difference between the two indicates that the effect of faster growth of items whose prices have been rising relatively rapidly, is not marked. 2.11 India's share in world trade slipped continuously until 1975, even though the rate of volume growth rose. Table 2.2 India's Share in World Trade (US$ millions and %) 1948 1958 1967 1968 1970 1972 1973 1974 1975 /a India's Exports 1,387 1,222 1,613 1,761 2,026 2,415 2,946 3,906 4,371 World Exports 57,500 108,600 215,000 239,800 314,000 417,600 578,300 848,700 864,100 (India's Exports/ World Exports %) 2.41 1.12 0.75 0.73 0.64 0.57 0.50 0.46 0.50 /a 1975 figures are taken from the UN, Monthly Bulletin of Statistics, March 1977. Source: UN Yearbook of International Trade Statistics, 1975 Special Table A 1/ The reason for preparing the index was that, until 1975, the Government relied on a volume index with a 1958/59 base, which was consequently out of date. See Statistical Annex Tables 6 and 7.  - 9 - 2.12 The decline in India's share of world exports has been an across- the-board phenomenon. Including raw cotton and unmanufactured tobacco in agricultural commodities the value of India's agricultural exports rose from US$364 million in 1950/51 to US$470 million in 1960/61 and US$973 million in 1973/74. Thus, agricultural commodities accounted for 31% of India's 1950/51- 1973/74 value growth. In the period 1960 to 1973 exports of food and other agricultural products from all market economies rose from US$37 billion to US$106 billion. 1/ Thus, India's agricultural exports grew by 107% between 1960 and 1973, while world exports grew by 186%. The value of India's ex- ports of manufactures went from US$591 million in 1950/51 to US$572 million in 1960/61 and US$1,476 million in 1973/74 (including jute and cotton textiles). Excluding these stagnant items, they rose from US$104 million in 1950/51 to US$167 million in 1960/61 and US$936 million in 1973/74. Exports of manu- factures accounted for 46% of the 1950/51-1973/74 value increment. World exports of manufactures (excluding centrally planned economies) rose from US$54 billion in 1960 to US$317 billion in 1973, and LDC exports of manufac- tures rose from US$4.4 billion to US$37.5 billion. Thus, India's manufacturing exports grew by 158% between 1960/61 and 1973/74 and by 460%, excluding jute and cotton textiles, while world exports rose by 487% and LDC exports grew by 752%, over the same period. 2.13 Before completing this discussion of India's relative export per- formance, it is worth noting that there are now indications of a significant improvement. It will be seen from Table 2.3 that, while India's overall value growth between 1972 and 1973 was worst of these nine countries, between 1973 and 1974 it was fourth and between 1974 and 1975 it was second. Its relative performance was particularly good in the year of global recession, 1975, which was also a year of stagnant world trade. 1/ IBRD, Comparative Economic Data Tables, (World Tables, Part III) September 25, 1975.  - 10 - Table 2.3 Value of Total Exports of Selected Developing Economies (US$ million) Growth Growth Growth 1972-73 1973-74 1974-75 1972 _ 1973 % 1974 % 1975 Argentina 1,941 68.3 3,266 20.4 3,931 -24.7 2,961 Brazil 3,991 55.3 6,199 28.3 7,951 9.0 8,670 Hong Kong 3,448 47.0 5,070 17.5 5,959 1.0 6,019 India 2,452 19.0 2,917 34.6 3,926 9.5 4,299 Korea, Rep. of 1,624 98.6 3,225 38.3 4,460 13.9 5,081 Malaysia 1,717 74.0 2,987 41.8 4,235 -9.7 3,826 Mexico 1,861 41.4 2,631 34.5 3,540 16.6 2,952 Singapore 2,192 67.3 3,667 58.5 5,811 -7.5 5,376 Yugoslavia 2,237 27.5 2,853 33.5 3,805 7.0 4,072 Source: IMF, International Financial Statistics. The Pattern of Growth Long Term Stagnation of Major Items 2.14 A major factor in explaining India's poor past performance has been the composition of its exports. In 1950/51, 52% of India's exports were in three categories, namely cottoni textiles (mainly piecegoods) (19.7%), jute manufactures (18.9%), and tea (13.4%). The first ten categories in 1950/51, which then accounted for 72.7% of India's exports, accounted for only 31.7% by 1974/75. Over this long period of twenty-three years, of those ten only leather and tobacco showed fairly high value growth. Tea, jute manufactures, and cotton textiles (excluding garments) were all stagnant. Clearly a situa- tion in which items accounting for 72.7% of exports in 1950/51 grew in value by only 44% over twenty-three years is one likely to show overall stagnation, in the absence of extremely high growth in other categories.  - 11 - TABLE 2.4 Value and Growth of Major Exports Ranked by Their Importance in 1950/51 (US$ millions) % Increase 1950/51 (%) 1974/75 (%) 1950/51-1974/75 Cotton Textile Fabrics 247.9 (19.7) 200.3 (4.8) -19.2 Jute manufactures 239.0 (18.9) 370.7 (8.9) 55.1 Tea 168.9 (13.4) 285.9 (6.9) 69.3 Leather & Manufactures 54.5 ( 4.3) 189.9 (4.5) 248.4 Spices 53.4 ( 4.2) 76.9 (1.9) 44.0 Vegetable Oils 53.0 ( 4.2) 42.2 (1.0) -20.4 Unmanufactured Tobacco 29.6 ( 2.3) 100.8 (2.4) 240.5 Essential Oils 26.6 ( 2.1) 11.7 (0.3) -56.0 Coir Manufactures 22.8 ( 1.8) 22.7 (0.5) -0.4 Mica 21.0 ( 1.7) 22.8 (0.5) 8.6 Others 344.6 (27.3) 2,849.7 (68.3) 727.0 TOTAL 1,261.3 (100.0) 4,173.6 (100.0) 230.9 Source: IBRD Report No. 1073-IN, Op. Cit., Appendix Table 3.1; and Statistical Annex, Table 1. Growth of New Items Since 1960/61 1/ 2.15 During the decade 1950/51 to 1960/61 India's exports changed little both in aggregate and composition. In the latter year, the three initially dominant categories still accounted for 48% of India's exports, and the ten categories enumerated in Table 2.4 accounted for 61.5%. In subsequent years, however, there have been some notable changes. By 1974/75 only four of the initially dominant ten categories were still in the "top ten." In the mean- time, there had been quite rapid growth of a number of new groups, including, in particular, engineering goods, iron ore, sugar, chemicals, garments, handi- crafts, and silver. On the other hand, the overall sluggishness of India's exports is indicated by the fact that although cotton textiles (including garments) grew by only 3.1% per annum in volume between 1960/61 and 1974/75, tea grew by 1.1%, and jute manufactures by -1.0%, these three remained among the five largest export categories in 1974/75. 1/ The analyses in this and subsequent sections rest on the individual commodity papers of Volume II. Because of differences in classification, the series used are slightly different from those in IBRD economic reports and Government summary statistics. The seventeen enumerated categories accounted for 61% of 1950/51 exports, 75% of 1960/61 exports, 83% of 1970/71 exports and 85% of 1975/76 exports. The series are shown in the Statistical Annex Tables 1 (current prices) and 2 (constant prices).  - 12 - TABLE 2.5 Value and Growth of Major Exports Ranked by Their Importance in 1974/75 (US$ millions) % Increase 1950/51 % 1974/75 % 1950/51-1974/75 Engineering Goods 1.2 (0.1) 442.3 (10.6) 36,758.3 Sugar 0.8 (0.1) 424.5 (10.2) 52,962.5 Cotton Textiles and Garments 252.1 (20.0) 420.4 (10.1) 66.8 Jute Manufactures 239.0 (18.9) 370.7 (8.9) 55.1 Tea 168.9 (13.4) 285.9 (6.9) 69.3 Handicrafts n.s. /a (n.s.) 233.9 (5.6) n.s. Iron Ore 0.5 (n.s.) 201.1 (4.8) 40,120.0 Leather and Leather Manufactures 54.5 (4.3) 189.9 (4.6) 248.4 Chemicals, Pharma- ceuticals and Cosmetics n.s. /a (II.s.) 163.5 (3.9) n.s. Cashew Kernels 18.0 (1.4) 148.1 (3.5) 722.8 Others 526.3 (41.7) 1,293.3 (31.0) 145.7 Total 1,261.3 (100.0) 4,173.6 (100.0) 230.9 /a In both these cases exports were insignificantly small in 1950/51. Source: Statistical Annex, Table 1. 2.16 The performance of seventeen major export categories is shown in current prices in Table 2.6 and in constant prices in Table 2.7. 1/ Certain conclusions emerge, namely: 2/ (1) in terms of contribution to the current value increment, the ten largest were sugar, engineering goods, cotton textiles and garments (overwhelmingly the latter), handicrafts, iron ore, chemicals, leather and leather manufactures, cashew kernels, silver and oilcakes, which 1/ It should be noted that the deflation of the figures for the seventeen categories into constant prices - an uncertain business, at best - gives slightly different results from those of the overall volume indices discussed above. 2/ The reason for the choice of 1960/61, 1968/69, and 1974/75 is that half of the increase in exports in constant prices between 1960/61 and 1974/75 occurred between 1960/61 and 1968/69. 1968/69 is, consequently, an appropriate mid-point.  Exports Ranked by their Contributions Co the 1960/61 - 197417:, Value Increment (US$ million) 1960/61- Annual Average 1960/61- Annual Average 1968/69- Annual Average 1974/75 7, of Growth Rate 1968/69 % of Growth Rate 1974/75 % of Growth Rate Increment Increment ( Increment Increment ( Increment Increment ( Sugar 419.3 ( 15.0) (37.0) 8.4 ( 2.0) (12.8) 410.9 ( 17.4) (77.4) Engineer.ng Goods 404.5 ( 14.5) (19.2) 52.0 ( 12.3) (11.4) 352.5 ( 14.9) (30.4) Cotton Textiles and Garmentsll 290.3 ( 10.4) ( 8.7) 11.9 ( 2.8) ( 1.1) 278.4 ( 11.8) (19.8) liandicrafts-21 238.8 ( 8.6) n.a. 100.3 ( 23.7) (n.a.) 138.5 C 5.9) (15.6) Iron Ore 165.3 ( 5.9) (13.1) 82.0 ( 19.3) (16.1) 83.3 ( 3,5) ( 9.3) Chemicals 148.5 ( 5.3) (18.6) 14.1 ( 3.3) ( 8.6) 134.4 ( 5.7) (33.3) Leather and Leather Manufactures 113.7 ( 4.1) ( 6.8) 33.2 ( 7.8) ( 4.7) 80.5 ( 3.4) ( 9.7) Cashew Kernels 108.4 ( 3.9) ( 9.9) 41.5 ( 9.8) ( 9.4) 66.9 ( 2.8) (10.5) Silver 100.2 ( 3.6) n.a. 4.4 ( 1.0) (n.a.) 95.8 ( 4,1) (68.4) Oilcakes 90.0 ( 3.2) (10.4) 36.0 ( 8 5) (10.4) 54.0 ( 2.3) (10.5) Jute Manufactures 86.9 ( 3.1) ( 1.9) 6.8 ( 1.6) ( 0.3) 80.1 ( 3.4) ( 4.1) Iron and Steel 83.6 ( 3.0) ( 9.6) 91.1 ( 21.S) (18.3) -7.5 ( -0.3) (-1.0) Marine Products 76.1 ( 2.7) (16.8) 23.2 ( 5.5) (16.5) 52.9 ( 2.2) (17.3) Tobacco 70.1 ( 2.5) ( 8.9) 13.5 ( 3.2) ( 4.7) 56.6 ( 2.4) (14.7) Coffee 49.2 ( 1.8) (10.9) 8.7 ( 2.1) ( 5.8) 40.5 ( 1.7) (18.0) Spices 42.0 ( 1.5) ( 5.8) 1.5 (- 0.4) (-0.5) 43.5 C 1.8) (14.9) Tea 26.3 ( 0.9) ( 0.7) -50.9 (-12.0) (-2.7) 77.2 ( 3.3) ( 5.4) Others 273.9 ( 9.8) ( 4.2) 50.8 (-12.0) (-1.9) 324.7 L13.7) (13.0) TOTAL 2,787.1 (100.0) ( 8.2) 424.0 (100.0) ( 3.4) 2,363.1 (100.0) (14.9) I/ Assumes garments were zero in 1960/61; comparable figure is not available. 2/ Assumes category was zero in 1960/61; comparable figure is not available Source: Statistical Annex Table 1. August 1976.  Exports Ranked by their Contributions to the 1960/61 - 1974/75 Value Increment in Constant 1968/69 Prices (US* millions) 1960/61- Annual Average 1960/61- Annual Average 1968/69- 1974/75 % of Growth Rate 1968/69 7. of Growth Rate 1974/75 % of Annual Average Increment IncremenIncrement ( n t ncrement Increment Increment Growth Rate Engineering Goods 173.9 ( 19.1) (12.7) 49.6 ( 10.8) (10.6) 124.3 (27.6) (15.6) Iron Ore 144.0 ( 15.8) (15.1) 94.5 ( 20.6) (22.5) 49.5 (11.0) ( 6.0) Handicrafts- 128.3 ( 14.1) n.a. 100.3 ( 21.8) (n.a.) 28.0 ( 6.2) ( 4.2) Sugar 86.9 ( 9.5) (19.7) 6.0 ( 1.3) ( 7.5) 80.9 (17.9) (38.1) Chemicals 72.0 ( 7.9) (13.0) 13.2 ( 2.9) ( 7.8) 58.8 (13.0) (20.2) Cotton Textiles and Garments2/ 71.5 ( 7.9) ( 3.1) 9.3 ( 2.0) ( 0.9) 62.2 (13.8) ( 6.2) Silver 53.2 ( 5.8) n.a. 4.4 ( 1.0) n.a. 48.8 (10.8) (51.5) Leather and Leather Manufactures 46.2 ( 5.1) ( 3.8) 41.5 ( 9.0) ( 6.2) 4.7 ( 1.0) ( 0.7) Tea 34.2 ( 3.8) ( 1.1) 2.0 ( 0.4) ( 0.1) 32.2 ( 7.1) ( 2.4) > Cashew Kernels 32.9 ( 3.6) ( 3.7) 31.0 ( 6.8) ( 6.2) 1.9 ( 0.4) ( 0.4) Oilcakes 31.7 ( 3.5) ( 4.8) 31.7 ( 6.9) ( 8.5) 0.0 ( 0.0) C 0.0) Marine Products 30.8 ( 3.4) ( 6.0) 8.3 ( 1.8) ( 3.7) 22.5 ( 5.0) ( 9.1) Coffee 24.5 ( 2.7) ( 6.7) 7.2 ( 1.6) ( 4.6) 17.3 ( 3.8) ( 9.5) Tobacco 24.5 ( 2.7) ( 3.6) 5.8 ( 1.3) ( 1.8) 18.7 ( 4.1) ( 6.0) Spices 3.0 0.3) ( 0.6) 1.4 ( 0.3) ( 0.5) 1.6 ( 0.4) ( 0.8) Iron and Steel - 7.0 ( -0.8) (-1.3) 80.7 ( 17.6) (14.2) -87.7 (-19.4) (-18.7) Jute Manufactures -36.8 ( -4.0) (-1.0) 14.1 ( 3.1) ( 0.6) -50.9 (-11.3) (-3.2) Others - 3.8 (0,4) (-0.1) -41.9 L-9.1) (-1.6) 38.1 ( 8.4) ( 2.0) 3/ TOTAL 910.0 (100.0) ( 3.8) 459.1 (100.0) ( 3 7) 450.9 (100.0) 3.8 l/ Assumes category was zero in 1960/61: comparable figure is not available. 2/ Assumes garments were zero in 1960/61; comparable figure is not available. 3/ This growth rate is about 1% p.a. below that derived from the GOT volume index. The reason for this discrepancy is unclear. Source: Statistical Annex, Table 2. August 1976.  - 15 - together accounted for 74.5% of the total growth. In terms of contribution to the constant value increment the ten largest categories were almost the same, with the substitution of tea for oilcakes, although the order was some- what different. (2) Both in constant and current prices India's export growth has been quite evenly distributed. Between 1960/61 and 1974/75 no category accounted for more than 15% of the increment in current prices, or 20% in constant prices. It should be noted that, taking only the enumerated cate- gories, manufactured goods of all kinds accounted for 54% of the 1960/61- 1974/75 current value growth and 52% of 1968/69-1974/75 growth. Agricultural commodities (mainly sugar) accounted for 31% and 36%, respectively. (3) The rank correlation coefficient between contributions to value and volume incre- ments is 0.8. However, in a few important cases the difference is marked, namely sugar, for which the value contribution in current prices considerably exceeds that in constant prices, and engineering goods, iron ore, handicrafts and tea, for which the reverse is true. (4) Fast growth tended to occur only from a low base and was almost never sustained. There are two pieces of evidence that can be cited: (i) categories showing volume growth of more than 10% per annum in constant prices between 1960/61 and 1974/75, namely engineer- ing goods, iron ore, sugar, chemicals, handicrafts, and silver all started from very low bases, these six together making up only 9% of exports in 1960/61. (This is, of course, a major factor in explaining the fairly slow overall growth rate.) (ii) Of the items which grew at 10% per annum in volume, or more, between 1960/61 and 1968/69, only engineering goods achieved this also between 1968/69 and 1974/75. 1/ Similarly, of the eight largest contributors to 1960/61-1968/69 growth in constant prices only engineering goods grew by as much again in absolute terms between 1968/69 and 1974/75. 2.17 The statistical Annex Tables 3 and 4, which report the result of regressions of exports in constant prices on time for 1965/66 to 1974/75, pro- vide further illumination of a few of the above points. Of the seventeen major categories, eleven have significant positive growth trends namely cas- hew kernels, chemicals, coffee, cotton textiles and garments (because of garments), engineering goods, handicrafts, iron ore, leather and leather manu- factures, marine products, oilcakes and tobacco. Of these, only four show trend growth of more than 10% per annum, namely engineering goods, chemicals, marine products, and handicrafts. With disaggregation the situation improves a little, because of the addition of garments and finished leather. However, in 1965/66 these six categories accounted for only 9% of India's exports. Thus, it is far from surprising that overall growth has not been high. The weak trends are indicated by the fact that the corrected R squared is below 0.5 for eight of the seventeen categories. Annex Table 3 also reports the ratios of the standard error of estimate to the mean, which is an indicator of the strength of variations about the trend. Unstable spill-over exports like sugar and iron and steel are clearly indicated. The high ratios for silver, chemicals, garments, and finished leather show the effect of sudden spurts in the last few years, while those for tanned hides and skins, and carpet backing show the exact reverse. The high ratio for sacking indicates strong fluctuations about the falling trend. Thus, the existence of both 1/ Silver did so also, but only because the 1960/61 base was close to zero.  - 16 - spasmodic growth and strong fluctuations is clearly indicated by these ratios. It is encouraging to note that total exports are less unstable than any of the individual components. Table 2.8 Estimated Trend Real Growth Rates of Major Exports 1965/66-1974/75 Growth Rate per Annum R Squared Silver 35.3 /a -0.08 Engineering Goods 23.3 0.86 Chemicals 14.7 0.84 Marine Products 12.8 0.92 Handicrafts 10.3 0.85 Coffee 8.4 0.80 Leather and Manufactures 7.9 0.54 Iron Ore 7.8 0.91 Tobacco 6.6 0.46 Cotton Textile and Garments 5.9 0.56 Oilcakes 3.7 0.25 Sugar 3.5 /a -0.10 Cashew Kernels 2.9 0.26 Tea 0.9 /a 0.02 Spices -0.2 /a -0.12 Jute Manufactures -3.3 0.66 Iron and Steel -6.9 /a 0.10 Total 4.4 0.83 /a Not significantly different from zero at the 95% confidence level. Source: Statistical Annex Table 4. Recent Developments 2.18 The work carried out in order to prepare the Bank's volume index for 1968/69 to 1974/75 (see Statistical Annex Table 7), makes possible a more disaggregated picture of export growth over this latter period. One rather interesting point is that, of the one hundred and eleven items covered by the index (which includes about 80% of India's exports by value), only three grew in every one of these six years, namely handloom towels, girls' cotton dresses, and cotton T-shirts. These are insignificant items account- ing in 1974/75 for only 1.1% of total exports. The really fast growing items between 1968/69 and 1974/75 fall into four categories. 1/ The first is a 1/ It should be noted that some of the faster growing categories referred to above do not appear in the index, because they comprise a very large number of small individual items. Examples are chemicals, and handi- crafts (excluding woolen carpets).  - 17 - long list of agricultural products, accounting for 11.6% of total exports in 1974/75, but dominated by sugar which accounted for 88% of their collective share. The others were meat, rice, mango jams, mango slice brine, potatoes, mango chutney, compound animal feed, oilseeds, raw jute and gour flour. The second category covers garments and a few textiles, which accounted for 4.7% of total exports in 1974/75. The specific items were fabrics woven of synthetic fibers, handloom cotton textiles, handloom towels, mens' outer garments ex- cluding cotton trousers, girls' cotton dresses, dresses for girls of other textiles, cotton dress shirts, cotton T-shirts, cotton under shirts, and woolen sweaters. The third group is a wide array of engineering goods, only a pro- portion of which are in the index because of the non-homogenous nature of this category. Fast growing items included in the index are pipes and pipe fittings, bolts, spanners, files and rasps, EPNS ware, internal combustion engines (stationary) parts of diesel engines (stationary) buses and bicycle parts. The final category is a miscellany, of which silver is by far the most im- portant, but which also includes cigarettes, ilmenite and fur skins. The four dynamic exports or export categories in this latter period have, there- fore, been sugar, engineering goods, garments, and silver. On the basis of analysis in Volume II, chemicals should be added. As remarked above, high volume growth tends to be correlated with low initial significance. The items listed immediately above (excluding chemicals), each of whose 1968/69-1974/75 volume growth was more than 15% per annum, accounted for only 2.8% of ex- ports in 1968/69. 2.19 Overall growth in 1975/76 was 9.1% in current dollars, but 12.1% in constant 1975/76 prices (and 14.9% in constant 1974/75 prices) 1/. This was a remarkable performance in a year of global recession. However, a closer examination of the figures shows that 68.9% of the volume growth increment was contributed by sugar (46.7%) and silver (22.2%). The volume growth of exports other than sugar and silver was only 4.2% in 1975/76 prices, (and 5.3% in 1974/ 75 prices). Both of these commodities were first pushed enthusiastically as exports in 1974 in response to substantial price increases in the world market. Maximum export effort was attained in 1975/76 in the face of then declining prices. Since further growth of sugar exports will be very difficult to achieve (which has been borne out by experience in 1976/77) while silver exports come from a large private stock and generate no value added, 1975/76 performance could not be taken as an indication of the beginning of export- led growth. (Of significance in this context was the 1.9% decline of manufac- tured exports in constant 1975/76 prices, which was largely the result of a 15.1% decline in engineering goods). However, the 1975/76 performance did show increased commitment to exports. 2.20 In 1976/77 growth appears to have been very strong virtually across- the-board. Volume growth is estimated to have been about 12%. In value terms, exports are estimated to have risen by 18% to US$5,400 million. Earnings from sugar, which had accounted for almost one-third of the total increase in export 1/ Because the two fastest growing items, sugar and silver, both experienced price falls, the volume growth in 1975/76 prices is below that in 1974/75 prices.  - 18 - earnings during 1975/76, fell by about 70% during 1976/77. This was the consequence of both a sharp fall in international prices, and of domestic market pressures following the rapid increase in sugar exports during the previous two years. Excluding sugar, exports in 1976/77 are estimated to have risen 21% in volume terms and 30% in value terms. The most rapidly growing item was exports of iron and steel, the volume of which rose over 200%. Export earnings from iron and steel are estimated to have increased by 167% to US$350 million. The value of coffee exports rose by about 80%, despite a fall in volume, as world prices soared. Other exports which grew rapidly in both volume and value terms were oilcakes, leather products, chemicals, engineering goods, marine products and cotton textiles. Turn- key projects, especially in the rapidly expanding markets of the Middle East and South East Asia, became increasingly important as vehicles for India's exports of engineering goods. Apart from sugar, the only major export items to decline in value terms were jute manufactures and silver. India's Exports in the World Economy 2.21 Three specific questions will be addressed. The first is the extent to which the sluggish growth of the initially dominant export categories was a function of adverse world market conditions; the second is how well India has taken advantage of new opportunities in other exports in comparison with other LDC's; and the third is the extent to which the direction of India's exports has been a significant constraint. 2.22 For the decade 1951-1960, Bhagwati and Srinivasan calculate the loss in aggregate exports due to India's declining share in world trade in jute manufactures, tea, cotton textiles, unmanufactured tobacco, groundnuts and groundnut oil, and linseed and linseed oil. 1/ India's share fell in every case and the total loss in earnings over the decade was calculated at Rs. 5,740 million, which was 16.5% of all the earnings generated by these commodities. (Of course, India could not have maintained its market shares without a reduction in prices. However, it appears that in most cases India would have gained more foreign exchange than it lost by maintaining its volume share.) 2.23 In the sixties there were further declines for the three major categories of jute manufactures, tea, and cotton textiles. While India accounted for 74% of world exports of jute manufactures in 1965/66, this share had fallen to 52% by 1974/75. In its competition with synthetics in the crucial US carpet-backing market jute's share fell from 67% in 1969 to 26% in 1974 for primary backing, and from 76% to 63% for secondary backing. Further, it is clear that the price disadvantage which led to the market erosion, was in good part the result of government policy towards the ex- change rate and export taxes. 2/ In the case of tea, India's exports as a 1/ Bhagwati and Srinivasan, Op. Cit., Table 3-4. 2/ See Volume II, Chapter IX.  - 19 - share of world exports fell from 35% in 1967/68 to 27% in 1973/74. However, in the latter case, efforts to expand the volume of exports, in order to maintain the market share, would have led to a price fall. Given its current market share, the demand curve faced by India is probably more than unit elastic, and, consequently, aggregate receipts should rise if output were expanded, but the low profit margin of Indian tea producers would be seriously eroded. 1/ 2.24 Undoubtedly, the most serious case of unnecessary market erosion is that of cotton textiles. Mellor and Lele 2/ show that in 1953 India accounted for 58% of all LDC exports of textiles, and that this share had fallen to 8% by 1969. Both South Korea and Taiwan moved from zero to surpass India during this period. Furthermore, it was not a necessary erosion. Japan's textile exports which were 75% larger than India's in 1953 tripled by 1969,.adding $1.8 billion. In recent years India has seen a small and narrow boomlet in garment exports, but these are still less than 10% of those of Hong Kong. 3/ 2.25 It is clear that the stagnation of the major "traditional" items was not inevitably determined by stagnant world demand. For all these com- modities it went along with a steady loss in world market share, which is an indicator of poor performance on India's part. 2.26 As pointed out above, while the major traditional items stagnated, new categories have grown sharply, (if spasmodically). Has this growth, at least, taken advantage of what the world has had to offer? 2.27 A comparison between India and a number of important LDC exporters of manufactured goods is shown for 1965-1974 in Table 2.9. It will be noted that India's growth is the lowest of the countries shown in all sub-periods. Between 1965 and 1974, India slipped from being the second largest of this group of ten countries in terms of manufactured exports to fourth. 1/ See Volume II, Chapter XVI. 2/ John Mellor and Uma Lele, The Interaction of Growth Strategy, Agriculture and Foreign Trade: The Case of India, Occasional Paper No. 74, Employ- ment and Income Distribution Project, Department of Agricultural Economics, Cornell University, June 1974, p. 20 seq.. See also Deepak Nayyar, "An Analysis of the Stagnation in India's Cotton Textile Exports During the Sixties", Bulletin of the Oxford University Institute of Economics and Statistics, February, 1973. 3/ See Volume II, Chapter IV; see also, IBRD, Report No. 976-IN, India- Survey of the Textile Machinery Industry, Annex I. It should be noted that quotas are not the main reason for this performance, since they have frequently been unfilled.  - 20 - Table 2.9 lianufactured Exports of Developing Economies from 1965 to 1974 /a (US$ millions) Compound Annual Growth Rates (%) 1965 1971 1973 1974 1965-71 1965-73 1971-73 1971-74 Argentina 83.9 262.9 730.1 957.3 21.0 31.1 66.6 53.8 Brazil 124.3 441.2 1,216.8 1,920.7 23.5 33.0 66.1 63.3 Hong Kong 989.1 2,672.8 4,682.4 5,444.6 18.0 21.4 32.4 26.8 India 809.0 1,092.9 1,560.7 2,031.3 5.1 8.6 24.8 23.0 Korea, Rep. of 103.8 872.9 2,709.8 3,775.4 42.6 50.3 76.2 62.9 Malaysia 67.8 123.3 346.5 547.4 10.5 22.6 82.1 64.4 Mexico 165.9 503.5 1,098.7 n.a. 20.1 26.7 47.7 n.a. Singapore 300.4 583.8 1,598.6 2,316.8 11.7 23.2 65.5 58.3 Yugoslavia 616.7 1,149.1 1,917.5 2,524.3 10.9 15.2 29.2 30.0 /a SITC 5-8 minus 68 Source: Donald B. Keesing and Phi Anh Plesch, Preliminary Report on Recent Trends in Manufactured Exports of Developing Countries, Annexes A and B, IBRD, Mimeo, March 15, 1976. 2.28 A longer term perspective is provided by a paper, to which reference has been made above. 1/ In 1960 India's exports of manufactured goods, at US$600 millions, exceeded those of Argentina, Brazil, Chile, Columbia, Israel, Korea, Mexico, Singapore, Taiwan and Yugoslavia taken together. By 1973, India's manufactured exports accounted for only 10% of this group's total. 2.29 Since cotton textiles and jute manufactures are included in the above categorization, it is useful to examine a few specific cases of faster growing Indian exports in the global context. The comparative data in our possession covers the period 1971-1974, which, being the most recent, is perhaps the most relevant period, given the aim of examining India's ability to exploit current opportunities. Table 2.10 gives information for a number of important goods and categories and roughly ranks countries in each classification by their importance in 1974. 2.30 The categories shown in Table 2.10 cover many manufactures, which are important for India's recent past and future prospects. It should be noted that, with the exception of leather, we have only shown India and those above it in each of these categories. In spite of this relatively low position, only in clothing is India's performance superior, and the diff- erence in starting level in that category is so great that this result is 1/ B. Balassa, Op. Cit., Appendix Table 2  - 21 - Table 2.10 Manufactured Exports of Leading Developing Countries from 1971 through 1974 in Selected Commodity Classes (in Millions of Current US Dollars) Annual Growth Rates 1971 1972 1973 1974 1971-74_ / (%) 841 Clothing (not of fur) Hong Kong 895.0 1,077.9 1,417.8 1,673.4 24.0 Korea 303.3 439.6 743.6 946.8 48.3 Taiwan 413.3 549.1 780.0 894.2 29.3 India 43.6 67.3 126.7 170.7 60.4 7 Machinery and Transport Equipment Taiwan 369.7 641.7 985.8 1,308.5 52.5 Singapore 241.9 432.9 797.5 1,192.9 71.6 Hong Kong 345.2 461.7 713.7 909.3 39.7 Korea 87.4 171.6 395.9 672.3 100.5 Brazil 133.2 217.2 303.8 638.0- 65.5 Mexico 174.3 237.8 463.7 n.a. 63.1- Argentina 82.6 118.0 254.9 n.a. 75.73/ India 102.5 107.2 150.5 266.4 37.8 611 Leather India 110.6 183.3 211.8 167.8 15.0 Argentina 36.2 89.8 97.6 n.a. 64.23/ Pakistan 29.6 44.8 52.3 35.1 6.9 Brazil 13.8 39.6 38.2 60.5- 55.2 851 Footwear Taiwan 95.0 143.5 226.4 276.4 44.2 Korea 37.4 55.4 106.4 179.52 70.9 Brazil 29.3 54.6 93.5 120.3- 61.2 Hong Kong 59.7 55.8 53.7 65.1 2.2 India 16.0 17.1 17.2 25.7 15.3 5 Chemicals Singapore 60.6 78.0 160.1 375.5 85.7 Hong Kong 118.1 124.5 179.9 223.7 25.7 Mexico 106.2 113.4 169.0 n.a. 26.1-/ Taiwan 42.6 49.4 64.8 141.5 47.3 India 45.3 50.1 74.0 130.0 42.7 89 minus 892 Miscellaneous Manufactured Products Hong Kong 5i7.8 563.1 780.0 835.7 16.2 Taiwan 184.5 290.7 397.7 530.9 41.7 Korea 90.3 121.1 222.9 292.8 51.3 India 31.7 39.4 60.6 76.2 35.8 1/ Semi-Logarithmic Least Squares Time Trends 2/ National equivalent (approximate) 3/ 1971-1973 Source: Donald B. Keesing and Phi Anh Plesch, Preliminary Report on Recent Trends in Manufactured Exports of Developing Countries Annexes A and B, IBRD, Mimeo, March 15, 1976.  - 22 - far from surprising. Even in 1974, India's clothing exports were 19% of those of Taiwan, after which India came a poor fourth of those listed. Growth in exports of machinery and transport equipment and of footwear was markedly less than that of major competitors. In chemicals and "miscellaneous manu- factures" 1/ growth was comparable, but in the latter case the base was low, while, in the former, growth was to a considerable extent the spill-over from a large industry facing stagnant domestic demand. 2/ What is striking when reviewing exports, in which India should have a comparative advantage, is how far the more dynamic exporters have left India behind. In 1974 Taiwan's exports of clothing, machinery and transport equipment, and "miscellaneous manufactures" exceeded all of India's manufactured exports. 2.31 Analysis of the direction of exports is important for many export categories, and is undertaken in Volume II, wherever appropriate. The issue is explored in aggregate in the chapter on exports in the World Bank's 1976 Economic Report on India. 3/ The first point to be touched on here is the extent to which the direction of India's exports has been a significant retar- dant on overall performance. In 1953, the United Kingdom received 29% of India's exports while by 1975/76 this was down to 10%. India's initial con- centration on a relatively stagnant market parallels the concentration on stagnant commodities. The major offset was rapid growth of exports to Eastern Europe, and also exports of iron ore to Japan. However, it is not plausible to argue that the initial concentration on the UK was a major barrier to subsequent growth, given the ability of other successful exporters to shift directions, and the inability of India to achieve any significant growth throughout the 1950's and most of the 1960's anywhere at all except in the relatively uncom- petitive Eastern European markets. It should be noted that this has changed recently, especially in the huge surge of exports to OPEC countries, which is shown below. 1/ Toys and sporting goods, articles of plastic, sound recorders, phono- graphs, works of art, jewelry, artificial flowers, wigs, brooms, etc. 2/ See Volume II, Chapter II. 3/ IBRD Report No. 1073-IN, Economic Situation and Prospects of India M4arch 29, 1976. The main points made there were: (1) the dominance of Eastern Europe in export growth between 1955/56 and 1967/68; (2) the subsequent rough equivalence in growth rates of convertible currency and "rupee" exports and (3) the very rapid growth of exports to Middle Eastern OPEC Countries during the 1970's.  INDIA Direction of Exports (US$ Millions) Export Areas 1960 1965 1970 1972 1974 1975 Amount % Amount- % Amount % Amount % Amount % Amount % Industrial Countries 801.7 (57.7) 919.7 (54.2) 982.2 (48.5) 1,220.4 (50.0) 1,860.7 (47.8) 2,004.5 (42.4) Other Europe 41.4 ( 3.0) 62.6 ( 3.7) 86.5 ( 4.3) 65.7 ( 2.7) 91.1 ( 2.3) 125.5 ( 2.7) Australia, New Zealand, South Africa 62.4 ( 4.5) 53.3 ( 3.1) 41.8 v 2.1) 49.4 ( 2.0) 110.5 ( 2.8) 75.1 ( 1.6) Oil Exporting Countries 43.8 ( 3.2) 51.4 ( 3.0) 132.3 ( 6.5) 132.2 ( 5.4) 479.6 (12.3) 932.5 (19.7) Other Less Developed La Areas 319.5 (23.0) 373.0 (22.0) 388.5 (19.2) 436.2 (17.9) 632.7 (16.3) 762.0 (16.1)' USSR, East Europe, China, etc. 119.9 ( 8.6) 296.5 (17.5) 393.1 (19.4) 539.0 (22.1) 717.5 (18.4) 831.0 (17.6) TOTAL 1,388.7 (100.0) 1,696.5(100.0) 2,109.7 (100.0) 2,442.9 (100.0) 3,892.1 (100.0) 4,730.6 (100.0) Source: IMF, Direction of Trade, Annual 1960-75. IN)  - 24 - The Role of Exports in India's Economy 2.32 Two closely related issues can usefully be dealt with, namely the relative importance of exports and domestic sales for the categories under discussion, and, in particular, the role of exports in generating past growth. It will be noticed that, while exports now generate little more than 5% of GNP, and directly produced much less than 10% of GNP growth during the last decade, they are not insignificant for many individual categories. Specific information on the recent contribution of exports to growth is given in Table 2.12. 2.33 One major group consists of those products for which exports account for about half or more of total output. These include pepper, cashew kernels, coffee, jute manufactures, tea, leather and leather manufactures, polished diamonds, garments produced by large scale manufacturers, 1/ and iron ore. Together these products account for about 35% of India's total exports. The majority are simple agricultural or agriculture-based goods. Others involve labor-intensive processes, in which there exists a clear comparative advantage. In certain cases, such as cashew kernels, and leather and leather manufac- tures, these two sub-categories overlap. Iron ore is sui generis, but is again a primary product. Thus, highly export-oriented industries seem to involve simple and often very labor-intensive technologies, and/or exploit one of India's natural resources. 2.34 Exports of five of these categories have been growing quite fast (see Statistical Annex Tables 2 and 4), namely garments, gems, leather and leather manufactures, and iron ore. In all these cases except leather, ex- ports accounted for virtually the entire growth of the industry. Cashew kernel exports have been stagnant, while generally declining exports of jute manufactures have led to a decline in the production of the entire industry, (although this was not the case for 1970/71 to 1974/75). In the case of pepper, exports served as a spill-over for increased production in the excel- lent years of 1973/74 and 1974/75 and were otherwise static. In the case of leather, exports accounted for about half of output growth, while in the case of tea the contribution was less, (see Table 2.12). 2.35 A second and closely related group consists of industries for which exports account for 15-40% of output. Two agricultural exports come in this category, namely, oilcakes and tobacco, which together contribute about 5% of total exports. Between 1965/66 and 1974/75 trend growth of tobacco exports was 6.6% in volume, and that of oilcakes was 3.7%. Growth in tobacco exports was accounted for by flue cured Virginia (FCV), which now contributes 90% of total tobacco earnings. Moreover, exports account for more than half of India's production of FCV tobacco (65% in 1974/75), and most of the growth in production. Thus, FCV tobacco might be placed in the previous group of 1/ Large scale clothing manufacturers suffer from a competitive dis- advantage in the domestic market vis-a-vis custom tailors, because of the lack of a mass retailing system.  - 25 - Table 2.12 Export Orientation and the Effects of Export Growth on a Number of Exports (Rs. millions) Change in Marginal Export- Average Export- Average Export- Exports in Change in Exports Domestic Production Output Ratio Output Ratio Output Ratio 1970/71 1970/71-1974/75 1970/71-1974/75 1970/71 1974/75 (%) (%) (%) Chemicals 374.9 788.3 16,307.0 4.8 2.2 3.C Machinery except Electrical 326.9 759.2 9,820.0 7.7 3.2 5.9 Electrical Machinery 186.2 501.3 10,190.2 4.9 2.2 3.7 Transport Equipment 444.7 343.5 10,o92.5 3.4 4.1 3.8 Metal Products 321.8 500.0 2,247.9 22.0 6.7 12.0 Basic Metals 1,181.4 966.8 18,488.1 5.2 7.1 6.1 Leather 875.7 584.4 1,448.7 40.0 49.0 47.0 1/ 1/ Cotton Textiles 1,013.3 794.5 7,256.5 11.0 5.0 6.6 Tea ('000 tons) 213.0 15.0 71.0 21.0 47.0 43.0 2/ Jute('OOO tons) 558 26.0 - 50.0 - 52 58.0 64.0 Tobacco('000 tons) 47.5 27.5 13.0 212 13.0 20.0 3/ Oilcakes('OO0 tons) 879.0 - 86.0 _ 1,141.0 1.5 20.0 24.0 2/ Coffee ('000 tons) 32.1 17.3 - 18.2 - 95.0 29.0 54.0 1/ 1970/71-1973/74 2/ Negative output growth 3/ Negative export and output growth Sources: Central Statistical Organization, National Accounts Statistics, 1960/61 to 1974/75, Vol. II; DCIS, Monthly Statistics of the Foreign Trade of India, various volumes.  - 26 - highly export-oriented industries, to whose growth exports have made a sig- nificant contribution. In the cases of oilcakes, domestic demand has "led" growth of output, with exports tending to be stagnant. 2.36 A third major category consists of industries for which exports are marginal, namely engineering goods, chemicals, marine products and cotton textiles other than garments. These categories contribute about 22% of total exports. Engineering goods, chemicals, and marine products have all been very fast-growing exports. Cotton textiles, on the other hand, have been virtually stagnant with only a temporary surge in 1973/74. The growth of engineering and chemical exports has exceeded overall growth of the industries, but because of the relatively low share of exports in production, exports have not played an overwhelming role in overall growth. Our estimates in- dicate that about 5% of the real growth of the engineering and chemicals industries between 1970 and 1974/75 was directly contributed by exports. 1/ Both of these ratios are higher than shares of exports in output because of rapid growth of "spill-over" exports in a period of slow growth of the domes- tic economy. This spurt is indicated for chemicals by the marked upward deviation from the longer term trend during this latter period. Hlarine pro- ducts present a different picture. Exports account for less than 3% of the total catch of what is largely a very traditional industry. hlowever, the ex- port sector itself is quite distinct, since it employs more modern vessels and shore facilities, and is also concentrated almost entirely on frozen shrimp, which account for about 85% of export value. 2/ Exports have played an extremely significant role in the development of this modern sector of the industry and accounted for most of the growth. Thus, marine products should perhaps be put along-side garments and tobacco as an industry with a highly export-oriented segment. Finally, in the case of cotton textiles, millmade piecegood exports have virtually not grown, and neither has the domestic industry. 3/ Handloom piecegood exports, on the other hand, have grown markedly, but being a small proportion of total handloom production (about 2%), this has contributed very little to overall growth, or rather has not changed the position of overall stagnation. 2.37 A final group consists of iron and steel, sugar, and silver. 4/ Exports in these categories have been highly unstable. Iron and steel is the extreme case of a homogenous industrial export, where marginal exports fluctuate sharply with the shifting balance of supply and demand. It is, therefore, like 1/ For reference to Table 2.12, the engineering industries cover the two machinery sub-sectors, transport equipment, and metal products. 2/ See Volume II, Chapter XI. 3/ The use of 1973/74 as an end year in Table 2.12 gives a misleading picture of the contribution of export growth, because this was an exceptional boom year, both for export and production. 4/ It has not been possible to relate handicrafts, other than diamonds, to domestic production and these exports have, consequently, been excluded from this analysis.  - 27 - chemicals, but still more extreme, since the balance has shifted more widely and production decisions of this overwhelmingly public industry have been little affected by domestic demand. Sugar and silver exports have grown sharply in volume since 1973, because of a combination of government policy changes and improved opportunities. In the case of sugar a conscious decision was made to exploit the improved world prices and squeeze domestic consumption. Sugar exports grew from 6% of output in 1973/74 to 25% in 1975/76. The growth in exports led a substantial rise in sugar production, which, in turn, largely reflected a switch in use of cane from khandsari/gur to the sugar mills. Silver export is not an industry, but involves sale from a stock. Silver ex- ports were legalized in March, 1974 and, thereafter grew rapidly, partly in response to very favorable international prices. 1/ 2.38 To sum up this sub-section: (i) there are a number of industries for which exports are very important, and to which exports have contributed a considerable amount of growth. These industries tend to be rather simple and to be based on very obvious sources of comparative advantage, such as agricul- tural production, availability of a mineral, or labor-intensity. The growth of industries like coffee, leather and leather manufactures, iron ore, FCV tobacco, garments, diamond polishing, and frozen shrimp has depended in large part on exports. Other, more stagnant industries, like jute manufactures, pepper, tea, and cashew kernels, are dependent on exports for maintenance of demand. (ii) For more sophisticated industrial products, like engineering goods, chemicals, and iron and steel, exports have been much more marginal. (iii) Shifts in policy and changes in world opportunities have generated some of the observed instability of exports, and this applies especially to silver and sugar. Instability of some exports as well as sudden growth spurts tends to reflect rapid changes in the balance between supply and demand. Iron and steel, chemicals, pepper and oilcakes are especially important examples of this category. 1/ The extent to which silver exports really grew, rather than shifted from illegal to legal channels, is unclear.  - 28 - III. DOMESTIC AND INTERNATIONAL CONSTRAINTS Introduction 3.01 India's exports occur in the context of an overall context determined by Indian conditions, Government policy towards the economy as a whole and industry in particular, and the international environment. Some salient aspects of these constraints are reviewed immediately below. It is within this context that the Government has framed the specific policies for export promo- tion and taxation that are reviewed in the succeeding chapter. However, before considering the details of the environment, a number of preliminary points should be made. 3.02 Importance of Incentives. Exports are largely a private sector activity. This is somewhat less true at the trading than the production stage, but it is true there too. This does not mean, of course, that public activi- ties do not have pervasive effects, both in curbing and in promoting export activity. It does mean, however, that incentives are crucial. 3.03 Of the seventeen categories of exports, on which we have focussed, only two, namely iron ore and iron and steel, have equal, or more than equal, participation from public sector production. About half of India's iron ore exports originates in the public sector (virtually all that originates outside Goa) as well as more than half of the iron and steel exports. Public sector production has a role, but not a very large one, in exports of engineering goods (e.g. Bharat Heavy Electricals Limited, and Hindustan Machine Tools), and of chemicals. It is in the cases of iron ore and iron and steel that incentives matter least and the ability simply to produce and transport adequate quantities the most. 3.04 The public sector has a more important role in the sale of India's goods through trading companies usually known as canalizing agencies. The Steel Authority of India Limited (SAIL) is responsible for all exports of steel; the Minerals and Metals Trading Corporation (MMTC) is responsible for all exports of iron ore from outside Goa; and the State Trading Corporation (STC) is responsible for all exports of sugar and, supposedly, for tanned hides and skins, in addition to the footwear which it sells to Eastern European countries. The STC has recently been given a monopoly on exports of silver as well. The Handicrafts and Handloom Export Corporation (HHEC) is an active promotor of handicraft exports (but not a monopolist). Many other bodies are involved, but these are the most important cases. 3.05 Generally, state trading organizations act on commercial grounds, as do other public sector coporations. Even the STC, which is charged with various public purposes, acts commercially within the confines of public policy. Furthermore, the latter is also largely determined by a view of commercial opportunity. Thus, the export of sugar in 1974/75 and 1975/76 was  - 29 - highly profitable for India and for the STC, which acted on the Government's behalf. Current dwindling enthusiasm for sugar exports is correlated with the falling international price. 3.06 To sum up: exports are largely a private, profit-oriented activity, and where they are not private, public agencies act on commercial lines. Government policy, including bans and quotas, affects public and private agencies alike. Iron ore and steel are probably the only industries where profitability can be to some extent ignored. 3.07 Diversity. Yet another significant feature of India's exports is that, given their rather low level, they are highly diverse. This is, of course, largely a consequence of India's strategy of promoting almost any feasible export, but is also of benefit to India since it provides a measure of stability. In 1974/75 about 34% of India's exports were agricultural commodities, that undergo little further processing including sugar, tea, cashew kernels, oilcakes, tobacco, fish, spices, coffee, vegetable oils, raw cotton, and essential oils); 6% were minerals (including iron ore, mica, and manganese); 23% were manufactures, whose primary raw material is agricultural (including jute and cotton textiles, leather and leather manufactures, clothing, and coir manufactures); 15% were manufactures, whose primary input is mineral (including a wide range of engineering goods and chemicals, iron and steel, and mineral fuels); and 6% were handicrafts, including precious gems. Even with this lengthy list, 16% are not accounted for. Furthermore, many of these categories are in turn highly heterogenous, especially engineering goods and chemicals. 3.08 As a consequence of the diversity of India's exports, the problems and policies are almost equally diverse. Indeed, the conditions that determine the profitability, quality, availability, and market prospects of India's exports obviously vary from category to category, and such special factors are discussed in the chapters of Volume II. However, there are also a number of factors common to many of India's exports, which are considered below. Domestic Constraints on India's Exports The Basic Policy System and Efficiency 3.09 India's basic policy system and some broad characteristics of the economy have been discussed above (see paras. 2.03-2.07). It is this overall system which, whatever its benefits - especially in the early stages through promotion of industrial growth via import substitution, has created the largest problems for exports. Equally, as will be argued in Chapter V, a policy with a greater emphasis on exports should have major beneficial repercussions on the overall economy. 3.10 The most significant effects of the system for exports are on the relative incentive to produce import substitutes and exports, as well as on the dispersion of effective protection and subsidization rates. A summary measure of the former, can be given by comparing the "purchasing power parity  - 30 - effective exchange rate" (PPP-EER) for imports and exports, which shows the real rupees that can be earned over time by producing a given import substi- tute or export product. 3.11 The data presented in Table 3.1 are, of course, only suggestive. Given that the quota-created premia on imports have been excluded, while the export subsidy rate had to be guessed, this qualification is absolutely crucial. In general, the result will be to underestimate the bias towards import substitution. Furthermore, an average of this kind evidently cannot indicate anything about the situation of individual import substitutes and exports.l/ Nevertheless, a few points do emerge: (i) the PPP-EER for imports has been consistently higher than that for exports; (ii) there has been a weak tendency for both to rise since 1950, a fall between 1972 and 1974 because of India's relatively rapid inflation and a jump between 1974 and 1975, which indicates an increased incentive to produce tradeable in place of non- tradeable goods; the PPP-EER for exports, in particular, is now at its highest level since 1950; (iii) while the 1966 devaluation had a significant effect on the incentive to produce import substitutes, it had very little immediate effect on the incentive to produce exports, largely because of associated reductions in export subsidies and increases in export duties; however, these offsetting changes were reversed in succeeding years; and (iv) mainly because of reduced average import and export duty rates, and increased export subsidies, the PPP-EER's for imports and exports, have been coming together in 1974 and 1975. 2/ 1/ It should be noted that, if the aim of the calculation of the effective exchange rate for imports is to indicate the price relationship for import substitutes, it is a seriously defective measure. This is so not only because the effect of controls is ignored, but because the weights of goods in production will be very different from their weights in trade. If, in addition, the nominal protective rate for goods pro- duced is different from that for goods imported, then the ratio of duties to imports will not be a correct indicator of the weighted average ratio of the prices of goods produced and their prices in world trade. 2/ The effective exchange rate summarizes all policies and thus includes the effects of those policies discussed in this and the succeeding chapter. However, it seemed appropriate to make this summary measure the cornerstone of a discussion of constraints on exports, and thus bring it in at this stage.  - 31 - Table 3.1 Purchasing Power Parity Effective Exchange Rates (Rs/US$ in 1963 Prices) /a /b Imports Exports Imports/Exports 1950 5.25 4.14 1.27 1955 7.30 5.74 1.27 1960 5.67 4.86 1.17 1965 5.72 4.79 1.19 1967 6.22 4.86 1.28 1970 6.64 5.38 1.23 1972 /c 6.90 5.28 1.31 1974 /c 5.73 5.08 1.13 1975 /c 7.19 6.50 1.11 /a The calculation of the effective exchange rate includes only the effect of import duties. Since the implicit premia on imports, created by the import control regime, are excluded, the effective exchange rate is considerably underestimated. /b The calculation of the effective exchange rate allows for export duties, and, because of the impossibility of making precise estimates, allocates an arbitrary export subsidy rate as follows: 1950-1960 at 0%; 1965 at 20%; 1967 at 5%; 1970 at 10%; and 1972-75 at 20%. Subsidies are applied only to non-traditional exports. Assumptions about subsidy rates follow Bhagwati and Srinivasan, Op. Cit. /c Fiscal Years. Source: Bhagwati and Srinivasan, Op. Cit., Table 2-1. Their calculation has been updated to 1975 following their methodology, except that the export-weighted wholesale price indices in India's export and import partners are used. 3.12 One of the most common criticisms of the basic trade policy regime is that it leads to overvaluation of the currency. This means that tradeable goods as a group are "too cheap" in relation to non-tradeable goods, when foreign exchange is converted at the official exchange rate. There are several quite distinct definitions of the "correct" exchange rate, from which the degree of overvaluation is to be computed. One is the free trade equilibrium exchange rate, allowing for available net transfers from abroad. There can be little doubt that the current rate is indeed overvalued in relation to that, but it is equally impossible to tell by how much. 1/ A second definition is 1/ In the Indian context of pervasive controls the various elasticities can hardly be estimated.  - 32 - the equilibrium rate after removing only controls. Again the rate would have to rise although presumably by less than would be required if all tariffs and subsidies were also removed, since increased imports following abolition of import tariffs would exceed increased exports following abolition of export duties. (The average import tariff rate is vastly greater than the average export duty rate-in 1974/75, for example, the average import duty rate was 26% while the average export duty rate was 3%.) It should be noted, however, that neither of these first two definitions of exchange overvaluation show that, given all the tariffs, controls, and subsidies, the incentive to produce tradeable goods, taken as a group, is too low. They show merely that the incentive is too low for any relatively unprotected or unsubsidized import substitute or export. Quite a different indication of exchange overvaluation is the willingness-to-pay for foreign exchange as revealed by the domestic prices of tradeable goods in relation to foreign prices. This latter concept is measureable and frequently used in project evaluation. Estimates have shown a premium over the actual foreign exchange rate (on a willingness-to-pay basis), of 50% or more. Thus, by all these definitions, India's exchange rate has indeed been overvalued, but no single measure of the degree of overvalu- ation can be given, nor can its significance be judged. 3.13 Broad measures of the relationships between non-tradeable goods, import substitutes and exports provide only a small indication of the costs of India's policy system. Information on a much more disaggregated basis is useful. In this context it should be noted that not only has Indian trade policy shown a consistent bias toward import substitution, but there has also been only slight concern with the concept of economic efficiency in selection of what to produce and export. 3.14 The study of domestic resource costs per unit of foreign exchange earned or saved (DRC) in Bhagwati and Srinivasan shows that in 1968-69 the unweighted mean DRC for 64 sectors was 21.67 rupees per dollar, against an official exchange rate of 7.50. 1/ 2/ The standard deviation was 31.79: DRCs varied from Rs 5.9 for printing and publishing to Rs 259.2 for 'gur and khandsari.' Thus, the study, which is largely based on c.i.f. prices for import substitutes, shows very high resource costs per unit of foreign ex- change saved and an enormous dispersion. 3.15 Another study has been undertaken of forty two export sectors. 3/ In the primary analysis with almost no shadow-pricing, DRCs varied from 1/ Bhagwati and Srinivasan, Op. Cit., Table 13-4. Four negative DRCs are excluded. 2/ This converts into an average gross effective rate of protection of 189%. 3/ Charles P. Staelin, The Costs and Composition of Indian Exports, University of Michigan, Center for Research on Economic Development, Discussion Paper 22, May 1972, Mimeo. Similar variations are shown in a recently completed study by the Industrial Credit and Investment Corporation of India on India's manufactured exports.  - 33 - Rs 4.76 for silk textiles to Rs 26.69 for man-made fibers. The median DRC was Rs 7.82, but that for non-traditional exports was Rs 11.80, and that for the engineering goods sector was Rs 21.42. 1/ It may be noted that tradi- tional exports, which are taxed, were shown to be consistently more efficient than the more highly subsidized non-traditional sectors. 3.16 Too great a weight should not be placed on studies of this kind. Apart from the well-known objections to static analyses, these particular studies suffer from three defects in the Indian context. First, a much more disaggregated analysis is required - a point to which we return below, when reviewing the specific problems of industrial exports. Second, the problem of the relative efficiency of, and relative incentive to produce, exports and import substitutes is not addressed, except to the extent that whole sectors can be described as export or import-substitution oriented. However, most sectors and industries produce for both markets and only very few are predomi- nantly export-oriented. Value added per unit of output is very likely to be different within each industry (and between firms) for import substitutes and exports. This will affect measures of DRCs (and ERPs). Third, there can be no measurement of the costs of not producing potentially highly efficient exports. Thus, all that can reasonably be concluded is (i) that there is a very large dispersion in DRCs (and ERPs), and (ii) that non-traditional exports are apparently generally less efficient (and more highly subsidized) than traditional ones. The higher DRCs in Bhagwati and Srinivasan's study, which looks at import substitution (i.e. c.i.f. prices of output), than Staelin's, which looks at export promotion (i.e., f.o.b. prices of output) may indicate higher protection to import substitutes than to exports, and the table of purchasing power parity effective exchange rates strongly supports this hypothesis. Constraints on Industrial Exports 2/ Introduction 3.17 Many of the problems that constrain India's industrial exports are deeply embedded in the structure of the industrial sector, even though that structure itself is at least in part the consequence of trade policy. However, their significance extends beyond the sphere of exports or even that of gains from trade to the larger question of efficient use of resources. While the discussion below focusses on the gains for exports of resolving these problems, it should not be forgotten that such a resolution is of even greater value in its own right. In addition, a greater emphasis on exports will itself be a major contribution to the solution of these problems, since exports will allow 1/ From these figures the conclusion should certainly not be drawn that all non-traditional exports are inefficient. 2/ This section draws heavily on Chapters II, IV and V of Volume II of this report.  - 34 - greater exploitation of economies of scale, will engender increased competi- tion, and will release foreign exchange constraints. 3.18 It should be noted that the measures of comparative advantage (DRCs) and of resource allocation effects of trade policy (ERPs) capture some, but not all of the problems discussed below. In order to clarify the relationship between industrial structure and trade policy, on the one hand, and exports, on the other, the following categorization is useful: (i) a bias towards import substitutes in trade policy shifts production away from exports; the most direct effect will be on the price of inputs, which will, in turn, be captured in measures of trade policy such as the ERP. In equilibrium the DRCs for exports will be below those for import substitutes. (ii) Policies that thwart the exploitation of economies of scale and other policies that reduce technical efficiency, lower the potential real product of the economy and alter the pattern of comparative advantage. Such changes largely affect absolute advantage, and do not show up in the DRC, which only measures com- parative advantage. However, their significance for industrial exports is considerable since a range of potentially efficient exports will cease to be so. (iii) Policies that make the environment uncertain, because of the variability of incentives, the range of administrative discretion, and so forth, alter the expected value of relative prices facing enterpreneurs. Measures of DRCs and ERPs are very unlikely to capture these effects. And (iv) failures in product quality, service, and marketing will reduce export prices and lower the benefits from export. 1/ DRCs cannot measure this since the f.o.b. price is taken as given. Thus, the discussion below does add significantly to the understanding of the export problem, and, a fortiori to understanding of the wider industrial problems, which increased export orientation may help to solve. Industrial Structure 3.19 One key area long discussed, but emphasized in a number of recent World Bank reports has been the structure of India's major industries, espe- cially in the key engineering category. By international standards India's industries have been fragmented into a large number of rather small firms. The quality of production, in a rather uncompetitive environment has been variable. Because of their small size India's firms have found it difficult to exploit economies of scale in production, and, still more important, in product development. Combined with curbs on collaboration agreements and on import of technology, the effect has been to render India's exportable products unsatisfactory in a number of cases. The strong bias toward import substitu- tion has encourage firms to produce a large range of products, if permitted, rather than focus on a few, in which international competitiveness might be achieved. While excess capacity has been a general phenomenon, it has often not existed in the best firms, whose products would be the easiest to export. 1/ Of course, it can be efficient to export shoddy goods, if the cost of improving quality is greater than the increase in f.o.b. realizations. This does not appear to be the case generally in India, where, in part because of lack of competition, poor products can be as costly to pro- duce as better ones.  - 35 - Formal or informal curbs on the expansion of these leading firms in the domestic market, combined with the uncertain profitability of exports, have reduced the incentive of these firms to promote exports. A protected domestic market has accustomed producers to a sellers' market, with the result that marketing and service of exports has sometimes been inadequate. Furthermore, the scale of India's firms has also militated against such an effort, which is costly. 3.20 Most of the features of Indian industry, referred to above, have been in part the result of trade policy. However, industrial fragmentation has also been the result of several other factors, including industrial licensing aimed at creating a substantial number of producers by placing limits on the size of new undertakings, restrictions on the growth of "dominant undertakings," "large houses," and foreign controlled firms; 1/ allocation of essential imports directly to firms, which curbed growth of the efficient and protected the inefficient; direct support for failing firms; and the prevalence of conglomerate "large houses", which defend their various parts, even when weak. 3.21 A few examples can be given of fragmentation. For example, in the case of phthalo pigments the Indian licensed capacity is 1,000 tons p.a., which is divided among four "large scale" and twelve "small scale" units, while the typical capacity of one plant in Germany is 5,000 tons p.a. 2/ The IBRD industry studies provide several other examples. In the case of tractors a total production of 32,000 units in 1972/73 was shared between seven firms, while this level of production would be extremely small for any one of the world's large producers. 3/ In the case of commercial vehicles there were ten producers with a total installed capacity of 81,000 units, in a world, in which twelve firms produced more than 100,000 commercial vehicles per annum each. 4/ A Bank report on steel forgings made the same point with respect to that industry, in which Government policy encouraged excessive entry and a large number of small firms with low technical skills suffered from severe excess capacity. 5/ In the textile machinery industry, there were some twelve major manufacturers, while the entire Indian production was smaller than that of the largest European firms. 6/ 1/ "Dominant undertakings" and "large houses" are regulated under the Monoplies and Restrictive Trade Practices Act, 1969 and foreign firms under the Foreign Exchange Regulation Act, 1973. A "dominant undertaking" is one that accounts for one-third or more of a particular market, and a "large house" is a group with fixed assets of Rs 200 million or more. 2/ See Volume II, Chapter II. Other examples are given there from the chemicals industry. 3/ See IBRD, INDIA-Survey of Tractor Manufacturing Industry, Report No. 166-IN, May 16, 1973, p. 7. 4/ See IBRD, INDIA-Survey of Commercial Vehicle Industry, Report No. 165-IN, May 16, 1973, p. 4 and Annex 4. 5/ See IBRD, INDIA-Survey of the Steel Forging Industry, Report No. 432-IN, April 25, 1974, pp. 10-11. 6/ See IBRD, INDIA-Survey of the Textile Machinery Industry, Report No. 976-IN, December 1975, p. 5.  - 36 - 3.22 While small firms tend to suffer from some inefficiencies in pro- duction, and this seems to be clearly the case for industries like chem- icals, it is not always a severe problem. Certainly, the Bank's in- dustrial studies show that there are a number of competitive industries, such as textile machinery, machine tools, iron and steel castings, and commercial vehicles. More significant perhaps are the problems created by small scale in marketing, service, and product development. India's industries usually started with collaboration agreements, under which foreign designs were imported. Subsequently, the agreements ended and the Government expected the firms to develop their own products. However because of small scale and slight incentive to modernize, the firms have sometimes not managed to keep up with global developments. As a result, Indian industries show a wide array of product vintages. While the older products are not necessarily inefficient failing large price discounts, they are often not attractive in world markets. Finally, where modernization has occurred, there has been a strong tendency to move into the newer and more sophisticated areas rather than build on existing technical strengths, because of the pressure from import substitution to diversify into all market nooks, and the aim of technological self-sufficiency. 3.23 These problems were also well-illustrated in the IBRD studies. In the case of commercial vehicles, the report noted that engines were often out of date and costly, both to build and maintain. Diesel trucks were under- powered, and the designs of even the best manufacturers' trucks were considered out of date. In many cases, these deficiencies made the vehicles costly to manufacture. 1/ In the case of transformers, foreign collaboration was limited by policy to heavy power transformers and to special purpose trans- formers, whereas exports have mainly comprised light distribution transformers. As a result, distribution transformers made in India were exclusively of the coil type, while manufacturers in most other countries have abandoned coil for layer windings with considerable savings. 2/ The problem of inappropriate technological development was illustrated also by the machine tool industry, in which most products were based on designs acquired from collaborators 10 to 20 years ago, while the most advanced firm oriented its efforts toward develop- ment of numerically controlled machines, which are both highly sophisticated and labor saving. 3/ 3.24 Apart from some degree of inadequate, or misdirected, research and development, Indian exporters also appeared to suffer in the areas of marketing and service. As was pointed out in the report on machine tools: "Capital goods such as machine tools are not purchased by users on the basis of prices alone. A maker's reputation for quality and service often outweighs price considerations ..... Clearly, these may not be economic operations in a small export volume." 1/ IBRD Report No. 165-IN, Op. Cit., p. 10. 2/ From a draft note prepared by Dr. H. Choi for the IBRD, entitled India - The Electrical Equipment, and Cable and Wire Industries February 3, 1976. 3/ From a draft note prepared by Dr. H. Choi for the IBRD, entitled India - Export Potential of the Machine Tool Cutting and Small Tool Industries January 10, 1976.  - 37 - 3.25 Small scale was a constraint on product development, and marketing and service effort. However, India's protected industrial structure seems also to have led to a number of managerial deficiencies. The Bank's report on textile machinery for example, found major deficiencies in many firms in manufacturing processes, (including foundry operations, machine shop layout, and finishing); in materials management, with inventories running two to four times higher than in developed countries; 1/ in labor productivity, which varied by 275% between the best and worst firms, and in certain cases was a tenth of European and Japanese levels - far more than the factor-intensity difference in the equipment used; in marketing; and in financial returns. 2/ Similar observations have been made about other industries. 3/ 3.26 More significant perhaps was the range in the quality of production found in virtually every industry. In almost all these industries a few firms (perhaps 25%) were found to be fully competitive internationally in both prices and quality. However, it was just these firms that did not suffer from the chronic excess capacity of India's industry. Thus, in the case of medium/ heavy commercial vehicles, average capacity utilization in 1971/72 was 69%, while that of the most successful firm was 104%; in light commercial vehicles the figures were 67% and 79% respectively; in tractors the figures were 54% and 129%; and in textile machinery while average capacity utilization was 30-60%, the leading firm faced an order backlog of over five years. Thus, it appeared to be consistently true that the firms in the best position to export had the least incentive given the relatively secure profitability of domestic sales. For them, a necessary condition for export expansion was overall expansion. 3.27 There are some other factors that explain weaknesses of India's industry. For example, past controls on prices of sugar, cotton textiles, and tractors appear to have had a significant effect on profitability, and, consequently, on willingness and ability to undertake required modernizing investment. In addition, the slow growth of demand for India's industrial output reduced the incentive to invest. Modernizing investment was not likely to occur except when investment for expansion was also required. 3.28 While inevitably brief, the above discussion makes clear that Indian industry has suffered from a number of problems created by the mix of industrialization and trade policies, that go well beyond those of static "efficiency" in the economic sense, and affect India's ability to expand 1/ It should be noted that uncertain supply of raw materials, due to re- current shortages, is a factor in this pattern of high inventories. 2/ See IBRD Report No. 976-IN, Op. Cit. 3/ See Annex I of the IBRD report on the textile machinery industry.  - 38 - industrial exports. With all this it must be said that there exist excellent firms in most industries, as well as highly competitive industrial structures, as in the foundries industry. 1/ Price, Availability, and Quality of Inputs 3.29 The historic pattern of controls on imports of raw materials, components, and capital goods, and the virtually complete ban on imports of anything produced in India, has been perhaps the single most severe problem for India's industrial exports. It has meant, inter alia, that poor quality or high cost production at one stage penalized export activity at the next. 3.30 Industries that have been affected by the poor quality of domesti- cally produced inputs include steel foundries, which suffered from low quality steel scrap and sand; iron foundries, for which pig iron quality was the major problem; cotton textiles, whose major handicap was the quality of Indian cotton; and electrical equipment, which was penalized by unsatis- factory inputs of dynamo grade steel sheets and electrical grade copper. The effect has been to lead to raised transformation costs because of high rejec- tion rates. 3.31 Exporters have also to be concerned about the availability of raw materials. Steel, for example, has gone through cycles of glut and shortage. High speed steel for cutting tools has been particularly scarce. Furthermore, the range of qualities and types of basic raw materials and capital goods, that is available in developed countries is not produced in India. This lack could not easily be made up from imports, because of India's restrictive policies. 3.32 The cost of raw materials is reflected in trade policy measures, but a few examples will indicate the significance of the problem. The Bank's various studies have identified cases such as: a price premium of as much as 300% on synthetic fabrics for garment manufacturers, prices of basic chemicals and raw materials for the chemical industry averaging 90% above world prices; prices of batteries, tires, and electrical equipment, which are inputs into commercial vehicles and tractors, all two to three times above c.i.f. prices; prices of forging quality steel 50-60% above international prices; and prices of high speed steel for cutting tools also 50% above international prices. 3.33 Few industries have been as seriously damaged by trade policies as textiles. Restricted to low quality cotton, whose prices move out of rhythm with those of the world, India's cotton cloth has been progressively displaced in world markets. The high cost of synthetic yarn has virtually precluded 1/ It is, of course, the case that in industries, where economies of scale are not significant, protection does not rule out the existence of effective competition. That this is the case for the foundries' industry was made clear by the Bank report.  - 39 - exports of blended fabric. Furthermore, the high cost of blended fabrics and the quality of cotton textiles precluded development of a broadly-based garment industry. The range of choice of fabric is too limited without extensive trade. 1/ Apart from these problems, another noteworthy effect of trade restrictions has been to make it difficult for firms to time their imports of commodities subject to rapid price changes. This has affected wool, for example, and thus the important woolen textiles industry. Equally important has been the difficulty in making subcontracting arrangements, which has proved so vital to export growth of LDC's. The electronics industry has been significantly curbed by this constraint. (Indian electronics exports in 1975/76 were less than US$20 million.) Other Constraints 3.34 Canalization of imports through state trading agencies seems fre- quently to have imposed delays, and raised costs. The bureaucratic management of the economy also created delays and imposed considerable uncertainty. These uncertainties were inevitable, given the tendency to make frequent small changes in policies, the "ad hoc" administration of the system, the complexity of basic documents on policy, such as the "Import Trade Control Poligcy" guidelines, and the ever present possibility that some vital input might be banned because of indigenous production. Special Features of Industries Other Than Engineering Goods 3.35 In the discussion of industrial exports, we have focussed largely on engineering goods, but other major industries suffer from some of the same problems. Chemicals and textiles are, like engineering goods, predominantly domestically-oriented industries. Industrial licensing policy appears to have been a factor in fragmenting the chemicals industry. In both cases trade policy has resulted in high cost and low quality raw materials. Textiles have also been affected by price controls, and their effects on profitability and investment. Both have only marginally profitable exports, with export-oriented investment in present circumstances being, apparently, quite unattractive. However, neither produces heterogeneous goods of a type that requires constant design modernization, marketing effort, or service arrangements. Thus, they share some, but not all, of the problems of engineering goods. 1/ In precluding imports of fabric the Government has been motivated by a number of concerns including the fear of "leakage" of imports into the domestic market and the desire to maximize domestic value added per unit of exports. MIaximizing foreign exchange earning per unit of resource expended seems a more logical aim. Finally, it should be noted that for a given net foreign exchange earning in exports, the higher the value added per unit of exports, the greater the effect on GNP of a given reduction in gross exports, and the more vulnerable GNP is to changes in the trading environment, since the policy is virtually certain to restrict the range and diversity of exports.  - 40 - 3.36 Iron and steel is distinctly different from the other major in- dustries. Being a predominantly public sector industry, exports have been determined largely by the availability of a surplus. In practice, this has varied considerably over time, with resulting fluctuations in the volume of exports. 3.37 Quite a different group of manufactures includes those labor- intensive activities, such as garments, leather and leather goods, gem polishing, traditional handicrafts, and agricultural industries, like cashew processing, in which India's comparative advantage is strong. Performance in several of these industries has left much to be desired. Secure access to raw materials at international prices seems to have been the most significant problem for these industries, followed closely, in the case of garments, handicrafts and leather, by deficiencies in design, sales, quality control, marketing, and so forth. Many of these difficulties may be resolved in the right trading environment, as Indian firms gain greater experience. One problem that seems to affect some of these industries is that of obtaining adequate working capital, since collateral is not easy to provide. In the case of leather, the relationship between large and small scale firms appear to be a problem, as the industry moves into more sophisticated production. Organizing exports from a plethora of small tanners, cobblers and so forth, will prove difficult. However, given India's proven entrepreneurial capacity, none of these problems would seem to be insuperable if the trade policy prob- lems were resolved, and the current negative net effective protection of many such activities were ended. Recent Policy Developments 3.38 The policies that have played a large part in creating the problems discussed above are changing. While the full implications of these changes are difficult to assess, the most important in terms both of size and signifi- cance are in import policy. As might have been expected, import policy has changed as a consequence of improved export performance and other factors that have made the foreign exchange position easier. Thus, the feed-back from exports to import availability, and back to exports, appears to have begun. 3.39 The main features of import policy changes, other than those for exporters, over the past two years have been: (i) to make it easier to import permissible items up to the limit that actual users wish for their own produc- tion; (ii) to increase the range of readily importable items especially among capital goods, industrial raw materials, and goods for mass consumption. With respect to the former a significant breach has been made in the principle that a good may be imported only if it is not available domestically; and (iii) to reduce the bureaucratic hurdles in the way of import. On the other hand, the policy does not embody a fundamental change of attitude with respect to import of final goods, to the practice of banning a substantial range of imports, or to the more general issue of the relationship between trade policy and exploitation of comparative advantage.  - 41 - 3.40 The changes should have a number of positive effects on India's industry by increasing competition, especially for producers of capital goods and by removing the constraint on expansion which the scarcity of imports and their bureaucratic allocation created. Furthermore the reduction in bureau- cracy should improve private firms' ability to plan. However, the basic principle of protection has not changed and is likely to continue to exercise a powerful effect on the evolution of India's industry. 3.41 Industrial licensing changes has been extremely complex, but their main feature has been to allow fairly unconstrained use of installed capacity, to relax restrictions on the expansion of "large houses" and "dominant under- takings" and to accelerate the processing of license applications. The most significant effect is likely to be to increase internal competition and con- sequent industrial restructuring. However, the degree to which major changes will be permitted as a consequence of such competition is still far from clear. 3.42 On balance recent developments must be considered likely to help India's industrial sector, and this is especially true when changes in xport policy itself, (which are discussed in Chapter IV), are taken into account. However, the protection of much of India's industry from external competition and the ambivalent attitude towards internal competition continue. Thus some of the structural weaknesses discussed above are likely to remain a constraint on exports, and are also likely to be removed only by the con- tinued direct and indirect effects of export growth. Constraints on Agricultural and Mineral Exports 3.43 Leaving aside the important policy issue of export taxes, there are few general issues affecting agricultural exports. 1/ Lack of produc- tion, which in certain cases such as cotton, is closely related to yields is the main endogenous constraint on agricultural exports. This lack of production is related to export duty policies, as well as to more fundamental aspects of India's agricultural economy. These various problems are dis- cussed in Volume II as they affect individual commodities. 3.44 In the case of mineral exports, however, the dominant category is iron ore, for which a number of clear issues arise. The first is whether the Government has given adequate priority to the export of the mineral. The second is the constraints on production and transport, and the investment program designed to relieve them. In practice, India has invested heavily in the expansion of a large number of ports. However, this is probably a costly strategy, and has certainly run into a number of delays. Although these issues are touched upon in the paper on iron ore in Volume II, many significant economic problems remain to be explored. 1/ Export taxation is discussed in the context of specific export policies in Chapter IV, paras 4.25-4.28, below.  - 42 - External Constraints on India's Exports 3.45 While prices are not strictly a constraint on export performance, they can clearly be a problem. Low prices affect the returns from different export activities, and the average of export prices in relation to import prices determines the returns to exports as a whole. Thus, as was mentioned in Chapter I, it is appropriate to take a brief look at price experience and prospects. Table 3.2 Unit Values of Exports and Imports and Terms of Trade (1958 = 100) Exports 1960 1965 1968 1970- 1972- 19749 - 1975- Food 110 110 164 166 184 331 343 Beverages and Tobacco 107 109 188 196 179 291 346 Crude Materials, Inedible (Except Fuels) 102 88 123 128 138 194 237 Mineral Fuels, etc. 99 110 191 199 367 590 840 Animal and Vegetables Oils and Fats 100 147 181 239 329 496 375 Chemicals 158 151 268 247 247 512 488 Manufactured Goods Classified Chiefly by Material 111 128 188 209 248 384 378 Machinery and Transport Equipment 89 76 91 95 113 114 164 Miscellaneous Manufactured Articles 112 131 200 216 226 302 326 UNIT VALUE OF ALL EXPORTS 109 112 163 173 196 298 321 UNIT VALUE OF IMPORTS 98 102 145 145 141 347 406 TERMS OF TRADE 111 110 112 119 139 86 79 /1 1968/69 Base; fiscal years. The base shift in 1968 was made without allowing for the small calender year/fiscal year discrepancy. Source: Statistical Abstract of India, 1972; Department of Commercial Intelligence and Statistics, mimeo; and Indian Trade Journal, August 1976. (From Statistical Annex Tables 10 and 11.)  - 43 - 3.46 Table 3.2 indicates that, until 1974/75, India's terms of trade generally improved after 1958. The deterioration in 1974/75 reflects the spurt in food, fertilizer, and POL prices. Further deterioration after 1975/76 is considered unlikely. It will be seen that only crude materials and machinery and transport equipment did much worse than average, while mineral fuels and chemicals, of course, did exceptionally well. 1/ For the future, the price prospects of cashews, coffee, jute manufactures, and silver are expected to be significantly better than average, and that of sugar worse. 3.47 In a few cases India's exports bulk large enough in world markets to affect prices. India is an important contributor to world trade in tea, silver, jute manufactures, cashews, pepper, polished diamonds, semi-finished leather, frozen shrimp and recently sugar. The degree of demand inelasticity that India faces is difficult to determine but for most goods is probably not very significant. In some cases, this is so because of high elasticities of substitution with other products, for example between jute and polypropylene, tea and coffee, and cashews and other edible nuts; in other cases, while India has quite a large share in trade, it has a much smaller share in world con- sumption, examples being shrimp and sugar; in still other cases, the product itself faces high price and income elasticities of demand as in the case of polished diamonds. In all, there is probably no commodity in which the own elasticity of demand is lower than unity, and, consequently, increased export Volumes will increase foreign exchange earnings in all cases celeris paribus. Nonetheless, India should attempt to exploit what small monopoly power it has, even though it should be particularly careful to avoid overestimating that power as has occurred sometimes in the past. 3.48 One interesting price related problem is that Indian firms in the engineering industry, in particular, have to offer sharp discounts below the prices of developed country competitors. Some recent research indicates that for homogenous products like steel bars that discount is 0 to 10%, for simple products like hand tools and twist drills the discount is 10 to 20%, but for complicated products like machine tools, automobile parts, and diesel engines the discount is 20 to 40%. 2/ These discounts evidently reduce the return to exporting in the short term and form a sort of initial barrier to export. However, their significance can be exaggerated. They are certainly in part the result of difficulties in initial market penetration and brand recognition, and of providing less back-up service to distributors than competitors. The former problems can be expected to be resolved in time while the latter may be a rational strategy for small volume exporters. 1/ See Statistical Appendix Tables 10 and 11. 2/ M. Frankena, "Marketing Characteristics and Prices of Exports of Engineering Goods from India," Oxford Economic Papers, New Series, Vol. 25 (1973), Vol. 1, pp. 127-132.  - 44 - 3.49 In the above, we have omitted the serious problem of quota restric- tions. Quotas in major markets such as the USA, the EEC, and Japan affect several of India's exports, including cotton textiles and garments, jute textiles, and tobacco. Strong pressures for protection tend to occur whenever there is significant market penetration. In most of these cases we do not know how serious a problem the quota restriction, in fact, is. Consider, for ex- ample, the situation of cotton textiles, which is both the most important case and the one apparently most tightly constrained. As has been frequently pointed out, India has often not met its quotas in cotton millmade piecegoods. 1/ The Bank's own report on the industry argues that quality of production is a more serious problem, although this does not rule out the possibility that knowledge of the existence of quotas reduces modernizing investment, thus creating a vicious circle. In the case of garments, quota restrictions do appear to be a constraint, but again the limited range of garments offered--the product of trade policy--is just as serious a problem. To the extent that quotas impose a limit on garment exports, this seems largely to be the result of entering the market far too late, after major strides had already been made by countries like Hong Kong, Korea, and Taiwan, with historic market shares being frozen in the early 1970's. Finally, at least for cotton textiles, the quotas have actually protected Indian exports from competition. 3.50 For the future, India's labor-intensive exports, especially garments and leather and leather products may face binding quota restrictions. This also applies to a few agricultural products such as tobacco. However, there is a very large range of products for which such action is highly unlikely, and in the case of engineering goods, India with 0.1% of world trade, is effectively unconstrained. Thus, provided India enters markets early and is reasonably flexible, there is no reason why India's overall export performance should be limited, even if that of individual commodities is. Conclusions 3.51 To sum up: The overall domestic policy environment has had the fol- lowing major consequence for India's exports: (i) exports have been penalized vis a vis import substitutes as part of an overall trade policy which has not led to an efficient allocation of resources; (ii) the industrial structure re- sulting in part from general trade and industrialization policies has penalized exports through loss of economies of scale, poor quality, and inadequate product development; and (iii) lack of access to imports has been a particularly severe problem for the industrial sector as a whole and exports in particular. These various problems, which are of great importance in their own right, should be alleviated, but not removed by the policy changes (especially import liberaliza- tion) that have followed from recent export success and this, in turn, should have further beneficial effects on exports. The substantial institutional and entrepreneurial strengths built up in India over the past thirty years will make this process of adjustment much easier. The external environment, has not been a major constraint on India's general export growth, although it may have been for some specific export categories. 1/ See, for example, J.N. Bhagwati and T.N. Srinivasan, Op. Cit., p. 143.  - 45 - IV. EXPORT POLICIES AND PROGRAMS Introduction 4.01 It is in the context of the overall policy system and external environment that India has formed its export incentive and taxation policies. The export policy system is discussed immediately below. We then turn to a few specific programs. Next, the implications of the extensive recent policy changes are reviewed, the conclusion being that the incentive system has been significantly improved. Finally, the impact of export policy on export pro- fitability and on past and prospective performance is considered. The latter highlights the real successes and continued weaknesses of export policy, relates these to the performance and problems analyzed in the preceding chapters, and looks forward to the policy issues and prospects covered in the next and final chapter. 1/ Export Incentives and Taxation The Exchange Rate 4.02 The most general action taken to encourage exports was the 57.5% devaluation of the rupee in June 1966. However, at that time many export subsidies were reduced and export duties imposed on some "traditional" items over which India was thought to have monopoly power. The resulting net devalu- ation on trade account has been estimated at 21.6% for exports and 42.3% for imports. 2/ Thus, in a somewhat perverse development, although the devaluation increased the profitability of tradeables vis-a-vis non-tradeables, it also raised the rupee price of imports by more than that of exports. That is, import substitutes were encouraged more than exports. Subsequently, the inade- quacy of this devaluation was accepted, and the Government introduced a series of further measures for promoting exports. 4.03 Between August 1971 and September 1975 the rupee floated with the pound sterling. This meant a fairly steady devaluation of the currency on a trade-weighted basis. Between May 1971 and the third quarter of 1975 India's export weighted nominal exchange rate devalued by 12.4%. However, because India's inflation over that period exceeded those of its trade partners, the purchasing power parity adjusted nominal exchange rate (PPP-NER) devalued by 1/ This and the succeeding chapter draw heavily on pp. 57-67 of the World Bank's economic report on India of 1976, (IBRD, 1073-IN). 2/ J. N. Bhagwati and T.N. Srinivasan, Op. Cit., p. 97.  - 46 - only 8.3%. However, the devaluation did at least more than offset the differ- ences in inflation. 1/ The position has now been reversed so that the exchange rate devaluation was only 8.4% by May of 1976, compared with May 1971, while the real devaluation was 12.6%. This substantial real devaluation has no doubt been a significant factor in explaining the improved export performance of recent years. Export Incentives 4.04 Given the overall trade regime with significant protection granted to import substitutes, exports require more than just overall exchange rate adjustments, since the latter only affect the relative incentives to produce tradeables and non-tradeables. Special incentives for exports are required to offset some of the bias towards import substitution, and this is espe- cially true for those products dependent on protected inputs. The World Bank's industry studies cited in Chapter III, as well as a recent analysis by ICICI, 2/ show that f.o.b export prices are generally well below domestic prices, that exports are not profitable on a long run basis without incen- tives, and that this is even true in the short run for many products. 3/ 4.05 The most important export incentive is cash assistance which was introduced in August 1966. Its rationale and the basis for the calcula- tions have not been explicit. Sometimes it appeared to be aimed at off- setting those many domestic taxes (sales taxes and octroi duties) which do not come within the range of the duty drawback system. At other times it was said to offset the differences between domestic short run marginal costs of production and the f.o.b. realization. To the extent that the latter was the case and high marginal costs reflected high transformation costs in the subsidized activities, the incentive tended to be concentrated on industries with the least comparative advantage. In practice, it was a variable and somewhat arbitrary incentive. Furthermore, it has usually been regarded as temporary in nature--a means of overcoming the short-term bottlenecks to ex- ports, thus ignoring the deep seated penalization of exports implicit in the trade policy regime. 1/ See IMF, INDIA - Recent Economic Developments, June 16, 1976, p. 53. For the movement of the PPP-EER see Table 3.1 above. It should be noted that both the nominal exchange rate and the PPP-NER devalued considerably more, if Bangladesh is excluded from India's export customers. 2/ Industrial Credit and Investment Corporation of India, Export Performance of ICICI Assisted Units, A Sample Study, 1976. 3/ See paras. 4.49 - 4.58 below, where the overall effectiveness of the export incentive system is discussed.  - 47 - Table 4.1 Cash Assistance Rates and Shares in Cash Assistance 1970/71 1971/72 1972/73 1973/74 1974/75 Rate / Share Rate-/ Share Rate-/ Share Rate-/ Share Rate-/ Share Product Promotion Engineering goods 14.5 (40.6) 15.9 (33.8) 16.7 (36.4) 15.9 (38.7) 18.9 (41.4) Chemicals and Allied Products and Paper Products 13.7 (12.8) 15.3 (11.7) 15.3 (12.5) 14.4 (12.9) 14.9 (14.6) Plastics goods 9.4 ( 1.2) 11.3 ( 1.6) 9.3 ( 1.0) 9.3 ( 1.2) 9.2 ( 1.3) Sports goods 14.5 ( 0.8) 19.9 ( 0.6) 18.9 ( 1.0) 19.7 ( 1.3) 19.4 ( 2.0) Woolen Carpets, Rugs and Druggets 10.5 (n.s.) 10.1 ( n.s.) 9.3 ( 0.2) 10.2 ( 1.3) 5.7 ( 2.2) Processed Foods 8.5 ( 0.6) 7.9 ( 0.4) 9.8 ( 0.7) 7.4 ( 0.8) 8.0 ( 0.2) Leather Footwear - - 8.4 ( 0.2) 8.5 ( 0.6) 5.2 ( 1.0) 5.6 ( 1.2) Natural Silk Fabrics and Garments - - 9.9 (n.s 10.1 ( 0.1) - - 7.6 ( 0.2) Handicrafts - - - - - - - - 5.1 (n.s) Walnuts, Kernels and Shells - - - - - - - - 7.9 (n.s) Miscellaneous - - - - - - - - (n.s.) Commodity Development Assistance Iron and Steel Scraps 3.0 ( 0.8) 4.5 ( 0.2) 5.0 ( 0.1) 5.0 C 0.1) 3.8 C 0.1) Decorticated Cotton Seed Cakes 12.6 ( 1.8) 12.6 ( 0.2) 10.2 ( n.sl 10.1 ( 1.0) 10.8 (n.s.) Groundnut Cake Extractions 3.2 ( 0.3) 10.1 ( 0.9) 1.9 ( 1.7) 2.9 ( 1.5) n.a. ( 0.6) Prime Iron and Steel 14.2 (11.9) 14.2 (12.1) 17.9 ( 3.3) 16.0 ( 2.2) n.a. ( 0.1) Iron and Manganese Ore 0.5 ( 1.5) 7.2 (15.4) 6.6 (12.6) - - - - Machine Twisted/ Curled Coir Fibre 14.3 ( n.s) 14.5 (n.s.) 14.3 (n.s.) 6.9 (n.s.) 4.7 (n.s.) Rice Bran Extractions - - - - 13.7 ( 0.2) n.a. (n.s.) - - Other - - - - - ( 2.6) - (1.4) - - Others Export Credit Development - ( 9.1) - ( 7.4) - ( 8.0) - ( 7.2) - ( 9.5) Assistance to Indian Cotton Mills Federation for Textile Exports 4.7 (13.5) 4.9 (10.0) 5.2 (12.5) 6.0 (21.7) 3.4 (14.4) Others - ( 4.4) - ( 5.5) - ( 6.4) - ( 7.4) - (12.1) TOTAL - (100.0) - (100.0) - (100.0) - (100.0) - (100.0) TOTAL (US$ million) 54.2 72.1 80.8 8C.0 95.8 1/ Payments/f.o.b. exports. Note: Rates are calculated on the basis of exports eligible for the cash assistance paid in the relevant year. This can be different from the level of exports in the year because of payment lags and restrictions on eligibility. The largest discrepancy is for engineer- ing goods in 1974/75. Source: Department of Economic Affairs.  - 48 - 4.06 Table 4.1 shows the allocation of funds under the Market Development Fund (MDF) from which Cash Assistance was paid until recently. 1/ 2/ In practice, between 33% and 42% of total expenditures have gone to engineer- ing goods, and these, along with chemicals, and cotton textiles, which alto- gether accounted for 17% of total exports, received 70% of total disburse- ments in 1974/75. 3/ Other significant expenditures of the MDF were on exports of oilcakes, and iron and steel; on export credit development; and on import duty rebates to Hindustan Steel Limited. Export promotion councils were also funded by the MDF. 4.07 A significant disadvantage of cash assistance was its concentration on a few categories, which, according to our own and other analyses, are not the only high potential exports. Indeed, in certain cases that long run potential must be doubted. 4/ Meanwhile, handicrafts, leather goods other than footwear, garments, and most agricultural products received little. A dif- ferent problem was that the announcement was traditionally made quarterly, which obviously made it difficult for firms to plan investments with an export 1/ It should be noted that the I4DF was abolished in 1975/76, with all ex- penditures on "Foreign Trade and Export Promotion," of which the MDF was the dominant part, now being handled directly by the Ministry of Finance. It should also be noted that expenditures under this broader head rose sharply from a budgeted figure of Rs 970.5 million (US$112.1 million) for 1975/76 to a revised estimate of Rs 1,717.7 million (US$198.5 million). The budget estimate for 1976/77 is Rs 1,905 million (US$212 million). Thus, the average incidence on exports has now jumped to 4%. 2/ Details of actual cash assistance rates by product are reported in Inter- national Monetary Fund, India - Recent Economic Developments, June 16, 1976, pp. 55-56; see also Pocket Book on Cash Assistance published in India by the Export Times. 3/ It should be noted that the use of cash assistance on low value added items can lead, and has led, to very high effective subsidy rates. See on this Report of the Comptroller and Auditor General of India for the year 1972-73, p. 39 et seq.. In certain cases, negative value added ex- ports have resulted (e.g. galvanized pipes and black pipes at that time). 4/ A rigorous analysis of the relationship between the provision of incentives and economic efficiency has not been carried out. That the relationship is weak is indicated by the range in observed DRC ratios. The test of the efficiency of an export incentive regime is whether DRCs for all exports are equated at the margin. Of course, even this does not preclude the possibility that a range of efficient exports is not being produced at all.  - 49 - orientation, given the critical importance of cash assistance to profitabil- ity. 1/ Of course, to the extent that cash assistance was not designed to cover long-run costs, it provided no incentive for such investment. Yet a third disadvantage was delays in making payments. 4.08 Import Replenishment Licenses (REPs) were, in practice, given to exporters, both as an incentive, since the inputs commanded a scarcity premium (especially as Replenishment Licenses are in free foreign exchange), and as a necessary condition for increased export activity, since additional imported inputs were thus made available to exporters. 2/ A limited transferability of REPs has been permitted-initially to suppliers of inputs to the exporter, and then to firms in the same industry group. The degree of transferability has steadily been increased. Thus, the possibility that REPs might be in excess of the needs of the firms has been implicitly admitted. In theory, however, the REP was supposed only to supply necessary inputs for the exporter himself. A problem with the REP has been the relationship between the incentive to export and the import intensity of the activity. In the past, the application of restrictions on transferability, on import of items produced domestically, and on the proportion of the license permitted to be used for specific items, severely reduced both its value, and the flexibility it provided to exporters. Another serious drawback of replenishment licenses has been that their value, which depends on the premium, is both unpredictable and highly unstable, tending, in particular, to fluctuate directly with the business cycle and with foreign exchange scarcity. The ICICI study indicates that the average premium for its sample fell from 40% of face value in 1972/73 to 27% in 1974/75. At present the premium is still lower. 3/ Premia also depend on the value of the particular goods that a specific replenishment license permits a firm to import. 4.09 The Allocation of Import Replenishment Licenses for 1973/74, 1974/75, and 1975/76 is shown in Table 4.2. Leaving aside gems and jewelry, which are a special case, as is explained in the chapter in Volume II, the largest shares go to engineering goods (31% in 1975/76), and chemicals (11%), as 1/ As a matter of fact, average rates seem to have been quite stable, as Table 4.1 shows, so that the Government could have made announcements for a longer period without obvious difficulty. On the other hand, it would have been very unwise for exporters to assume this stability, and there have been changes. For example, in 1974/75 Cash Assistance on steel tubes was withdrawn and on wire ropes was cut from 20% to 13%. 2/ The REP license was introduced in August 1966. On the development of the various incentives after the devaluation, see J.N. Bhagwati and T.N. Srinivasan, Op. Cit., ch. 7. For details of REPs see Import Trade Control Policy Annual, Volume II, GOI, Ministry of Commerce. It should be noted that the Replenishment License does not affect the duty status of imports. 3/ ICICI, Op. Cit., p. 64.  - 50 - Table 4.2 Distribution of Replenishment Licenses (US$ millions and %) 1973/74 1974/75 1975/76 Export Category Value Share Value Share Value Share Engineering Goods 41.3 (21.3) 47.8 (22.9) 66.5 (31.4) Chemicals 21.8 (11.2) 23.4 (11.2) 22.6 (10.7) Plastics 3.6 ( 1.9) 5.7 ( 2.7) 6.0 ( 2.8) Leather and Leather Goods 8.8 ( 4.5) 7.3 ( 3.5) 9.5 ( 4.5) Sports Goods 0.9 ( 0.5) 1.8 ( 0.9) 1.5 ( 0.7) Fish and Fish Products 8.8 ( 4.5) 9.2 ( 4.4) 10.8 ( 5.1) Processed Foods 1.4 ( 0.7) 1.9 ( 0.9) 2.1 ( 1.0) Handicrafts 2.2 ( 1.1) 3.3 ( 1.6) 7.3 ( 3.4) Cashew Kernels 1.7 ( 0.9) 4.6 ( 2.2) 4.2 ( 2.0) Tobacco and Tobacco Products 2.8 ( 1.4) 2.7 ( 1.3) 3.0 ( 1.4) Woolen Carpets, Rugs and Druggets 1.7 ( 0.9) 5.1 ( 2.4) 1.7 ( 0.8) Woolen Textiles, Hosiery and Mixed Fabrics 0.7 ( 0.4) 0.7 ( 0.4) 0.5 ( 0.2) Coir Products 0.4 ( 0.2) 0.5 ( 0.2) 0.4 ( 0.2) Cotton Textiles 7.2 ( 3.7) 7.0 ( 3.4) 8.7 ( 4.1) Ready Made Garments (other than silk) 4.5 ( 2.3) 6.0 ( 2.9) 9.0 ( 4.3) Natural Silk Fabrics and Garments 2.4 ( 1.3) 2.0 ( 1.0) 1.9 ( 0.9) Stainless Steel Products 0.5 ( 0.3) 0.5 ( 0.3) 1.1 ( 0.5) Gems and Jewelry 80.0 (41.2) 71.3 (34.2) 53.4 (25.2) Cinematographic Film 0.5 ( 0.3) 0.4 ( 0.2) 0.5 ( 0.2) Non-Cellulosic Products 0.5 ( 0.3) 0.9 ( 0.4) 0.3 ( 0.1) Cellulosic Products 0.3 ( 0.2) 0.6 ( 0.3) 0.3 ( 0.1) Others 2.0 ( 1.0) 6.0 ( 2.9) 1.0 ( 0.5) TOTAL 194.1 (100.0) 208.6 (100.0) 212.1 (100.0) Source: Department of Economic Affairs.  - 51 - with Cash Assistance. 1/ In fact, excluding the import of diamonds, these two industries received 52% of all licenses in that year. Assuming an average premium of 25% and the complete superfluity of REPs in relation to import requirements for export, the value of the REP as an export incentive in 1975/76, (again excluding gems and jewelry), was only about US$40 million. 4.10 One difficulty with the structure of licensing is that, although it has not proved too difficult to continue exporting a specific product once started, starting itself can be a problem. For this purpose "Advance" and "Imprest" Licenses exist. The former are given against firm export orders, (and now permit duty free import), while the latter are given to any exporter with an approved export plan. Advance licenses seem to be becoming quite significant in value, running at 28% of REP licenses in 1975/76. 4.11 An important offset to existing disincentives, is the duty draw- back. 2/ It is designed to repay the exporter excise and import duties levied on his inputs. 3/ The sums involved are not very large--US$43 million in import duty draw-backs in 1975/76, and US$52 million in drawbacks of customs excise duties in the same year. However, for industrial products, on which drawbacks are concentrated, these are significant figures, the combined figure of US$95 million in 1975/76 being about half of the level of expendi- tures from the NDF. 4.12 Duty drawback is provided either on an all-industry basis, or a special brand rate can be computed for the firm's products, if this is requested. Eighty percent of drawback paid is on the former basis. All industry rates are supposed to be recomputed quarterly, and especially when there are significant changes either in raw material prices or industry rates. The drawback is usually at a specific and not an ad valorem rate, in order to avoid inflation of duty drawbacks just because of a rise in the f.o.b. value of the export. This procedure has created problems when the duty itself is ad valorem and the prices of inputs rise rapidly, as has happened in recent years. 4.13 Drawback is provided for excise duties on domestic products and for customs duties on imports. 4/ In general, for the same input the latter duties 1/ Information for 1975/76 indicates engineering goods had then exceeded gems and jewelry as a recipient of REPs. 2/ The actual rates granted are complex. A complete account is given as of August 20, 1975, in Export Duty Rules with Latest All-Commodity Rates, Cencus Publications, August 1975. See Table 4.3 for a category wise breakdown. 3/ The existence of a high level of excise duties on intermediate inputs in a deeply entrenched part of India's tax structure. Since such taxes are high, duty drawbacks are vital for international competitiveness. It should be noted also that drawbacks are possible only on current inputs, and not on capital goods. State sales taxes and octroi duties are not eligible for duty drawback, but the Central sales tax now is. 4/ Custom Duty = Import Duty + Countervailing Excise Duty on Imports.  - 52 - Table 4.3 Distribution of Duty Drawbacks (US$ millions and %) 1974/75 /1 1975/76 /1 Export Category Value Share Value Share Processed Food and Fruit Preparations 0.4 ( 0.5) 0.1 ( 0.1) Concentrates and Base for Non-Alcoholic Beverages 0.3 ( 0.4) 0.1 ( 0.1) Tobacco Manufacture 0.1 ( 0.1) 0.1 ( 0.1) Chemical and Chemical Products 1.0 ( 1.3) 3.1 ( 3.3) Drugs and Pharmaceuticals 1.2 ( 1.6) 2.0 ( 2.1) Dye-Stuffs 0.7 ( 0.9) 2.0 ( 2.1) Payment, Colors, Paints, etc. 0.7 ( 0.9) 2.3 ( 2.4) Essential Oils, etc. 0.3 ( 0.4) 0.1 ( 0.1) Explosives and Pyrotechnic Products n.s ( n.s.) n.s ( n.s.) Photographic and Cinematographic Goods 0.7 ( 0.9) 0.7 ( 0.7) Plastic Goods 1.9 ( 2.5) 2.9 ( 3.1) Rubber Products 1.9 ( 2.5) 2.2 ( 2.3) Finished Leather and Leather Goods, Except Footwear 2.8 C 3.7) 3.4 ( 3.6) Plywood Products 3.0 ( 4.0) 3.6 ( 3.8) Paper Products 1.8 ( 2.4) 1.9 ( 2.0) Textile Manufacture 21.5 (28.5) 19.7 (20.8) Footwear 0.7 ( 0.9) 0.7 ( 0.7) Products of Asbestos/Cement 0.3 C 0.4) 0.8 ( 0.8) Glass and Glassware 0.2 ( 0.3) 0.3 ( 0.3) Umbrellas and Umbrella Parts n.s ( n.s.) n.s. ( n.s.) Iron and Steel Products 10.5 (13.9) 13.7 (14.5) Metal Manufactures 7.9 (10.5) 7.9 ( 8.3) Tools 0.9 ( 1.2) 1.7 ( 1.8) Engineering Tools 15.2 (20.2) 23.3 (24.6) Others 1.3 ( 1.7) 2.1 ( 2.2) TOTAL 75.4 (100.0) 94.8 (100.0) /1 Errors due to rounding. Source: Department of Economic Affairs.  - 53 - are much higher than the former. Thus, it makes a great deal of difference whether the inputs are counted as domestically produced or imported. While, by and large, duty drawbacks have been adequate, this probably was not the case for an exporter, for whom any excess over the c.i.f. price for inputs under- mined competitiveness. In order to obtain drawback of the customs cluties on all his inputs, he had to prove that some specific set of imported inputs were embodied in the export product. In the absence of such proof the rate was calculated on a weighted average basis either for a product or a manufacturer. The weights were the relative quantity of domestic and imported inputs used in the product for all production in India, or by the manufacturer himself. Con- sequently, those who wished to obtain the largest possible drawback had to keep separate books for domestic and imported inputs and record the use of both. 4.14 Difficulties were also created by the complex procedures involved in agreeing on the initial rate of drawback, a process which used to take appre- ciably over a year. This was particularly serious for firms with a frequently changing input mix, which applies to most multiproduct firms. It has also been frequently argued that drawbacks do not give adequate allowance for wastage which raises costs for inputs that go through a long production chain. 4.15 There has existed for some time a scheme under the import policy to provide indigenous raw materials at international prices. 1/ 2/ It appears that, in effect, this is a restrictive scheme. Thus, if a manufacturer claims that he can provide a raw material at an international price and the claim is accepted upon examination, the product is put into the scheme. The Chief Controller of Imports and Exports (CCIE) certifies the international price which is fixed by the export promotion council concerned, and may be changed quarterly following a meeting at which producers and consumers are represented. Account is taken of data on c.i.f. prices, where applicable, international trade journals, and so forth. The exporter must obtain a release order on the manu- facturer from CCIE. If the domestic producer does not undertake to supply the material within one month at the price mentioned in the release order or does not reply within that period, the licensing authority considers the request for direct import. The indigenous supplier is entitled to all export incen- tives except duty drawback, i.e., cash assistance, replenishment licenses, and adjustment against export obligations. 1/ Items currently covered are: polystyrene, PVC resins (suspension grade), sodium hydrosulphite, silicon emulsions, sulphuric acid, U.F. moulding powder, polyethylene moulding powder (HDP/LDP), red phosphorous, nylon type yarn/cord/fabric, sodium nitrite, resorcinol, white/yellow phos- phorous sodium bichromate, potassium chlorate, angora hair, stamping foil, aniline/aniline oil, beta naphthol. 2/ The most successful such scheme was for iron and steel, and this was in effect between 1967 and 1972.  - 54 - 4.16 A closely related scheme is that for supply of indigenous material at negotiated prices, which is regarded as a trial ground for the scheme referred to above. Under this scheme an import license can be turned in whole or in part into a release order on a domestic supplier who agrees to supply an input (including machinery) at a negotiated price. The supplier is entitled to REP licenses, and such supply counts against the discharge of export obli- gations. 4.17 The value of imports supplied under the scheme to provide raw mate- rials at international prices is small-a mere US$1.7 million in 1975/76. The scheme has not worked well, perhaps because of delays involved in obtaining release orders and then waiting for the response of the potential suppliers. 4.18 There are a number of other incentives: e.g. freight subsidies, in- come tax concessions, and subsidized export credit. However, those discussed above are certainly the most important. 4.19 Table 4.4 summarizes all the major export incentives for 1974/75-- the last year for which such information is available. 1/ It should be remembered that, since it relates incentives to the gross export value of the various categories and not to value added, it understates effective pro- tection for those categories (engineering goods for example) which are depen- dent on tradeable inputs. What should be noted is: (i) that engineering goods received 42% of all incentives (41% of cash assistance, 35% of the premia on replenishment licenses, and 46% of duty drawbacks), cotton textiles received 18% (14%, 5%, and 29%, respectively) and chemicals received 12% (15%, 17%, and 7%) respectively. Thus these three categories, accounting for about 20% of exports, received 72% of all the major incentives; (ii) the ratio of all incentives to f.o.b. value exceeded 20% for processed foods, engineering goods, chemicals, plastic goods, sports goods, iron and steel, natural silk fabrics and garments, and plywood products, while such high potential exports as fish and fish products, leather and leather products, woolen carpets, ready made garments, and gems and jewelry benefited from much lower incen- tive rates; 2/ and (iii) the total value of these incentives at US$206 mil- lion was 5% of exports, and of this 47% came from cash assistance, 37% from duty drawbacks, and 16% from the assumed premia on REPs. 1/ In theory duty drawbacks might be regarded as compensation for specific penalization of exports, while cash assistance and the REP premium provide more general support. However, the latter also work against various forms of penalization of export, such as exchange rate over- valuation, non-refundable taxes on inputs, etc. Thus, a distinction on economic grounds between the kinds of incentives cannot usefully be made. 2/ Recent changes in cash assistance will have changed this situation somewhat although the broad picture still remains true. It should be noted that the goods with lower rates of incentive are the more labor- intensive. R. Banerji, (Op. Cit., p. 285) notes, correspondingly that the share of capital intensive exports in total exports has risen rapidly since 1965.  000 00 000  '1 0000 s0.00000.000 00 00000 0000 000 I - 00 -o'onboOojoo zoo 'OnOO00nOn'0000 I 0'6olsoonooo 000000,00000 000,00000000'o 0.0 oOo 00000,00000 00000"00H0'O'00,Z00000000H 10 0.oo.0.00'1 -'OOOo00.o'o 0' 000000 0000 0000 000 0 00000000  0,0000000000000 0000,0,0000000000000fl0,00 I 00000,0000' 00000fl0o 0 F 0000 1 3'00000 - 00000000,HO 3 0 00 0(0,000,, 0.00 00000 000 0. 000.080000 00 OOooo,o00 '1o0 0.00000000 00 00 H 0.0000n00 000 '000 0000 - 0000,0000 000 OOOOOo.0 0 3000 0000 00 ,,00000000 *000oo.o osoobooon I 0. ;C0o o; a:g;0 0, 0.000000 10 000 '0000 0000000000,0000 0.'1000 00000.000000.0,00 I l00.0j 2 0 000, 0 0.0 3 tooooo a 00,0- io0 000000o'oooooc 0 oo, 00 0 0  ''10000000 '1' 000'0 0300 OOHgO 000000'0000200 * - - 0 000000000 00 00 00. oft 0 0, 00, 0, 0, 0 - 000 0 0 0 0 0 0 0 nO 249tz'N; gR"!g 00 - nO 0 0.0000'000,00000 0.0000000 000 0 0 0 0, - I 0 o 00 000 ,o0o ooooo 0' '1100 0,00. 0 o 0000000. 0 0, 00 - [0 0 0.0,000 0,0000 00 0 * 00000 000000 00'0 0 0 000 0 0 0 0-' o-Ooo-'o p000 0000 000 0.00 00 00 00 - 00 0,00,0 00 00 - - - 00 000 0, 0000 00 000 000. 000 0, 0, 0,00 000,0,00 000 0 o00000,,,00 o 000000000000000000001000...,o0,0 00000000 000000000'0 0 00000000000000, 0 o o'.Ii2'.< 0 0 000 000000000,0,00 0000000000000 00-0000.000000,,00, 000 0,"'000'Ooo.-0,00 00 00 0,0,000010 00 0000 '0 100100100 00100100100100100 I00100100I'010 '0 100I00100100I0' 00100 I'0I00IH - -00100 00 000 000 0 0 00 00000o. 0,0. 0 00 0000.0 00 00 200'0000000' I 0. 0000,0 000 0 0' 00000 000010 0 00 00 00 00 00 000,000 00 0 0 00 0 00 00 00000000, 00 0 000 50 000000 0000' 0 00 0000300'"ZO o 0 0 00 0 00 00 0 00 . 0,0 i 3:s: E  0000'00   -- 0, 0 000'00000 00000 0 - 00 0, 0,0000 ,0,,,,,00,, 000000000, 0 000 0 0 0 0000000 00, 0 0 00 0, 00 00 0 0 00 00000000000000 00 000000 0 o 30 000 0,00 0 0 0.00 00 0 00 . 00 0 3003000 0. * o 000.00 0, 00 00 10  0000* B"33 2 0, 0-0 0 0' 0,00000.000 00 00', HO,00 0,0000000000 00 00000000 00 000,00 000 00 000000000000 ''.'.,,','',,'..',,,., ,.  00000 0 0. - 0 0,0,00000000000000000000, 00000, 00 00 000,00 0000 0 3, 030 0 0 01