According to a popular tale in Indian mythology, by “churning the ocean”, a much sought-after magic potion was brought up from the ocean bed. Is there a magic cure to be found for India’s exports problem deep down in the ocean of data?
We have heard two rather inconsistent theories on India’s exports recently. The first holds that while export growth has fallen dramatically, this is really a global phenomenon and nothing can be done about it. Second, India’s exports have suffered greatly because of a stronger rupee and so, to revive export growth, the exchange rate needs to be weakened. We have looked at these claims and found that both fail the test of data. In fact, there are other things going on that need urgent attention.
True, global exports are slowing. But even in the unexpanding pie of world exports, India’s slice, while increasing in the early 2000s, has remained modest over the past few years. One could claim that this is the fate of all emerging markets and India is not immune. But here too, we don’t find any compelling evidence. In fact, data shows that India may actually be faring a notch worse than some other emerging markets.
So what is the problem, and how can it be fixed?
Of the three main things that drive exports, domestic bottlenecks explain 50% of the recent slowdown, world growth 33% and the exchange rate, under 17%. But broad aggregates can hide finer points. So, we drilled deeper. We broke down exports into goods and services. We found that the impact of the rupee is higher for services than for goods. Understandable, given that goods exports tend to use a higher proportion of imported inputs than do services exports (the loss arising from a stronger rupee in goods exports is to some extent offset by gains from cheaper imports). And yet, the rupee was still not the main driver of service exports. It explained only a quarter of the recent slowdown.
Once we saw clear evidence that disaggregated data conveys more nuanced information than aggregates, we were tempted to drill down further. We built a micro-level data set, which allowed us to model low, medium and high technology exports separately. And the results were eye-opening. While the three main drivers continued to matter, sector-specific factors played an increasingly important role (for the statistically minded, they raise the average r-squared of our regressions from 55% to 75%).
To cite a few, we found that volatility in cotton availability and a disproportionate policy focus on cotton when world demand has moved towards man-made fibres, have inhibited the growth of textile exports. Similarly, irrigation infrastructure matters for agriculture exports, foreign direct investment (FDI) and tariff rates matter for engineering goods (which include automobiles), and a human capital and global banking sector stress for software exports.
Our findings suggested several dos and don’ts for reviving India’s export fortunes.
First, easing domestic bottlenecks could reverse half the exports downturn. Infrastructure investment and steps to improve the business environment can go a long way. Focused infrastructure spending on irrigation can increase agricultural exports. More investment in education can boost software services over time.
Steps to attract more FDI could have sizeable results. We found that more FDI in both medium technology (gems, jewellery and oil products) and high technology (engineering products) sectors can boost exports.
Second, sector-specific factors can make a meaningful difference. For instance, reviving textile exports can be helped by better implementing productivity-enhancing technology (such as genetically-modified BT cotton) in order to dampen price volatility. Equal support for cotton and man-made fibres can create a better balance for India’s export basket. Trade negotiations to lower the tariffs that India’s exports face abroad can boost textile and engineering goods exports.
Third, the limits of the exchange rate as a driver of exports need to be understood. At best, the rupee explains a quarter of the recent slowdown in exports. Other things matter more, and experimenting with the rupee may, in fact, do more harm than good. It is well documented that higher volatility in the exchange rate dampens FDI inflows, which are an important driver of high-end exports.
Obsessing about the rupee is akin to missing the wood for the trees.
Source: livemint.com