Electronics manufacturing needs a policy push

Electronics manufacturing needs a policy push
India’s electronics manufacturing has been unable to respond to the rising demand, increasing the import bill while the country loses an opportunity to create employment for millions
A growing middle class, rising disposable incomes, declining prices of electronics and a number of government initiatives have led to a fast-growing market for electronics and hardware products. However, India’s weak manufacturing base has not been able to respond to this increasing demand, leading to a growing trade deficit.

Of the country’s total demand for electronics, between 50-60% of the products and 70-80% of the components are imported. India’s imports of electronic goods grew 31% between April and October 2017 to $29.8 billion. Meanwhile, the trade deficit reached close to $100 billion during the April-November period of 2017, against $67 billion in the same eight-month period a year ago.

This is an ominous sign. If the situation doesn’t change, a report by Deloitte Touche Tohmatsu states, expenses on electronics imports could surpass those on oil imports by 2020. Moreover, the industry has the potential to provide millions of jobs, directly and indirectly.

In order to deal with the problem, the government has listed the electronics industry as a priority sector under its Make In India campaign. There are various government schemes to encourage domestic manufacturing which provide tax and tariff concessions, investment subsidies, preferential market access in government procurement and export subsidy. In fact, as recently as December, the government increased the import duty on various electronic items like smartphones, LED bulbs and microwave ovens—for most products, the rate increased from 10% to either 15% or 20%.

But, as this paper has often argued, the way forward is to increase the country’s general competitiveness in the export market instead of pursuing sectoral policies. India’s share in the global electronics market was a minuscule 1.6% of the market in 2015 that is currently valued over $1.75 trillion. With a large domestic market and a number of trained engineers, India’s absence in the electronics manufacturing supply chain is an anomaly that better policies can correct. Instead of preserving our market for domestic manufacturers, the goal should be to capture a larger piece of this global market. There are various factors that have kept these goals from being met.

First is the inverted tax structure for electronic goods. Due to a limited base of local component suppliers, manufacturers are dependent on importing parts. Under the World Trade Organisation’s information technology agreement of 1995 (ITA-1), tariffs on 217 IT products were set at zero. However, the positive custom duties on the components (or parts) used in electronic products make it expensive for domestic manufacturers to compete with foreign competitors who can access the components at lower prices. The solution is to bring the duties on components down to the level of the product. Some parts might be used for multiple products that may have different duties, but it’s important to rule in favour of simple rules and apply the rate-cut regardless of use. It’s not difficult to imagine a rule for assessing the eligibility for the duty-concession depending on the use to which a component is put—it is precisely this kind of paperwork that needs to be avoided.

Second, foreign direct investment (FDI) in electronics is less than 1% of the total FDI inflow because of onerous labour laws, delays in land-acquisition and the uncertain tax regime have kept investors at bay. While the labour laws may be reformed in 2018, and we might be past the times of retrospective taxation, the memory of the Vodafone and Nokia cases is still fresh in investors’ memory. In order to inspire confidence, laws need to be liberal and predictable. In the case of taxation, it is important to clearly establish the tax liabilities under different circumstances in full detail. A possible experiment could be special economic zones like the Dubai International Financial Centre—Dubai’s normal civil and commercial laws do not apply in this area and a British chief justice ensures the practice of British common law.

Third, the procedures for cross-border trade work against the competitiveness of Indian producers as shown by the Doing Business rankings—India ranks 146 in the category of trading across borders due to the high costs of compliance. The numerous forms, fees, inspections and the associated time discourage domestic producers from exporting and keep them out of the international supply chain.

Between 2000 and 2015, hardware production in India increased from Rs31,100 crore to Rs1.02 trillion. Meanwhile, information technology (IT) services revenue increased from Rs37,750 crore to Rs8.4 trillion. This shows that India is capable of producing globally competitive products. But while the non-material nature of IT services has constrained the state’s grabbing hand, the electronics manufacturing industry did not have that privilege.

China, with its rising labour costs, will soon not be the global manufacturing hub it is today. This is an opportunity for countries like India, the Philippines, Thailand, etc., to attract companies to move their plants to their country. Despite its low costs of labour, India might lose this race if it doesn’t reform the key sectors of the economy.

This is not to suggest that the government is oblivious to these challenges. In fact, much has been done in the past couple of years to suggest that we are moving in the right direction. Introduction of the landmark goods and services tax (GST) has increased the distance that trucks are travelling by about 30%. GST has also reduced the confusion associated with various state and local taxes. And the government seems determined to improve the condition of highways and ports.

Yet, much needs to be done towards removing barriers that discourage exports and creating a reputation for stable and predictable rules.

How can India’s electronics manufacturing industry be made globally competitive?