Trade Flows and Trade Costs

The performance of South Asia is poor in terms of intra-regional trade. Countries within the SAARC do not have significant trade with one another in spite of their geographical proximity and income levels. For instance, intra-regional trade in ASEAN at present is about 20% per annum, which increased from a mere 5% in the beginning of the 1990s, whereas the same in South Asia is only 4%, and that too has been hovering in the same position for the last decade. At present, the official intra-regional trade in South Asia is about $6.25 billion⁶ where India alone contributes more than 45% of total intra-regional trade. The rest is equally distributed among Bangladesh, Nepal, Pakistan, and Sri Lanka.

Table 3 [ PDF 14.9KB | 1 page ] presents the pattern of intra-regional trade in South Asia for three cross-section points (1991, 1995, and 2003). This table clearly shows that despite overall economic progress in South Asia since 1991, the economies in the region have not yet engaged in higher trading among themselves; intra-regional trade only amounted to 4.18% of trade their global trade in 2003. However, there has been a marginal increase in intra-regional trade during 1991 to 2003, which increased from 3.02% in 1991 to 4.18% in 2003. Except Pakistan, the rest of the South Asian countries have engaged in comparatively higher trade within the region during 1991–2003.

In recent years, South Asia has received growing attention as a region that is integrating successfully into the global economy. With SAFTA, South Asian countries are now looking toward deeper integration of the region. SAFTA, which was signed during the 12th SAARC Summit in Islamabad in 2004, came into force on 1 July 2006. It will be fully operational by 2016. SAFTA includes some 5,500 tariff lines, taking into account both agricultural (695) and industrial products. Box 1 [ PDF 33.5KB | 1 page ] provides the implementation deadlines of SAFTA. This agreement would lead to growth in intra-regional trade from $6 billion to $14 billion within two years of its existence.

3.1 Bilateral Trade between India and Bangladesh

Trade offers immense opportunities for raising the economic welfare of Bangladesh and India. Bilateral trade between India and Bangladesh is conducted under the provisions of the prevailing India–Bangladesh trade agreement, which was first signed on 28 March 1972.⁷ Under said trade agreement, both countries provide most-favored nation treatment to each other. However, the agreement does not provide any bilateral trade concessions. Such tariff concessions are accorded to each other only under the provisions of the South Asian Preferential Trading Arrangement (SAPTA) signed in April 1993 and which became effective in December 1995. Under four rounds of negotiations held so far, India had offered concessions on 2,927 products (at 6-digit HS Classification), of which 2,450 products were offered exclusively to least developed countries (LDCs) including Bangladesh. The concessions that India offered for LDCs were 62; 514; and 1,874 products in the first, second, and third rounds, respectively. On the other hand, Bangladesh had offered concessions on 564 products to non-LDCs, including India. The concessions offered for non- LDCs were for 11; 215; and 338 products in the first, second, and third rounds, respectively. Later, as a gesture of goodwill, India offered 100% tariff concessions on 16 product groups consisting of 40 tariff lines to Bangladesh during the trade review talks in April 2002 held in Dhaka. Duty-free access was announced for items under another 39 tariff lines during the trade review talks held in March 2003.

Despite India’s unilateral concessions to Bangladesh and the existence of a large land border between two countries, India’s trade with Bangladesh is not growing at a considerable rate. Bilateral trade is highly tilted toward India; India’s exports to Bangladesh total about $1,892.55 million and imports from Bangladesh are about $121.91 million. India’s exports to Bangladesh witnessed average annual growth of 7.31% in 1995–2006, whereas India’s imports from Bangladesh grew at a much slower pace, 3.81%, in the entire period. India’s imports from Bangladesh witnessed a quantum jump in 2005–2006 (Table 4 [ PDF 11KB | 1 page ]). This suggests that a large potential exists for enhancing India–Bangladesh trade.

Bangladesh’s exports to India in recent years expanded presumably because of trade liberalization, initiated by India unilaterally and regionally (SAPTA). While Sri Lanka has been successful in narrowing the trade asymmetry with India, perhaps as an effect of the India–Sri Lanka FTA, the same between India–Bangladesh has been widening perhaps due to the absence of a bilateral FTA between the two countries.⁸

Composition of India’s Trade with Bangladesh

India has a large number of exportable goods. The composition of India’s exports to Bangladesh is diversified with cereals, cotton, and vegetable products accounting for a quarter of India’s exports to Bangladesh in 2004–2005. Next in importance comes textile and textile products, followed by base metals and related articles. Over five years starting in 2000-01 while the share of vegetable products increased, that of textile and textile articles declined. The shares of most of the remaining product group increased, reflecting greater product diversification. The top 10 export commodity groups (at HS 2-digit level) from India to Bangladesh account for about 70% of India’s total exports to Bangladesh (Tables 5a, 5b).

Table 5a [ PDF 10.3KB | 1 page ] shows that the primary Indian export commodities to Bangladesh at 2-digit HS classification in 2004–2005 were cereals, cotton and edible vegetables, and certain roots and tubers. However, at 4-digit HS classification, India’s major exports to Bangladesh in 2004–2005 were cotton (not carded or combed); rice, wheat, and meslin; onions, shallots, garlic, leeks, and other alliaceo; oil cake and other solid residues; coal, briquettes, ovoids, and similar solid fuels; flat-rolled products of iron or non-alloy steel; etc. (Table 5b [ PDF 10.3KB | 1 page ]). Therefore, an overview of India’s exports to Bangladesh reveals that the most important items are those that are required to meet the neighbor’s food deficit and those finished and intermediate raw materials that are required for the country’s industrialization. Bilateral trade intensity indices between the two countries indicate that Bangladesh has offered not only a steady export market for almost all products of Indian origin over last 2.5 decades but a very large one at that (Sikdar, 2006).

In addition to official trade, there is considerable volume of informal trade between India and Bangladesh. Informal exports from India to Bangladesh are about equal to official exports. The composition of informal trade flows is generally complementary to, but markedly different from, formal trade flows. A large portion of informal exports take place through West Bengal and North Eastern Region (NER) of India, comprised largely of food items, live animals (mainly cattle), and consumer goods. Similarly, unofficial imports from Bangladesh to India are dominated by a few major products, including synthetic yarn, electronic goods, and spices.⁹

Trade Potentials and Possibility of a Free Trade Agreement between India and Bangladesh

India and Bangladesh offer high potentials of trade in goods. The degree of trade complementarity between Bangladesh’s imports and India’s exports was quite high during 1980 to 2004. As noted in Sikdar (2006), the trade complementarity index for India’s exports to Bangladesh was 59% on average for the period 1980–2004, whereas the same for Bangladesh’s exports to India was 28%. In other words, estimated indices indicate that India’s exports to Bangladesh enjoyed comparatively higher complementarity than Bangladesh’s exports to India. Supply constraints make it difficult for Bangladesh to take advantage of the Indian market. Nevertheless, India’s tariff concession has been helping Bangladesh expand its export baskets to India, the results of which were reflected in higher exports in 2005–2006.

Scopes of trade expansion between the two countries appear to be high if we consider comparative advantages of the individual countries in merchandise trade. For example, 7 out of the 15 commodities mentioned in Table 6 [ PDF 10.1KB | 1 page ] show the possibility of bilateral trade between India and Bangladesh. For these commodities, the comparative advantage of one country is rightly matched by the comparative disadvantage of the other making mutually beneficial trade possible. In two of these commodities—textile yarn and metal manufacturing—India shows very high export potential and Bangladesh offers significantly high import potential. However, in no commodity for which Bangladesh has high export potential does India offer high potential of import. Both countries have export potential in textile articles, and clothing accessories and footwear, making the possibility of bilateral trade in these two commodities lower. Barring these two commodities, possibilities of bilateral trade expansion in other commodities between the two countries are relatively high. Table 6 shows that India was endowed with revealed comparative advantage (RCA>1) in nine commodities in 2004, which together share about 8.40% of total imports of Bangladesh (Sikdar, 2006). Therefore, India has a fairly high potential to meet the import demand of Bangladesh.

However, the scope of expanding exports from Bangladesh to India seems limited. It is argued that if Bangladesh strengthens its export supply capacity and India offers higher market access, exports from Bangladesh to India would likely rise. Therefore, the entire debate of trade expansion between India and Bangladesh has been focused on the magnitude of market access that India has been offering Bangladesh. Bangladesh then expects to receive full duty-free market access in India by 2013 under SAFTA. Nonetheless, Bangladesh relies heavily on the implementation of SAFTA to achieve greater market access in India.

The bilateral FTA between the two countries is another option for Bangladesh to strengthen her export capacity. An FTA for Bangladesh apparently has advantages. According to Siriwardana and Yang (2007), an FTA will force the two countries to move out of the present commodity-by-commodity approach in negotiations and allow free market access bilaterally for all commodities except for an agreed short negative list. Added impetus would be the opportunity under the FTA to eliminate all nontariff barriers in a given time frame. Bangladesh is to experience an assured market in India which may induce new export capacities by taking the competitive advantage of sectors which at present do not have high exporting prospects to other countries. This will also be beneficial to Bangladesh because previously unavailable foreign capital may flow from India to those newly emerging sectors under the negotiated conditions of the FTA (Siriwardana and Yang, 2007).

To judge the relative scale of trade expansion between the two countries, we reply on a dynamic model reproduced from Siriwardana and Yang (2007). The sectoral export responses to the FTA are provided in Table 7 [ PDF 10KB | 1 page ], estimated by Siriwardana and Yang (2007) in a computable general equilibrium (CGE) framework. These projections indicate how individual sectors perform in terms of exports at the bilateral level with the abolition of import duties. For both India and Bangladesh, the magnitudes of change in export volumes bring similar outcomes in the short and long run. Under the FTA, both countries can expect increased exports in manufactured goods to each other, with Bangladesh showing potentially better prospects than India to gain from newly created market access. Except for other crops and grains, many Indian agricultural industries may find their exports to Bangladesh declining. For both countries, there are substantial prospects for exporting goods such as textile and leather, petroleum and other minerals, and fabricated metal products to each other. All in all, the manufacturing exports would seem to thrive under the FTA for both India and Bangladesh.

However, the World Bank (2006) in a study found a weak case for pursuing a bilateral FTA between India and Bangladesh based on the potential economic benefits to both countries. Instead, this study argued that unilateral trade liberalization by both countries would yield much larger economic benefits while minimizing risks. To get mileage out of an FTA, both countries were advised to continue with unilateral liberalization while streamlining border transactions through trade facilitation.

Siriwardana and Yang (2007) indicated that India may gain marginally more in terms of GDP because of improved terms of trade. However, the projected trade outcomes imply that the FTA will provide a significant stimulus for Bangladesh to increase its trade with India. Both countries will likely experience a substantial surge in manufactured goods exports to each other as duty-free market access opens with the FTA. The CGE projections suggest that a great deal of benefits to Bangladesh will come from improved performance in highly laborintensive manufacturing sectors. Thus, a free trade treaty between the two countries could support their shared goal of poverty alleviation.

However, to maximize the gains from the envisaged FTA, trade transaction costs between the two countries have to be minimized. These costs are very high due to infrastructure bottlenecks at borders and inside the countries (De, 2006). The World Bank (2006) also argued that an FTA will bring large welfare gain for consumers in Bangladesh provided infrastructure and administrative capacity at custom borders adequately expand.

3.2 Trade Transaction Costs

Studies indicate that South Asia could potentially benefit substantially from higher trade provided trade and transport barriers are removed and transaction costs are minimized.¹⁰ As noted in Arnold (2004), Bangladesh has succeeded in improving logistics by modernizing customs clearance procedures, especially for exports and temporary imports. However, the country has failed to improve the performance of its transportation system as rapidly as its neighbors. The cargo-handling technology and method of operation of the Port of Chittagong remain mired in the 1970s. The benefits of multimodal transport are unrealized as a majority of the "full container load" (FCL) containers continue to be stuffed and "unstuffed" at the port. Transport of containers by rail is underdeveloped because of lack of commercial management at Bangladesh Railways. Inland customs facilities and storage are limited and the available facilities are not located in a way that will minimize overall delivery costs. Slow and uncertain vessel turnaround and container dwell times prevent producers from developing efficient supply chains from the factory to the buyers’ warehouse or introducing just-in-time production.

The incidence of transaction costs between India and Bangladesh for about $2 billion twoway official trade is too high; during 2001 to 2006, India incurred about 23.20% of total imports from Bangladesh as trade transaction costs (Table 8 [ PDF 12.8KB | 1 page ]). Although the table shows a falling trend, the transaction costs are very high when compared with the developed world or even developing Asia. Costs for not having improved transit and transport infrastructure facilities may be higher if several invisible and unaccountable incidences are added to it. If calculated in terms of opportunities lost due to lack of transport infrastructure, the amount would be staggering. To a great extent, as an effect of high trade costs, bilateral and intraregional trade activities between India and Bangladesh and among South Asian countries are not taking a good shape as yet.¹¹

Therefore, India and Bangladesh need to minimize trade transaction costs by removing visible and invisible barriers to trade. Countries can tackle transaction costs only through improved and integrated trading infrastructure, which is responsible for faster movement of goods and services across the countries. In a study, ADB urged South Asian countries to adopt a coordinated and focused commitment to resolve the physical and nonphysical barriers to trade and suggested to put in place a SAARC Regional Multimodal Transport System (2006c). Therefore, integration of trade and transportation networks has appeared as a priority objective of regional cooperation in South Asia. We next turn to a discussion of the current state of integration of transportation infrastructure of the two countries.

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