Globalisation, Commercial Policy and WTO

Introduction : Meaning of Globalisation

• Globalisation refers to the increasing openness of an economy to international trade, capital flows (both portfolio investment and Foreign Direct Investment (FDI)), technology transfer, and the free movement of labour or people across countries.

• In its economic sense, globalisation signifies the integration of world economies through the free flow of trade, capital, labour, and technology.

• The new international economic order envisaged by globalisation involves:

  • Free flow of goods and services across countries.

  • Free flow of capital among nations.

  • Free flow of technology across borders.

  • Free international movement of labour or people.

• Growing economic interaction and interdependence among countries have made the idea of globalisation increasingly important and popular in recent decades.

• Before the rise of globalisation, countries sought economic integration through regional groupings such as the European Union (EU) and North American Free Trade Agreement (NAFTA), which aimed to promote regional interests by removing trade barriers among member countries.

• However, these regional groupings/customs unions were considered inadequate because they limited production to a regional scale and prevented countries from fully exploiting global economies of scale and the complete benefits of modern technology.

• Consequently, developed countries advocated globalisation to expand market size for their products and to achieve optimal international allocation and spread of capital investment across countries.

• For developing countries, including India and China, globalisation presents both opportunities and benefits as well as costs and risks.

• India and China have increasingly used globalisation as a means to accelerate economic growth and narrow the development gap with advanced economies, viewing integration with the global economy as an important strategy for catching up with developed countries.

Case for Globalisation of Indian Economy

• Since the 1991 economic reforms, India has progressively integrated with the global economy through removal of tariff and non-tariff barriers, opening the economy to foreign investment, and facilitating the import of technology; several benefits have been advanced in support of liberalisation and globalisation.

• The failure of the import-substitution strategy to generate sustained growth led India and other developing countries to adopt an export-led (outward-looking) growth strategy. By specialising according to comparative advantage and expanding exports while importing goods more efficiently produced elsewhere, countries can achieve faster economic growth.

• Developing countries such as India possess a comparative advantage in abundant low-cost unskilled labour; therefore, greater integration with global markets encourages production and exports of labour-intensive goods, resulting in higher output and increased employment opportunities, particularly for the poor.

• Successful export-led growth requires that other countries, especially developed nations, avoid restricting imports through tariffs and non-tariff barriers. A global framework ensuring freer movement of trade, capital and technology is therefore essential. The establishment of the World Trade Organization (WTO) on 1 January 1995 and India’s membership in the WTO represented important steps toward further globalisation.

• Globalisation promotes foreign capital inflows in the form of portfolio investment and Foreign Direct Investment (FDI). Portfolio investment brings valuable foreign exchange, strengthens reserves, and helps overcome balance-of-payments constraints that can hinder economic growth.

• During the 1980s, shrinking foreign assistance forced India to rely on External Commercial Borrowings (ECB), which carried higher interest costs and increased the burden of external debt. The inadequacy of foreign exchange reserves contributed to the 1991 economic crisis, highlighting the importance of sustained foreign capital inflows.

• FDI is considered more beneficial than portfolio investment because it directly raises the rate of real investment in the economy and has a multiplier effect on output and employment, thereby supporting faster economic growth.

• Globalisation facilitates technology transfer from developed countries. Since Indian firms have limited capacity to invest heavily in research and development, integration with the world economy provides access to advanced technologies.

• Technological upgrading enhances productivity, promotes faster industrial growth, and helps developing countries catch up more rapidly with developed economies. Multinational Corporations (MNCs) play a key role in this process through technological and financial collaborations with domestic enterprises.

• Globalisation accelerates the diffusion of new ideas and advanced technologies across countries, enabling developing economies such as India to narrow the technological gap with advanced nations more quickly.

• An important benefit of globalisation is greater market access. Consistent with Adam Smith’s proposition that division of labour is limited by the size of the market, free trade expands the market available to producers.

• Larger markets permit greater specialisation and economies of scale, reducing unit production costs, enhancing competitiveness of manufactured products, and increasing gains from trade. Expanded markets also strengthen incentives for innovation, since potential returns on investment in new technologies and products become larger.

• Several economists, including Jagdish Bhagwati, T. N. Srinivasan, and Arvind Panagariya, argue that globalisation contributes to poverty reduction through faster economic growth.

• According to this view, India’s post-1991 shift from inward-looking policies to greater openness in trade and inward FDI transformed it from a slow-growing economy into a faster-growing one, with globalisation acting as an important component of broader economic reforms.

• Bhagwati and Panagariya contend that accelerated growth associated with globalisation has contributed to reductions in both rural and urban poverty in India.

• Evidence cited in support of this argument includes the experience of the Newly Industrialised Economies (NIEs) such as Hong Kong, Singapore, South Korea, and Taiwan, which achieved rapid growth through openness to trade and substantially reduced poverty.

• In contrast, countries that remained relatively autarkic and experienced low per-capita growth, including India before the reforms, witnessed limited poverty reduction. Both India and China achieved greater poverty reduction after dismantling autarkic policies and accelerating economic growth.

• The argument emphasises that sustained poverty reduction requires economic growth; a stagnant economy cannot effectively lift people out of poverty. Thus, globalisation contributes indirectly to poverty alleviation by promoting faster growth.

• Liberalisation of trade and capital flows is also supported on employment grounds. Employment expands through two channels:

  • Increased exports based on comparative-cost advantages generate additional employment opportunities.

  • Greater capital inflows, especially FDI, create direct employment and also generate a multiplier effect on output and employment throughout the economy.

• Therefore, globalisation is viewed as a mechanism for promoting export growth, foreign investment, technology transfer, larger markets, faster economic growth, poverty reduction, and employment generation, thereby supporting India’s long-term development objectives.

Measures Adopted in India to Promote Globalisation

• The 1991 Gulf War (First Iraq War) led to a sharp rise in oil prices, causing a severe balance of payments crisis in India. To overcome this crisis and restore economic stability, India introduced far-reaching reforms aimed at globalising the economy.

• Import liberalisation was initiated by abolishing the import licensing system. As a result, most capital goods, raw materials, and intermediate goods could be freely imported subject only to customs duties. Quantitative restrictions on consumer goods remained for some time but were completely removed by 1995, making imports largely free from quantitative controls.

• To promote trade liberalisation, exceptionally high customs duties were reduced in phases: from over 300% earlier to 150% (1991), 85% (1993), 50% (2002), 31% (2003), 20% (2004), 15% (2005), and 12.5% (2006). Duties on several categories of capital goods were reduced to below 20%. This phased reduction of tariffs and removal of quantitative restrictions substantially reduced the earlier anti-export bias in trade and balance-of-payments policies.

• Imports of gold and silver were significantly liberalised, reducing incentives for smuggling. In January 2004, gold imports were made free from commission charges.

• A major external-sector reform was the devaluation of the rupee in July 1991. Subsequently, in 1993, India shifted from a basket-based pegged exchange rate system to a market-determined exchange rate system, under which the value of the rupee is determined by demand and supply conditions in the foreign exchange market.

• Another important reform was current account convertibility of the rupee, allowing importers to obtain foreign exchange by converting rupees in the foreign exchange market and permitting exporters to sell foreign exchange earnings directly in the market instead of surrendering them to the RBI.

• The post-1991 reforms substantially liberalised foreign investment, both Foreign Direct Investment (FDI) and foreign portfolio investment. Prior to reforms, foreign investment required government approval, was generally limited to 40% equity participation, was confined mainly to priority sectors, and was often linked to technology-transfer requirements.

• Under the new policy, automatic approval was granted for foreign direct investment up to 51% equity participation in 34 priority industries without prior government permission. In 1996, this ceiling was increased to 74%. Approval procedures for investments beyond these limits and in non-priority sectors were also liberalised to attract greater foreign investment.

• Additional reforms such as the abolition of industrial licensing and opening several industries previously reserved for the public sector to private participation strengthened the domestic corporate sector and further encouraged foreign investment.

• The new economic policy emphasised non-debt-creating capital inflows, particularly FDI and foreign portfolio investment, to reduce dependence on external borrowing as a source of foreign resources.

• Foreign portfolio investment (FPI) refers to investments by foreign firms, foreign institutional investors, and NRIs in the equity shares, bonds, and securities of Indian companies. Investors receive returns through dividends, interest, and capital gains but do not exercise direct managerial control over firms.

• Portfolio investment provides finance and foreign exchange to Indian firms but is characterised by high volatility. The East Asian currency crisis of 1997–98 demonstrated the risks associated with sudden withdrawal of foreign portfolio capital; therefore, maintaining adequate foreign exchange reserves is essential to protect the domestic currency from capital flight.

• To facilitate portfolio investment, in February 1992 Indian companies were allowed to raise funds through equity and convertible bond issues in Euro-markets, and in September 1992, registered Foreign Institutional Investors (FIIs) were permitted to invest directly in Indian equity and debt markets.

• The Foreign Exchange Regulation Act (FERA) was replaced by the Foreign Exchange Management Act (FEMA), removing many constraints on firms with foreign equity participation and making it easier both for foreign firms to operate in India and for Indian firms to operate abroad.

• Procedures for overseas investment by Indian companies and for raising foreign funds through External Commercial Borrowings (ECB), including American Depository Receipts (ADR) and Global Depository Receipts (GDR), were simplified.

• Foreign Institutional Investors found Indian equity markets attractive for risk diversification. Their investment was driven by both pull factors and push factors.

• Pull factors included improvements in India’s macroeconomic environment following the abolition of licensing controls and reforms in the banking and financial sectors, which enhanced investment opportunities.

• Push factors included lower interest rates, lower yields, and slower economic growth in the USA and other developed countries, encouraging investors to seek higher returns in emerging economies such as India and China.

• Thus, post-1991 reforms transformed India’s external sector through trade liberalisation, exchange-rate reforms, current-account convertibility, liberalisation of FDI and portfolio investment, replacement of FERA by FEMA, and easier access to global capital markets, thereby integrating the Indian economy more closely with the global economy.