New Economic Frontiers

Standard economics of relations don’t seem to apply to India-China relations and their impact on the Asian and global economy. With every passing year, the economic engagement between China and India continues to mature. India’s economic trajectory has always been colored by speculation regarding interlocking political factors, and its growth rate is predicted to be meager by global agencies. Still, the country has managed to reach relatively high on the list of best performers.

China comes to this corner of the world with promise and vigor. It has shown a determination to maintain its global position by raising the required standards and playing a larger role in setting the global norms of economic interdependence. But coupled with the prospects of China’s contributions to the world economy are the opportunities and risks carried by India. Economic cooperation conducted between the two countries is expected to define the century, and certain realms can make each side wary of the other’s prospects.

The Chinese economic presence in India has grown, and China’s reach to sub-national levels has been very effective as it breaks new ground. This development has been bringing not only consumer goods but also finance, knowledge-sharing and win-win models of cooperation. India is one of the world’s fastest-growing economies, and the World Bank estimates its GDP growth rates to hover around 7.3 percent in financial year (FY) 2019 and 7.5 percent in FY 2020. With per capita income expected to rise by 125 percent, India is on track to boast a consumer market of US$4 trillion and be the third-largest consumer economy by 2025. All these developments have catapulted India to become the world’s most attractive market for foreign direct investment (FDI). Due to its investment-friendly policies and the opening of several sectors for FDI, India received FDI of more than US$50 billion in FY 2015-16 for the first time. And in FY 2016-17, FDI inflows reached an all-time high of US$60.1 billion. Cumulatively, between April 2014 and December 2017, India attracted US$205 billion in FDI inflow. No one can deny that the India-China relationship endured a rough patch in 2017. However, investment and trade data suggest a growing separation of economic decisions from political compulsions.

According to data from the Chinese General Administration of Customs, bilateral trade rose to an all-time high of US$84.44 billion in 2017, with India’s exports to China also rising by 40 percent from 2016 to reach US$16.34 billion. This encouraging development emerged as bilateral trade between China and India remained stagnant at around US$70 billion for many years despite the leaders of both nations having set a US$100 billion target for 2015.

A Transfroming Relationship

As the trade volume between India and China has increased since 2001, economic diplomacy remains the driving force to forge constructive bilateral relations. According to statistics from the Indian Ministry of Commerce, trade remains at the heart of these economic engagements. The thriving trade relations with its neighbor, however, have also caused worry in India. For instance, its increasing trade deficit with China has created micro-economic complications for India which have led to increasing trade restrictions over imports. These external factors, along with excessive export-led GDP growth, led China to take a fresh approach towards its industry and trade models. However, a couple of remedial policy interventions were made to initiate the rebalancing of the economy.

The ‘going out’, internationalization and diversifying of the production and supply lines geographically are some early interventions by the Chinese leadership looking beyond momentary and short-term trade by building a grid of industrial repositories abroad to generate sustainable interdependency through enhanced trade and investment. This sort of outbound investment in emerging markets aims at reducing the sectoral imbalance within the Chinese economy by giving its industries—both public and private—better access to foreign markets and protection from international volatilities.

As a result, economic relations between India and China have witnessed significant changes. While the amount of trade continues to surge, investments have provided ancillary strength to create economic synergy between the two countries. Moreover, Chinese investment related to its ‘going out’ policy is being used to assure India that its concerns over the trade deficit are addressed and form an indirect way of bypassing the trade remedies employed by India over Chinese imports.

Given their respective reform and opening up timelines (refering to India’s economic liberalization in the early 1990s) and complementary qualities, China’s ‘going out’ strategy supports India’s efforts to attract FDI. The Indian economy, US$2 trillion in size, is struggling to balance its sectoral growth by realigning its resources of production along with factors of the market. Specifically, Indian states are playing a crucial role at this stage. The pre-liberalization division of federal responsibilities restricted the role of sub-national actors in India: States could not influence investment and were restricted from taking a stand on foreign economic affairs. The process of economic liberalization, which started in 1991, encouraged these sub-national interests to realign their economic resources.

In China meanwhile, the China Council for the Promotion of International Trade actively studied the legal as well as economic dimensions of the Indian state during this period. New market space, sources of production (including land and labor) at the sub-national level has made Indian states hotspots for FDI. This trend has been attested by several studies, which indicate that market size, agglomeration effects and size of manufacturing and services base in Indian states have significant positive impact on FDI flows, but that the flow has been disrupted by taxation and the cost of labor. So, sub-national forces in India, which remained over-dependent on federal facilitation in the 1990s, underwent phenomenal transformation. The rising pressure on existing local resources to meet the fiscal deficits created by falling revenues and receding capital resources forced these sub-national actors in India to adopt conscious efforts in line with the national policy reforms. One more sub-national aspect that made India a favorite FDI destination, including for China, was the introduction of land-use permits that local governments could use to promote investment. In fact, this is a major reason Chinese investment in India is largely directed to states using land-use permits and related to incentives to attract foreign investments.

Since 2014, Chinese companies have shown considerable interest regarding investing in a wide range of sectors across India. These include electronics, real estate, textiles, renewable energy, automobiles, and Indian startups—evident in FDI equity inflow data from China. The trend of FDI outflows from China and the Government of India’s “Make in India” mission appear to be in perfect sync.

The Investment Race

Tracking FDI flows accurately is difficult because companies tend to route investment through nations with whom they have favorable bilateral tax treaties, which can help explain the considerable gap between the official figures published by Indian and Chinese government agencies. As per data released by the Department of Industrial Policy and Promotion (Ministry of Commerce & Industry), between April 2000 and December 2017, FDI inflows from China stood at merely US$1.78 billion; while China’s Ministry of Commerce reported that US$8 billion flowed from China to India. Still, both countries acknowledge that most of these investments were realized after 2014. FDI investments from China in India are in the range of US$12-13 billion, with approximately 200 active companies in the market. Even though this is still relatively small compared to what India has received from the U.S., the UK and Japan, it is still substantial progress.

Consequently, Indian states engaged in a fierce competition to attract overseas investments, including from China. For instance, in 2014, the newly divided state of Andhra Pradesh offered several concessions to investors such as excise duty exemptions, tax holidays, concessions in entry tax, interest-free loans of central sales tax and free land. Such opportunities complemented Chinese guidelines of protecting and expanding existing sales revenue and increasing market share abroad, increasing profit margins through backward integration and entering new markets. Apparently, the Chinese presence has been noticeable across Indian federal states. Chinese companies led by state agencies have learned to sustain business. The federal economic geography of India has offered varied incentives to foreign investors, and China has learned ways around it. If other foreign companies could survive and thrive, so would China’s companies. Chinese companies and state leaders had much to explore in the Indian context, which has helped China get acquainted with India and use it to boost overall bilateral relations.

China’s engagement with India has undergone a quality transformation. If 2001 and subsequent years were all about consumables and giant masses of them sold using flash trade practices by the Chinese suppliers, the nature of this trade changed drastically in the following years. Trade interactions became more mature and cheap goods began to be replaced with more scrutinized merchandise and products. The products were required to meet certain quality standards because most Indian manufacturers were trying to diversify their need for parts and components. For example, a major part of trade at the beginning of the last decade began consisting of these products. This also made it easier for Chinese suppliers to reach the pockets of dealers not only in prominent cities but also in industrial zones and clusters deep inside some states.

Deeper Inroads

This was the first stage that the Chinese presence could break through the first level of the demand-supply pool. For example, Maharashtra, West Bengal and Gujarat, with their assets in ports, infrastructure and labor coupled with spiked demand, have served as the chief entry points for Chinese products and companies. To make the reach sustainable, China began offering a new range of products and expanded its reach by changing demand-oriented supply into supply-oriented demand. This was certainly a challenge, but also an effective way to make space in the Indian economy beyond such pockets as well as away from regulators centered in Delhi.

The next level of involvement consisted of multipronged approaches. Chinese companies evolved beyond just exporters to the Indian market to became key contributors to India’s federal economy. By becoming effective contributors to the economy, Chinese players found new corners of the Indian federal system. The interaction facilitated cooperation in fields of investment, joint ventures, greenfield investment, acquisitions, bidding for infrastructure projects, energy production and efficiency and most importantly, setting up value chains. These new frontiers helped Chinese companies reach distant corners of the Indian economic terrain.

Most Indian states today host some Chinese presence in some of these areas. As Indian states have varied levels of economic development, the Chinese have adjusted their trajectories to the scale of the local economy. Chinese companies are not only setting up manufacturing industries in newer states such as Telangana and Chhattisgarh but also leading infrastructure projects. Additionally, Chinese companies have shown interest in expanding their presence in the value chain by realigning their industries in India. The states of Karnataka and Tamil Nadu have greatly benefited from Chinese value-added industries.

Chinese companies also have great potential to explore untapped markets in cold storage and supply lines. This is an important sector for most Indian states in the northeast. China has been looking for opportunities to share its experience in revolutionizing commercialization of agricultural and related processing. Chinese companies have kept in touch with some leading producers of perishables (meat and fresh vegetables) in Assam to set up facilities. This evidences that Chinese companies have adopted new ways to approach the Indian market and evolved in the process.

The Indian market and especially the sub-national drive for investment promotion and facilitation is making India a rewarding destination for Chinese companies seeking to achieve their investment objectives and establish long-term presence. At the end of the day, China’s sub-national strategy and India’s sub-national need for growth are in perfect lockstep.  

The author is a senior research fellow at Peking University.