- BANK OF

OCCASIONAL PAPER NO. 150

OPENNESS AND GROWTH OF THE INDIAN ECONOMY: AN EMPIRICAL ANALYSIS

This study is based on the award winning entry for EXIM Bank International Economic Development Research Annual (IEDRA) Award 2010 for the doctoral dissertation titled “Openness and Growth of the Indian Economy: An Empirical Analysis”, submitted to the Indian Institute of Technology Bombay, Mumbai by Dr. Narayan Chandra Pradhan, Research Officer, , Mumbai. The dissertation was written under the supervision of Prof. Pushpa Trivedi, and was sponsored by the Reserve Bank of India. The views expressed here are those of the author and do not necessarily reflect those of the Export-Import Bank of India.

EXIM Bank’s Occasional Paper Series is an attempt to disseminate the findings of research studies carried out in the Bank. The results of research studies can interest exporters, policy makers, industrialists, export promotion agencies as well as researchers. However, views expressed do not necessarily reflect those of the Bank. While reasonable care has been taken to ensure authenticity of information and data, EXIM Bank accepts no responsibility for authenticity, accuracy or completeness of such items.

© Export-Import Bank of India August 2011

1 2 Contents

Page No.

List of Tables 5 List of Charts 5 Executive Summary 7 1. Introduction 10 2. Openness and Growth: A Brief Survey of Literature 18 3. Openness and Growth: The Role of International Institutions 22 4. India’s Trade Openness, Trade Policy and Growth 27 5. Trade in Services and Growth 39 6. Labour Migration and Financial Flows 49 7. and Economic Growth: An Econometric Analysis 57 8. Nexus between Capital Flows and Growth 73 9. Conclusions 79 Appendix 82 References 90

3 4 LIST OF TABLES

Table No. Title Page No. 4.1 Trends in Trade Openness of Major Trading Economies 30 4.2 India’s Trade Performance since 1980 33 4.3 India’s Exports of Principal Commodities 34 4.4 Direction of India’s Exports 35 4.5 India’s of Principal Commodities 36 4.6 Sources of India’s Imports 37 5.1 Indicator of Services in Indian Economy 42 5.2 Structure of India’s Services Exports 43 5.3 Software Services Exports of India 45 6.1 World Remittances 51 6.2 Relative Volatility of Workers’ Remittances 52 6.3 Workers’ Remittances - Top Ten Receiving Countries 53 7.1 ADF and PP Unit Root Tests for the Data Series 61 7.2 KPSS Stationarity Tests 62 7.3 Granger Causality Tests 69 8.1 ADF Unit Root Test 74 8.2 Granger Causality between DLNAGDP and DLCAPFL 78

LIST OF CHARTS

Chart No. Title Page No. 4.1 India’s Share of Global Merchandise Exports and Imports 32 5.1 Growth Rate of Total GDP, Services GDP and Services Trade 41

5 6 EXECUTIVE SUMMARY

The study focuses on ‘openness’ and affects analysis and policy even which is expected to have a positive in the present day context. impact on the growth of Indian economy. Each chapter deals The role of multilateral international with a theoretical perspective on institutions, such as, WTO, IMF, openness and growth. Although, the World Bank and ILO in promoting background of the study includes the trade openness and growth has post-independence period so as to been discussed in depth. The WTO highlight the lessons learnt from the focuses on rules for multilateral trade import substituting industrialization, liberalization and transparency; the the analytical content focuses on the IMF on overall macroeconomic policy liberalization period beginning the framework and balance of payments 1980s, reinforced during 1990s and disequilibria; and the World Bank carried forward during 2000s. The on long-term growth, development temporal coverage of the empirical and sectoral trade issues. The ILO’s analysis carried out spans the period role has been to ensure that the 1970-71 to 2008-09. The research human face of labourer is not lost in question addressed in the study is: implementing the competitive agenda “whether openness has impacted of trade openness and growth. India’s growth rate, and if so, then in what direction?” In recognition of the growing importance of external openness in An overview of literature on the nexus Indian economy, the focus is assigned between openness and growth reveals on changing trade policy regimes of many aspects. The theories of trade India; trade performance in the global discussed are those based on certain context during the liberalization assumptions and tried to explain: period; changing trade pattern – (i) how and why different countries both composition and direction since may gain from trade; and (ii) pattern of 1980-81 in order to compare pre- trade specialisation, i.e., why certain and post-liberalization performance. countries export particular goods and Services exports have opened up import others. The theory written over new opportunities for India since the a hundred years ago still resonates liberalization process started and

7 seen a structural shift starting from relationship. The coefficient of error 2003-04 driven by the emergence of correction term decides how quickly new avenues – exports of software the equilibrium is restored. About 17 services and business services per cent of disequilibrium is corrected that augur well for the services led every year in the case of relationship growth. between exports of goods and GDP; and about 14 per cent disequilibrium This study puts forward the impact is corrected every year in the case of labour mobility since 1980s. There of relationship between ‘goods and are two major impacts of international services’ and GDP. The significance labour migration from India, on the of the error correction term at 5% balance of payments: (i) through level suggests a robust relationship remittances from migrant labour; and between export growth and growth of (ii) through repatriated deposits held real GDP. This reinforces the nexus with the Indian Banks. In recent years, between export and GDP growth in the world has witnessed migration of both short and long run. The test of labour as a major feature despite the Granger causality suggests that the restrictive immigration laws, owing direction of causality from export growth to GDP growth; since the to the differences in demographic estimated F-statistics is significant, at pressure and income levels among the 5% level up to 4 lags, at the 10% countries. At the same time, spread level at lag 5. On the other hand, there of education and communication are is no ‘reverse causation’ from GDP also facilitating the progress of labour growth to export growth. The test of openness from developing countries Granger causality/Block Exogeneity to developed ones. in VAR framework indicates lead- lag relationship between exports Empirical testing of export-led growth and GDP. The empirical evidence hypothesis by applying various time indicates that the movements in the series techniques reveals both short- exports of goods and services appear and long-run relationship between to lead the movement of GDP in Indian export and output growth. Application economy. This also indicates that one of stationarity/unit root tests, viz., can use exports to better predict the ADF, PP and KPSS, confirms that all GDP than simply by the past history the variables are non-stationary at log of GDP. levels and there is existence of unit root in the series used. Subsequent The Cointegration tests demonstrate residual based cointegration test a long run relationship between net on log levels between exports capital flows and non agricultural and GDP confirms their long run GDP. The Granger causality results,

8 however, do not point out to the Given the recent success of software validation of temporal causation exports from India along with the between net capital inflows and focus area approach to merchandise growth. Hence, based on these tests, exports including its diversification, neither can we make any claims the finding is plausible and consistent about the predictability of growth with prior expectation that growth from capital inflows nor can we infer of exports – both merchandise whether capital inflows have been and services – stimulates economic due to pull factor. growth.

9 1 INTRODUCTION

Since 1980s, interdependence endangered the ability of countries to among nation-states has increased insulate themselves from the external significantly in respect of trade to shocks. Gross Domestic Product (GDP) ratios. Now, it is an established fact In the above background of that the growth of world merchandise world economy, the structure of trade has surpassed the growth of Indian economy has undergone a world GDP leading to even doubling considerable change since mid-1991. of the trade-to-GDP ratios for some These changes include, increasing emerging economies between 1980 importance of and and 2008. This has emanated mostly capital flows. The services sector from the increasing openness of the has become a major driver of the world’s trade and financial markets economy with GDP share of more and ongoing labour migration. These than 50 per cent and the country phenomena, in turn, have been becoming an important hub for stimulated by policy efforts, both export of Information and Technology at bilateral and multilateral levels enabled services (ITes). The share through liberalising the rules governing of merchandise trade to GDP in trade and investment and by market India increased from 7.2 per cent in forces that prompt MNCs to seek out 1980-81 to 13.3 per cent in 1990-91 better factor costs and conditions to and further to 38.9 per cent in 2008- site their locations outside the state of 09. India has been perceived as their origin. an attractive destination for capital inflows and net capital inflows, due to With technological change in the various socio-political and economic information sector, huge capital considerations. Net capital inflows flows occur almost instantaneously. that were 1.9 per cent of GDP in The visible impact of integration has 2000-01 increased to 9.2 per cent in been seen in the European Union’s 2007-08. Foreign portfolio investment (EU) market that is still expanding. added buoyancy to the Indian capital Increasing capital mobility has also markets. Indian corporates began acted in a negative manner and aggressive acquisition spree

10 overseas, which got reflected in crisis. Emerging economies were the high volume of outbound direct affected in varying degrees depending investment flows during 2007-2009. upon the extent of openness and the dependence on capital flows as the However, the year 2008-09 was external environment deteriorated marked by adverse developments on account of slowdown in global in the external sector of the Indian demand, reversal of capital flows and economy, particularly during the reduced access to external sources of second half of the year, reflecting finance in the face of adverse global the impact of global financial crisis. credit market conditions. The episodes The subprime crisis of 2008 affected of global crises also meant that financial institutions in the United the economy experienced extreme States (US) and the European Union volatility in terms of fluctuations in stock (EU) countries, including the shadow market prices, exchange rates and banking system comprising of, inflation levels during a short duration inter alia, investment banks, hedge necessitating reversal of policy to deal funds, private equity and structured with emerging situations. These facts investment vehicles. The collapse of are stark reminder of the negative US investment firm Lehman Brothers side of openness/ that is in mid-September 2008 had further making countries vulnerable to crisis aggravated the situation leading to like situation. a crisis of confidence in the financial markets. The resulting heightened 1.1 Concept of Openness uncertainty cascaded into a full-blown financial crisis of global dimensions. The openness of an economy is This fact has demonstrated that a continuous process which has openness and its impact on the world economy can be a boon as well as a evolved over time and the result of bane. creative innovation and technological progress. It refers to the increasing In the era of globalization, India could integration of economies around the not insulate itself from the adverse world, particularly through trade and developments in the international financial flows. The trade channel is financial markets, despite having a considered as one of the traditional banking and financial system that modes of the integration of global had little to do with investments economy. The mobility of capital in structured financial instruments has provided a new dimension carved out of subprime mortgages, to the concept of openness and whose failure had set off the chain of that dominate events culminating in global financial over conventional trade channel.

11 There are broader political, cultural, poverty. An outward-oriented policy and environmental dimensions of has brought dynamism and greater openness that has not been covered prosperity to many Southeast Asian in this study. economies, transforming from one of the poorest regions of the world 50 In economic literature, the term years ago. As living standards rose, ‘openness’ has become common it became possible to make progress usage since the 1980s, reflecting the on democracy and economic issues technological advances that have such as the environment and work made it easier and quicker to complete standards. international transactions, both trade and financial flows. Markets promote Improvements in living standards can efficiency through competition and take place through the accumulation the division of labour - specialization of physical capital (investment) and allows economies of scale. Global human capital (labour), and also markets offer greater opportunity for through use of an advanced technology people to tap into more and larger (i.e., total factor productivity). Many markets around the world. It indicates factors can help or hinder these that, they can have an access to more processes. The experience of the capital flows, technology, cheaper countries that have increased output imports, and larger export markets. most rapidly shows the importance of However, markets do not necessarily creating conditions that are conducive ensure that the benefits of increased to long-run growth in per capita efficiency are shared either equally or income. Economic stability, institution proportionately by all. building, and structural reforms are also important for long-term Sometimes, openness is also equated development as much as financial with the process of ‘globalization’. transfers. What matters is the whole Some view it as a process that is package of policies, financial and beneficial - a key feature of world technical assistance, and debt relief, economic development - and also if necessary (World Bank, 2009). inevitable and irreversible, whereas The components of such a package others regard it with hostility, even might include: (i) Macroeconomic fear, believing that it increases stability to create the right conditions inequality within and between for investment and saving; (ii) nations, threatens employment and Outward-oriented policies to promote living standards in poorer regions and efficiency through increased trade thwarts social progress. Countries and investment; (iii) Structural reform that have been able to integrate are to encourage domestic competition; witnessing robust growth and reduced (iv) Strong institutions and an

12 effective government to foster good the developing world and has given governance; (v) Education, training many people in the developing world and research and development access to knowledge well beyond the to promote productivity; and (vi) reach of even the wealthiest in any External debt management to ensure country a century ago”. Perhaps more adequate resources for sustainable importantly, globalization implies development. that information and knowledge get dispersed and shared. 1.2 Openness and Growth in the World Economy In late 1980s, many developing countries, including India, started The world economy has witnessed an dismantling their barriers to age of unprecedented globalization international trade, as a result of since the 1980s. International trade poor economic performance under and services along with capital flows protectionist policies and various have been liberalized and allowed to economic crises. In the 1990s, grow in many developing countries. many former Eastern bloc countries There is substantial evidence from integrated into the global trading countries of different sizes and system and developing Asia - one of different regions that have benefited the most closed regions to trade earlier from the global process of openness - progressively dismantled barriers to in the form of access to wider trade. Overall, while the average variety of goods and services, lower rate applied by developing countries is prices, more and better paying jobs, higher than that applied by advanced improved health and higher overall countries, it has declined significantly living standards. over the years, especially, in the aftermath of the formation of World Global markets offer greater Trade Organization (WTO) in January opportunity for people to tap into more 1995. diversified and larger markets around the world. They can have access to The world financial markets have more capital, technology, cheaper experienced a dramatic increase in import, and larger export markets. openness in recent years. Global More importantly, the information and capital flows fluctuated between 2 knowledge get dispersed and shared and 6 per cent of world GDP during frequently by developing countries. the period 1980–1995 and since then Stiglitz (2002), despite being a frequent it is rising. In 2008 they aggregated to critic of globalization, has observed US$ 7.9 trillion, more than trebling that “Globalization has reduced the since 1995 (World Bank, 2009). sense of isolation felt in much of Though the most rapid increase

13 has been experienced by advanced administrative / monitoring costs. economies, emerging markets and Opening up of foreign investment may developing countries have also encourage changes in the domestic become more financially integrated. economy that eliminate these As countries have strengthened their distortions and help foster growth. capital markets, they have attracted more investment capital, which can Stiglitz (2002) has summarized a enable a broader entrepreneurial near circle process of globalization class to develop, facilitate a more in world economy as follows: About efficient allocation of capital, a century ago, the global economy encourage international risk sharing, operated in a very open environment. and foster economic growth. Yet, there Openness began to wither away is a debate underway, among leading with the onset of World War I (1914), academics and policy experts, on the and still recovering. Along the precise impact of financial openness. process, governments recognized Some see it as a catalyst for economic the importance of international growth and stability. Others viewed cooperation and coordination, it as injecting dangerous and often which led to the emergence of costly volatility into the economies of numerous international organizations growing middle-income countries. and financial institutions. Indeed, the lessons included avoiding The analysis of the past 30 years of fragmentation and the breakdown data by IMF’s Research Department of cooperation among nations. The reveals two main lessons for countries world is still made up of nation states to consider. First, the evidence points and a global marketplace. to gains from financial integration for advanced economies. However, in the 1.3 Motivation, Objectives and emerging and developing countries, Methodology the effects of financial globalization can positively or negatively affect The nature of relationship between growth and also lead to volatility in openness and economic growth (in economic activity. Second, there terms of national output or GDP) are also costs associated with being has been one of the most debated overly cautious about opening to topics in recent past. It is not yet capital flows. These costs include clear, whether the trade reforms lower international trade, higher necessarily led to higher economic investment costs for firms, poorer growth. A few oft quoted studies have economic incentives, and additional concluded that countries with a more

14 open trade orientation have tended corporate sector restructuring, a to grow faster through time (Krueger, positive investment climate, a long 1997; Michaely et al. 1991) than term view of India as an investment closed economies. This view has destination and favourable credit been contested by Rodriguez and conditions in the global market. Rodrik (2001), who have argued that However, the absorption of capital “there is little systematic evidence flows has remained low with a linking inward orientation and growth, moderate level of the current account and that the evidence linking outward deficit in the 1990s and 2000s and orientation and growth has overstated the consequent build-up of foreign the relationship between the two”. exchange reserves, until the advent of the recent financial crisis. The large The important question in this capital inflows have implications for regard is: whether growth is ‘export- the real sector of the economy through led’ or exports are ‘growth-driven’? interest and exchange rate channels. These questions are important, The excessive capital inflows beyond because the determination of causal the absorptive capacity, in conjunction patterns between export and growth with workers’ remittances and have important implications for software exports have the potential policymakers’ for appropriate growth for overheating the economy, creating and development strategies. The an over-valued exchange rate and existence of high correlation between the consequent erosion of long-term exports and real GDP has been competitiveness of the traditional well documented in the literature. goods and services sectors – the However, empirical studies have Dutch disease phenomenon. also produced mixed and conflicting results on the nature and direction To address some of the above of the causal relationship between issues, this study adopts an eclectic exports and output growth. approach drawing inference from the theoretical and empirical literature as Following the path of other developing well as economic history of multilateral countries, the Indian economy has institutions. It has been assessed embraced gradual trade liberalization whether the openness with external since the 1980s, and almost compelled sector policy reforms have had any to reinforce the same in a big way role to play in India’s recent economic in 1991. Since then the process of growth. The assessments of impact trade liberalization has continued of openness is not only confined unabated. The developments trends to merchandise trade, but also to were characterized by a sustained trade in services, labour migration momentum in domestic real activity, and its financial impacts, as well as

15 impact of capital flows on growth. capital flows and growth of Indian The role of international institutions in economy. promoting openness and in fostering The methodology used in this process of growth in world economy study includes: Unit Root Tests, has also been discussed. To our Cointegration technique, Error knowledge, this study is the first one Correction Model, Vector Error that incorporates the whole gamut of Correction Model (VECM) in vector openness having impact on growth of autoregression (VAR), bivariate Indian economy. Over and above all, Granger causality, and Block this study hopes to fill in certain gaps Exogeneity/Granger Causality in VAR in existing literature on openness and framework. growth nexus in Indian economy by applying both analytical approach and empirical techniques. 1.4 Organization of the Study

Besides this introductory Chapter 1, In brief, the major objectives of this the study is organized into remaining study are: eight chapters. Chapter 2 takes stock • To examine the changing of the available literature on openness dimensions of India’s trade and and growth with emphasis on theories its impact on the growth of Indian of international trade starting from the economy; (prevailed between 16th • To examine the role of services and 18th centuries) to New Trade exports on the growth of Indian theories of the 1980s and 1990s. economy; Chapter 3 examines the role of four • To assess the role of international major international institutions - the institutions in the openness and WTO, IMF, World Bank and ILO - in growth process; fostering openness and growth after the World War II and touch upon the • To examine whether labour recent financial crisis with evolving migration and subsequent institutions in world economy. Chapter remittances have any impact 4 analytically discusses India’s trade on financial flows of the Indian openness and growth aspects since economy; 1950s. The composition and direction • To investigate empirically the of India’s trade vis-a-vis other validity of export led growth (ELG) emerging market economies are point and/or growth led exports (GLE) of focus since 1980-81 through 2008- for the Indian economy; and 09. Chapter 5 discusses openness in • To examine the nexus between services trade of India since 1980s

16 and especially after the formation of export-led growth hypothesis for India. the WTO in 1995 and its impact on the Chapter 8 is devoted to the analysis of growth dynamics of Indian economy. capital account liberalization in India Chapter 6 devoted to the discussion and management of capital flows of labour migration and financial since 1990-91. Furthermore, we have inflows to Indian economy in terms of empirically tested the nexus between remittances and repatriable deposits net capital flows and economic growth since 1980. In Chapter 7, we have in terms of non-agricultural GDP for empirically tested the nexus between the period 1970-71 to 2008-09. Finally, exports and economic growth since Chapter 9 provides conclusions of the 1970-71 to verify the relevance of study.

17 2 TRADE OPENNESS AND GROWTH: A BRIEF SURVEY OF LITERATURE

There are many reasons for the propagated by economists over countries to engage in international centuries. These theories revolve trade. One of the important reasons around the old ideas that are still being a country can get goods from relevant - the nineteenth century abroad that are cheaper as well as of trade theory by David Ricardo higher quality than the home-made remains highly relevant to the goods. It has been documented that, twenty-first century world economy. all countries in the world engaged These theories are based on certain in international trade mainly for two assumptions and tried to explain: (i) reasons, each of which contributes how and why different countries may to their gains from trade. First, gain from trade; and (ii) pattern of nations like individuals can benefit trade specialization, i.e., why certain from their differences by reaching an countries export particular goods and arrangement in which each produce import others. The theory written over the goods relatively better way. This a hundred years ago still resonates relativity in production and exchange and affects analysis and policy even arises from differences in costs, in the present day. geographical distance, state-of-the- art technology used, and political Earlier theories of international trade compulsion in the form of economic were particularly well provided with integration. Second, countries trade surveys and it would be pointless to achieve economies of scale in to try to cover all those. A special production and distribution in the form mention may be made to the surveys of exports with the expanded markets. by Haberler (1936), Viner (1937), However, in the real world, pattern Caves (1960), Mundell (1960), of international trade reflects the Bhagwati (1963), and Kemp (1964) interaction of both the above motives as well as the encyclopaedic history (Krugman and Obstfeld, 2006). by Schumpeter (1954). The literature survey in this study is broadly divided To explain the reasons for countries into four parts, corresponding to the engaged in international trade, many Classical, Neo-classical, Modern and theories and insights have been New Trade theories.

18 The classical approach to trade focuses on (i) export as a leading theories generally revolved around sector; (ii) export as a balancing the writings of Smith (1776), Ricardo sector; and, (iii) export-linked import (1817), and Mill (1917) based on liberalization - in both developed and the oversimplifying assumptions on developing countries. In simplest production side has the advantage form, various theories explain how the of bringing out sharply the nature differences between countries give of the problem of international rise to trade and gains from trade. specialization (Chipman, 1965a). The In a nutshell, a country’s production neo-classical approach rests partly on pattern is determined essentially by simplifications on both the production . and consumption side as represented by the concepts of opportunity cost The trade benefits a country can and community indifference curve be shown in either of the two ways: surveyed by Lerner (1953), Haberler (i) Trade as an indirect method of (1955), Meade (1955), and Chipman production requiring less labour (1965b). The modern approach that than direct production; and (ii) Trade began with Heckscher (1919) and enlarges a country’s consumption Ohlin (1933) attach important role to possibilities implying gains from factor endowments represents the trade. The distribution of the gains most impressive theoretical structure from trade depends on the relative has been surveyed by Chipman prices of goods countries produce. (1966). The new trade theories of International trade allows creation of recent origin follows a sequel to the an integrated market that is larger earlier one covered by Bhagwati than any one country’s market, and (1987). The main concepts that thus makes it possible simultaneously emerged from the analysis of trade to offer consumers a greater variety theory in its various incarnations are of products at lower prices. that of comparative advantage and gains from trade. Trade need not necessarily be the

result of comparative advantage. A review of trade theory and policy, and growth literature reveals many Instead, it can result from increasing aspects of the trade openness and returns or economies of scale, that is, growth process. Those important from a tendency of unit costs to be aspects can be summarized as lower with larger output. Economies follows: of scale give countries an incentive to specialize and trade even in the Trade theories from the Mercantilism absence of differences between to New Trade models of recent origin countries in their resources or

19 technology (endowments). Trade in have not delivered the expected the presence of economies of scale gains in economic growth and living must be analyzed using models of standards. imperfect competition. Two important models of this kind are: (i) the The high performance of East Asian monopolistic competition model, and economies was realized by way of (ii) the model. A third model, exports of manufactured goods. They that of external economies of scale is are characterized both by very high consistent with perfect competition. ratios of trade to national income and extremely high growth rates. In monopolistic competition model, Economists have suggested that trade may be divided into two kinds: the roots of success may lie largely (i) inter-industry, and (ii) intra-industry. in domestic causes, especially high Whereas, inter-industry trade reflects saving rates and improvements in comparative advantage, intra- education. industry trade reflects economies of scale. Intra-industry trade does not For several reasons, the traditional generate the same strong effects on conclusion has been that the gains income distribution as inter-industry from trade do not result in merely once- trade. over change in resource allocation, but are continually emerging with the Trade policy in less developing gains from development: international economies can be analyzed using the trade transforms existing production same analytical tools used to discuss functions and increases the advanced countries. In particular, a productivity of the economy over time. trade policy in developing countries If trade increases the capacity for is concerned with two objectives: (i) development, with the larger volume promoting industrialization, and (ii) of trade, the greater should be the coping with uneven development potential for development. The positive of the domestic economy. Using view of thus the infant-industry argument as emphasizes the direct gain that comes justification, many less developed from international specialization plus countries have pursued policies of the additional support to country’s import substituting industrialization development through a number of in which domestic industries are spread effects within the domestic created under the protection of tariffs economy. or import quotas. Although, these policies have succeeded in promoting New growth theory has provided manufacturing, by and large, they important insights for understanding

20 the relationship between trade and vital to their development processes. growth in a dynamic set up. If growth Finally, if the engine of growth is is driven by R&D activities, then trade the introduction of new products, provides access for a country to the then trade plays an important role in advances of technological knowledge growth by providing access to new of its trading partners. Further, products and inputs. Therefore, trade allows producers to access we may well argue that developing bigger markets and encourages countries can receive more benefit the development of R&D through from trade with developed countries, increasing returns to innovation. which are technologically innovative Especially, trade provides developing countries, than from trade with countries with access to investment developing countries, which are non- and intermediate goods that are innovating.

21 3 OPENNESS AND GROWTH: THE ROLE OF INTERNATIONAL INSTITUTIONS

More than 60 years have passed Market capitalism took on a truly since the formation of Bretton global character as barriers to the Woods institutions – the International movement of goods and capital has Monetary Fund (IMF), World Bank reduced to a large extent (Bhagwati, and GATT/WTO1. Over this period, 2004; Wolf, 2004). Specifically, the the world economy has changed majority of changes in world economic considerably not only in the realm and political system took place in the of economics but also in the sphere late eighties and early nineties and of public policy. On economic front, carried forward in the twenty-first the most noteworthy development century. during the period is economic integration, both at regional and At the same time, increasing multilateral levels, through more economic prominence of and cross border flows - trade, services, reshaping the international labour, investment, and finance. The financial system. Their exports and technological revolutions in transport imports of merchandise and services and communications have virtually have grown substantially in recent reduced the geographical barriers and years. The economic performance, facilitated the process of openness in combined with the openness of their developing countries. However, the economies, makes China and India cross-border movement of labour is crucial players in the world economy. closely regulated and highly guarded Over 1980-2008, the merchandise even now in developed countries. trade-GDP ratio for China increased from 12.3 per cent to 58.2 per The fall of ‘Berlin wall’ in 1989 and cent, while the ratio for India grew disintegration of the Soviet Union in from 13.3 per cent to 38.8 per cent 1991 gave way to the (calendar year basis). By 2008, China and its allies to determine the future accounted for 6.3 per cent of global shape of the global economic order. trade, while India taking up a 1.3 per

1The General Agreement on Tariffs and Trade (GATT) was formed in 1947 and after the Uruguay Round of negotiations (1986-1994), the (WTO) formed in January 1, 1995 with a broader mandate keeping most of its earlier provisions but adding rules that govern an expanded set of global

22 cent share. China and India have Stone (2006) have mentioned that, also become increasingly prominent while the IMF lost its initial mission in the international financial system without fully securing a new role, the in recent years. Both countries have World Bank has probably adjusted gradually adopted policies that are better to the changing global more market-oriented and open to the economic environment by securing flow of capital across their borders. a more knowledge-driven role for Although their financial systems still itself. The WTO emerged out of the remain restricted, China and India General Agreement on Tariffs and have received significant capital Trade (GATT) negotiations with inflows in recent years (Lane and a mandate to extend and embed Schmukler, 2007). the global marketplace, not least, through the integration of developing With regard to the above changing countries (Narlikar, 2005). However, scenario, international institutions the International Labour Organization have played major role in shaping (ILO) failed to respond to the world economic order and help challenges of labour market flexibility reviving the openness of emerging in the 1980s and structural adjustment economies. It has been stated that, in the 1980s and 1990s. It has failed the signatories to various trade to provide a coherent response to the agreements typically confer some insecurities and inequalities thrown authority to the GATT/WTO on the up by the ongoing globalization. belief that a neutral or internationalized The ILO was set up as a means of body is more effective in governing legitimizing labour relations based on trading relations than an individual the standard employment relationship nation. Economists focusing on the as an ingredient of international trade. purpose of various trade agreements That seems to be a distant dream in identify a range of functions for an near future (Griffin, 2003). independent institution administering trade affairs, such as, a repository of Economic growth in the West also knowledge, an archivist, a provider helped in the emergence of new of research and trade assistance, an powerful economies in the South information gatherer and disseminator, as well as East. Notably, the rapidly a negotiation forum, a mediator, a developing state-controlled capitalism facilitator, a monitor, a surveillance of the Peoples’ Republic of China agent and an adjudicator. Multilateral fed the West with consumer goods institutions can also foster peaceful while lifting 400 million population relations among countries, thereby out of poverty (Breslin, 2007). India, creating the general conditions for although it has not accepted the profitable exchange through trade. disciplines of open market as willingly

23 as China, has become a provider the export-driven growth strategies of technology-based and business of Southeast Asian economies, services (Panagariya, 2008). Even all contributed to growth in world though with lesser global impact, market economy. This shift has Brazil has consolidated its position as offered enormous opportunities a powerful agricultural and commodity and challenges for both developed trader in the world economy (Higgott and developing countries. Here, and Roadnight, 2008). However, these international financial institutions developments in the world economy have played major role in formulating have not been without problems. trade policy, exchange rate policy, Arguably, these have replicated some financing for development and dispute of the boom and bust features of the settlement in the way of maintaining old capitalist systems, at times on a world peace. As we have offered a larger scale. concentrated discussion on Bretton Woods institutions and ILO as a trend The first post-Cold War2 shock to setter in growth of world economy, the world economic system came financial crisis also wreak havoc in in the form of Asian Financial Crisis the system. This calls for the evolution of 1997-98, when the economies of some institution in the world of Southeast Asia failed to cope up, financial architecture. In the following inter alia, with the demands of rapidly discussion, we have highlighted some liberalizing capital market, the impact of the findings from the analysis of of new technology and inadequate international institutions. institutional structures to ensure the proper management of those The WTO promotes trade by serving markets. The crisis exposed the gap as a forum for its member countries between market perceptions of the to negotiate trade agreements, strength of the national economies which forms the legal ground- and the reality that they were less rules for international trade. The robust political economies than distinction between the roles of the viewed by the analysts (Dieter and IMF and WTO is clearer than the Higgott, 2009). IMF-World Bank division, though it is by no means perfect. Legally, During the last 20 years, the the WTO has jurisdiction over trade breakdown of the planned economies restrictions whilst the IMF has in the Soviet Union and Central jurisdiction over exchange measures. and Eastern Europe, the economic WTO commitments and rules are reforms in China and India, and limitations on the maximum amount

2The comes to an end with the dismantling of Soviet Union and other East European economies in the beginning of 1990s.

24 of trade protection and the use of textiles and clothing trade, and trade other protective policies. The WTO in services. The trade related aspects periodically reviews its members’ of investment and the protection of trade policies. The IMF can cover property rights and some internal trade policies in its surveillance and policy issues, such as, trade and conditionality, although, unlike WTO the environment, competition policy, commitments, IMF trade policy advice and labour standards which may is not legally binding. Moreover, IMF feature as protection issues were policy advice and program design are also covered by the WTO. For the guided by economic considerations. settlements of disputes the WTO was This may result in the IMF pressing offered greater power. In addition for trade and trade-related reforms to to the setting up of the WTO, tariffs proceed faster and deeper than WTO on industrial products were reduced commitments. from an average of 4.7 per cent to 3 per cent. Despite the diversity of interests among the contracting parties to the One of the main purposes of the GATT, it has achieved considerable IMF is to promote exchange stability, success in reducing tariffs in to maintain orderly exchange industrialized countries. Progress arrangements among members, in dealing with quantitative trade and to avoid competitive exchange restrictions was much slower than depreciation. This responsibility that of tariffs. A majority of source implicitly reflects the view that of grievance within GATT was the exchange rate policy has profound relatively poor export performance of implications for the expansion and many primary-producing countries. balanced growth of international Whereas some of the reasons for this trade. But in contrast to exchange state of affairs were to be found in rate arrangements and the system of the domestic policies of the primary exchange rates, international trade is producing countries themselves, not under the regulatory jurisdiction of many of them believed that the the IMF. industrial nations had used the exceptions in the GATT to protect their The World Bank provides trade own relatively inefficient agricultural support through its lending operations, industries to the detriment of foreign analytical work (research as well as primary producers. economic and sector work carried out in its operational regions), advocacy, The WTO was given a broader range and capacity building activities. There of activities including agriculture, is, in practice, no clear dividing line

25 between the work of the IMF and protection from the consequences of the World Bank with regard to trade their own follies. policy. Thus, coverage of specific trade policy issues may appear in At the outset, it appears that the ILO the analytical work of both institutions was also mooted as a development (surveillance in the IMF and World agency for ‘colonies’ and ‘primitive’ Bank) and may be the subject of economies that adopt the standards, conditionality for lending programs in policies and institutions set in the either institution. ‘advanced’ countries. Recently, world leaders embraced the G-20 as The current financial crisis appears the premier forum for international to have a far-reaching impact on economic cooperation among the the world economy. Though started advanced industrialized countries and in the USA, out of a further bout of rising powers. This is a good start. irrational exuberance the crisis has But the G-20 cannot be a stand-alone destabilized the global economy and committee. Nor can it ignore the has brought home the consequence voices of the over 160 countries left of the under-regulation of the financial outside. The G-20 should operate as sector (Shiller, 2008). The collapse in a ‘steering group’ across a network of the market for ‘sub-prime’ mortgages countries and international institutions exposed the fragility of confidence in with a broader membership. It should the system as banks stopped lending recognise the interconnections to each other. Financial institutions among issues and foster points of rushed to the regulators demanding mutual interest.

26 4 INDIA’S TRADE OPENNESS, TRADE POLICY AND GROWTH

At the time of independence in 1947, modernization of its economy. Exports foreign trade of India was typical remained relatively sluggish owing to of that of a colonial and agricultural lack of exportable surplus, competition economy. Trade relations were in the international market, inflation at mainly confined to Britain and other home, and increasingly protectionist commonwealth countries. Exports policies of the developing countries. consisted chiefly of raw materials and Imports increased mainly due to plantation crops, while imports were increasing requirements of capital composed of light consumer goods goods, defence equipment, petroleum and other manufactures. Over the last products, and raw materials. sixty years, India’s foreign trade has undergone a major change in terms From mid-1991, the Government of of growth, composition and direction. India introduced a series of reforms The exports cover a wide range of to liberalize and globalize the Indian traditional and non-traditional items, economy, i.e., adapting to the path while imports consist mainly of capital of openness. Reforms in the external goods, petroleum products, raw sector were intended to integrate the materials, and chemicals to meet the Indian economy with rest of the world. ever-increasing needs of a developing Reforms of trade and exchange rate and diversifying economy. policy was a critical element in the process of structural reform. Since For about fourty years (1950-90), the initiation of economic reforms, foreign trade of India suffered from India’s outward orientation has strict bureaucratic and discretionary increased considerably. The major controls. Foreign exchange transac- trade policy changes in the post- tions were tightly controlled by the 1991 period included simplification of Reserve Bank of India (RBI) on procedures, removal of quantitative behalf of the . restrictions, and substantial reduction During the period, India, with some in the tariff rates. However, India’s exceptions, always faced deficit in approach to openness has been its trade balance. This was a typical cautious, contingent on achieving characteristic of a developing country certain pre-conditions to ensure an struggling for reconstruction and orderly process of liberalization and

27 ensuring macroeconomic stability. period was that, in almost every year, This approach has been vindicated in the increase in its volume exceeded recent years with growing incidence of the increase in the volume of world financial crises in the world economy. production. This also applied within Over and above all, the policy regime the broad categories of products. In in India with regard to liberalization other words, it indicates trade-led of the external sector has witnessed economic growth in world economy perceptible change. (Kenwood and Lougheed, 1999).

4.1 World Trade Scenario The second phase of trade integration started during the late 1970s when The post-War period of international a number of East Asian economies trade in world economy can be divided embarked on the path of export-led into two broad phases: (i) 1950-80, growth. This was reinforced further and (ii) 1980-2009. The first phase during the 1980s and the 1990s and witnessed a revival of world trade, carried forward in 2000s, wherein a especially among the industrialized large number of developing countries countries. This was facilitated by gradually increased their degree of the economic reconstruction and openness. During this period, outward reduction in transport costs. oriented policies were undertaken International institutions established on the grounds of efficient resource after the World War II have promoted allocation, infusion of modern the growth in trade: the IMF, World technologies, promotion of economies Bank, United Nations and GATT of scale, retention of consumer (now, WTO), were all established in surplus, and reduction of rent-seeking the post-war years to promote free and unproductive profit-seeking trade and economic development. activities (World Bank, 1993). For Another important factor contributing Latin America, the necessity to regain to trade expansion was the multilateral access to the international capital initiative under the GATT that enabled markets to refinance outstanding dismantling of tariff and non-tariff debt was an important consideration barriers among the industrialized in their opening up during the 1970s. countries imposed during the inter- war period. The move towards Increasing trade openness by currency convertibility on current developed countries and later by account transactions by leading developing economies resulted industrial powers which began in the in significant changes in the late-1950s further facilitated growth pattern of world trade. The major in international trade. An important structural changes witnessed can be feature of world trade during this summarized as follows: (i) Noticeable

28 increase in Asia’s share in world trade trade expansion in these countries mainly due to high export growth of suffered a major setback following China and East Asia since 1980s; (ii) the crisis of 1997. Their performance Transformation of export basket of took a severe downturn in the years developing economies from primary immediately after the crisis. The commodities to manufacturing impact of the East Asian crisis on exports; (iii) Faster growth in exports growth in volume of exports was less of technology-intensive products by pronounced than for imports. China’s developing economies compared to trade performance (both exports industrialized ones; and (iv) Growth and imports) continued to remain in South-South trade. impressive throughout the 1990s. India too posted a healthy growth during In contrast to earlier periods, global the 1990s, especially during the initial economic integration in the 1990s years of economic reforms. Amongst has been much more widespread and the Latin American economies, was primarily driven by liberalization Mexico witnessed significant growth of trade and capital controls. The in trade during the 1990s. The East technological revolution witnessed Asian countries, especially, Malaysia, in recent years and the emergence Korea and Philippines have also of the new economy has further rebounded strongly since 2000. aided this integration process. As the process of opening up of economies Along with growth in overall volume, the unfolded during the 1990s, world pattern of world trade also underwent trade witnessed its strongest revival changes following structural shifts since the 1960s in terms of volume in production caused by new growth. Although the real growth technologies, demand pattern, ways performance of Western Europe, of organizing and locating production , the transitional economies of (business process ), and Central Europe and Africa was rather new international trade rules under lacklustre during most of the 1990s, the WTO. Primary products and the strong revival in the volume of resource-based manufactures have trade was mainly led by the US with been gradually losing importance support from developing countries with world trade witnessing a including China, East Asia (especially shift towards non-resource-based prior to the 1997 crisis) and some products of increasing technology Latin American countries. intensity. In keeping with this trend, there has also been a rapid change Although, almost all of the East Asian in the composition of developing countries posted double-digit trade country exports, from being primary growth during the 1990s (up to 1997), commodity exporters to exporters of

29 manufactures. Manufacturing exports industrial countries in exports of more now account for the bulk of developing technology intensive products. countries exports, with their share being more than 80 per cent for Contrary to the initiatives taken by the South Asia, East Asia and the Pacific. East Asian economies during most of It is pertinent to note that developing this phase, India could not take full countries are growing faster than advantage of greater openness in

Table 4.1: Trends in Trade Openness of Major Trading Economies (Per cent)

Country Avg Avg Avg Avg Avg 1980- 1985- 1990- 1995- 2000- 84 89 94 99 04 2005 2006 2007 2008

Argentina 11.6 12.8 12.2 17.9 28.5 38.0 38.0 38.6 39.2 Brazil 24.9 13.4 12.8 13.8 21.5 22.2 21.4 21.5 24.2 Chile 35.2 47.0 45.7 46.0 54.0 62.6 66.2 70.1 75.7 China 14.8 24.6 34.2 34.3 46.5 63.6 66.3 64.3 58.2 France 37.2 35.3 34.6 38.6 43.3 43.3 45.2 45.2 45.7 48.8 48.8 41.3 43.5 56.0 62.9 70.1 71.7 72.6 153.1 191.6 226.2 229.8 267.2 331.2 343.0 344.0 348.5 India 12.2 11.1 15.0 18.8 22.2 30.9 33.8 32.7 38.8 Indonesia 35.9 31.5 38.2 51.3 53.8 56.8 50.0 49.0 54.2 Japan 24.6 17.4 15.3 16.6 19.7 24.3 28.2 30.1 31.5 Korea 60.1 57.5 46.3 53.3 59.7 64.6 66.7 69.4 90.5 Malaysia 90.9 99.5 140.7 168.5 177.6 185.0 185.9 172.9 168.3 Mexico 22.1 29.9 30.3 52.5 50.9 52.5 54.5 55.5 56.7 Philippines 38.9 38.2 50.8 76.7 96.3 87.9 86.3 75.0 64.8 -- -- 61.6 48.8 52.5 50.0 49.0 46.4 47.3 321.3 296.3 285.5 273.4 293.5 355.3 366.8 336.9 361.6 South Africa 48.4 45.0 35.1 40.9 47.8 46.9 53.1 55.8 55.4 Thailand 44.8 51.0 67.7 80.3 109.7 129.5 125.4 119.4 128.7 Turkey 16.6 20.2 18.9 27.1 37.0 39.4 42.5 42.7 45.8 United Kingdom 41.5 41.3 39.0 42.3 38.5 37.5 40.0 37.7 40.9 United States 15.2 14.5 16.0 18.7 19.3 21.2 22.4 23.0 24.3

Note: Trade Openness is measured by the ratio of exports plus imports to GDP. Source: Author’s calculation, based on the following data sources. (1) World Economic Outlook Database, April 2009, International Monetary Fund: For GDP. (2) International Financial Statistics, International Monetary Fund: For Exports and Imports. Avg = Average

30 trade regime. Despite some export higher ratio of trade to GDP. promotion measures undertaken in the 1970s, Indian industries In a nutshell, the US, East Asian continued to remain protected. While countries and China played a crucial the signs of liberalized trade policy role in expanding world trade in the were clearly discernible in the latter 1980s. Buoyancy in world trade in half of 1980s, it was only in the 1990s the 1990s was sustained despite the that the country embarked on a lacklustre economic performance truly liberalized trade regime. Trade of several industrialized countries openness, conventionally measured especially those in Europe and Japan. as the sum of exports and imports of Although, the Asian crisis did cause goods as a ratio of GDP, brings out a major disruption in international clearly the growing trade liberalization trade, the crisis affected countries over time. For most of emerging have rebounded in recent years with economies (including India), their growing trade volumes. Moreover, openness during 2000s is almost trade among developing countries double or even higher than that during has increased significantly in recent the 1980s (Table 4.1). This has been years. Though recent financial crisis facilitated, inter alia, by significant inflicted some injuries during 2008- reduction in import tariffs. 09 on world trade, there is strong expectation of recovery in 2010. From Table 4.1, it can be inferred that Hong Kong, Singapore and Malaysia 4.2 Trends in India’s Foreign Trade have amount of trade exceed their GDP. These countries are basically 4.2.1 Share in World Trade shipping and processing centers, so they are importing goods, processing In 1950, India accounted for about them, and then exporting the final 1.8 per cent (1.85 per cent of exports product to other countries. At the and 1.71 per cent of imports) of world bottom of the list are US and Japan, trade. After gradually declining to which are very large in economic size 0.5 per cent in 1991, it marginally – large countries tend to have a lot improved to 0.6 per cent in 1994. of trade between states or provinces Subsequently, the decline in India’s within their borders, but that is not share in world trade has not only counted as part of international trade. been arrested but reversed. From Conversely, smaller countries with Chart 4.1, it is discernible that India’s close neighbours, such as, Hong share in world exports as well as Kong, Malaysia, and the smaller imports are on the rising trend. The European nations have more trade Foreign Trade Policy (FTP), 2004-09 spilling over across their borders and had set an ambitious task of achieving

31 Chart 4.1: India’s Share of Global Merchandise Exports and Imports

Source: Directorate General of Commercial Intelligence and Statistics, Kolkata.

1.5 per cent share in the world trade by policy framework, if the aim was to the year 2009. Recently announced improve the overall productivity and FTP 2009-14 also set the long-term efficiency of the economic system, in policy objective to double India’s general, and the external sector, in share in global trade by 2020. particular. Apart from the devaluation of the exchange rate and a move 4.2.2 Foreign Trade Performance over to a unified market determined exchange rate system in 1993, the Though gradual trade liberalization new trade policy was characterized began in 1980s, a broad-based by a short negative list of exports liberalized trade regime was put in and imports, lowering of the level place during 1990s, which marked a and dispersion of nominal tariffs, significant turnaround from the earlier withdrawal of quantitative restrictions controlled regime. The challenge of on imports and phasing out of the restoring the macroeconomic balance system of import licensing. The trade initially was combined with a long- policy reforms also encompassed term new trade policy, which formed significant changes in the system of a major ingredient of the economic export incentives, moving away from reforms program. It was recognized direct subsidies to indirect export that trade policies, exchange rate promotional measures. The multi- policies and industrial policies pronged strategy undertaken in the should form part of an integrated beginning of the 1990s gradually had

32 Table 4.2: India’s Trade Performance since 1980

Annual Average Growth Rate (Per cent per annum) As per cent of GDP Exports* Imports* Exports# Imports# (Exports+ Imports)#

1980-81 to 1984-85 4.5 6.3 4.6 7.6 12.2 1985-86 to 1989-90 11.6 8.2 4.5 6.7 11.2 1990-91 to 1994-95 10.0 7.3 7.2 8.1 15.3 1995-96 to 1999-00 7.3 12.0 8.4 10.3 18.7 2000-01 21.0 1.7 9.7 11.0 20.7 2001-02 -1.6 1.7 9.2 10.8 19.9 2002-03 20.3 19.4 10.4 12.1 22.5 2003-04 21.1 27.3 10.6 13.0 23.7 2004-05 30.8 42.7 11.9 15.9 27.8 2005-06 23.4 33.8 12.7 18.4 31.1 2006-07 22.6 24.5 13.8 20.4 34.2 2007-08 29.0 35.5 13.9 21.4 35.3 2008-09 3.4 14.3 14.4 24.5 38.9

*: Data on exports and imports are taken in US$ terms. #: Data on exports and imports are taken in Rupee terms. Source: Author’s calculation based on Handbook of Statistics on Indian Economy 2008-09, RBI. its desired effects on the economy attracting FDI in exports sector and and ushered in a phase of stable and maintenance of product quality. higher growth in trade (Table 4.2). 4.2.3 Composition of Exports The drastic reduction in growth rate of exports during 2001-02 was primarily The changing structure of India’s due to structural constraints operating exports throws some interesting light on the demand as well as on supply on both the demand pattern and side. The recessionary tendencies supply factors that are increasingly across the world affected the demand influencing India’s exports and the for India’s exports as well. Major supply manner in which its production constraints that continue to hamper structures, institutions and policies India’s exports include infrastructural are responding to it. Regarding constraints, high transaction costs, changes in the composition of exports reservation for small scale industries, since 1980s, it may be observed labour inflexibility, constraints in that the share of agriculture and

33 allied products has been declining, the export market in terms of export while that of ores and minerals has share (Table 4.3). remained more or less steady. Share of manufactured goods has increased India’s merchandise exports are generally. Although the opening up of predominated by the manufacturing the Indian economy since the early sector which accounted for more 1990s provided an impetus for higher than three-fourth of its total exports growth for most of the commodities, during the 1990s and 2000s. There some products gained more than has, however, been considerable the others. Export products like iron re-orientation of relative importance and steel, petroleum products and of products within the manufacturing pharmaceuticals gained both in sector. The main drivers within the terms of growth rate as well as share manufactured product groups were in the export basket. On the other chemicals and allied products, hand, there were products such as engineering goods, readymade cotton, leather, plantation crops and garments, textile yarn, fabrics, made- readymade garments that lost out in ups, and ‘gems and jewellery’. The

Table 4.3: India’s Exports of Principal Commodities (Share in per cent) Commodity/Group 1980- 1985- 1990- 1995- 2000- 2005- 2006- 2007- 2008- 81 86 91 96 01 06 07 08 09

Plantation Crops 9.5 8.3 4.1 2.5 1.5 0.7 0.7 0.6 0.6 Agriculture & Allied 25.4 23.0 17.0 10.1 8.8 7.0 6.9 8.3 7.8 Marine Products 3.2 3.8 2.9 3.2 3.2 1.5 1.4 1.1 0.8 Ores & Minerals 4.7 5.5 3.3 3.7 2.6 6.0 5.5 5.6 4.3 Leather & Manufactures 5.0 5.9 5.0 5.5 4.4 2.6 2.4 2.2 2.0 Gems & Jewellery 9.0 8.0 16.1 16.6 16.8 15.1 12.6 12.1 15.2 Chemicals & Related 3.5 3.3 9.5 11.3 14.0 15.2 14.6 13.7 13.1 Engineering Goods 10.1 10.1 12.4 13.8 12.9 18.7 21.0 20.7 21.9 Electronic Goods 7.8 6.5 1.3 2.1 2.5 2.2 2.3 2.2 3.9 Textiles 13.5 14.4 20.9 25.3 24.3 15.1 13.0 11.3 10.5 Handicrafts 3.4 1.4 1.2 1.4 1.5 0.5 0.4 0.3 0.2 Cotton Raw incl. Waste 4.1 3.6 1.6 0.2 0.1 0.6 1.1 1.4 0.3 Petroleum Products 0.4 6.0 1.9 1.4 4.3 11.3 14.8 17.4 14.7 Unclassified Exports 0.8 0.2 1.7 1.1 1.7 2.4 2.4 2.5 4.2 Total Exports (US$ billion) 8.5 8.9 18.2 31.8 44.6 103.1 126.4 163.1 182.6

Note: Due to change in commodity classification since 1987-88, prior data are not strictly comparable. Source: Directorate General of Commercial Intelligence and Statistics, Kolkata.

34 importance of primary products in the American countries. It has gone export basket has witnessed a steady down in the case of Eastern Europe, decline over the years and especially with slowing down of exports to since the 1990s whereas petroleum Russia, while share of exports to less products exports have shown a developed countries in Africa and Asia dramatic rise since 2000-01. have remained more or less at the same level. Exports to other countries 4.2.4 Destination of Exports have increased (Table 4.4).

Looking at the direction of India’s 4.2.5 Composition of Imports exports, it is observed that the share of exports to the OECD countries The structure of India’s imports has has been declining, especially due undergone change since the opening to decline in India’s share to the up of the Indian economy. In the post- European Union and Japan. Share liberalization phase, the tolerance level of exports to the USA has increased of imports has undergone a significant and so has to the OPEC and Latin upward revision in the face of greater

Table 4.4: Direction of India’s Exports (Share in per cent) Country / Region 1980- 1985- 1990- 1995- 2000- 2005- 2006- 2007- 2008- 81 86 91 96 01 06 07 08 09

I. OECD countries 58.9 55.9 56.5 55.7 52.7 44.5 41.2 38.8 38.2 A. EU 25.1 24.9 27.5 27.4 23.4 21.7 20.4 20.2 21.7 B. North America 19.7 17.1 15.6 18.3 22.4 17.8 15.8 13.8 12.5 U.S.A 18.6 16.2 14.7 17.4 20.9 16.8 14.9 13.0 11.7 C. Asia and Oceania 11.6 11.2 10.4 8.3 5.1 3.3 3.4 3.1 2.6 D. Other OECD 2.5 2.7 3.0 1.6 1.9 1.6 1.6 1.7 1.4 II. OPEC 6.1 6.7 5.6 9.7 10.9 14.8 16.4 16.5 18.9 III. Eastern Europe 16.5 19.3 17.9 4.2 3.0 1.9 2.0 2.1 1.1 IV. Developing countries 14.2 15.6 17.1 28.9 29.2 38.5 40.2 42.3 38.3 A. Asia 11.9 13.2 14.4 23.0 22.5 30.1 29.8 31.5 28.3 a) SAARC 2.6 2.5 2.9 5.4 4.3 5.4 5.1 5.7 4.9 b) Other Asian developing 9.3 10.7 11.4 17.6 18.2 24.7 24.6 25.8 23.4 B. Africa 2.0 2.0 2.2 4.8 4.4 5.5 7.0 7.6 6.6 C. Latin American countries 0.3 0.4 0.5 1.2 2.3 3.0 3.4 3.2 3.4 V. Others / unspecified 4.2 2.6 2.9 1.5 4.3 0.3 0.3 0.4 3.5 Total Exports (US$ billion) 8.5 8.9 18.2 31.8 44.6 103.1 126.4 163.1 182.6

Source: Directorate General of Commercial Intelligence and Statistics, Kolkata.

35 Table 4.5: India’s Imports of Principal Commodities (Share in per cent) Commodity/Group 1980- 1985- 1990- 1995- 2000- 2005- 2006- 2007- 2008- 81 86 91 96 01 06 07 08 09

Petroleum, crude and products 42.2 26.5 25.0 20.5 31.0 29.5 30.8 33.2 32.9 Bulk consumption goods 7.5 12.1 2.3 2.6 2.9 1.9 2.3 1.9 1.6 Other bulk items 5.6 3.9 17.7 15.9 7.4 9.6 12.4 11.9 13.2 Capital goods 14.5 20.2 24.2 28.2 17.7 25.3 25.3 24.4 21.3 Mainly export related items 17.9 19.2 15.3 14.3 15.9 12.5 9.6 8.7 9.9 Others 12.3 18.0 15.4 18.5 25.2 21.3 19.6 20.0 21.0 Total Imports (US$ billion) 15.9 16.1 42.2 36.7 50.5 149.2 185.7 251.6 291.5

Note: Due to change in commodity classification since 1987-88, prior data are not strictly comparable. Source: Directorate General of Commercial Intelligence and Statistics, Kolkata.

avenues for foreign exchange inflows, shift from import of petroleum products thereby unshackling the hitherto towards crude imports following dormant economic growth potential. a large scale increase of refinery With the move away from import capacity over time. Furthermore, substitution and towards promotion of India has transformed itself from a trade based on dynamic advantage, net importer of finished petroleum the policy distinction between products to net exporter of the same essential imports and otherwise has starting from 2001-02. Another gradually subsided. Commodity- significant development during the wise analysis reveals that while 1990s has been the channelizing petroleum still continues to have a of imports of gold through official dominant presence in India’s imports, routes. Since 1997, when banks were capital goods and other intermediary allowed to import gold, the import of products for export purposes have gold through passenger baggage has emerged as key items of imports in declined significantly. the 1990s and 2000s (Table 4.5). 4.2.6 Sources of Imports There have been a number of subtle compositional shifts within the broad Subsequent to the opening up, level of aggregation during the last India’s imports are being sourced decade. For instance, within the from a wider range of countries. petroleum imports, there has been a Traditionally important trading

36 partners like Germany, Japan, UK dissipation of the Commonwealth of and Australia have subsided in terms Independent States (CIS) countries of their market share and new import as major sources of India’s imports. partners from Africa and East Asia Furthermore, the OECD countries, (including China) have emerged and and EU in particular, have been the are increasingly gaining importance. major supplier of the import items. In recent years, Belgium, from The share of imports from OPEC and where India imports its major export Russia has declined while the share oriented item of gems and jewellery, has emerged as one of the principal of imports from Africa, Asia and Latin sources of imports. Another interest- America has remained more or less ing feature has been the gradual constant (Table 4.6).

Table 4.6: Sources of India’s Imports (Share in per cent) Country / Region 1980- 1985- 1990- 1995- 2000- 2005- 2006- 2007- 2008- 81 86 91 96 01 06 07 08 09

I. OECD countries 59.8 60.7 57.2 52.4 39.9 34.7 34.5 31.6 30.3 A. EU 33.3 31.9 29.4 28.1 20.8 16.9 15.3 13.8 13.0 France 3.6 2.9 3.0 2.3 1.3 2.8 2.3 1.2 1.0 Germany 9.7 8.7 8.0 8.6 3.5 4.0 4.1 4.0 3.5 U.K. 8.2 8.5 6.7 5.2 6.3 2.6 2.2 2.1 2.0 B. North America 10.3 13.0 13.4 11.6 6.8 7.0 7.3 6.3 6.5 U.S.A 9.0 11.5 12.1 10.5 6.0 6.3 6.3 5.5 5.8 C. Asia and Oceania 12.0 12.0 11.2 9.7 5.9 6.2 6.4 6.0 5.7 D. Other OECD countries 4.2 3.8 3.2 3.0 6.4 4.7 5.5 5.5 5.0 II. OPEC 13.3 13.4 16.3 20.8 5.3 7.5 30.2 31.8 32.2 III. Eastern Europe 9.6 6.9 7.8 4.6 1.7 2.5 2.7 2.2 2.3 IV. Developing countries 17.3 19.0 18.7 22.2 22.1 25.4 32.2 33.6 31.6 A. Asia 12.1 13.4 14.0 17.5 16.7 20.4 25.5 26.8 25.5 a) SAARC 0.4 0.5 0.5 0.7 0.9 0.9 0.8 0.9 0.6 b) Other Asian developing 11.7 12.8 13.5 16.8 15.8 19.5 24.7 25.9 24.9 China, People’s Republic 0.7 0.5 0.1 2.2 3.0 7.3 9.4 11.3 10.3 B. Africa 2.9 3.5 2.4 3.1 3.9 3.2 3.7 4.3 4.2 C. Latin American countries 2.3 2.1 2.3 1.6 1.4 1.8 3.0 2.6 1.8 V. Others / unspecified 0.0 0.1 0.0 0.0 31.0 29.8 0.4 0.7 3.7 Total Imports (US$ billion) 15.9 16.1 42.2 36.7 50.5 149.2 185.7 251.7 291.5

Source: Directorate General of Commercial Intelligence and Statistics, Kolkata.

37 4.2.7 Import Intensity of Exports in augmenting exports through other indirect spillover channels. Thus, a In view of the changing contours of broader definition of import intensity Indian trade over the years, especially of exports incorporates not only the since the 1990s, one pertinent direct quantum of imports that is question is the effect of imports on channeled to exports but also the India’s exports - more specifically how indirect effects of imported products much of imports get translated into that augment exports. exports. Import intensity of exports can simply be defined as the degree Based on the ITC (HS) commodity of value addition of an imported item classification, a select set of items that subsequently gets exported. In could be identified that are mainly the Indian context, gems and jewellery imported for export purposes, such is a typical example of such export as ‘gems and jewellery’, ‘chemicals product having high import intensity. and allied products’ and ‘textile yarn, Another way of defining import fabrics, made-ups’, etc. A comparison intensity of exports is to identify those of corresponding finished products exports which are heavily dependent that are exported by value-adding on imported inputs. These imported these import items show a high import inputs may belong to the same sector intensity in ‘gems and jewellery’ or a different sector altogether. Imports and ‘chemicals and allied products’. may not only have a direct impact on The extent of such import intensity, exports through the import content however, appears to be declining for but may also have an indirect effect both the items since the early 1990s.

38 5 TRADE IN SERVICES AND GROWTH

The growing importance of services As a consequence, service enterprises sector in national output has been are less export-oriented (or open) accompanied by an expansion of than the merchandise sector. commercial services in world exports. Between 1980 and 2008, world trade Attention towards trade in services in commercial services increased at came into focus during eighties in the an annual average rate of 8.2 per cent. wake of multilateral trade negotiations According to the World Trade Statistics under the General Agreement on 2009 of the WTO, the growth rate of Trade in Services (GATS) that was commercial services has been rather concluded under Uruguay Rounds high at 14 per cent between 2003 and (UR). Services have also come into 2008 touching the value of US$ 3.5 prominence in a number of regional trillion mark in 2008. This reflects the trading agreements including fact that demand for services tends to the European Union (EU), North be income-elastic: as people become American Area (NAFTA), wealthier, they spend relatively more and Southern Common Market on services, such as, tourism, health (MERCOSUR3). The reason for this is and education. Despite the increase the developments in information and in services exports, the share of communication technologies, and the services in world trade (one fourth) greater market access resulting from has been smaller than its share in the widespread deregulation of the world production (two-third) during public utilities. 2008. The reason may be different characteristics of goods and services. The progress towards a multilateral Some of the services are more difficult system of trade in services - GATS to transport or transfer; i.e., they under the aegis of the WTO is are less tradable and often must be significantly influenced by country- consumed at the point of production. specific assessments of the cost and

3MERCOSUR was created in 1991 by the Treaty of Asuncion and which consists of four Latin American countries: Argentina, Brazil, Paraguay and Uruguay. The European Union has favoured the strengthening of MERCOSUR and supported its initiatives, notably through the Inter-institutional Agreement to provide technical and institutional support for its newly created structures.

39 benefits of liberalization of domestic which will be positive (Mattoo and barriers to trade in services. In this Carzaniga, 2003). context, Mattoo et al. (2006) have analyzed the static and dynamic It is interesting to note that not only effects of liberalizing services trade on there is more international trade now economic growth. According to them, than in the past, but the fact that countries with fully open telecom and the categories of trade have also financial services sectors witnessed changed. The provision of service growth rates of about 1.5 percentage or the production of various parts points higher than the other countries. of a good in different countries that The static effects of liberalization are used or assembled into a final of trade in goods in the absence of good in another location is called services trade liberalization could well foreign outsourcing or more simply result in negative effective protection outsourcing. Slicing the value chain in for goods, since many services are this way is consistent with the idea of key inputs in production process. This comparative advantage, since each highlights the need for liberalization country is engaged in those activities of trade in services in tandem with for which its labour is relatively that of goods. It has been argued that cheaper. Outsourcing is a relatively there are particularly large gains to new phenomenon in world trade. be realized from eliminating barriers At times, outsourcing, however, is a to trade in services like in transport trade in intermediate inputs, which which facilitate trade. can sometimes cross borders several times before being incorporated The dynamic effects of liberalizing into a final good that can be sold trade in services are increasingly domestically or abroad. being assessed in the context of growth. Spillovers of technology Openness and Services Trade in or skills embodied in service flows India increase productivity of national factors of production and hence help India’s trade in services under balance to increase GNP. On the other hand, of payments (BoP) comprises of non- although the scale of domestic activity factor services categorized under (involving the sum of foreign and (i) travel, (ii) transportation, (iii) domestic factors) is likely to expand, insurance, (iv) ‘Government services employment of national factors of not included elsewhere’ (GNIE), and production need not. The impact on (v) miscellaneous services. Under GNP growth will then comprise of a miscellaneous services, four major factor effect which could be negative, categories are software services, and a productivity-enhancing effect, business services, financial services,

40 and communication services. An According to the Balance of important feature of services exports Payments Statistics published by the of India has been a structural IMF, India’s share in world exports of shift since 2003-04, driven by the services has doubled to 2.7 per cent emergence of new avenues of between 2003 and 2008. Reflecting services exports attributed to a rapid this positive development in terms expansion in international trade of the comparative advantage and and investment facilitated by an the continued buoyancy of India’s increased liberalization and the use services exports, India ranked at 9th of information technology enabled position in terms of its market share services (ITES). Services exports in the world services exports during doubled from US$ 26.9 billion in 2008 (WTO, 2009). Similarly, the 2003–04 to US$ 57.7 billion in services payments have increased 2005–06 and further to US$ 101.2 on account of robust expansion in billion in 2008-09 (Chart 5.1). While domestic economy, rising freight no quantitative assessment has been costs, growing outbound tourist attempted so far, it may be hypothesized traffic, payments related to business that the high rate of growth in the and management consultancy, services sector in recent years is architectural, engineering and other due at least in part to the success technical services. Trend in India’s achieved in telecommunications services trade vis-à-vis services GDP sector (Panagariya, 2008). are provided in Table 5.1.

Chart 5.1: Growth Rate of Total GDP, Services GDP and Services Trade (Per cent)

Source: Author’s calculation based on Handbook of Statistics on Indian Economy 2008-09, RBI

41 Table 5.1: Indicator of Services in Indian Economy

Year Services Share of Growth of Services Services Exports Services Production of Exports Imports (US$ billion) Exports in Services (%) Growth (%) (US$ Total Exports billion)

1980-81 2.8 24.9 5.6 44.5 1.5 1981-82 2.8 24.1 5.2 -1.6 1.7 1982-83 2.9 23.3 4.9 4.6 1.9 1983-84 3.3 25.0 5.6 13.6 2.2 1984-85 3.5 25.5 5.7 5.1 2.4 1985-86 3.3 26.0 7.4 -3.8 2.1 1986-87 3.2 23.6 6.9 -3.0 2.2 1987-88 3.6 22.0 6.3 11.0 3.0 1988-89 4.0 21.7 6.8 10.7 3.2 1989-90 4.2 20.0 8.5 7.4 3.5 1990-91 4.6 19.8 5.9 7.2 3.6 1991-92 5.0 21.6 4.3 10.3 3.8 1992-93 4.7 20.0 5.4 -5.8 3.6 1993-94 5.3 18.8 6.4 11.3 4.7 1994-95 6.1 18.6 5.8 16.5 5.5 1995-96 7.3 18.5 9.6 19.7 7.5 1996-97 7.5 18.0 6.9 1.8 6.8 1997-98 9.4 20.9 9.0 26.2 8.1 1998-99 13.2 27.8 8.1 39.8 11.0 1999-00 15.7 29.5 9.3 19.1 11.7 2000-01 16.3 26.4 5.7 3.6 14.6 2001-02 17.1 27.7 6.9 5.4 13.8 2002-03 20.8 27.9 7.5 21.1 17.1 2003-04 26.9 28.8 8.8 29.4 16.7 2004-05 43.2 33.7 9.9 61.0 27.8 2005-06 57.7 35.4 11.2 33.3 34.5 2006-07 73.8 36.4 11.3 28.0 44.3 2007-08 90.1 35.2 10.8 22.1 52.5 2008-09 101.2 36.6 9.4 12.4 51.4

Source: Author’s calculation based on data from the Handbook of Statistics on Indian Economy 2008-09, RBI.

42 Since 1991, India has carried led primarily by software services out a substantial liberalization exports. India’s services receipts of trade in services along with are dominated by travel earnings, freeing up of foreign investment. software and business services, Traditionally, services sectors have reflecting a strong international tourist been subject to heavy government interest in India, rising importance intervention. Public sector presence of India’s high skilled workers and has been conspicuous in the key comparative advantage in exports of sectors of insurance, banking, and information and technology enabled telecommunications. Nevertheless, services (Table 5.2). considerable progress has been made towards opening the door Software Services wider to private sector participation, including foreign investors. At the disaggregated level, the trade in services has been dominated mainly Services have shown relative by software services and non-software resilience vis-à-vis other components miscellaneous services, which of India’s balance of payments in the includes business and professional face of global economic slowdown, services. Traditionally, while services with net services surplus expanding relating to goods trade, such as, from US$ 37.6 billion during 2007-08 transportation and financing of trade to US$ 49.8 billion during 2008-09, were the major constituents, the rapid

Table 5.2: Structure of India’s Services Exports

Year Total Share in Total Services Exports (Per cent) Services Exports Travel Transport- Insu- GNIE Software Miscella- (US$ billions) ation rance neous*

1980-81 2.8 43.5 16.3 2.3 4.0 0.0 33.9 1985-86 3.3 29.3 14.9 1.9 2.9 0.0 51.0 1990-91 4.6 32.0 21.6 2.4 0.3 0.0 43.6 1995-96 7.3 36.9 27.4 2.4 0.2 0.0 33.1 2000-01 16.3 21.5 12.6 1.7 4.0 39.0 21.3 2005-06 57.7 13.6 11.0 1.8 0.5 40.9 32.1 2006-07 73.8 12.4 10.8 1.6 0.3 42.4 32.4 2007-08 90.1 12.6 11.1 1.8 0.4 44.7 29.4 2008-09 101.2 10.8 10.9 1.4 0.4 46.4 30.1

*: Excluding Software Services. GNIE: Government not included elsewhere. Source: Author’s calculation based on data from Handbook of Statistics on Indian Economy 2008-09, RBI.

43 developments in telecommunications its low cost of operations, high quality and information technology has of product and services and readily facilitated the emergence of business available skilled manpower (RBI, and computer services related to trade 2009). Furthermore, a favourable time in investments as the main drivers. zone difference with North America Thus, the focus of services trade has and Europe helps Indian companies shifted from facilitating trade in goods achieve round the clock international to trade in services as an independent operations and customer service. entity in itself with the four modes of According to National Association supply for the delivery of services in of Software and Service Companies cross-border trade. (NASSCOM), while the US (61 per cent) and the UK (18 per cent) Reflecting this, India has emerged as remained the largest market for IT- a major software exporting country BPO export in 2008-09, the industry with a level of US$ 47.0 billion in has also been steadily expanding 2008-09, expanding at an average to other regions - with exports to rate of around 34 per cent in the past Continental Europe, in particular, eight years despite a global slowdown growing at a compound annual rate of of IT sector (Table 5.3). With the more than 57 per cent during 2003-04 continued buoyancy in software to 2008-09. At present, the Indian IT exports, they constituted about 44 industry has over 400 delivery centers per cent of total services exports, on across 52 countries. This strategy of an average, during 2000-01 to 2008- geographical diversification along 09. Apart from software, business with a strong focus on productivity, services have also grown significantly, benchmarking, and enhanced reflecting the emergence of India as operational efficiencies will help the a preferred investment destination industry to take forward its competitive following a greater integration of the edge as the global leader in software domestic economy with the rest of services exports. the world and strong macroeconomic fundamentals. Furthermore, to withstand global competition, Indian companies have The Indian IT-BPO industry is a major started moving up the value chain contributor to the economy and has by exploring untapped potential in IT a multiplier effect in terms of export consulting and system integration, earnings, investment, employment hardware support and installation and overall economic and social and processing services. According development. Notwithstanding incre- to NASSCOM, the industry’s vertical asing competitive pressures, India market exposure was well diversified remains an attractive source due to across several mature and emerging

44 Table 5.3: Software Services Exports of India (US$ billion)

Year IT Services ITES-BPO Total Exports Exports Software Services Exports 1995-96 0.8 - 0.8 1999-00 3.4 0.5 3.9 2000-01 5.4 0.9 6.3 2001-02 6.1 1.5 7.6 2002-03 7.1 2.5 9.6 2003-04 9.2 3.6 12.8 2004-05 13.1 4.6 17.7 2005-06 17.3 6.3 23.6 2006-07 22.9 8.4 31.3 2007-08 29.4 10.9 40.3 2008-09 30.5 16.5 47.0

Note: ITES: Information and Technology enabled services; BPO: Business Process Outsourcing. Source: National Association of Software and Service Companies (NASSCOM). sectors. Banking, Financial Services development and engineering services and Insurance (BFSI) remained the has reinforced India’s leadership as largest vertical market for Indian the key sourcing location for a wide IT-BPO exports, followed by high- range of technology related services. technology and telecommunications, Accordingly, India continued to be together accounting for nearly 60 per ranked first in the exports of computer cent of the Indian IT-BPO exports and information services in the in 2006-07. Security concerns international economy since 2005. As have also been duly recognized per the latest data of the WTO, India’s to maintain customer confidence. share in world exports of computer From a customer’s point of view, the and information services was around focus has been on consolidation, 17 per cent in 2006. According to integration and regulation – all of the NASSCOM, software exports which are expected to drive newer of India is expected to grow by 16- business opportunities for the Indian 17 per cent, factoring in the impact IT industry. of the global economic crisis during the second half of the year, to reach Broad-based growth across all the US$ 47 billion during 2008-09. Despite segments of IT services, BPO, product an uncertain economic environment,

45 according to the NASSCOM, the the Indian industry with a great deal of Indian IT-BPO industry is expected to focus on technological up-gradation experience sustainable growth over on a sustained basis. The major the next two years and India’s software constituents of business services services exports is projected to reach have been management consultancy, US$ 60-62 billion by 2010-11. The architectural engineering and other market (total revenue potential) for technical services, maintenance of global technology services exports, offices abroad and trade-related according to the NASSCOM, in core services. Amongst business services geographies (the US, Western Europe payments, maintenance of offices and Japan) will continue to grow and abroad and advertising have is likely to reach between US$ 500- decelerated, while there was a general 550 billion by 2020. increase in most other categories. With the rising demand for infrastructure Business and Professional and as a favourable destination for Services international companies for meeting the IT needs, India is emerging as Business, professional and an important country for trade in technical services are among the engineering services. Engineering most thriving services sectors in services mainly includes consultancy developed countries as well as in in designing and detailed designing some developing countries like Brazil services. and India. These services range from legal to management services Travel and from architectural to advertising services. India’s non-software Receipts under travel represent miscellaneous services constituted expenditure by foreign tourists towards almost 30 per cent of total services hotel expenses and goods and exports in 2008-09, which in turn, have services purchased including supported steady growth in invisibles domestic travel. Travel receipts receipts. Within non-software continued to benefit from the miscellaneous services exports, the robust growth in tourist arrivals. share of business and professional Tourism earnings continued with services have grown significantly in their buoyancy witnessed since recent years. The business services 2003-04, reflecting business, payments have also increased healthcare and leisure travel. sharply in recent years, reflecting the Liberalization of the payments system, ongoing technological transformation growing globalization, rising services of the economy and modernization of exports and associated business

46 travel as well as the preference 2007-08. Notwithstanding this, the for higher studies abroad have led surplus on travel account stood to sustained growth in outbound at US$ 2.1 billion during 2007-08 tourism from India since the 1990s. (US$ 2.4 billion in 2006-07). Concomitantly, travel payments also increased, reflecting rising business India’s position in the world’s tourist and leisure travel in consonance earnings has improved significantly with (i) growing merchandise and in recent years. Accordingly, India services trade, and (ii) growing ranked 18th in the world tourist disposable incomes of residents earnings in 2007 as against 23rd in in an environment of liberalized 1990. payments regime. The potential for greater leisure tourism and business Transportation travel indicate the continuation of a sustained growth in this segment in In view of the rising merchandise the near future. Travel receipts as a trade over the years, the receipts and percentage of total services exports, payments towards transportation, after declining during 2004-05 to which mainly represents carriage of 2006-07, increased marginally to goods and people as well as other 12.6 per cent during 2007-08 from distributive services (such as port 12.4 per cent a year ago. The charges, bunker fuel, stevedoring, gradual hike in the amount residents cabotage, warehousing), have also are permitted to remit per financial increased over the years. Receipts year for any permitted current or under transportation increased to capital account transaction under US$ 10.0 billion during 2007-08 from the liberalized remittance scheme US$ 8.0 billion in 2006-07, while operative since February 2004 (from payments were higher at US$ 11.5 US$ 25,000 per calendar year in billion as compared with US$ 8.1 February 2004 to US$ 2,00,000 billion during the same period. At effective September 26, 2007) along with the general appreciation this level, the transportation receipts of domestic currency against major constituted 11.1 per cent of total foreign currencies during 2007-08 services exports during 2007-08 as made outbound tourism attractive. compared with 10.8 per cent in the This was reflected in the sharp previous year. The sharp increase increase in outward remittances in fuel prices, higher freight charges under the category ‘others’, which as well as the inability of some major includes education, tours and shipping routes to meet demand travels, from US$ 16.4 million in continued to have a significant effect 2006-07 to US$ 160.4 million during on transportation costs.

47 Insurance services, both receipts and payments have witnessed a significant increase Insurance consists of insurance on in recent years reflecting greater exports/imports, premium on life and merger and acquisition activities non-life policies and reinsurance by domestic companies abroad as premium from foreign insurance well as increasing access by Indian companies. Insurance receipts and corporate and banks to international payments are generally associated financial markets. Financial services with the movement in India’s covers financial intermediation merchandise trade. The share of and auxiliary services provided by insurance receipts in total services banks, stock exchanges, factoring receipts remained around 2 per cent enterprises, credit card enterprises of total services exports since the and other enterprises. Both financial early 1990s. services exports and imports were around US$ 3.2 billion in 2007-08. Other Components of Services India ranked at 8th position in terms of financial services exports and In addition to the software 7th position in terms of importer services, business services, travel, of financial services in 2006. transportation and insurance, the Communication services exports other component under trade in have also increased significantly in services includes a host of other recent years, reflecting technological commercial services such as financial, transformation of the domestic communication, construction and economy as well as significant personal, cultural and recreational liberalization of the telecom sector. services. However, financial and India ranked 4th position amongst communication services are the two the world’s top 15 telecommunication major components. Under financial exporters in 2007.

48 6 Labour Migration and Financial Flows

The principles of international factor immigration laws, owing to the movements do not differ in their differences in demographic pressure essential characteristics from those and income levels among countries. underlying international trade in At the same time, spread of education goods and services. Although, there and communication are also facilitating is a fundamental similarity between the progress of labour openness or the trade and factor movements, migration from developing countries there are major differences in the to the developed ones. In some political economy context. A labour- instances, migration may be regarded abundant economy may under some as being permanent, as in the case circumstances import capital-intensive of immigration of Europeans to North goods; under other circumstances America and Australia; and the more it may acquire capital by borrowing recent migration of peoples from the abroad. A capital-abundant country Caribbean, Africa and Asia to Europe may import labour-intensive goods and the United States. At the other or begin employing migrant workers. extreme, some migration is basically A country that is too small to support temporary, as the case with Turkish firms of efficient size may import guest-workers in Germany, Indian goods, where large firms have an workers in Middle East, and Mexican advantage or allow those goods to agricultural workers in California be produced locally by subsidiaries of (Borjas, 1999). foreign firms (Krugman and Obstfeld, 2006). As a follow up of the earlier part According to an estimate by the United of this study, the current chapter deals Nations (UN), migrants account with the realms of labour migration as for about 3 per cent of the world’s a form of factor movements that have population (175 million approximately) an element of openness and have in 2005. The stock of immigrants in impact on growth in terms of financial high income countries increased at flows. about 3 per cent per year from 1990 to 2005, up from the 2.4 per cent in In recent years, the world has the 1980s. The share of migrants in witnessed migration of labour as a high-income countries’ population major feature despite the restrictive almost doubled over the 25 year

49 period (1980-2005) and population the most reliable source of capital for growth (excluding migration) fell from developing countries (World Bank, 0.7 per cent per year in the 1980s to 2006). 0.5 per cent between 1990 and 2005. The migration had visible impact on As compared to other types of population growth in several high- resource inflows, remittance flows income countries (Hanson, 2008). possess several favourable features. One oft-noted characteristic is that, The motivation for such migration is they are more stable than other necessarily complex, depending not private flows that fluctuate in response only on differences in wage rates but to business cycles. This is evident in also on differences in cost of living, the the movement of capital flows before level of public benefits, such as, health and after the Asian financial crisis and care, education, etc., the perceived in times of financial turmoil during ease of economic integration, 2008-09. While other private flows and so on (Ratha and Mohapatra, went through an erratic boom-and- 2009). Though, international labour bust type cycle, remittances continued movements are influenced by to remain steady. A part of this stability forces of supply and demand, it may have arisen from workers’ is constrained by non-economic concern about families back home factors, such as, explicit immigration and been driven by altruistic motives. laws or implicit consular practices. Workers’ remittances provide a kind Hence, the actual outcomes are not of insurance or safety net for residents shaped by economic factors alone in developing countries (Chami et al. but also by non-economic factors 2003). This is especially important for (Nayyar, 1994). As international those bordering on subsistence living labour migration has grown, workers’ in developing countries (Table 6.1). remittances have increased steadily to developing countries since Worker’s remittances are linked to 1995 (Table 6.1). The amounts of labour migration and in more recent remittances that flow to developing times to the economy’s ability to countries have already surpassed locate labour overseas as a trade that of official resource inflows. Since strategy. The per capita income in 1999, workers’ remittances have source countries can, in fact, fall been the second largest resource due to migration and the inward flowing into developing countries remittances resulting from migration with that of foreign direct investment can only partially compensate (FDI) being the first. The relative for the loss of human capital. A importance of official assistance has contrasting perspective is provided been diminishing and is no longer by the New Economics of Labour

50 Table 6.1: World Remittances

(US$ billion)

Items 1995 2000 2001 2002 2003 2004 2005 2006 2007 Inward Remittance flows 101.6 131.5 146.8 169.5 205.6 231.3 262.7 297.1 317.7 All developing countries 57.5 84.5 95.6 115.9 143.6 161.3 191.2 221.3 239.7

Outward Remittance flows 98.6 110.1 118.8 131.3 146.8 166.2 183.4 207.0 218.5 All developing countries 12.4 11.5 13.6 20.4 23.8 30.9 36.0 44.2 52.5

Note: This table reports officially recorded remittances. The true size of remittances including unrecorded flows through formal and informal channels is believed to be larger. Earlier data does not have bifurcations in terms of developing country group-wise. Source: World Bank Immigration Statistics; accessed on December 5, 2009.

Migration (NELM), which considers maintenance; and (ii) deposits in the migration as an integral part of the Non-Resident Indian (NRI) deposits household’s objective to enhance schemes with the banks in India. income levels, investment capacity However, remittances from overseas and acquire insurance against risk Indian include the inflows towards (Stark and Bloom, 1985). In a cyclical family maintenance and the funds perspective, remittance inflows can domestically withdrawn from the be negative during the initial period Non-Resident Indian (NRI) rupee of migration of workers to defray the deposits [NRE(R)A and NRO deposit initial cost of migration to be borne schemes]. by the source household. This phase is followed by increasing flow of According to the IMF’s Balance of remittances as the migrant workers Payments Manual, 5th Edition (1993), start generating and remitting income unrequited transfers represent one- to the home country. Subsequently, sided transactions, i.e., transactions the decision of migrant worker to that do not have any quid pro quo, settle down in the destination country such as, grants, gifts, and migrants’ can reduce the flow of remittances. transfers by way of remittances for family maintenance, repatriation Migration and Financial Flows in of savings and transfer of financial Indian Economy and real resources linked to change in resident status of migrants. The Inflows from overseas Indians private transfers include grants that are mainly in the form of: (i) constitute a very small proportion inward remittance towards family in India. The deposits under NRI

51 deposits schemes with the banks stability. This phenomenon is related in India which can be repatriated to the overall policy approach of is the second category of financial switching the composition of non- flows associated with international resident deposits in favour of labour migration from India. Unlike rupee denominated schemes and remittance inflows that represent realignment of maturity and interest unrequited transfers in the current rates. It needs to be emphasized account, inflows which originate from that, workers’ remittances have Indian migrants overseas take the witnessed the lowest volatility among form of deposits that are repatriable; all components of current receipts, these are entered into the capital after merchandise exports, as well as account on the balance of payments. in comparison with capital flows such as non-resident deposits and foreign Remittances investment (Table 6.2).

The workers’ remittances are linked to In recent years, there is an upsurge labour migration. These remittances in workers’ remittances to developing are recognized as a relatively countries. Remittances provide a reliable source of external finance as safety net to migrant households in compared with capital inflows. Among times of hardship and these flows the components, local withdrawals typically do not suffer from the from NRI deposits showed relative governance problems that may be

Table 6.2: Relative Volatility of Workers’ Remittances (Coefficient of Variation)

1980-81 to 1989-90 1991-92 to 1999-00 2000-01 to 2008-09

Items Mean Value Mean Value Mean Value in US$ billion CV in US$ billion CV in US$ billion CV

Exports 11.0 24.88 29.0 25.76 96.8 52.09 Imports 18.4 17.34 39.4 32.42 142.0 63.05 Invisibles 2.9 43.73 6.7 61.88 39.9 69.18 Foreign Investment 0.2 58.76 3.8 58.29 20.9 85.49 Income 0.5 30.17 1.1 61.09 6.9 66.73 Remittances 2.5 7.33 8.5 41.30 26.1 45.62 NRI Deposits (net) 1.1 73.38 1.3 72.85 2.5 72.2

(Standard Deviation) Note: CV: Coefficient of Variation = Mean ×100 Source: Author’s calculation based on data from HBSIE 2008-09, RBI.

52 associated with official aid flows. the world during 2008 with relative Given the uncertain outlook for stability in such inflows (Table 6.3). global growth, commodity prices and exchange rates, the outlook The macroeconomic impact of for remittances remains uncertain remittance flows is more important during 2009. According to the World in a situation where the departure of Bank (2008), although remittances migrants does not reduce domestic are expected to fall in 2009, they are output and remittances increase unlikely to fall as much as private flows national income. The difference and official aid to developing countries. between increase in income and the Remittances are the largest source of increase in consumption attributable to external financing in many developing remittances would be saved. The rate countries. Also, remittances have of saving may rise or fall depending been less volatile than other sources on the propensities to save out of of foreign exchange earnings in domestic income and foreign income. developing countries (World Bank, The use of savings would influence 2006). A cross-country comparison not only the level but also the mix of of the recent flow of remittances to investment. The consequent increase developing countries reveals that at in investment may lead to a further US$ 52.0 billion, India is the leading increase in output and income through remittance receiving country in the multiplier effect (IMF, 2007).

Table 6.3 : Workers’ Remittances - Top Ten Receiving Countries # (US$ billion)

Country 2001 2002 2003 2004 2005 2006 2007 2008α

India 14.8 16.3 21.9 20.0 23.9 29.3 38.2 52.0 Mexico 8.9 9.8 13.7 16.7 20.3 23.7 24.0 26.3 Nigeria 1.2 1.2 1.0 2.3 3.3 5.4 9.2 10.0 Philippines 6.3 7.2 7.7 8.6 10.7 12.5 13.3 18.6 China 0.9 1.7 3.3 4.6 5.5 6.8 10.7 15.1 Egypt 2.9 2.9 3.0 3.3 5.0 5.3 7.7 9.5 Spain 3.7 4.0 4.7 5.2 5.3 6.1 10.7 11.8 Romania ...... 3.8 5.5 6.8 7.3 Morocco 3.2 2.9 3.6 4.2 4.6 5.5 6.7 7.2 2.1 2.9 3.2 3.6 4.3 5.4 6.6 6.2

#: Ranking is based on the data for 2008; .. : represent negligible amount. α: World Bank Estimates. Source: Balance of Payments Statistics Yearbook (various issues), IMF

53 The demand for semi-skilled/unskilled to India stood at about 60 per cent labour from Middle East started in in 1999-2000 declined to around 42 mid-1970s and peaked in the early per cent in 2005-06. Subsequently, 1980s, which was followed by the however, its share increased second wave during mid-1990s led and reached 50 per cent during by information technology boom. 2008-09. Thus, the migration pattern changed from unskilled/semi-skilled to highly Private Transfers skilled workers to the United States. The pattern of migration and their skill The oil shocks shifted substantial content has in fact determined the resources towards oil exporting pattern of remittance inflows to India. countries, which engendered investment and employment A significant share of remittances to opportunities in such countries. At the India continues to be contributed by same time, a number of developing inflows from the oil exporting countries countries with migrants in oil exporting of Middle East. Thus, the behaviour countries, attempted to mobilize the of is likely to be savings of their migrant workers by influenced by growth patterns in these offering special non-resident deposit countries, best represented in the schemes with incentives, such as, form of oil prices. Another important higher interest rate, incentives and source of remittance inflows to India is exchange guarantees. Such schemes the US. In the Indian context, a major have been successful in countries part of funds remitted by expatriate with large expatriate population, such workers is channelized through as, Turkey, , Egypt, Lebanon, inflows to non-resident deposits in the Greece, Spain, India, Pakistan, Sri form of local withdrawals. Measures Lanka, Thailand and some East taken in the past to foster the use European countries. Most of these of formal channels for remitting countries instituted deposit schemes workers’ remittances to India include denominated in both foreign currency the adoption of a market determined as well as the local currency. In most exchange rate, current account cases, the principal of deposits along convertibility and speedier process with the accrued interest were freely of remittance transfers through bank repatriable. branches. A major part of outflows from NRI The share of remittances repatriated deposits is in the form of local by the overseas Indians for family withdrawals, which are not actually maintenance, which contributed a repatriated out of the country but significant share of remittance flows utilized domestically, making them

54 equivalent of unilateral transfers deposits. The share of rupee deposits without any quid pro quo. Such local in total outstanding NRI deposits withdrawals/ redemptions from NRI increased from 28 per cent at end deposits cease to exist as liability in March 1991 to 68 per cent at end the capital account of the balance of March 2009. This shift towards payments and assume the form of domestic currency deposits can be private transfers, which is included in attributed to a number of factors the current account of the balance of such as the withdrawal of exchange payments. guarantees on foreign currency deposits to banks, the relatively higher In the Indian case, NRIs were allowed returns on rupee deposits and the to open and maintain bank accounts growing home bias in NRI deposits. - both the Rupee and the foreign currency denominated – in India Although the average contribution under special deposit schemes in of local withdrawals to total private the mid-1970s. In the 1980s, investor transfers declined from 50 per cent in preference clearly shifted in favour the first half of the 1990s to only 29 of foreign currency denominated per cent in the latter half, a reversal in deposits partly due to the interest this trend has been witnessed in the rate differentials and also due to the recent period. Since 2003-04, there exchange guarantees. The deposits has been relatively rising significance of NRIs proved to be a stable source of the local withdrawal route as a of support to India’s BoP up to 1990. conduit to remittance inflows to India. However, the external payments The share of local withdrawals in the difficulties of 1990-91 demonstrated total private transfers increased to 45 the vulnerability associated with per cent during 2008-09. The rising such flows. Consequently, since the trend in local withdrawals could be 1990s, the policy with respect to the attributed to higher income levels NRI deposits has been to retain the of migrants in the recent past as attractiveness while at the same well as better domestic investment time reducing the effective cost of opportunities on the back of robust borrowings and aligning the overall growth and relatively benign inflation interest rate structure. In the recent conditions. Even under the current period, such deposits have declined global financial and economic crisis, in their significance as an important the gross inflows to NRI deposits and source of capital inflows. the steady trend in local withdrawals indicate that remittance inflows may Another key aspect of NRI deposits be sustainable over the medium has been a structural shift from foreign term. It may be noted that a major currency to rupee denominated part of outflows from NRI deposits

55 (constituting about 85 per cent, on Nominated agencies / banks were an average) is in the form of local permitted to import gold under different withdrawals from NRI deposits. arrangements such as suppliers/ However, during 2008-09, the share buyers credit basis, consignment declined significantly to around 60 basis and outright purchase. Thus, per cent reflecting higher outflows after 1997-98 gold imports through under the FCNR (B) accounts. passenger baggage by the returning Indians lost its importance as a Under the liberalized policy for conduit of remittance flows. In recent imports, the Government of India years, the inflows under this channel permitted import of gold by certain have also increased, albeit with nominated agencies for sale to some moderation in 2008-09. The jewellery manufacturers, exporters, money repatriated is predominantly NRIs, holders of special import donations to charitable/religious licenses and domestic users. institutions/NGOs.

56 7 Exports and Economic Growth: An Econometric Analysis

Economists across the board have The term ELG hypothesis is seldom agreed with the opinion that the explicitly defined in the economic process of economic growth is an literature. Most of the analysts invoke extremely complex phenomenon. It some notion of multiplier effect, depends on many variables, such as, whereby, an initial favourable change capital accumulation (both physical in the export sector sets in motion and human), openness of trade forces leading to expansion of output. and capital accounts, price stability, Kindleberger (1962) defines trade as political situation, income distribution, a leading sector, when “exports rise and even on geographical factors. and contribute an incentive to the Export-led growth (ELG) hypothesis establishment and expansion of other postulates that export expansion activities”. Similarly, Meier (1976) is one of the prime determinants of explained that the export sector acts economic growth of an economy. “as a key propulsive sector, propelling Growth can be attained not only by the rest of the economy forward”. increasing the amounts of labour and capital within the economy, as the Since 1970s, a series of empirical classical economists postulate, but studies have been conducted on also through foreign trade multipliers. nexus between exports and output According to proponents of ELG growth. The key issues involved hypothesis, exports can perform the in earlier studies related to both function of an engine of growth. The the analytical and econometrics association between exports and techniques used. In fact, the evidence economic growth is often attributed available is inconclusive and this to the positive externalities for the situation explains to some extent domestic economy arising from why this debate still persists in the participation in world markets, for economic literature. According to instance, from the reallocation of Feder (1982), earlier studies could existing resources, economies of have been misleading in the sense scale and various labour specialization that they advocated export expansion effects (Bhagwati, 1978; Krueger, in an indiscriminate way. Added to 1978). this debate is the issue of causality

57 between exports and growth. In other Correction Model (ECM) to correct words, the debate hovers around for short-run fluctuation that may take whether growth is ‘export-led’ or place in the course of attainment of exports are ‘growth-driven’. This long-run equilibrium. question is important, because the determination of the causal pattern Exports and Growth Nexus between export and economic growth has important implications Objectives, Hypothesis and for policy-makers’ decision about the Methodology appropriate growth and development strategies. Our basic objective is to examine the relationship between export growth The lack of consistent causal pattern and economic growth and test the between exports and output growth in ELG hypothesis in the context of the earlier studies may be due to one Indian economy. At the same time, or more of the following reasons. The we have also examined whether the models in those studies might not be growth driven exports hypothesis properly specified because of: (i) the finds empirical validity during the omission of an important variable, period of this study. The analysis has such as, capital and world output three distinctive features differentiated growth; (ii) the traditional Granger from earlier empirical studies: (i) It causality F-test in a regression context covers the period 1970-71 to 2008- may not be valid if the variables in the 09 and hence includes the most system are integrated, since the test recent data (of annual frequency) and statistic does not have a standard includes services exports besides distribution (Toda and Philips, 1993); the merchandise exports (on BoP and (iii) the temporal aggregation basis); (ii) the analysis is carried out issues from use of annual time series by focusing on India, instead of cross- may yield erroneous causation results country comparisons; (iii) the study has (Bahmani-Oskooee and Alse, 1993). examined empirically both the short Taking account of this, we have and long-run relationships between included both the gross domestic export growth and GDP growth by capital formation and world GDP so applying following methodologies: as to incorporate effects of these variables on growth in our analysis. (i) Stationarity Tests; As regards to Granger causality (ii) Cointegration Test; test, we have strengthened our (iii) Error Correction Models (ECM) analysis by testing Granger causality (iv) Johansen’s Vector Error in Johansen’s VAR framework. Correction Model (VECM) in VAR In addition, we have used Error (v) Granger causality test, and

58 (vi) Block Exogeneity/Granger has been introduced with effect Causality in VAR from December 2005 (published in monthly RBI Bulletin), which we The description of methodology is have incorporated in our analysis provided in Appendix. basically to track the competitiveness of India’s exports. The world GDP Data Used in Empirical Analysis data at constant US dollar terms are compiled from the online database of Data used in empirical analysis has World Development Indicator of the been obtained from ‘Handbook of World Bank. Statistics on the Indian Economy 2008- 09’ (HBSIE). The data for the current The data set used for empirical empirical analysis pertaining to the investigation regarding the nexus period 1970-71 to 2008-09 compiled between exports and growth is that basically from HBSIE, partly owing of annual frequency and covers the to ease of availability at our end, and period 1970-71 to 2008-09. All the partly for using exports of both goods series are subjected to logarithmic and services. The time series data transformation. The data description on ‘GDP at factor cost at constant and their specifications in empirical prices’ and gross domestic capital analysis are as follows: formation (GDCF) are compiled from the ‘Central Statistical Organization’ l RGDP: GDP at factor cost in of the Government of India (Base Rupees Crore; (at constant Year: 1999-2000), the same is also 1999-2000 prices). published in HBSIE for the period l EXGD: Exports of Goods in US$ 1970-71 to 2008-09. The time series billion; BoP basis. data on real effective exchange rate l EXGS: Exports of Goods and (REER) are calculated from the RBI’s Services in US$ billion; BoP HBSIE based on splicing technique to basis. fix to a particular base year. It may be l GDCF: Gross Domestic Capital mentioned that the data on REER up Formation in Rupees Crore; (at to 1992 are based on official exchange constant 1999-2000 prices) rates and data from 1993 onwards are l REER: Real Effective Exchange based on Foreign Exchange Dealers’ Rate index; 6-Currency trade- Association of India (FEDAI) indicative based weight (Base 1993- rates. REER indices are recalculated 94=100) from April 1993 onwards using the l WGDP: World GDP at constant new wholesale price index (Base: US$ billion. 1993-94=100). A new 6-currency REER series (Trade-based weights) All the above variables are subjected

59 to logarithmic transformations. then the series in levels is an I(1) The prefix ‘L’ stands for the natural process”. logarithm of the respective time series variables, ‘R’ stands for the residuals In case of all the variables we have of the respective regression, and ‘D’ tested through ADF, PP, and KPSS denotes differencing of the relevant (Table 7.2), the same conclusion time series. It is important to mention derived – variables in log levels are I(1) that, all econometrics exercises have processes. The results of the unit root been carried out by using EVIWS 5.1 tests performed corroborate previous by QMS software. findings in the empirical literature, i.e., as with most macroeconomic series, Empirical Results on the Unit Root the variables under consideration in Tests this study appear to be non-stationary in log levels. It is only in their first It may be mentioned at the outset differences in logs that these series that all data series have been exhibit stationarity. converted into log form and Table 7.1 summarizes the results for Emprical Results of Cointegration unit root tests on log levels and in first Tests differences of logs of the respective variables (with maximum lag length The contribution of Engle and Granger of 3 as indicated in equation (1987) was to demonstrate that

∆Yt=α0+δYt-1+ut. For the ADF tests, although the individual series could the lag length is based on the Akaike be non-stationary, i.e. they are I(1), a Information Criterion (AIC), while linear combination of them might be for the PP test bandwidth selection stationary, i.e., I(0). Consequently, is based on Newey-West. It can be this section of the empirical study ascertained from the test statistics investigates whether the series under that all variables are found to be non- scrutiny are cointegrated, so that a stationary at log levels (Table 7.1). The well defined linear relationship exists hypotheses of presence of unit roots among them in the long run. We in the case of these series cannot be have tested the relationship between rejected. Under first differences the exports (export of goods and ‘export hypotheses of unit roots in the series of goods and services’) and Real GDP examined are rejected, which means with following regression, the result of that the series under consideration which is presented in Screenshot 1. are integrated at an order of 0, i.e. I(0), or stationary processes. It can Regression Equation:

be stated that, “if the first difference of (i) LRGDP=α+βLEXGD+ut (7.1)

a series is stationary or I(0) process, (ii) LRGDP=α+βLEXGS+ut (7.2)

60 Table 7.1: ADF and PP Unit Root Tests for the Data Series (1970-71 to 2008-09)

Series Type Test- T-critical T-critical T-critical Result Conclusion Statistics at 1% at 5% at 10%

LRGDP ADF 3.4403 -3.6210 -2.9434 -2.6103 Don’t Reject Ho LRGDP~I(1) PP 4.3534 -3.6156 -2.9411 -2.6091 Don’t Reject Ho LRGDP~I(1)

D(LRGDP,1) ADF -5.8287*** -3.6210 -2.9434 -2.6103 Reject Ho DLRGDP~I(0) PP -5.8414*** -3.6210 -2.9434 -2.6103 Reject Ho DLRGDP~I(0)

EXGD ADF -0.1610 -3.6210 -2.9434 -2.6103 Don’t Reject Ho LEXGD~I(1) PP 0.0549 -3.6156 -2.9411 -2.6091 Don’t Reject Ho LEXGD~I(1)

D(LEXGD,1) ADF -3.8415*** -3.6210 -2.9434 -2.6103 Reject Ho DLEXGD~I(0) PP -3.8415*** -3.6210 -2.9434 -2.6103 Reject Ho DLEXGD~I(0)

LEXGS ADF -0.0966 -3.6210 -2.9434 -2.6103 Don’t Reject Ho LEXGS~I(1) PP 0.2685 -3.6156 -2.9411 -2.6091 Don’t Reject Ho LEXGS~I(1)

D(LEXGS,1) ADF -3.4024** -3.6210 -2.9434 -2.6103 Reject Ho DLEXGS~I(0) PP -3.4100** -3.6210 -2.9434 -2.6103 Reject Ho DLEXGS~I(0)

LGDCF ADF 1.4303 -3.6156 -2.9411 -2.6091 Don’t Reject Ho LGDCF~I(1) PP 3.5096 -3.6156 -2.9411 -2.6091 Don’t Reject Ho LGDCF~I(1)

D(LGDCF,1) ADF -6.6112*** -3.6210 -2.9434 -2.6103 Reject Ho DLGDCF~I(0) PP -6.5933*** -3.6210 -2.9434 -2.6103 Reject Ho DLGDCF~I(0)

LREER ADF -1.5860 -3.6156 -2.9411 -2.6091 Don’t Reject Ho LREER~I(1) PP -1.5688 -3.6156 -2.9411 -2.6091 Don’t Reject Ho LREER~I(1)

D(LREER,1) ADF -5.2706*** -3.6210 -2.9434 -2.6103 Reject Ho DLREER~I(0) PP -5.2711*** -3.6210 -2.9434 -2.6103 Reject Ho DLREER~I(0)

LWGDP ADF 0.8137 -3.6156 -2.9411 -2.6091 Don’t Reject Ho LWGDP~I(1) PP 0.595 9 -3.6156 -2.9411 -2.6091 Don’t Reject Ho LWGDP~I(1)

D(LWGDP,1) ADF -4.9607*** -3.6210 -2.9434 -2.6103 Reject Ho DLWGDP~I(0) PP -4.9823*** -3.6210 -2.9434 -2.6103 Reject Ho DLWGDP~I(0)

“Ho: The series under consideration has a unit root”; “H1: The series under consideration is stationary”. Note: L stands for Logarithm (natural) of variables in levels; D stands for Variables in first differences. The maximum number of lags included in Augmented Dickey Fuller (ADF) tests is 3. Both the tests include a constant (intercept). *** Significant at a 1% level. ** Significant at a 5% level. * Significant at a 10% level.

61 Table 7.2: KPSS Stationarity Tests (1970-71 to 2008-09)

Series LM- Asymptotic Asymptotic Asymptotic Statistics critical critical critical Result Conclusion values at 1% values at 5% values at 10%

LRGDP 0.7595*** 0.7390 0.4630 0.3470 Reject Ho LRGDP is not I(0)

LEXGD 0.7701*** 0.7390 0.4630 0.3470 Reject Ho LEXGD is not I(0)

LEXGS 0.7660*** 0.7390 0.4630 0.3470 Reject Ho LEXGS is not I(0)

LGDCF 0.7563*** 0.7390 0.4630 0.3470 Reject Ho LGDCF is not I(0)

LREER 0.6908** 0.7390 0.4630 0.3470 Reject Ho LREER is not I(0)

LWGDP 0.6752** 0.7390 0.4630 0.3470 Reject Ho LWGDP is not I(0)

“Ho: The series under consideration is I(0) or stationary”; “H1: The series under consideration is non- stationary”. Note: L stands for Logarithm (natural) of variables in levels. The test includes a constant (intercept). Bandwidth selection is based on Newey-West. *** Significant at a 1% level. ** Significant at a 5% level. * Significant at a 10% level.

Screenshot 1A: OLS Regression Result

Dependent Variable: LRGDP Sample: 1970-71 to 2008-09; No. of Observations: 39

Variable Coefficient t-Statistic C 9.1115 69.1888 LEXGD 0.4897 36.5009

R-squared: 0.9730 S.E. of regression: 0.0987 Durbin-Watson stat: 0.2721 F-statistic: 1332.32

62 Screenshot 1B: OLS Regression Result

Dependent Variable: LRGDP Sample: 1970-71 to 2008-09; No. of Observations: 39

Variable Coefficient t-Statistic C 9.2943 70.4304 LEXGS 0.4586 35.0490 R-squared: 0.9708 S.E. of regression: 0.1027 Durbin-Watson stat: 0.2139 F-statistic: 1228.43

Screenshot 2A: ADF Test Result

“Null Hypothesis: R-LRGDP-LEXGD has a unit root” Exogenous: Constant Lag Length: 3 (Automatic based on AIC, MAXLAG=3) t-Statistic Prob.* Augmented Dickey-Fuller test statistic - 2.8336 0.0639 Test critical values: 1% level -3.6329 5% level -2.9484 10% level -2.6129 *MacKinnon (1996) one-sided p-values. Screenshot 2B: ADF Test Result

“Null Hypothesis: R-LRGDP-LEXGS has a unit root” Exogenous: Constant Lag Length: 3 (Automatic based on AIC, MAXLAG=3) t-Statistic Prob.* Augmented Dickey-Fuller test statistic -2.6676 0.0890 Test critical values: 1% level -3.6156 5% level -2.9412 10% level -2.6091

*MacKinnon (1996) one-sided p-values.

63 The residuals of the regression The presence of a cointegrating equations (7.1) and (7.2) are tested relationship forms the basis of error for the Unit Roots. The results of correction specification. One can treat ADF statistics indicate that, the error term as equilibrium error. null hypothesis of ‘no cointegration’ between GDP and exports is rejected Error Correction Model: Empirical at 10 per cent level (Screenshot 2). Estimates

In the main case under scrutiny: The equation for testing the error the ELG hypothesis represented correction model is: by cointegration sub-tests are able

to find evidence in favour of long DLRGDP=β2 DLEXGD+β2ut-1+εt (7.3)

run relationship between real GDP DLRGDP=β2 DLEXGS+β2 ut-1+εt (7.4) and exports independently of other variables in case of the Indian where D as usual denotes the first economy. difference operator. ECM equation states that DLRGDPdepend on When variables are cointegrated, the DLEXGDand also on the equilibrium

OLS estimates from the cointegrating error term ut-1, i.e., one period lagged regression will be super consistent, value of the error from the cointegrating

implying that the estimates approach regression. The absolute value of β2 their true parameters at a faster rate decides how quickly the equilibrium than if the variables were stationary is restored. The result is presented in and not cointegrated (Gujarati, 2003). Screenshot 3.

Screenshot 3A: Error Correction Model Result

Dependent Variable: DLRGDP Sample (adjusted): 1971-72 to 2008-09 No. of observations: 38 after adjustments Variable Coefficient t-Statistic Prob. DLEXGD 0.3155 7.1211 0.0000 R-LRGDP-LEXGD(-1) -0.1739 -2.6035 0.0133 R-squared: -0.6237 S.E. of regression: 0.0391 Durbin-Watson stat: 1.8183

64 Screenshot 3B: Error Correction Model Result

Dependent Variable: DLRGDP Sample (adjusted): 1971-72 to 2008-09 No. of observations: 38 after adjustments Variable Coefficient t-Statistic Prob. DLEXGS 0.3096 7.6026 0.0000 R-LRGDP-LEXGS(-1) -0.1443 -2.3524 0.0242 R-squared: -0.505251 S.E. of regression: 0.037637 Durbin-Watson stat: 1.797727

In both the above cases, the Johansen Cointegrating Systems coefficients of the error correction based on VAR term have the desired sign (negative). About 17 per cent of disequilibrium The Johansen procedure is a multiple is corrected every year in case of equation method that permits the cointegration between ‘exports of identification of the cointegration goods and GDP’; and about 14 per space, which enables the testing of cent disequilibrium is corrected every how many cointegration relationships year in case of ‘goods and services’. exist. LRGDP, LEXGS, LGDCF, The significance of the error correction LREER and LWGDP are tested under term at 5% level confirms that exports Johansen’s technique and results and GDP are cointegrated in the long displayed in Screenshot 4. run and error correction takes place in the short run. The trace test in Screenshot 4 indicates that the test statistics of One of the major drawbacks of 124.02 considerably exceeds the Engle-Granger approach is that it can critical value 69.82 and so the null of estimate only up to one cointegrating no cointegrating vectors is rejected. relationship between the variables. This continues, until we do not But in other situations, if there are reject the null hypothesis of at most more variables, there could potentially 2 cointegrating vectors at the 5% be more than one linearly independent level. The max test also confirms this cointegrating relationship. Thus it is result. appropriate to examine the issue of cointegration within the Johansen’s Suppose we want to test the hypothesis VAR framework. that the LREER and LWGDP do not

65 Screenshot 4A: Johansen Cointegration Test Result

Sample (adjusted): 1974-75 to 2008-09 No. of observations: 35 after adjustments Trend assumption: Linear deterministic trend Series: LRGDP LEXGD LGDCF LREER LWGDP Lags interval (in first differences): 1 to 3

Unrestricted Cointegration Rank Test (Trace)

Hypothesized Eigenvalue Trace 0.05 Prob.** No. of CE(s) Statistic Critical Value

None * 0.748950 107.3184 69.81889 0.0000 At most 1 * 0.497694 58.94472 47.85613 0.0033 At most 2 * 0.433178 34.84559 29.79707 0.0120 At most 3 0.331463 14.97573 15.49471 0.0597 At most 4 0.024900 0.882533 3.841466 0.3475

Trace test indicates 3 cointegrating eqn(s) at the 0.05 level * denotes rejection of the hypothesis at the 0.05 level **MacKinnon-Haug-Michelis (1999) p-values

Unrestricted Cointegration Rank Test (Maximum Eigenvalue)

Hypothesized Eigenvalue Max-Eigen 0.05 No. of CE(s) Statistic Critical Value Prob.**

None * 0.748950 48.37365 33.87687 0.0005 At most 1* 0.497694 24.09913 27.58434 0.1313 At most 2* 0.433178 19.86985 21.13162 0.0743 At most 3 0.331463 14.09320 14.26460 0.0532 At most 4 0.024900 0.882533 3.841466 0.3475

Max-eigenvalue test indicates 3 cointegrating eqn(s) at the 0.05 level * denotes rejection of the hypothesis at the 0.05 level **MacKinnon-Haug-Michelis (1999) p-values

66 Screenshot 4B: Johansen Cointegration Test Result

Sample (adjusted): 1974-75 to 2008-09 No. of observations: 35 after adjustments Trend assumption: Linear deterministic trend Series: LRGDP LEXGS LGDCF LREER LWGDP Lags interval (in first differences): 1 to 3

Unrestricted Cointegration Rank Test (Trace)

Hypothesized Eigenvalue Trace Statistic 0.05 Critical Prob.** No. of CE(s) Value None * 0.8019 124.0243 69.8189 0.0000 At most 1 * 0.5780 67.3487 47.8561 0.0003 At most 2 * 0.4833 37.1484 29.7971 0.0059 At most 3 0.3028 14.0348 15.4947 0.0820 At most 4 0.0393 1.40617 3.8415 0.2357 Trace test indicates 3 cointegrating eqn(s) at the 0.05 level * denotes rejection of the hypothesis at the 0.05 level **MacKinnon-Haug-Michelis (1999) p-values

Unrestricted Cointegration Rank Test (Maximum Eigenvalue)

Hypothesized Eigenvalue Max- 0.05 Critical No. of CE(s) Eigen Statistic Value Prob.** None * 0.8019 56.6756 33.8769 0.0000 At most 1 * 0.5780 30.2003 27.5843 0.0225 At most 2 * 0.4833 23.1136 21.1316 0.0260 At most 3 0.3029 12.6287 14.2646 0.0892 At most 4 0.0394 1.4062 3.8415 0.2357 Max-eigenvalue test indicates 3 cointegrating eqn(s) at the 0.05 level * denotes rejection of the hypothesis at the 0.05 level **MacKinnon-Haug-Michelis (1999) p-values

67 appear in the cointegrating equation. that the variables are cointegrated We could test this by specifying the implies that there is some adjustment restriction that their parameters process in the short run, preventing are zero. In this case there are two the errors in the long run relationship restrictions, so that the test statistics from becoming larger and larger. follows a Chi-square distribution with 2 degrees of freedom. The p-value for Granger Causality Test: Empirical the test is 0.0004, so the restrictions Finding are not supported by the data and we could conclude that the cointegrating The Null Hypothesis (Ho) in each case relationship must also include the is: the variable under consideration LREER and LWGDP (Screenshot 5). does not Granger cause the other The result thus demonstrate that the variable. considered variables are cointegrated in that there is a long-run equilibrium The result in Table 7.3 suggest that relationship among them (these the direction of causality is from export series cannot move too far away growth to GDP growth; since the from each other or they cannot move estimated F-statistics is significant, independently of each other). The fact at the 5% level up to 4 lags, at the

Screenshot 5A: Vector Error Screenshot 5B: Vector Error Correction Estimates Correction Estimates

Sample (adjusted): 1974-75 to 2008-09 Sample (adjusted): 1974-75 to 2008-09 No. of observations: 35 after adjustments No. of observations: 35 after adjustments Cointegration Restrictions: Cointegration Restrictions: B(1,4)=0, B(1,5)=0 B(1,4)=0, B(1,5)=0 Convergence achieved after 10 Convergence achieved after 10 iterations. iterations. Not all cointegrating vectors are identified Not all cointegrating vectors are identified LR test for binding restrictions (rank = 1): LR test for binding restrictions (rank = 1): Chi-square(2): 15.55530 Chi-square(2): 16.80826 Probability: 0.000419 Probability: 0.000224 Cointegrating Eq: CointEq1 Cointegrating Eq: CointEq1 LRGDP(-1) 5.992756 LRGDP(-1) 2.293244 LEXGS(-1) 5.299681 LEXGD(-1) 6.076050 LGDCF(-1) -12.08954 LGDCF(-1) -14.34167 LREER(-1) 0.000000 LREER(-1) 0.000000 LWGDP(-1) 0.000000 LWGDP(-1) 0.000000 C 59.60599 C 42.55284

68 Table 7.3A: Granger Causality Test between DLRGDP and DLEXGD

Direction of Causality No. of Lags F-Statistic Probability Decision Regarding Ho

Exports → GDP 1 6.95666 0.01250 Rejected GDP → Exports 1 0.69292 0.41098 Not Rejected Exports → GDP 2 3.62001 0.03864 Rejected GDP → Exports 2 1.69715 0.19979 Not Rejected Exports → GDP 3 3.34858 0.03308 Rejected GDP → Exports 3 1.80044 0.17001 Not Rejected Exports → GDP 4 3.33842 0.02542 Rejected GDP → Exports 4 0.88408 0.48770 Not Rejected Exports → GDP 5 2.39229 0.07073 Rejected GDP → Exports 5 0.81603 0.55113 Not Rejected Exports → GDP 6 1.87782 0.13730 Not Rejected GDP → Exports 6 1.07856 0.40961 Not Rejected

Note: Variables are in Δlogs.

Table 7.3B: Granger Causality Test between DLRGDP and DLEXGS

Direction of Causality No. of Lags F-Statistic Probability Decision Regarding Ho

Exports → GDP 1 8.58354 0.00602 Rejected GDP → Exports 1 0.10059 0.75306 Not Rejected Exports → GDP 2 5.14572 0.01176 Rejected GDP → Exports 2 0.63338 0.53753 Not Rejected Exports → GDP 3 4.06956 0.01614 Rejected GDP → Exports 3 0.70741 0.55568 Not Rejected Exports → GDP 4 4.13654 0.01045 Rejected GDP → Exports 4 0.32326 0.85968 Not Rejected Exports → GDP 5 3.31053 0.02225 Rejected GDP → Exports 5 0.40970 0.83686 Not Rejected Exports → GDP 6 2.75318 0.04251 Rejected GDP → Exports 6 0.78254 0.59400 Not Rejected

Note: Variables are in Δlogs.

69 10% level at lag 5. On the other Block Exogeneity/Granger hand, there is no “reverse causation” Causality in VAR: Empirical from GDP growth to export growth, Estimates since the F-statistics is statistically insignificant. It can be assessed The first step in the construction of any that, at lag 6, there is no statistically VAR model, once the variables that discernible relationship between the will enter the VAR have been decided, two variables. This reinforces the will be to determine the appropriate point made earlier that the outcome lag length. This can be achieved in a of the Granger test is sensitive to variety of ways, but one of the easiest the number of lags introduced in the is to employ a multivariate information criterion . E Views model. In the next Table, we have (Screenshot 6) Vession 5 presents the values of presented the Granger causality various information criteria and other between GDP and Exports of Goods methods for determining the lag order. and services. This indicates that one In this case, the Schwartz criteria can use exports to better predict the select a zero order as optimal, while GDP than simply by the past history Akaike’s and Hannan-Quinn criterion of GDP. chooses VAR(5).

Screenshot 6: VAR Lag Order Selection Criteria

Endogenous variables: DLRGDP, DLEXGS, DLGDCF, DLREER, DLWGDP Exogenous variables: Constant Sample: 1970-71 to 2008-09 Included observations: 33

Lag LogL LR FPE AIC SC HQ

0 232.4803 NA 7.08e-13 -13.78668 -13.55994* -13.71039 1 268.5359 59.00008* 3.70e-13 -14.45672 -13.09626 -13.99897 2 289.1497 27.48505 5.40e-13 -14.19089 -11.69671 -13.35167 3 311.7413 23.27616 8.53e-13 -14.04492 -10.41703 -12.82425 4 361.5677 36.23744 3.86e-13 -15.54956 -10.78794 -13.94742 5 421.2525 25.32083 2.39e-13* -17.65167* -11.75634 -15.66807*

* indicates lag order selected by the criterion LR: sequential modified LR test statistic (each test at 5% level) FPE: Final prediction error AIC: Akaike information criterion SC: Schwarz information criterion HQ: Hannan-Quinn information criterion

70 Screenshot 7: VAR Granger Causality/Block Exogeneity Wald Tests

Sample period: 1970-71 to 2008-09 Included observations: 36

Dependent variable: DLRGDP

Excluded Chi-sq df Prob.

DLEXGS 6.571840 2 0.0374 DLGDCF 1.930558 2 0.3809 DLREER 1.145787 2 0.5639 DLWGDP 0.570733 2 0.7517 All 13.05493 8 0.1100

Dependent variable: DLEXGS

DLRGDP 4.335449 2 0.1144 DLGDCF 1.992873 2 0.3692 DLREER 0.243723 2 0.8853 DLWGDP 5.318795 2 0.0700 All 10.36116 8 0.2406

Dependent variable: DLGDCF

DLRGDP 4.388943 2 0.1114 DLEXGS 4.610782 2 0.0997 DLREER 2.158529 2 0.3398 DLWGDP 0.090009 2 0.9560 All 9.672450 8 0.2888

Dependent variable: DLREER

DLRGDP 0.850660 2 0.6536 DLEXGS 0.993505 2 0.6085 DLGDCF 2.986425 2 0.2246 DLWGDP 1.981283 2 0.3713 All 6.374739 8 0.6053

Dependent variable: DLWGDP

DLRGDP 10.70434 2 0.0047 DLEXGS 3.213572 2 0.2005 DLGDCF 1.462160 2 0.4814 DLREER 2.041921 2 0.3602 All 25.79547 8 0.0011

71 Following the lag order selection to GDP; ‘significant at 10% from criteria, we have tested Granger exports to GDCF’ but no causality in causality/Block Exogeneity in VAR the opposite direction (Screenshot framework. The result indicates 7). The result can be interpreted as lead-lag relationship between exports and GDP and Granger movements in the exports of goods causality is significant at 5% level and services appear to lead that of from exports of Goods and Services GDP in case of Indian economy.

72 8 Nexus Between Capital Flows AND Growth

Our objective in this chapter is to Loans, Banking Capital and Other examine the importance of capital Capital (including Rupee Debt inflows as a determinant of economic Service) in US$ terms; growth in Indian economy. As l ECAP: Excess Capital Flow over capital inflows have mainly gone Current Account Balance in US$ to non-agricultural sector, we try to terms; examine the hypothesis: net capital inflows (capital flows henceforth) l GDCF: Gross Domestic Capital have contributed to growth in non- Formation (in Rupees Crore, at agricultural GDP. The data set is constant base prices of 1999- annual and covers the period from 2000); 1970-71 to 2008-09. The same l MONEY: Reserve Money (M0) methodology is adapted here, as was in Chapter 7, and its specification is NFEA: Net Foreign Exchange provided in Appendix. Assets of the RBI (in Rupees crore),

In the empirical analysis of nexus l WPI: Wholesale Price Index (Base between capital flows and growth, the 1993-94=100) dependent variable is Real GDP net l REER: Index of Real Effective of ‘agriculture and allied activities’, Exchange Rate (6 country trade- i.e., non-agricultural GDP (NAGDP). based weights; 1993-94=100) The choice of dependent variable NAGDP is dictated by the fact that The above variables are subjected capital inflows basically absorbed in to logarithmic transformations except industrial and services sectors. The the excess capital flow over current following explanatory/independent account balance, which includes variables are selected largely on the negative values in the series. The basis of literature survey. The data prefix ‘L’ stands for the natural description and their specifications in logarithm of the respective time empirical analysis are as follows. series, ‘R’ stands for the residuals of the respective regression, and ‘D’ l CAPFL: Net Capital Flows; denotes differencing of the relevant consisting Foreign Investment, time series.

73 Table 8.1: ADF Unit Root Test (1970-71 to 2008-09) Series Type Test- T-critical T-critical T-critical Result Conclusion Statistics at 1% at 5% at 10%

LCAPFL ADF -0.8297 -3.6394 -2.9511 -2.6143 Don’t LCAPFL~I(1) Reject Ho D(LCAPFL,1) ADF -5.9132*** -3.6537 -2.9571 -2.6174 Reject Ho DLCAPFL~I(0) LECAP ADF 3.4246 -3.6329 -2.9484 -2.6129 Don’t LECAP~I(1) Reject Ho D(LECAP,1) ADF -6.8367*** -3.6463 -2.9540 -2.6158 Reject Ho DLECAP~I(0) LGDCF ADF 1.4303 -3.6156 -2.9411 -2.6091 Don’t LGDCF~I(1) Reject Ho D(LGDCF,1) ADF -6.6112*** -3.6210 -2.9434 -2.6103 Reject Ho DLGDCF~I(0) LMONEY ADF -0.0008 -3.6156 -2.9411 -2.6091 Don’t LMONEY~I(1) Reject Ho D(LMONEY,1) ADF -5.6381*** -3.6210 -2.9434 -2.6103 Reject Ho DLMONEY~I(0) LNAGDP ADF 5.3519 -3.6156 -2.9411 -2.6091 Don’t LNAGDP~I(1) Reject Ho D(LNAGDP,1) ADF -3.2715** -3.6210 -2.9434 -2.6103 Reject Ho DLNAGDP~I(0) LNFEA ADF -0.2719 -3.6210 -2.9434 -2.6103 Don’t LNFEA~I(1) Reject Ho D(LNFEA,1) ADF -4.2639*** -3.6210 -2.9434 -2.6103 Reject Ho DLNFEA~I(0) LREER ADF -1.5860 -3.6156 -2.9411 -2.6091 Don’t LREER~I(1) Reject Ho D(LREER,1) ADF -5.2706*** -3.6210 -2.9434 -2.6103 Reject Ho DLREER~I(0) LWPI ADF -2.0082 -3.6156 -2.9411 -2.6091 Don’t LWPI~I(1) Reject Ho D(LWPI,1) ADF -4.3575*** -3.6210 -2.9434 -2.6103 Reject Ho DLWPI~I(0)

“Ho: The series under consideration has a unit root”; “H1: The series under consideration is stationary”. Note: L stands for Logarithm (natural) of variables in levels; D stands for Variables in respective differences. The maximum number of lags included in Augmented Dickey Fuller (ADF) tests is 3. The tests include a constant (intercept). *** Significant at a 1% level. ** Significant at a 5% level. * Significant at a 10% level.

74 Empirical Estimates and Analysis The result is provided in Table 8.1. of Results All the variables are found to be non- stationary at log levels and become In order to pre-empt the possibility stationary in its first difference level - of running a spurious regression, we the chosen variables are found to be / first test the time-series properties of (1) at log levels. the variables used in this empirical analyis. Time series univariate The equation we have tested is: properties were examined using ADF LNAGDP=α+βLCAPFL+ut (8.1) test (∆Yt=α0+δYt-1+ut ) having the maximum lag length of 3 based on The result of OLS regression is the Akaike Information Criterion (AIC). displayed in Screenshot 8.1.

Screenshot 8.1: OLS Regression Result

Dependent Variable: LNAGDP Sample: 1970-71 to 2008-09; No. of Observations: 39

Variable Coefficient t-Statistic C 9.4420 32.6085 LCAPFL 0.4873 14.2663

R-squared: 0.8497 S.E. of regression: 0.2749 Durbin-Watson stat: 1.2981 F-statistic: 203.5300

Screenshot 8.2: ADF Test Result

Null Hypothesis: R-LNAGDP-LCAPFL has a unit root Exogenous: Constant Lag Length: 0 (Automatic based on SIC, MAXLAG=3)

t-Statistic Prob.* Augmented Dickey-Fuller test statistic -3.4864 0.0140 Test critical values: 1% level -3.6210 5% level -2.9434 10% level -2.6103

*MacKinnon (1996) one-sided p-values.

75 The residuals of the above mentioned space that enables the testing of how regression equations are tested for many cointegration relationships the Unit Roots. (Screenshot 8.2) exist. The trace test indicates that the The cointegration tests are able to test statistics of 160.4 exceeds the find evidence in favour of long run critical value 125.6 and so the null of relationship between net capital flow no cointegrating vectors is rejected and non-agricultural GDP in case of (Screenshot 8.4). This continues, the Indian economy. Following the until we do not reject the null cointegration test, we have tested hypothesis of at most 2 cointegrating these two variables under error vectors at the 5% level. The max test, correction model (ECM). The positive however, settles at none. value of the first difference of the residuals indicates the model is out of Now we turn to test the Granger equilibrium. causality in bivariate and multivariate VAR framework. The Null Hypothesis We have tested our variables in is: the variable under consideration Johansen’s cointegration system does not Granger cause the other under VAR that identifies cointegration variable.

Screenshot 8.3: Error Correction Model Result

Dependent Variable: DLNAGDP

Sample (adjusted): 1971-72 to 2008-09

No. of observations: 36 after adjustments

Variable Coefficient t-Statistic

C 0.0631 17.5643

DLCAPFL 0.0124 1.6158

R-LNAGDP-LCAPFL (-1) 0.0274 1.5292

R-squared: 0.0822

S.E. of regression: 0.0214

Durbin-Watson stat: 1.0385

F-statistic: 1.4784

76 Screenshot 8.4: Johansen Cointegration Test Result

No. Of observations: 32 after adjustments Trend assumption: Linear deterministic trend Series: DLCAPFL DLGDCF DLMONEY DLNAGDP DLNFEA DLREER DLWPI Lags interval (in first differences): 1 to 1

Unrestricted Cointegration Rank Test (Trace)

Hypothesized Eigenvalue Trace Statistic 0.05 Prob.** No. of CE(s) Critical Value

None * 0.8083 160.4396 125.6154 0.0001 At most 1 * 0.6877 107.5793 95.7537 0.0060 At most 2 * 0.5656 70.3422 69.8189 0.0454 At most 3 0.4809 43.6589 47.8561 0.1173 At most 4 0.3822 22.6723 29.7971 0.2626 At most 5 0.1314 7.2592 15.4947 0.5477 At most 6 0.0824 2,7516 3.8415 0.0972

Trace test indicates 3 cointegrating eqn(s) at the 0.05 level * denotes rejection of the hypothesis at the 0.05 level **MacKinnon-Haug-Michelis (1999) p-values

Unrestricted Cointegration Rank Test (Maximum Eigenvalue)

Hypothesized Eigenvalue Max-Eigen 0.05 Prob.** No. of CE(s) Statistic Critical Value

None * 0.8083 52.8602 46.2314 0.0086 At most 1 0.6877 37.2371 40.0776 0.1010 At most 2 0.5656 26.6834 33.8769 0.2807 At most 3 0.4809 20.9866 27.5843 0.2770 At most 4 0.3822 15.4131 21.1316 0.2610 At most 5 0.1314 4.5075 14.2646 0.8023 At most 6 0.0824 2.7516 3.8415 0.0972

Max-eigenvalue test indicates 3 cointegrating eqn(s) at the 0.05 level * denotes rejection of the hypothesis at the 0.05 level **MacKinnon-Haug-Michelis (1999) p-values

77 Table 8.2: Granger Causality between DLNAGDP and DLCAPFL

Direction of Causality No. of Lags F-Statistic Probability Decision

DLCAPFL → DLNAGDP 1 0.01613 0.89975 Not Rejected

DLNAGDP → DLCAPFL 1 0.33438 0.56727 Not Rejected

The result in Table 8.2 suggests and net capital flows in case of that coefficients are not statistically Indian economy. It suggests that, significant in both the regression. we cannot use the net capital flows Thus, there is independence to predict the growth of GDP or vice between non-agricultural GDP versa.

78 9 CONCLUSIONS

The major findings and conclusion 3. The ILO is supposed to from the study can be summarised as ensure labour standards and setting follows: minimum standards of basic labour rights. With the enlarging role of 1. The review of trade theories the private sector and the pursuit of starting from the Mercantilism and competitiveness particularly in the ending with New Trade models sphere of global trade have been focuses on three dimensions: (1) accompanied by violations of labour Export as a leading sector; (2) standards and occasionally have also Export as a balancing sector; and, become the grounds for restriction (3) Export-linked import liberalization of trade. In view of this, the role of in both developed and developing ILO also assumes significance in countries. In a nutshell, theories of the arena of trade and problems trade explain how the differences confronting migrant labour. between countries give rise to trade and gains from trade. 4. From being one of the prime opponents of the inclusion of services 2. The IMF, World Bank, and in the UR negotiations, India has of the WTO share the common goal of late emerged as a leading proponent facilitating/promoting the balanced of the services trade liberalization expansion of trade in goods and under the GATS. The focus of services services. Responsibilities for trade trade has shifted from facilitating issues are divided among the three trade in goods to trade in services as institutions - roughly speaking, the IMF an independent entity in itself with the focuses on the overall macroeconomic four modes of supply for the delivery policy framework and balance of of services in cross-border trade. payments disequilibria, the World Bank on long-term development 5. The major impacts of and sectoral trade issues, and the international labour migration from WTO on rules for multilateral trade India on the balance of payments liberalization and transparency. Each were through remittance inflows, of the three institutions has a mandate which financed a large part of trade for cooperation. deficits, and through repatriable

79 deposits, which financed part of the them (these series cannot move too current account deficits. It is of course, far away from each other or they difficult to disentangle the impact of cannot move independently of each migration on exports and growth. other). The fact that the variables are cointegrated implies that there 6. Econometric analysis of the is some adjustment process in the nexus between exports and GDP short run, preventing the errors from growth by applying ADF and PP tests becoming larger and larger in the suggests that all the macroeconomic long run. variables under consideration are I(1) at log levels and become stationary at 9. The test of Granger causality first difference. The ADF test on the suggests that the direction of causality residuals of the regression equation is from export growth to GDP growth of log of exports on the log of GDP but there is no “reverse causation” confirms stationarity of the variables from GDP growth to export growth. and indicates the long run relationship This implies that one can use exports between these variables. to predict the GDP growth better way than simply by the past history of GDP 7. The bivariate error correction growth. model indicates that, about 17 per cent of disequilibrium is corrected 10. The results in Granger every year in case of exports of causality / Block Exogeneity in VAR goods and GDP; and about 14 per framework indicate movements in the cent disequilibrium is corrected every exports of goods and services appear year in case of ‘exports of goods and to lead that of GDP in case of Indian services’ and GDP. The significance economy. Given the recent success of the error correction term at 5% level of software exports from India along suggesting the robust relationship. with the ‘focus area approach’ to This reinforces the nexus between merchandise exports including its export and GDP growth in both short diversification, the finding is plausible and long run. and consistent with prior expectation that increasing exports – both 8. In subsequent specification merchandise and services stimulates of restriction under Vector Error economic growth. Correction Model (VECM) in VAR, the result demonstrate that the 11. The cointegration tests are variables considered in analysis are able to find evidence in favour of long cointegrated, in that there is a long- run relationship between net capital run equilibrium relationship among flow and growth in Indian economy.

80 However, the positive value of the first future study may examine, whether difference of the residuals indicates international trade can be a powerful the equilibrium model is not fitting positive force in the reduction of well. poverty and inequality in developing countries by creating jobs, especially 12. The Granger causality results, for unskilled workers, and by reducing however, do not point out to the the inequality between workers of temporal causation between capital different skills and educational levels, inflows and growth. Hence, based and between different regions of on these tests neither we can make India. The increased integration with any claims about the predictability of the world economy can potentially growth from capital inflows nor we reduce poverty through the creation can infer whether capital inflows have of new jobs in export industries. been due to pull factors. However, greater openness also brings increased competition from Scope for Further Research imports for previously protected industries. This can lead to job losses One of the major limitations of the in certain sectors, with workers study is the weak explanation for falling into poverty as a result of the impact of import on the growth retrenchment. Whether globalization of GDP. A useful extension may creates or destroys jobs, and who are include productivity in manufacturing the winners and losers in employment with a structural analysis of the is ultimately an empirical issue that contemporaneous error structure. The can be taken up for further research.

81 Appendix

Description of Methodology * depend only on the lag or difference

1 2 1 2 (i) Stationarity Tests τ(a) = Unitt - t ,Root not on Test t or t . Before the testing for a causal relationship between the time Dickey-Fuller (DF) test (Dickey and series, the first step is to check the Fuller, 1979) is based on independently stationarity of the variables used in and identically distributed (iid) errors. the models to be estimated. The aim In the following discussions, we have is to verify whether a series stationary briefly touched upon the specification or non-stationary and to identify the of a unit root process based on order of integration of the variables Enders (2004) and Brooks (2008). used in the model. The importance The basic objective of the test is to of stationarity feature of the series examine the null hypothesis that

is that the impact of shocks to a the series Yt contains a unit root, stationary time series dissipates in i.e., ϕ=1. Suppose we are given the long run. The identification of the an AR(1) process, as specified in order of integratedness of a series equation 7.1 helps to avoid estimation of spurious

regressions. Yt t-1+ut (7.1)

=ϕY -1≤ ϕ≤1 A time series is said to be strictly where ut is a white noise error term. If stationary, if the joint distribution of ϕ=1, that is, in the case of a unit root,

Xt1 , Xt2 ,… ,Xtn is the same as the equation (7.1) becomes a random

joint distribution of Xt1+ ,Xt2+ ,...,Xtn+ for walk model without drift, which is a

all t1, t2,… ,tn, and . Theτ distributionτ τ non-stationary stochastic process.

of the stationary τ process remains Thus, the null hypothesis or H0 is: unchanged when shifted in time by an “Series Yt contains a unit root” versus

arbitrary value . Thus the parameters alternative hypothesis “H1: Yt series is

which characterizeτ the distribution of stationary”. the process do not depend on t, but on

the lag . The mean and variance of Xt Substracting Yt-1 from both the sides

are constantτ and the covariances of Xt of equation (7.1), we obtain equation * It may be mentioned that, this section draws heavily on Books (2008), where a neat description of these methods have been provided.

82 (7.2) or (7.2a) as follows. sequence contains a unit root. The null hypothesis of presence of a unit root

Yt-Yt-1 =ϕYt-1-Yt-1+ut (7.2) in series Yt is rejected in favour of the alternative hypothesis of stationary in =(ϕ-1)Yt-1+ut (7.2a) each of the above equations, if the Equation (7.2a) can be alternatively test statistics τ is more negative than written as equation (7.3) as the critical value at a given level of significance.

ΔYt=δYt-1+ut (7.3) The Augmented Dickey-Fuller (ADF) where δ=(ϕ-1) and Δ as usual is tests here consist of estimating the the first difference operator. This regression equation (7.6). transformation of coefficients from p ϕ to δ enables us to test the hypothesis ∆Yt=α0+δYt-1+∑i=2βi ∆Yt-i+1+ut (7.6) as to whether the coefficient ofY are t-1 p statistically significantly different from where δ=-(1-∑i=1αi zero or not. p βi=∑j=iαj The three types of non-stationary series and the methods for testing for ut is a pure white noise term. the presence of a unit roots in time series as described by Enders (2004) ∆Yt-1=(Yt-1-Yt-2), ∆Yt-2=(Yt-2-Yt-3), and so are presented in equations (7.3) to on. The number of lagged difference (7.5). terms to include is often determined empirically, the idea being to include

∆Yt=α0+δYt-1+ut (7.4) enough terms so that the error term is serially uncorrelated. ∆Yt=α0+δYt-1+α2t+ut (7.5)

Equation (7.3) describes a non- For conducting the the Phillips-Peron stationary series process which can (1988) test we specify the following be made stationary after differencing regression equations: it once. It is a pure random walk * * model and it neither contains a Yt= α0 + α1 Yt-1+μt (7.7) drift (intercept) nor a deterministic trend (captured by time variable t). and Yt=α ̃0 +α ̃1Yt-1 +α̃2 (t-T/2)+μt (7.8) Equation (7.4) has a drift but no trend and equation (7.5) has both a drift where T = number of observations and the linear trend. The parameter and the disturbance term μt is of interest in the regression equations such that Eμt=0, but there is no (7.3) to (7.5) is δ, if δ=0, the {Y_t } requirement that the disturbance

83 term is serially uncorrelated or II error from I; Type II error is the homogeneous. Instead of DF probability of accepting a false null assumptions of independence and hypothesis. Most unit root tests are homogeneity, the PP test allows the based on the null hypothesis that the disturbances to be weakly dependent time series under consideration has a and heterogeneously distributed. unit root; that is, it is non-stationary. The alternative hypothesis is that the PP Test characterise the distributions time series is stationary. and derive test statistics that can be used to test hypotheses about Monte Carlo simulations have shown * the coefficients αi and α̃i under the that the power of the various DF type null hypothesis that the data are and PP type tests is very low. They generated by tend to accept the null of unit root more frequently than is warranted.

Yt=Yt-1+ μt (7.9) That is, these tests may find a unit root even when none exist. There are The PP test statistics are modifications several reasons for this: of the Dickey-Fuller t-statistics that take into account the less restrictive l The power depends on the time nature of the error process. The span of the data more than mere critical values for the PP statistics size of the sample. The unit root are precisely those given for the DF tests based on 30 observations tests. over a span of 30 years may have more power than that based on, A Critique of the Unit Root Tests say, 100 observations over a span of 100 days. There is a substantial literature l If ϕ ≈1 but not exactly 1, the unit concerning the appropriate use root test may identify such a time of the various DF tests statistics. series non-stationary. The focus is on size and power of the test and presence of the l These types of tests assume a deterministic regressors in the single unit root; that is they assume estimating equations. By size of a that the given time series is I(1). test we mean the level of significance But, if a time series is integrated (i.e., the probability of committing a of order higher than 1, say, I(2), Type I error) and by power of a test there will be more than one unit we mean the probability of rejecting root. In this case, one has to use the null hypothesis when it is false. the Dickey-Pantula test. The power of a test is calculated by substracting the probability of a Type l If there are structural breaks in

84 a time series, the unit root tests and not on the quasi-differenced may not fit properly. data. The reported critical values for the LM test statistic are based upon The most important criticism that has the asymptotic results presented in been leveled at unit root tests is that Kwaitkowski et al., 1992. The results their power is low if the process is of these tests can be compared with stationary but with a root close to the the ADF/PP procedure to see if the non-stationary boundary. same conclusion is obtained.

(b) KPSS Test (ii) Cointegration Test: Residual Based approach The KPSS test differs from the other unit root tests described above in that The residual-based tests were the series Yt is assumed to be (trend-) the earlier tests for cointegration stationary under the null. This is the discussed in detail by Engle and special case of a test for parameter Granger (1987). A substantial part of consistency against the alternative economic theory generally deals with that the parameters follow a random long run equilibrium relationships walk. The KPSS statistic is based on generated by market forces and the residuals from the OLS regression behavioural rules. If such a stationary of Yt on the exogenous variable Xt: linear combination exists, the non- stationary time series are said to be

Yt=Xt’ δ+ut (7.10) cointegrated. The stationary linear combination is called the cointegrating The LM statistic is defined as: equation and may be interpreted as 2 2 LM = ∑_tS(t) / (T f0) (7.11) a long-run equilibrium relationship among the variables. where f0, is an estimator of the residual spectrum at frequency zero and where In a single equation framework, S(t) is a cumulative residual function: assuming that Yi ~ I(1), the two- step estimation procedure by Engle t S(t)= ∑_r=1 ût (7.12) and Granger (1987) involves the procedure as follows: based on the residuals ût=Yt-Xt’ δ̂ t (0). The estimator of To test whether the series are δ used in this calculation differs cointegrated, the cointegration from the estimator for δ used by regression equation (7.13) is GLS trending since it based on a estimated by ordinary least square regression involving the original data (OLS).

85 Yt=β1+β2 X2t+β3 X3t+ut (7.13) equilibrium correction model, and

(Yt-1-δXt-1) is known as the error

For the estimated model, the SRF is correction term. Provided that Yt and

as specified in equation (7.14). Xt are cointegrated with cointegrating

coefficient δ, then (Yt-1-δXt-1) will

Yt=β̂1+β̂2 X2t+β̂3 X3t+ût (7.14) be I(0) even though Yt and Xt are

I(1). The error correction term (Yt-1)-

Keeping the residual on the right hand δXt-1) appears with a lag. δ defines side, we get equation (7.15) the long run relationship between X

and Y, while β1 describes the short-

Yt-β̂1-β̂2 X2t-β̂3 X3t=ût (7.15) run relationship between changes

in X and changes in Y. Broadly, β2 Again, the residuals when expressed describes the speed of adjustment in this way can be considered a linear back to equilibrium, i.e., it measures combination of the variables. We can the proportion of last period’s perform an ADF test on the residual equilibrium error that is corrected. sequence to determine whether it has a unit root. If the residuals obtained by However, since this is a test on

equation are found to be I(0), then the residuals of a model ût , then the critical variables Y and X are cointegrated values are changed compared to a and have a long run relationship. DF or an ADF test on a series of raw data. Engle and Granger (1987) have (iii) Error Correction Model tabulated a new set of critical values for this application and hence the The error correction mechanism test is known as the Engle-Granger (ECM) was first used by Sargan (1984) (EG) test. The reason that modified and later popularized by Engle and critical values are required is that the Granger (1987). An important theorem test is now operating on the residuals known as Granger Representation of an estimated model rather than Theorem states that if two variables on raw data. The residuals have Y and X are cointegrated, then the been constructed from a particular relationship between the two can set of coefficient estimates, and the be expressed as ECM. The error sampling estimation error in those correction model takes the form of coefficients will change the distribution equation (7.16). of the test statistic.

∆Yt=β1 ∆Xt+β2 (Yt-1 - δXt-1)+ut (7.16) (iv) Johansen’s Vector Error Correction Model (VECM) in VAR The equation (7.16) is known as an error correction model or an Johansen (1995) developed a

86 maximum likelihood estimation endogenous variables to converge to procedure based on reduced their cointegrating relationships while rank regression method that has allowing for short-run adjustment some advantage over the two-step dynamics (Brooks, 2008). The regression procedure described cointegration term is known as earlier. It relaxes the assumption that the error correction term since the the cointegrating vector is unique, deviation from long-run equilibrium is and it takes into account the short- corrected gradually through a series run dynamics of the ‘system’ whilst of partial short-run adjustments. estimating the cointegrating vectors. A VAR estimation procedure is utilized In order to use the Johansen test, the in order to analyze the dynamic above VAR needs to be turned into a impact of random disturbances on the VECM of the form as follows. system of variables as follows.

∆ Y t =ΠYt-k+Γ1 ΔYt-1+Γ2 ΔYt-2) Y 1t=β10+β11Y 1t-1+...+β1kY 1t-k+ +...+Γk-1 ΔYt-(k-1)+ut (7.19) α11Y2t-1+...+α1kY2t-k+u1t (7.17)

k where Π=(∑i=1 βi -Ig and Y 2t=β20+β21Y 2t-1+ ...+β2kY 2t-k+α21 Γ =(∑ i β)-I Y1t-1)+...+α2k Y1t-k+u2t (7.18) i j=1 j g

This VAR contains g variables in first where uit is a white noise disturbance term with differenced form on the LHS, and k-1 lags of the dependent variables (differences) on the RHS, each with E(uit)=0,(i=1,2),E(u1t u2t )=0 a Γ coefficient matrix attached to it. Instead of having only two variables The Johansen test can be affected by as above, the system could be the lag length employed in the VECM, expanded to include g variables, and so it is useful to attempt to select

Y1t,Y2t ,Y3t ,….,Ygt each of which has the lag length optimally. an equation. For the purpose of testing the A vector error correction model number of cointegrating vectors, (VECM) is a restricted VAR designed Johansen (1995) proposed the use for use with non-stationary series that of two likelihood ratio test statistics, are known to be cointegrated. The viz., the trace test and the maximum VECM has cointegration relations eigenvalues test. The trace statistic for built into the specification so that it the null hypothesis of r cointegrating restricts the long-run behavior of the relations is computed as follows:

87 g λtrace (r)=-T ∑i=r+1 ln(1-λ̂i -) (7.20) zero rank). If this null is not rejected, it would be concluded that there are

λmax(r,r+1)= - T ln(1-λ̂r+1) (7.21) no cointegrating vectors and the test

is completed. However, if H0: r = 0 where r is the number of cointegrating is rejected, the null that there is one

vectors under the null hypothesis cointegrating vector (i.e. H0: r = 1)

and λ̂i is the estimated value for the has to be tested and so on. Thus, the i-th ordered eigenvalue from the П value of r is continually increased until

matrix. Larger is λ̂i, the more large the null is no longer rejected.

and negative will be ln(1-λ̂i) and hence the larger will be the test statistic. (v) Granger Causality Test Each eigenvalue will have a different cointegrating vector associated with Although, regression analysis deals it. A significantly non-zero eigenvalue with dependence of one variable indicates a significant cointegrating on the other, it does not necessarily vector. imply causation. In other words, the existence of relationship between

λtrace is a joint test where the null is that variables does not prove causality or the number of cointegrating vectors the direction of influence (Gujarati, is less than or equal to r against the 2003). The Granger (1969) approach alternative that these are more than to the question of whether ‘X causes r. It starts with p eigenvalues, and Y’ is to see how much of the current then successively the largest one is Y can be explained by past values

removed. λtrace=0 when all the λi=0, of Y and then to see whether adding

for i=1,….., g. λmax conducts separate lagged values of X can improve tests on each eigenvalue, and has as the explanation. ‘Y is said to be its null hypothesis that the number of Granger-caused by X’, if X helps in cointegrating vectors is r against an the prediction of Y, or equivalently if alternative r+1. the coefficients on the lagged X’s are statistically significant. The two-way If the test statistic is greater than the causation is frequently the case; ‘X critical value from Johansen’s tables, Granger causes Y’ and ‘Y Granger we reject the null hypothesis that causes X’. there are r cointegrating vectors in favour of the alternative that are r+1 The Granger causality test introduced

(for λtrace) or more than r (for λmax). by Granger (1969) and Sims (1972) assume that the information relevant The first test involves a null to the prediction of the respective hypothesis of no cointegrating variables is contained solely in the vectors (corresponding to Π having time series data on these variables.

88 The test involves estimating the Vector Auto Regressions (VARs) by following pairs of regressions: applying ‘Block Exogeneity/Granger Causality Tests’. n n Yt=∑i=1 αi Xt-i+∑j=1 βj Yt-j+u1t (7.22) n n Xt=∑i=1 λi Xt-i+∑j=1 δj Yt-j +u2t (7.23) (vi) Block Exogeneity/Granger Causality tests in VAR where it is assumed that the disturbances u1t and u2t are The first step in the construction of any uncorrelated. Since we have two VAR model, once the variables that variables – GDP and Exports, we will enter the VAR have been decided, are dealing with bivariate causality. will be to determine the appropriate It is assumed that the two variables lag length. This can be achieved in a are stationary. Sometimes taking variety of ways, but one of the easiest the first differences of the variables is to employ a multivariate information makes them stationary. The number criterion. EViews presents the values of lagged terms to be introduced of various information criteria and in the causality test is an important other methods for determining the practical question. As in the case of lag order. It is likely that, when a distributed lag models, we have to VAR includes many lags of variable, use Akaike or Schwarz Information it will be difficult to see which sets of Criterion to make the choice. But it variables have significant effects on should be added that, the direction each dependent variable and which of causality may depend critically on do not. In order to address this issue, the number of lag terms included. tests are usually conducted that We also extended to multivariate restrict all of the lags of a particular causality through the technique of variable to zero.

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