It is widely expected that the government will increase import duties on a host of products. The stock market has already expressed its appreciation and steel scrips have been soaring. There are several products on which tariffs are far below the duty rates prescribed by the WTO, and the government has announced that it will raise rates to those levels. Apprehensions have been raised that this will hurt manufacturers of those products that require raw materials like steel or coking coal or other inputs on which import duties are proposed to be raised. The concerns are certainly valid.The solution to the problem is also simple, and is one followed by almost all countries--the principle of escalating tariffs. The nominal rate of protection should increase with the level of fabrication of a product, with raw materials attracting the lowest duty and the finished products, the highest. Apart from the fact that this helps to increase higher value-adding activity in the country, escalating tariffs also result inan improvement in the effective rate of protection, a concept first mooted by the Australian economist Max Corden.
Suppose the value of a company's finished goods is Rs 1,20,000 while the value of its inputs is Rs 1,00,000. The value added by the company is then Rs 20,000. Now, if a tariff of 20 per cent is levied on the finished good, then the price of the good rises to Rs 1,44,000. A tariff on inputs at 10 per cent results in input costs rising to Rs 1,10,000. Value added after the tariffs is Rs 34,000. The effective rate of protection therefore, becomes (Rs 34,000-Rs 20,000)/Rs 20,000 that is 70 per cent. Contrast the 20 per cent nominal tariff rate with the effective rate of protection for the finished good.
We still have a long way to go before the principle of effective protection is fully incorporated in our tariff structure. As far as the general principle of increasing tariffs is concerned, there is little reason why we should bring down tariffs below the levels prescribed by the WTO. The GATTprocess itself acknowledged that developing countries have a case against bringing down tariffs too fast, which is why special provisions have been made for them, and the principle of reciprocity waived.
While opening up the economy is inevitable, we must do it on our terms, as part of a long-term competitive strategy to exploit our strengths to the fullest. Imperfect markets mean that adjustments that would become necessary owing to the liberalisation of the economy will take time and will be very painful. A regime of calibrated protection becomes essential to ease the pains associated with change.
Copyright © 1998 Indian Express Newspapers (Bombay) Ltd.
