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Special Economic Zone: Unnecessary Giveaways

Unnecessary Giveaways The special economic zones (SEZs) law notified by the commerce ministry on February 9, is quite different from the earlier policy on export processing zones (EPZs), as is evident from its new appellation. The latter sought to promote the value addition component in exports, generate employment and earn foreign exchange. The new SEZ law covers activities limited not only to manufacturing, but also services and trade, and has the much simpler objective of generating exports and earning foreign exchange, with no predetermined value addition component or minimum export requirements. The instrument of EPZ was employed with prominent success by China and other ASEAN countries in the 1970s and 1980s to create regional islands, where export-oriented manufacturing could be undertaken. In fact, they have served as the crucibles in which the manufacturing competitiveness of these countries was cultivated, at a time when licensing, labour rigidities and high import duties and taxes acted as a disincentive for investment. In India, clearly, the EPZ experiment was much less of an unequivocal success and since 1965, the year in which the first EPZ in Kandla was set up, a total of 11 such zones have come into existence. The exim policy of 1997-2002 then introduced the more comprehensive and liberal SEZ concept, after which a bill was drafted and given effect to by Parliament in the form of the SEZ Act, 2005. But the question is whether the idea of such economic zones itself is one whose time has run out and whose costs appear to outweigh its benefits.

SPECIAL ECONOMIC ZONES

Unnecessary Giveaways

T
he special economic zones (SEZs) law notified by the commerce ministry on February 9, is quite different from the earlier policy on export processing zones (EPZs), as is evident from its new appellation. The latter sought to promote

Economic and Political Weekly April 8, 2006

the value addition component in exports, generate employment and earn foreign exchange. The new SEZ law covers activities limited not only to manufacturing, but also services and trade, and has the much simpler objective of generating exports and earning foreign exchange, with no predetermined value addition component or minimum export requirements. The instrument of EPZ was employed with prominent success by China and other ASEAN countries in the 1970s and 1980s to create regional islands, where export-oriented manufacturing could be undertaken. In fact, they have served as the crucibles in which the manufacturing competitiveness of these countries was cultivated, at a time when licensing, labour rigidities and high import duties and taxes acted as a disincentive for investment. In India, clearly, the EPZ experiment was much less of an unequivocal success and since 1965, the year in which the first EPZ in Kandla was set up, a total of 11 such zones have come into existence. The exim policy of 1997-2002 then introduced the more comprehensive and liberal SEZ concept, after which a bill was drafted and given effect to by Parliament in the form of the SEZ Act, 2005. But the question is whether the idea of such economic zones itself is one whose time has run out and whose costs appear to outweigh its benefits.

A SEZ has been defined as a “duty free enclave” that is to be treated as a foreign territory for trade operations, duties and tariffs. SEZs are supposed to attract investment because they do away with the inherent disincentives and distortions within the host economy that inhibit export growth. These might include licensing controls, foreign investment ceilings, poor infrastructure, high import duties and taxes and labour rigidities. In India, customs tariffs have come down dramatically since the economy was liberalised in 1991; direct and indirect tax rates have been rationalised and reduced progressively. A number of export incentive schemes such as advance licensing and duty drawback are already in existence and in the process of being made WTO compatible. In fact, the revenue foregone due to export-linked schemes has been estimated in the recent Tax Expenditure Statement at as much as Rs 35,430 crore in 2004-05. Moreover, though infrastructural facilities could be enhanced within the SEZ itself, transport cost and efficiency cannot be separated from the larger rail, port and road networks of the country that still continue to pose tremendous problems. As the facilities/advantages accessible within a SEZ become increasingly indistinct from those available in the domestic tariff area, fiscal incentives in particular begin to appear more as expensive and unnecessary giveaways. Hundred per cent tax exemption from corporate tax is offered for the first five years under the SEZ law, 50 per cent exemption for the next two and on 50 per cent of the profits ploughed back in the next three years. Procurement of goods from the domestic tariff area is exempt from excise, and central sales tax payable on domestic purchases is to be reimbursed. Commodity purchases are also exempt from various cesses levied in the domestic tariff area.

What is more troubling is that the minimum land size required to create a SEZ makes it amenable to misuse – by diverting new investment into potential tax havens in the garb of a SEZ. Though multi-product SEZs are required to have a minimum area of 1,000 hectares, service sector zones can be only 100 hectares, while single product zones such as for IT and gems and jewellery can be as small as 10 hectares. These have been relaxed further for special category states. Since the only condition is that the unit must be a net foreign exchange earner in three years, and there are no value addition or export performance criteria this should be easy enough to accomplish for many firms. State governments are expected to take the lead in establishing SEZs and, in characteristic fashion, the policy on land acquisition and potential displacement has also been left unattended. Already in Kakinada in Andhra Pradesh, the government’s oil refinery and SEZ that is to be built along with the Oil and Natural Gas Corporation on 10,000 acres has run into problems, with farmers in the area refusing to give up their fertile land. At the last count, 148 SEZ proposals have been cleared by the relevant board of approval, with investment totalling to Rs 1 trillion and projects spread over 40,000 hectares. It is not clear if enough opportunities do not already exist in the Indian economy to attract such investment. The sudden deluge makes it seem, rather, that investors have been biding their time so as to obtain exceptional conditions of operation at very little cost.

EPW

Economic and Political Weekly April 8, 2006

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