Research Korner: European Union

THE EUâ€™s ECONOMIC AND BUSINESS RELATIONS WITH INDIA

Europe-India Business Relation   Introduction               European Union (EU)-India relations originated in the year 1960s when India was among the first countries to set up diplomatic relations with the European Economic Community (EEC).  It was then followed by the signing of agreements in 1973 and 1981.  Additionally, there was a 3rd generation agreement signed on December 20, 1993, the current 1994 Co-operation Agreement which goes beyond trade and economic co-operation between Europe and India.    Another approach to improve EU-India relationship was the 1996 Commission Communication for an EU-India Enhanced Partnership that was endorsed by the Council and EP.  The Commission served as another milestone for the reason that it sets out concrete proposals to upgrade the relationship to a Strategic Partnership.  The said Strategic Partnership was then launched on November 2004 in The Hague Summit agreement.  This was the summit aimed to implement through an Action Plan that set the scene for another quantum leap in EU-India relations.  The Action Plan spells out concrete areas where the EU and India should become active and influential collaborators in global political, economic and social developments.    European Union (EU)               The European Union is a union of twenty-five independent states based on the European Communities and founded to enhance political, economic, and social co-operation.  This union is formerly known as European Community (EC) or European Economic Community (EEC) which started with only six members in 1958 and grew to 25 in 2004.    Assessing European Financial Market               Financial development can affect growth via three channels (Pagano 1993): (1) it can raise the fraction of savings funneled to investment, reducing the costs of financial intermediation; (2) it may improve the allocation of resources across investment projects, thus increasing the social marginal productivity of capital; and (3) it can influence households’ saving rate.                Despite the fact that the first two cases the effect is generally positive, the third one seems vague.  Financial development may also reduce saving, and thereby growth.  As capital markets develop, households gain better insurance against endowment shocks and better diversification of rate-of-return risk, consumer credit becomes more readily and cheaply available, and the wedge between lending and borrowing rates shrinks.  In connection with this case, the effect on saving and growth is ambiguous.  Nevertheless, domestic investment is unlikely to affect the growth rate via changes in the saving rate especially in economies open to capital flows.  It is much more likely to do so either via the first and second channel, that is, by reducing the cost of financial intermediation or by improving the allocation of capital across projects.              Financial development can enhance growth by reducing the cost of financial intermediation in two ways.  First, financial development can increase the degree of competition in financial markets and thereby curtail monopoly rents to the extent that it is associated with the entry or creation of new intermediaries.  The interest rate margin charged by the banks will tend to be compressed below the level that incumbents would have chosen otherwise, and the availability of credit will correspondingly tend to increase.  Secondly, more developed financial systems can reduce the cost of financial intermediation for the reason that they can deal better with the problems of asymmetric information that are pervasive in financial markets.  To further illustrate, financial systems may vary in their ability to prevent borrowers from using loans to their own private benefit instead of investing in productive assets, or in their ability to control the risks taken by the borrowers.  Close bank relationships or efficient information production by large investors may mitigate such opportunistic behavior by borrowers, and in this manner allow intermediaries to require a lower return and/or increase funding.                Another contribution of financial development to growth is by allocating capital more efficiently across alternative investment projects.  First, by facilitating the trading, hedging and pooling of risks a more developed financial sector allows investors to fund highly profitable, but risky investment opportunities that would otherwise be forgone.  Secondly, funds are allocated to more profitable projects, and the productivity of the economy will increase to the extent that more sophisticated intermediaries are more effective in distinguishing good and bad projects.                An important issue is whether financial development has mainly “level effects” that is to say, allows countries to raise long run per capita output – or rather affects steady state growth.  Both outcomes are possible accounting to principle depending on the nature of the growth process.  Financial development and financial reform would allow countries to grow permanently faster in endogenous models.  While in more traditional models with exogenously-driven technological progress, financial development would grant a transitory increase in the economy’s growth rate and a permanent increase in per-capita GDP by allowing more investment and capital accumulation.                For all of the above-stated reasons, the current consensus view among economists is that financial development spurs investment and growth, even though opinions differ considerably about the quantitative importance of this relationship.  Undeniably, a large and growing literature has documented a robust correlation between finance and growth.  It shows that countries with more developed financial markets grow faster.  In going beyond this mere correlation, on needs to establish if there is a causal relationship running from financial development to growth according to (1969).  For this reason, any empirical analysis must control carefully for the potential reverse causation from growth to financial development.  To this purpose, researchers have used economic techniques and identification strategies of increasing sophistication.  The weight of the evidence is overwhelming nowadays in favor of the view that financial development is capable of spurring economic growth.  Events that affect the degree of financial development of a country or a group of countries, such as financial integration, may therefore be important for their subsequent economic performance.    European Market Integration               Europe’s move for a Single Market in 1992 was a complex process that tends to create events of a combination of both bet and a challenge.  Single Market was an experiment that succeeded not just because it has appealed to the enlightened self-interest of European producers and consumers but also because of the vision of its founders that encompassed and yet transcended the material needed for the realization.  Additionally, it succeeded for the reason that it also held out the higher goal of political as well as economic barriers overcome, which is of Europe united.                The nature of the Single Market is inseparable from the concept of liberalization.  The 1992 move may seem like a pure process of integration and aggregation.  However, the push toward a Single Market is the result of (1) integration and harmonization; and (2) deregulation and liberalization.  Both these factors cannot stand alone to carry the Single Market into completion instead it should go together.  Europe creates a unified market with the combination of market integration with measures liberalizing it.  As a result, Europe sets off in the right direction in a more effective way.                The economy of the 12 European states is an economy particularly open to foreign trade.  Europe’s economy rises up ahead from United States and Japan during the 1989 import of goods.  The strengthening of Europe’s economy through the Single Market brings about increased demand to be put at the disposal of the whole world.              Dynamic Growth               India gained a lot of improvement on business outsourcing, however, it is largely because of India’s entrepreneurial skills and the ability to innovate that made a significant economic boom, says      , Chairman of the      group of companies.  A growing number of Indian companies were present in the UK alone majority of which is from IT sector.              There are similarities between Europe and India that makes their partnership a perfect combination.  According to      Director,  (Switzerland), “India is more comparable to Europe than any other single country in the world due to its cultural diversity and shared values of democracy, rule of law and fundamental freedoms (as cited).   Business Implications and recommendations               A conference on “EU-India strategic plan: Enhancing trade and investment”, found a key weakness of India as compared to many of its competitors.  It was suggested that India should concentrate first on infrastructure sector (i.e. transportation, electricity and power, and telecommunication).    Recommendations   <ul style="margin-top: 0in; margin-bottom: 0in" type="disc"> <li class="MsoNormal" style="text-align: justify; line-height: 200%"> Clear the pathways for Foreign Direct Investment (FDI) inflow into India</li> </ul>   For the reason that India is missing out on large flows of capital investment that are now going elsewhere, the low flow of foreign direct investment into India should be a matter of serious policy concern for the government.  Regulatory shortcomings, tardy privatization of public sector undertakings and free electricity to a large number of customers are also cited as some of the reasons for poor flow of FDI into India. The regulatory environment is even more problematic. The political setting too has not been as supportive as it needs to be for foreign direct investment.   <ul style="margin-top: 0in; margin-bottom: 0in" type="disc"> <li class="MsoNormal" style="text-align: justify; line-height: 200%"> Strengthen institutions in India</li> </ul>   It is clear that both continents have enormous potential to increase trade in both directions.  India has its strength and weaknesses.  India needs to ensure protection of investment, good governance and transparency and most importantly a stable political situation.  <ul style="margin-top: 0in; margin-bottom: 0in" type="disc"> <li class="MsoNormal" style="text-align: justify; line-height: 200%"> Address the European attitude problem</li> </ul>   One of the missing important factors that European investors don’t have in doing business with India is the right attitude and awareness.  The EU and India could improve synergies between companies, corporations and sectors and bridge this gap.  There is higher awareness among US companies about investing in Research & Development in India whereas European companies are poorly represented in this respect.    <ul style="margin-top: 0in; margin-bottom: 0in" type="disc"> <li class="MsoNormal" style="text-align: justify; line-height: 200%"> Leverage Indian overseas investment</li> </ul>   Notwithstanding the fact that the Indian business environment is improving in multiple respects and Indian overseas investment is more that $5.4 billion as of 2005, India has long way to go.  Many Indian companies are going global with their business strategies and are acquiring global competitiveness.  They are also going beyond the traditional sector like IT and Pharmaceuticals.  Such companies are now investing abroad partly to escape weaknesses in the domestic business environment and to build assets and skills that are slow to develop at home.  <ul style="margin-top: 0in; margin-bottom: 0in" type="disc"> <li class="MsoNormal" style="text-align: justify; line-height: 200%"> Improve the infrastructure sector</li> </ul>   As stated earlier, infrastructure is the greatest impediment that hinders India in the journey to development.  The Indian economy is capable of absorbing massive foreign direct investment in the infrastructure sector over the next ten years in which public-private partnership can thrive.  Capitals needed in infrastructure are very large.  The Indian government has created an interesting action plan to set up a regulatory framework for infrastructure to make an enabling environment for attracting FDI.  However, much will be spend on its transparency and independency based on international best practice.    <ul style="margin-top: 0in; margin-bottom: 0in" type="disc"> <li class="MsoNormal" style="text-align: justify; line-height: 200%"> Increase mutual transparency in investment regulations and guidelines</li> </ul>   The role of the political system and the bureaucracy is that of facilitation by removing hindrance to free trade and commerce between the citizens.  Unfortunately this is hard to achieve in India and in the EU under the current complex political situation. Further, lack of specific investment regulations and guidelines on both sides prevent enterprises from venturing into each other’s countries except for a few big companies.   <ul style="margin-top: 0in; margin-bottom: 0in" type="disc"> <li class="MsoNormal" style="text-align: justify; line-height: 200%"> Improve Center-State synergy in India to woo foreign investors</li> </ul>   It is not enough for the Central government to woo investors. State Governments too must accept the task with both hands. Despite India's political diversity and sharp inter-party differences on certain issues, the Centre and the States need to work in tandem to create attractive investment destinations.   <ul style="margin-top: 0in; margin-bottom: 0in" type="disc"> <li class="MsoNormal" style="text-align: justify; line-height: 200%"> Heighten Europe-India business and trade dialogue</li> </ul>   The integration of Europe has valuable lessons for India. The strengthening of trade relations and continuous exchange of trade delegations between Europe and India would help both countries to bridge the gap in trade and commerce. Regular discussions between the European and Indian business bodies such as the chambers of commerce in both countries should be encouraged.   <ul style="margin-top: 0in; margin-bottom: 0in" type="disc"> <li class="MsoNormal" style="text-align: justify; line-height: 200%"> Overhaul the European visa regime in India</li> </ul>   Stringent enforcement by the EU countries of their visa policy in India is not only scaring away Indian business people from Europe but also dampening the investment climate of the EU countries thus taking a toll on its economy. Mechanisms should be developed between the Government of India and the EU countries to remove non-tariff barriers particularly in relation to the visa issue. In spite of the best efforts from all sides to increase Indo–European trade relations, it is being increasingly noticed that the         is denied even to a bona fide Indian corporate executive. In spite of submitting all the demanded supporting documentation with the application, the visa departments of the EU member states in their respective Missions in India show total callousness and disrespect and behave in a highly arbitrary manner seeking very unreasonable and sometimes personal and confidential information. The methods and techniques of theembassies of the EU member-states in India amount to unwarranted obstruction in free and smooth trade flows and this is a serious problem that needs to be addressed.  The EU-India Strategic Partnership Agreement is defeated by the negative bureaucratic approach taken by the embassies of EU nations in India.   <ul style="margin-top: 0in; margin-bottom: 0in" type="disc"> <li class="MsoNormal" style="text-align: justify; line-height: 200%"> Address the problem of innovation in Europe</li> </ul>   The current problems in the EU relating to growing unemployment and declining GDP are to be seen in relation to the lack of serious innovation as compared to the immediately preceding centuries and not in terms of external attacks being mounted on fortress Europe.  Closer examination of links between Europe and India in the areas of university and industrial research could aid the innovation process in Europe.   <ul style="margin-top: 0in; margin-bottom: 0in" type="disc"> <li class="MsoNormal" style="text-align: justify; line-height: 200%"> Recognize and respond to European diversity</li> </ul>   India should not view Europe as a monolith but recognize broad areas of differing cultural, social, industrial and economic patterns and respond appropriately. The current tendency to approach Europe with a one-size-fits-all policy should be eschewed. In some of the newer EU member-states GDP is currently growing at between 8 and 11.6% and these should be approached with a stance different from those parts of Europe where the growth is around 2%. <ul style="margin-top: 0in; margin-bottom: 0in" type="disc"> <li class="MsoNormal" style="text-align: justify; line-height: 200%"> Support the pan-European effort of the EICC</li> </ul>   While the EICC will rise from its own strength acting as a catalyst between EU and India in promoting better trade relations and create a lobby in the EU and in India among opinion leaders in support of enlarging the scope of trade relations and act as a one-stop facilitating centre for providing insight information on key issues in relation to the institutions of the EU, the Government of India was called upon to give its full support and assistance to the EICC.               The above Recommendations were reached at a Conference in Brussels on 8-9 November 2005 organized by the Europe India Chamber of Commerce (EICC) in partnership with Commonwealth Business Council (CBC) and Global Organization of People of Indian Origin (GOPIO) and in association with the Embassy of India.    REFERENCES

THE EUâ€™s ECONOMIC AND BUSINESS RELATIONS WITH INDIA

Europe-India Business Relation Introduction European Union (EU)-India relations originated in the year 1960s when ...