Feb 22nd 2011, C.P. Chandrasekhar and Jayati Ghosh

On February 11, 2011, Japan and India signed a Comprehensive Economic Partnership Agreement (CEPA). This is typically a more wide-ranging document than the Free Trade Agreements that are also increasingly popular, because in addition to extensive commitments on trade, there are also a number of commitments in wider areas such as investment rules.

It was announced by the Indian Commerce Minister and the Japanese Foreign Minister that they anticipate total bilateral trade to increase from the current value of around $10 billion to $25 billion by 2014 as a result of this agreement. The response in the Indian financial press has been close to euphoric, talking about a boom in trade consequent upon tariff reductions by both countries.

Certainly the proposed tariff reductions can be significant, accounting for 90 per cent of India's tariff lines and 97 per cent of Japan's tariff lines, though the cuts in tariffs vary and are not always that large. The Commerce Ministry claims that ''the sensitive sectors for India are fully protected. These include agriculture, fruits, spices, wheat, basmati rice, edible oils, wines and spirits and also certain categories of industrial products such as auto and auto parts.'' However, this is a rather short list of sensitive items, and leaves out a vast range of employment-intensive activities that could be adversely affected by the liberalisation.

As it happens, Japan is not a major trading partner for India any more, and India is an insignificant trading partner for Japan, accounting for less than 0.6 per cent of Japan's imports. As Chart 1 indicates, while total trade between the two countries grew somewhat in the second half of the last decade, it declined in the post-crisis year of 2009. India has generally maintained a trade deficit with Japan.

Chart 1  >> Click to Enlarge

Chart 2 shows that when the average of the years 2007, 2008 and 2009 is taken, Japan accounted for only 2 per cent of India's total trade, less than a quarter of India's trade with China and typically only as important as some other large countries from developing Asia. Chart 3 shows that this is part of a general declining trend in terms of shares of both exports and imports of India.

Chart 2  >> Click to Enlarge  

Chart 3  >> Click to Enlarge

A point that is often forgotten when negotiating such agreements is that, once average tariff rates are relatively low, even small changes in nominal exchange rates can have very significant effects on patterns of trade and the extent of competitive pressure that is applied on domestic producers. The Japanese yen is currently at a high value, having appreciated significantly in the recent past, and there may be reversals of this in the medium term, as well as price declines as the deflation in Japan takes further hold. This means that calculations of further competitiveness based on current nominal exchange rates of the yen and the rupee and current relative prices may not be a very good guide to setting ''safe'' levels of tariff that would protect some domestic producers.

But the commitments on tariff reductions may well turn out to be the less important part of the CEPA that has just been signed. A major part of the CEPA relates to investment, and here India has obviously made a major departure from its existing policies, by agreeing to accord Japanese Foreign Direct Investment (FDI) the same treatment that it gives national investors.

Article 85 on National Treatment specifies that ''Each Party shall accord to investors of the other Party and to their investments treatment no less favourable than that it accords in like circumstances to its own investors and to their investments with respect to investment activities in its Area.''

This is a significant shift in terms of domestic policy. Hitherto, the Indian government has maintained sectoral caps on FDI, such that 100 per cent FDI was allowed only in defined sectors. This amounts to effectively allowing no caps on Japanese FDI. It is also a statement that hereafter Japanese FDI companies will be treated exactly the same as a domestic company for all purposes of policy. This is a substantial (and apparently voluntary) diminution of national policy space.

In addition to this, Article 89 of the Japan-India CEPA explicitly sets out the various performance requirements that are expressly prohibited.

''Neither Party shall impose or enforce any of the following requirements, in connection with investment activities in its Area of an investor of the other Party:

(a) to export a given level or percentage of goods or services;

(b) to achieve a given level or percentage of domestic content;

(c) to purchase, use or accord a preference to goods produced or services provided in its Area, or to purchase goods or services from natural or legal persons or any other entity in its Area;

(d) to relate in any way the volume or value of imports to the volume or value of exports or to the amount of foreign exchange inflows associated with investments of the investor;

(e) to restrict sales of goods or services in its Area that investments of the investor produce or provide by relating such sales in any way to the volume or value of its exports or foreign exchange earnings;

(f) to restrict the exportation or sale for export;

(g) to appoint, as executives, managers or members of board of directors, individuals of any particular nationality;

(h) to transfer technology, a production process or other proprietary knowledge to natural or legal persons or any other entity in its Area, except when the requirement:

(i) to supply to a specific region or the world market exclusively from its Area, one or more of the goods that the investor produces or the services that the investor provides.''

This is a very extensive and comprehensive list of measures that are not allowed, which goes well beyond the WTO restrictions that are specified in the Agreement on Trade Related Investment Measures.

What is striking is that the Government of India has taken on itself to commit state governments to the same legally binding conditions. Thus the CEPA specifies that the term ''measure adopted or maintained by a Party'' means any measure adopted or maintained by central, regional or local governments or authorities, as well as non-governmental bodies in the exercise of powers delegated by central, regional or local governments or authorities (Article 84, page 80). It is not clear how federalism is supposed to operate at all when such major decisions are taken by the central government without consultation with (and definitely without the prior approval of) state governments that will be directly affected.

The main concern with the investment chapters is that they allow private foreign companies to file cases against governments, instead of confining matters to governments. Japanese firms are now allowed to object to India's environmental, health, social or economic policies, if these are seen to interfere with the company's ''right'' to profit. The biggest issues usually relate to the provisions for compensation for ''expropriation'', which can be direct (as in cases of nationalisation) or ''indirect (including policies or actions that impinge on the profitability of the company concerned).

For example, India already faced expensive litigation, and unknown but probably large compensation costs in the appalling case of the Enron deal, when the Government of Maharashtra was sued by the multinational companies GE and Bechtel (the new owners of Enron) for dumping an unfair and unviable power purchase agreement.

The resolution of such conflicts is generally governed by multilateral tribunals. In this case, the World Bank's private arbitration body for investment disputes, the International Centre for Settlement of Investment Disputes (ICSID) and the UN Commission on International Trade Law (UNCITRAL) have been specifically mentioned, along with private arbitration bodies run by private industry organisations. This means that Indian courts and the national legal system are completely marginalised, as ICSID and UNCITRAL only allow for the investor and government parties to the dispute to have legal standing.

The lack of transparency in turn means no public accountability even in cases involving legitimate public interest having significant public impact. The public has no right to listen to proceedings or to view evidence and submissions.. The record of these bodies thus far has been very investor-friendly, in awarding substantial damages and compensation to multinational corporations for ''transgressions'' of developing country governments.

It must urgently be clarified whether this CEPA will mean that even state governments in India can be taken to court by Japanese companies if they have problems with any policies that ''interfere with the company's right to profit''. These can even include health and safety regulations and decisions made because of environmental concerns.

This is without question an extremely serious issue, which must be taken note of by parliamentarians, state governments and civil society generally.

However, on the matter of intellectual property rights, about which also there was much concern during the negotiations, there is some relief, however partial. The CEPA has opted to go with the TRIPS agreement to which both countries are signatories, as well as the existing laws of both countries, rather than forcing changes that require more extreme protection of IPRs. This is in marked contrast to negotiations in the EU-India FTA, in which the European Union is reportedly pushing for the inclusion of very stringent TRIPS-plus IPR rules that would further damage the possibility of desirable technology transfer to India.

The issue of public procurement similarly has not been entered into systematically. The CEPA document basically emphasises transparency and non-discrimination with respect to other countries, but does not demand further opening up. However, there is an ominous note struck by the promise that ''The Parties shall enter into negotiations to review this Chapter with a view to achieving a comprehensive Chapter on Government Procurement including the provisions of challenge procedures, when India expresses its intention to become a Party to the Agreement on Government Procurement in the Annex 4 to the WTO Agreement.''

At present, it seems that the main public concern with the Japan-India CEPA, apart from apprehensions about the impact of import penetration on livelihoods of small producers in particular, is the nature of the investment chapter and its implications. Clearly this deserved and still deserves much greater public discussion and scrutiny.