Holding The Enemy Close: Why We Need A Subtle Shift In Our China Policy

The Union government’s move to allow more Chinese suppliers to set up shop in India is the right strategy for now. It contrasts with its earlier policy of taking a harder line on Chinese investments in India in the context of the Dragon country’s refusal to settle the border issue and continues to play an antagonistic role vis-a-vis India in global forums. 

By R Jagannathan

In many ways, I now want greater nuance in how we deal with China, in contrast to my earlier stand that we should start denying China opportunities in India and allow our trade deficit to shrink. Yes, I have changed my mind, even though at a personal level I avoid purchasing any Chinese brand if I can avoid it. But often I cannot avoid it, given the pervasiveness of Chinese products and components in all manufactured products, especially electronics hardware.

According to a Bloomberg report, India has given initial conditional clearance for some of Apple’s Chinese suppliers to manufacture in India if they find an Indian partner. Of the 17 names submitted by Apple, some were turned down, including at least one with close ties to the Chinese government, says the report.

This marks a shift in the earlier Indian policy of avoiding Chinese investments at all costs. Now, apparently, the costs to us are becoming more transparent as we try to become a manufacturing hub ourselves.

In the past, many free trade economists, including Arvind Panagariya and Swaminathan A Aiyar, have been arguing against putting up more barriers to imports from China. Security experts like Brahma Chellaney, on the other hand, have argued in favour of India reducing trade ties with China in order to avoid incentivising more aggression against us. Despite Chellaney’s views, which I completely agree with on security issues, I believe that this is not the time to make China pay for its aggression by sharply reducing our trade ties.

What we need to do is to reduce the China weight in our trade ties over the next five to 10 years, mostly by opening up trade with other blocs, which will automatically reduce the China weightage. Currently, we have more to lose by trying to punish China before we are in a position to actually do so. It would be like cutting off your nose to spite your face.

Here’s why:

First, in order to become a manufacturing destination in our own right, we will need at least five years of successful implementation of the production-linked incentive scheme to build global scales. This needs to be accompanied by an improvement in our logistics costs, which is what project Gati Shakti is all about.

Till these two things happen, our manufacturing will not be globally competitive.

Our medium- to long-term strategy should not be reliant on China+1, where the plus one could be any number of countries in Asia, but India++, where the advantages of locating manufacturing in India are obvious to everyone, China or no China.

Second, and it pains me to say this, competitive scales cannot be achieved without creating a vibrant middle sector, like the German Mittelstand.

The middle sector is not about size and scale alone, but about the ability to innovate and generate its own IPR (intellectual property rights), accompanied by an ability to access both equity and debt capital.

The first enabling condition for the creation of this middle sector was the creative destruction we indulged in in 2016-17, when demonetisation and the goods and services tax eliminated many zombie small and medium sector companies.

These informal sector companies stayed alive only by evading taxes and staying under the radar on labour laws. The creation of new fintech companies and other enabling digital conditions include the account aggregators initiative, and the ONDC (Online Network for Digital Commerce).

We are just a hop, step and jump from making formal finance available to millions of micro, small, medium enterprises. Some of them will grow to become the new and competitive middle sector. We have a reasonably strong middle sector in some industries (automobiles, for example), but not in electronics and other scale-oriented manufacturing sectors.

China is one country that has mastered both scale and size in manufacturing, and it has created a successful middle sector of suppliers who are part of global supply chains.

In short, in the medium term, we have much to gain from allowing the Chinese middle sector to invest in India. It will create the conditions for the rise of our own middle sector.

Third, the rise in our trade deficit with China should be seen as a feature, and not a failure, of our China policy.

If, for example, we are becoming a bigger player in mobile phone exports, our imports of components will rise at a faster pace for the same reason. In fiscal 2022-23, we expect our exports to rise to $9 billion, but with 15 per cent value addition, the import content will be 85 per cent, or $7.65 billion.

It is only when the middle sector of components moves to manufacture in India that this content will reduce. We need Chinese manufacturing expertise at least for the next five years.

The nuance we thus need in our China policy is to develop the middle sector, often in partnership with Chinese firms, but while simultaneously keeping our defence preparedness at very high levels. We must also make our displeasure with Chinese postures clear repeatedly with smaller counter actions and pushback. The ban on certain Chinese apps, and disallowing Huawei from bidding for any 5G project in India were a good start.

We can also quietly bring Tibet into play, not by backing Tibetan freedom, but by doing two related things: one is to insist that India will not recognise the next Dalai Lama if he does not have the concurrence of the Tibetan refugees in India and does not follow the selection process prescribed by the current Dalai Lama.

Second, we should insist that China, as an upper riparian state, should conclude a treaty with India on the lines of the Indus Water Treaty with Pakistan, so that the rivers originating in Tibet can be monitored, and obstructions and dams on these rivers are overseen by neutral agencies.

Of course, China won’t agree, but we can consider taking our case to the international courts, and bring Tibetan rivers — almost all our major northern rivers originate from the Tibetan plateau — into international focus. This is our way to bring Tibet back into the picture without actually raising the issue of its independence or autonomy. On Xinjiang, or China’s persecution of Uyghurs, we should say nothing. Tibetans share close civilisational ties with us, not the Uyghurs.

But we need to do this quietly, without making it sound like an aggressive move and making loud noises in public fora. We must strategise quietly, and talk softly over the next decade, often using Chinese strengths to build our own muscle.