SEZs: how well will they perform?

While the initiative on SEZs is laudable, its success will depend on how well the model is evolved and the implementation strategy worked out, says A. K. Kundra

THE RECENT initiative to set up special economic zones (SEZs) on the pattern of China is a welcome change in the strategy for export promotion. The proposal, no doubt, is a bold departure and a paradigm shift in the basic approach. It is an acknowledgement of the potential of export-led development strategy in accelerating economic growth. The prime mover of the proposal, none other than the Union Commerce and Industry Minister, Mr. Murasoli Maran, has been highly impressed by the stunning success of the Chinese SEZs.

Considerable thinking seems to have gone into the formulation of the policy framework for the proposed SEZs. Yet, one may ask why SEZs? What has been wrong with the present EPZs (export processing zones)? In one sense, SEZs are only a variant of EPZs. Both have delineated area and permit duty free import of capital goods and raw materials; both aim to attract foreign investment for setting up export-oriented units by providing developed infrastructure, conducive operating environment and a package of fiscal incentives. However, the objectives of SEZs are much larger than mere promotion of export processing activities.

While EPZs are industrial estates, SEZs are virtually industrial townships that provide supportive infrastructure such as housing, roads, ports and telecommunication. The scope of activities that can be undertaken in the SEZs is much wider and their linkages with the domestic economy are stronger. Resultantly they have a diversified industrial base. Their role is not transient like the EPZs, as they are intended to be instruments of regional development as well as export promotion. As such, SEZs can have tremendous impact on exports, inflow of foreign investment and employment generation.

However, all that does not invalidate the relevance of EPZs. Even China, which pioneered the concept, has only five SEZs, in addition to hundreds of EPZ type zones variously designated as economic and technological development zones (ETDZs), open areas and even EPZs. Indian EPZs have not fared so well in the overall as these are so few and their areas small; for some, the location is inappropriate and they were subject to cumbersome procedures for long. However, in many East Asian economies, EPZs have been highly successful in their initial phase of opening up. Therefore, the mere fact that India is switching over to the SEZ model may not per se guarantee success as demonstrated by China unless policy parameters and implementation strategy are planned carefully.

Against this background, it may be desirable to examine how far the key policy parameters that contributed to the success of SEZs in China have been incorporated in the Indian policy framework. The distinguishing features of Chinese SEZs are their large size, investment friendly customs regime, flexible labour laws, liberal policy for DTA (domestic tariff area) access, attractive package of incentives and delegation of powers in favour of provinces and local authorities for managing the zones.

Size factor

First consider the size of the proposed SEZs. Chinese SEZs are like townships. India has not gone that far, but it is heartening that realising that size does matter, the government has decided to have large sized SEZs. According to the guidelines, the area of an SEZ should be 1 000 hectares. This reflects a sea change in the govemment's perception. Not long ago, a ceiling on the size of the industrial promotion parks (EPIPs) was put at 200 acres! The best performing EPZ in Mumbai has an area of 93 acres only. It hardly needs reiteration that only a large sized zone can generate economic activity on some reasonable scale. In a small zone, the requisite infrastructure and services cannot be provided nor can multiple economic activities be promoted. The SEZs proposed to be set up at Positra in Gujarat, Navi Mumbai in Maharashtra, Nanguneri in Tamil Nadu, Kakinada in Andhra Pradesh, Paradeep in Orissa, Kapri in West Bengal, Bhadoi in Uttar Pradesh and lndore in Madhya Pradesh are much bigger than the existing EPZs, though compared to the Chinese SEZs, their size is small.

The customs regime in Chinese SEZs provides tremendous operational ease. The customs regulations designed for Indian SEZs also seem to be far less cumbersome than those for EPZs. The entrepreneurs will be free from routine inspections of import- export cargo. Procedures for operations such as record keeping, inter-unit transfer, sub-contracting and disposal of obsolete material and waste and scrap will be simpler. Enterprises will be allowed to utilise duty free raw materials over five years. Recovery of duty in case of failure to achieve positive NFEP will be in proportion to the shortfall, if any. These changes will definitely make the customs regime investor friendly.

Liberal incentives

The incentive package in India is quite liberal and may even be a shade better than that for Chinese SEZs. In fact, it is more or less on a par with the package for the existing EPZs. Duty free import of capital goods and raw materials, reimbursements of Central Sales Tax, tax holiday for specified period, 100 per cent repatriation of profits for subcontracting facilities are allowed. The Government has done well by extending incentives for the infrastructure sector to zone developers and the units as well. This can attract foreign direct investment for providing internationally competitive infrastructure.

Thus so far as the size of SEZs, their customs regime and incentive package are concerned, the Indian policy compares quite favourably with the Chinese policy framework. But in relation to the regime of labour laws, decentralisation of powers in favour of State governments and the duty structure for DTA access, it falls short of expectations.

As regards labour laws, it is difficult to imagine that a communist country like China has relaxed these laws by allowing a hire and fire policy for the SEZs. This single measure went a long way in attracting foreign investment to these zones. After investors gained confidence in the productivity of Chinese workforce, the hire and fire policy was substituted by the contract system. There is ample justification for adopting in India a flexible labour policy, at least for these exporting enclaves, on the ground that they are exposed to uncertain international market conditions, recession or rejection of consignments. On the positive side, they create gainful additional employment and facilitate inflow of foreign investment. The policy in India on this critical issue is lukewarm in as much as it states that the laws of the land will apply and that the zones can be declared as public utilities under the Industrial Disputes Act. Merely declaring SEZs as public utilities will, however, not serve much purpose as is borne out by the EPZ experience.

China made the provincial and local authorities partners and stakeholders by delegating them powers for approving foreign investment. The SEZ authorities in China can approve investment proposals up to $30 million. This has been a significant feature of the Chinese policy and a key contributor to the success of SEZs. The Indian policy only enables the State governments to set up SEZs, but does not empower them to approve investment proposals. These powers have been vested with the development commissioners concerned who represent the Central Government. This will result in centralisation of work in their offices.

Unless the State governments are directly made responsible for the management of SEZs and approving investment proposals, their political leadership and bureaucratic set up may not have any incentive to push the initiative forward. Their cooperation and active participation in the drive for setting up SEZs is essential. China has gone a step further by delegating powers to the local authorities. The local authority manages Shenzhen SEZ, which has the highest export turnover. India needs to do likewise. As bigger cities have better social and economic infrastructure and may have nucleii of export activity, it will be useful to rope them in export promotion activities.

DTA sales not attractive

Another ticklish issue relates to domestic market access for units in the SEZs. The proposed policy of levying full import duty on DTA sales does not seem to be right in view of the current differentials in the effective rates of import and excise duties. This will bar the entry of units based on indigenous inputs into SEZs since such sales will not be viable for them. The SEZs will only attract import intensive investment with low net foreign exchange earnings. Besides the policy in this regard for EPZ/EOUs is much more attractive and rational.

Why should anyone set up such units in an SEZ when for EPZ/EOUs duty on DTA sale is charged at 50 per cent of import duties and for units based on indigenous inputs the liability is for payment of excise duties only? Though China has set up a variety of zones, the infrastructure and incentive package for SEZs were the most attractive. For Indian SEZs, this may not be the case in so far as domestic market access is concerned. For a country of India's size, domestic market access is an important issue for investors in SEZs. In the Chinese SEZs, about 50 per cent production is sold in the DTA.

EPZ conversion will not help

The proposal to convert existing EPZs into SEZs does not make much sense, because their size and infrastructure will remain the same. It is only the customs regime envisaged for SEZs which is sought to be superimposed upon them, though not favoured by the entrepreneurs in some of the EPZs. Unless there is a demand from entrepreneurs for switch over to the SEZ regime, it should not be forced upon them. As mentioned earlier, China has only five SEZs but a variety of other EPZ type zones, which have a slightly different policy framework. In the hinterland and in backward areas, India may have to rely on smaller EPZ type zones, as it is not possible to set up SEZs everywhere, having regard to the availability of skills and social and economic infrastructure.

Some additional measures will be necessary to deepen and widen the interface with the State governments and attract foreign investment. As States were not associated in the past with export promotion activities, they have little idea of what is required to be done. For their meaningful participation, they need to have role clarity and a sense of identification with the scheme. They should fully comprehend the details of the SEZ model for proper micro planning at their end. Seminars and workshops should be organised to firm up these details. Further, to ensure that political leadership and top bureaucratic brass of the states where SEZs are being set up fully understand the SEZ model, study tours to SEZs and other successful zones in China should be organised. As seeing is believing, this will help them understand the nitty gritty of the management operations and give them proper exposure and orientation.

Likewise, the development commissioners and customs officials in the EPZs will have a thorough understanding of the functioning of SEZs only after interacting with their counterparts in China.

The thrust of SEZs in China was on attracting foreign investment and technology and that should also the prime concern in India too. This is not possible without aggressive marketing and promotion. Zone managements in China wooed investors aggressively and provincial and local authorities competed with each other to attract investors. India should send delegations abroad to acquaint prospective investors with the potential, salient features, facilities, incentives and investment procedures in the proposed SEZs. Indian missions can play an important catalytic role in this regard.

More than anything else, it is important that the scheme gets due attention at the highest political level, at the Centre and in the States. Political leadership in China accorded high priority to SEZs, which has been another contributory factor for their success. Deng Xiaoping visited as many SEZs and Economic and Technological Development Zones (ETDZs) as possible to enthuse local administrations and assess their performance.

In India, export zones in the past have remained neglected. It is doubtful if the Commerce Secretary has visited all the zones even once. The State secretaries also do not have much idea of the functioning of EPZs as these remained insulated.

In conclusion, it can be said while the initiative for setting up SEZs is a laudable one, its success will depend a great deal on how well the model is evolved and the implementation strategy is worked out and how fast they come up. Strong political push and administrative support are the key determinants. This requires strengthening the interface with the State governments on a continuing basis.

The process of decentralisation needs to be taken to its logical conclusion by empowering local authorities and State governments to approve investment proposals. The Central and State governments should market SEZs aggressively to attract foreign investment. Relaxation of labour laws and rationalisation of duty on DTA access can give a big boost to the scheme.

(The author is Chairman of the Tariff Commission and ex-officio Secretary, Department of Industrial Policy and Promotion. The views expressed are personal).

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