Tariff Fixation

Rationalization of Customs Tariff Rates in India (Summary of Expert Group Report 2002) Tarun Das Economic Adviser, MOF, India

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Overview 1. Motivation of tariff reforms 2. Tariff reforms since 1991 3. Issues for tariff fixation (a) Exchange rate and nominal tariff rates (b) Effective rate of protection (c) Minimum and peak rate of duty (d) Singe uniform rate versus multiple rates (e) Three tier system (f) Anomalies and exemptions 2

Overview (g) Cases for higher rates • WTO bindings for higher tariffs for agricultural products • Social reasons (wines, cigarettes etc..) (h) Special rates due to: • WTO bound rates • International agreement on IT • SAARC Free Trade Agreement (SAPTA) • National safety, security, public health and environment 3

1. Motivations of Tariff Reforms • In the pre-reforms period before June 1991, there were very high customs duties with irrational duty structure leading to high capital cost and overall high cost economy • High tariff walls led to industrial inefficiency, poor quality of goods and services, lack of competitiveness and inefficient allocation of resources. • Greater variance and multiplicity of tax rates on the basis of end-uses • Low buoyancy and elasticity of duty rates . 4

1. Motivations of Tariff Reforms •.Complicated tax structure, legal laws, rules and procedures. •.Low compliance rate, high degree of tax evasion, low administrative efficiency. •.Liberalization of trade, industry and investment called for rationalization of duties •.Integration of customs tariffs with exchange rate and interest rate policies. •.Globalisation and regionalisation of economic activities – WTO and SAARC. 5

2. Tariff reforms since 1991 Status in June 1991 Irrational duty structure and very high rates of customs duties Maximum Rates Excise duties 105% Import duties 400% Income tax 54% Corporate taxes: Domestic cos. 49% and 54% Foreign cos. 65% Multiple rates for excise and customs depending on end-uses. Many rates are specific.

Status in March 2002 Both direct and indirect taxes have been reduced and rationalised. Maximum Rates Excise duties CENVAT 16% + SED of 16% Import duties 30% Income tax 30% + surcharge of 5% Corporate tax : Domestic cos. 35% + surcharge of 5% Foreign cos. 40% End-use specifications are abolished. Specific rates replaced by ad-valorem rates. Single rate for excise, and five rates for customs duties. 6

Customs tariff rates Year 90-91 91-92 92-93 93-94 94-95 95-96 96-97 97-98 98-99 99-00 00-01

No.of rates 22 20 16 16 12 9 8 7 7 5 4

Peak rates 400 150 110 85 65 50 50 40 40 40 35

01-02

4

35

SCD

SAD

2 5 5 10 10

4 4 4 4

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Customs collection rates Items 1.Food products 2.POL 3.Chemicals 4.Man-made fibers 5.Paper 6.Natural fibers 7.Metals 8.Capital goods 9.Others 10.Non-Pol 11.Total

1990-91 1991-92 2000-01 47 34 92 83 24 20 95 60 20 51 47

23 30 44 36 8 12 52 33 13 28 29

31 16 38 49 8 18 49 37 12 23 21 8

Average customs tariff rates in 1999 India 29.5% Sri Lanka 22.5% Bangladesh 22% Nepal 18% China 15.7% Only two countries viz. Pakistan and Cameroon had higher rates than India in 1999

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Average customs tariff rates in 1999 India 29.5% Vietnam 17.3% Thailand 15% Indonesia 6.6% South Korea 5.9% Taiwan 5.2% Malaysia 4.5% Singapore 0% Hong Kong 0% Even after reducing peak rate to 20% by 2004-05, India has to travel a long way to reach East Asian level 10

Exchange rate and nominal protection sl.no. Exchange rate Average Price in Rs. Of (Rs/US$)

1 2 3 4 5

47.50 49.33 51.30 53.44 55.76

tariff rate

import of US$1

35 30 25 20 15

64.13 64.13 64.13 64.13 64.13

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Effective rate of protection (ERP) Price of a good in foreign country=US$1 Input/Output ratio = 0.8 Value added in foreign country =US$0.2 Import duty on final product= 20% Import duty on input= 15% Exchange rate = e Landed cost of final product= 1.2 e Production cost with imported input = 0.8*1.15 e = 0.92 e Value added in domestic country 12 = 1.20 e - 0.92 e = 0.28 e

Effective rate of protection (ERP) ERP = (Value added in domestic country/ value added in foreign country) -1 = 0.28 e/ 0.2 e -1 =1.4 - 1 = 0.4 = 40% So, ERP is neither nominal customs duty on final product nor the difference between customs duties on input and13

Effective rate of protection (ERP) 1. When there is a uniform and single tariff rate, then the ERP equals the uniform tariff rate and it ensures that all goods have the same effective rate of protection. 2. With multiple tariff rates, ERP is quite random, arbitrary and discretionary. 14

Issues for tariff fixation 1. Minimum customs duty and shadow price of foreign exchange 2. Peak rate: FM has reiterated that the peak rate would be reduced to 20% by 2004-05. 3. Three tier tariff structure for raw materials, components and intermediates, final products 4. Anomalies and exemptions 5. Cases for higher tariffs • WTO bindings on agricultural15

Issues for tariff fixation 6. Singe rate versus multiple rates: FM has announced that by 2004-05, there will be only two rates 10% on inputs and 20% on final products 7. WTO bound rates 8. Special rates for IT products 9. Special rates for SAARC countries 10. Exemptions and special rates for reasons of national security, safety, public health and 16

Thank you Have a Good Day

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