SEZs in India :A Quantitative Assessment of Costs and Benefits

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SEZs in India A Quantitative Assessment of
Costs and Benefits
Aradhna Aggarwal Associate Professor Department
of Business Economics University of
Delhi Consultant ICRIER aradhna.aggarwal_at_gmail.c
om
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Contents

• The Rationale
• Benefits and costs Theoretical approaches
• Net Benefits A quantitative assessment
• Benefits and costs Qualitative analysis
• Conclusion

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Why SEZs?
Two approaches
Orthodox Approach ( neo classical)
Heterodox approach (New institutional theories)
SEZs offer relaxed tax and custom regime and
offset anti-export bias in import substituting
regime
Offer good I climate in export oriented regime
tax incentives Modern Infrastructure Good
Governance Location-specific advantages
Promotion of EOI
Earning foreign exchange
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EOI is promoted through
Three channels

• Domestic producers
• Independent producers
• Insertion into GVCs
• (Small firms)
• Seller driven
• Buyer driven

MNCs Intra-firm trade
Clustering
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Promoting manufacturing is important in India
because

• Service-sector driven growth. Employment
  generation potential is limited.
• The share of manufacturing remains almost
  constant at 16-17.
• Evidence suggests that employment growth in the
  formal sector declined.
• Agriculture contributes less than 20 but over
  60 people are dependent on agriculture and
  allied activities.
• A case study of Faizabad 5 families multiplied
  to 300 families over time, cultivable land
  remains 1100 acres. No break even in many
  cases. Villagers are looking for alternative
  employment opportunities.
• There is need to improve investment climate to
  promote manufacturing but resources limited.
• Evidence suggests that zones can play an
  important role in attracting investment and
  promoting exports and industrialisation.

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Benefits to the economy Theoretical
approaches

• 1. Orthodox Approach (Neo classical)
• to offset anti-export bias in a heavily regulated
  economy
• always welfare reducing
• 2. Cost benefit approach (accounting method)
  Warr, 1989
• SEZs have both costs and benefits.
• Their contribution depends on whether measurable
  costs are less than measurable benefits.
• Recognised indirect benefits in terms of income
  generated
• These arise from backward and forward linkages
  but argued that they are limited.
• 3. Heterodox approach (Johansson 1994)
• Underscored the importance of indirect effects
  through spillovers and demonstrations.
• Overall effects are difficult to measure
• Aggarwal (2007) Spillovers also take place when
  
• Zones entrepreneurs interact with the rest of
  the economy entrepreneurs in various forums.
• Zone entrepreneurs set up production units
  outside the zones.

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Benefits The Eclectic approach
Indirect
Direct

1. Foreign exchange
2. Employment generation
3. Employment for Females
4. Skill Upgradation
5. FDI
6. Tech. transfers and creation

• Indirect employment
• Investment
• Skill spillovers
• Technology spillovers

1. Ind. growth 2. Productive Diversification 3.
Human development 4. Revenue generation for govt.
Non quantifiable other direct and indirect
effects
Quantifiable static Foreign Ex earnings, Net
value addition, I, employ, Dynamic Income
generation
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Costs

• Quantifiable
• 1. SEZ development cost Not incurred by the
  government
• 2. Revenue loss (Tax and other investment
  incentives)
• 3. Operational costs
• Other welfare costs Non quantifiable
• Resource transfer from the domestic sector to
  SEZs with no net addition to economic activities
  ( relocation and substitution effect)
• Land Acquisition without adequate compensation
• Impoverishment of farmers
• Loss of agricultural land
• Misuse of land for real estate
• Regional disparities
• Unequal treatment

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Net benefits

• NNB (EXPDTATAXGAIN)-IMP-RM-ELEC-ADMIN-TAX
  LOSS
• Where
• NNB Net benefits from SEZs
• EXP foreign exchange earnings and
• DTA Domestic Tariff area Sales
• TAXGAIN Taxes collected on DTA sales
• EXPDTATAXGAIN Total benefits
• IMP imports
• ELEC the cost of public utilities
  (electricity, power and fuel)
• RM the cost of locally purchased inputs
• TAX Direct and indirect ( only for SEZ
  developers) tax foregone
• ADMIN Administrative costs
• IMPELECRMTAXADMIN total cost

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Fundamental assumptions

• The proposed SEZ investment in each of the three
  years will be Rs. 100,000 cr.
• The actual investment in each year will follow a
  three years time frame. In other words, realized
  investment in the first year will be 50 of the
  proposed investment in that year say, t. In the
  second (t1) year, 30 and in the third (t2)
  year , 20 of the investment proposed in the
  year t will be realized.
• Of the total investment, 7 is projected to occur
  in the FTWZ /power SEZs in each year. The
  remaining will be invested in other zones.
• The infrastructure development expenditure in new
  SEZs will be 60 of the total investment in the
  first year. In the second and the third year it
  will be 30 and 10.
• The remaining investment termed productive
  investment is divided between the IT sector and
  other sectors in the proportion of 44 in the
  first year, 42 in the second year and 40 in the
  third year.
• We required several other conduct and performance
  related ratios which are based on the CMIE
  database of the export oriented sector. Data was
  extracted for the relevant industries.

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Projections of static benefits 2007-2009 (Rs.
Cr)
Total infra Cumulative exports Net foreign exchange Direct tax liab Indirect tax loss Net benefits Employ on account of productive act. In direct employment
2007 28479.8 30222.68 14573.6 2113.3 2178.7 7601.623 90668.05 290026.7
2008 40452.2 98535.43 52190.82 6349.5 3094.6 34009.09 295606.3 578771.7
2009 43536.0 174526.5 94265.64 10911.2 3330.5 64547.84 523579.5 828331.5
Total 112468 303284.6 161030.1 19373.9 8603.8 106158.6 909853.8 1697130
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Tax losses and benefits generated as proportion
of incremental investment
Tax losses as of actual investment Benefits generated
2007 8.58 15.20325
2008 11.81 42.51136
2009 14.24 64.54784
Average 12.16 46.16
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Net benefits if no additional investment after
2009
Direct tax loss (Rs. Cr) Indirect tax loss (Rs.Cr) Net benefits
2007 2113.3 2178.7047 7601.623
2008 6349.5 3094.5933 34009.09
2009 10911.1 3330.504 64547.84
2010 8034.4 763.2405 48899.05
2011 5911.6 138.771 39294.63
Total 33320.0 9505.8 194352.23
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Benefits under the diversion hypothesis (Rs.
Crore)
Benefits net of the IT sector benefits Total Tax loss including the notional IT sector taxes Benefits as to actual I Tax loss as to actual I (which is the same as in Table 7)
2007 5703.198 4291.977 11.41 8.58
2008 21707.13 9444.098 27.13 11.81
2009 40934.7 14241.67 40.93 14.24
Total 68345.03 27977.75 29.7 12.16
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Dynamic gains from SEZs (Rs. Cr)
Additional output CorporateDirect tax collection Indirect tax collection Salary tax collection total tax Collection Employment (No.)

2007 64385.58 1287.712 5150.847 443.5265 6882.085 321927
2008 211282.6 4225.652 16902.61 1435.528 22563.79 1056413
2009 376643.4 7532.868 30131.47 2520.337 40184.68 1883217
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Contribution of EPZs to Industrial
growth/diversification A qualitative analysis
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Human development and Poverty
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SEZ Act provides a major thrust

• 1. A well balanced package of incentives,
  infrastructure, governance is offered.
• Should tax incentives be offered
• Yes, Our survey-based study shows that
• The most important ingredient in any SEZ policy
  is Tax incentives
• Three reasons
• Export obligations, attachment with GVC, no
  location choice.
• Second most important factor good governance
  custom rules and single window clearance.
• Third infrastructure within zones electricity
  and water outside zones transport, roads,
  ports and airports
• Fourth location. If good external
  infrastructure, this is not important. The
  argument that they should be set up only near the
  ports is not sustainable.

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Current status
Expected
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Recent patterns

• Formal approvals 234 as on May 1, 2007
• AP 45, Maharashtra 47, Tamilnadu 25,
  Karnataka 29, Haryana and Gujrat 19 each,
  Kerala 10, UP 8. WB 7,MP 4
• IT 133, Electronic HW and SW 16 10 multi
  products 12 Pharmaceuticals, 9 bio tech, over 11
  textile
• In principle approvals 164
• Notified as on 1st May 2007 100

High tech industries that have come up due to
SEZs Electronics Manufacturing Services,
Semiconductor, Aerospace, Other industries
benefited Biotech, Pharmaceutical, automobile,
textile.
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Costs A qualitative Analysis

• Relocation Misplaced. but in the IT sector
  substitution effect is evident
• Land Acquisition Needs serious research, should
  not be left to the private parties.
• Loss of agricultural land Need to create land
  bank along the lines of TN.
• Impoverishment of farmers Needs research. But
  sharp rise in land prices, Huge compensations,
  They must be offered specifically designed
  investment plans for these funds to ensure
  regular incomes. This may provide them security.
• Misuse of land for real estate Need for exit
  policy and regular monitoring
• Uneven growth misplaced
• Unequal treatment with exporters Tax incentives
  to STPIs and EOUs.
• A large number of IT sector SEZs Once STPI
  incentives restored, this issue will be
  addressed.

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Conclusion

• SEZs can act as catalyst to industrial growth
  provided they are implemented effectively.
• Effective implementation of a policy that aims at
  giving shock to the economy requires mobilization
  of public opinion. People often approach such an
  issue initially with strong, emotionally laden
  feelings and opinions. It must be shaped and
  formed so that important decisions are taken
  without creating instability in the society.
• Four things are important
• The government must slow down the process of
  giving approvals. This is important not only for
  social or political reasons but also due to
  economic realities.
• Legal institutions related to land acquisition (
  including land acquisition modalities,
  compensation package and rehabilitation package)
  must be addressed.
• Introduce a performance based exit policy for SEZ
  developers
• Restore STPI and EOUs benefits
• Finally, the policy should be treated as
  transitory.