SEZs: A Blessing in Disguise?

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An SEZ, or a Special Economic Zone, is like a foreign territory within a country. An SEZ is governed by a special set of rules to facilitate foreign direct investment for export-oriented production. These are often referred to as “modern, hassle-free economic zones”

One of the earliest and the most famous Special Economic Zones were founded by the government of the People’s Republic of China under Deng Xiaoping in the early 1980s. The most successful Special Economic Zone in China, Shenzhen, has developed from a small village into a city with a population over 10 million within 20 years. Following the Chinese examples, Special Economic Zones have been established in several countries, including Brazil, India, Iran, Jordan, Kazakhstan, Pakistan, the Philippines, Poland, Russia, and Ukraine.

Unfortunately this fact is little known but SEZs are not a very new phenomenon in India. In fact, the first such zone in the country was set up way back in 1965 at Kandla. But it was known then as the Economic Processing Zone. Thereafter, in 1972, the Santacruz Electronic Export Processing Zone (SEEPZ) was launched in Mumbai.

Now, the question that we come to is why are SEZs good for the economy?

Firstly, SEZs are free trade zones and are also characterized by unlimited duty free imports of raw, intermediate and final goods as well as capital goods. There are no import licence requirements, exemption from industrial licensing requirements for items reserved for the SSI sector and no routine examinations by Customs for export and import cargo. This removal of trade restrictions helps in increasing the flow of goods and services freely to these zones to develop them rapidly.

Secondly, these zones are typically marked by minimum bureaucracy and the best infrastructure. Basically, governments look to SEZs to overcome difficulties in bureaucracy and fiscal measures. The amount of government intervention is kept at minimum in these zones and they are governed by laws specifically enacted for these zones. This helps in maintaining rapid governance as well as the speedy development by the private players who value efficiency more than equity.

Thirdly, the form of governance present in these zones makes investments easier. Industrialists want to invest here as they find that the process is easier and this way development can be guaranteed for a large area. Services like banking and other procedures have also been simplified in these zones thus making them more attractive to investors.

Fourthly, SEZs have a very pro-industrialization tax policy. There is 100% income tax exemption for a block of five years and an additional 50% tax exemption for two years thereafter in addition to exemption from Central Sales Tax and Service Tax

This makes way for large flows of investments from big players looking for tax breaks. Also, due to such taxes, there are minimum deadweight losses and most beneficial mutual agreements and trade take place.

Due to the style of governance and the tax policy SEZs help to attract large amounts of foreign direct investments or FDI. 100 per cent FDI is permitted for all investments in SEZs, except for activities under the negative list. In addition there is no cap on foreign investment for small scale sector reserved items. FDI to develop townships within SEZs with residential, educational, health care and recreational facilities is also permitted on a case-to-case basis. There is a facility to retain 100% foreign exchange receipts in Exchange Earners’ Foreign Currency Account and lastly, 100% FDI is permitted to SEZ franchisee in providing basic telephone services in SEZs. These measures are bound to attract foreign direct investments.

In India, the government estimate says the 150 new SEZs would give employment to over 7 lakh (700,000) people. In each of the 30 multi-product SEZs, investment in infrastructure alone will be to the tune of Rs 4,000 crore (Rs 40 billion), thus making a total investment of Rs 1.2 lakh crore (Rs 1.2 trillion).

Now, why do we say that increased investment will increase our GDP?

GDP = Consumption (C ) + Investment ( I ) + Govt. Expenditure ( G) + Net Exports ( X-M)

Thus, GDP = C + I + G + X – M

Now in an economy, the total expenditure i.e. GDP or gross domestic product is equal to total income (Y) as one person’s expenditure is another person’s receipt. Thus

Y = C + I + G + X-M

So, if I i.e. investment increases by say delta I then

Y + delta Y = C + I + delta I + G + X – M

Now what is deltaY- this is the increase in GDP. The increase in GDP will always be a higher multiple of the increase in investments as when investments increase, income increases. Then in the next round, private consumption increases so income increases by a fraction on initial increase in investment. This process continues until the GDP has increased by the multiplier times initial increase in investments.

delta Y = multiplier * delta I

Hence, we have proven through simple macro-economics that due to the increased investments attracted by SEZs , we can increase the GDP growth rate.

SEZs have been enacted by the government to achieve certain specific aims. These are enhancing foreign investment and promoting exports from the country and realizing the need that a level playing field must be made available to the domestic enterprises and manufacturers to be competitive globally. In countries like the USA, export subsidies are commonplace. These reduce the final cost of commodities manufactured in these countries. The policy of SEZs also reduces the costs incurred to manufacturers so that they compete in the global market.

SEZ units are required to be positive net foreign exchange earners and are not subject to any minimum value addition norms or export obligations. This is a move to greatly boost the export earnings of the country. Of course, we can prove by a similar procedure that if exports increase than the GDP increases by a multiple of the increase in exports.

At this point, we must accept that the policy of setting up of Special Economic Zones is a progressive step in our development process. Analysts say China attracts nearly $45 billion per year in foreign direct investment compared to India’s figures of $2 billion annually, all because of the sprawling SEZs they have set up across that country. We need to adopt economically forward policies in order to be in a competitive position globally.

Mitali Nikore

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