Import tariffs, as a measure of protectionism for domestic industries, haven’t begun rising yet. But if current trends are an indication of things to come, then world trade has started looking inwards and protectionism is surely coming back.
India’s service export prospects are turning bleak as a result. The US Congress has recently passed the American Recovery and Reinvestment Act, which beyond providing $787 billion to a beleaguered economy makes life difficult for Indian IT and finance professionals.
For the next couple of years, bailed out banks and firms cannot hire workers holding H1-B visas by displacing American workers. The annual intake of H1-B visas is around 65,000, of which 40,000-45,000 are Indian workers. The bulk of Indian H1-B applicants are IT professionals.
Further, the Obama administration has decided to discontinue tax incentives for outsourcing companies. The tendency to protect the domestic labour market is not confined to the US alone. In UK and Europe as well, governments are expected to take tough stands on outsourcing. These measures are only going to become stronger as Western economies contract further.
There are several implications of such protectionist measures.
For India, there are three concerns. First, medium term job prospects for IT and finance professionals in the US and Europe will get hit.
Second, poor employment outlooks will directly impact inward remittances. India has been the world’s highest recipient of workers’ remittances, which have swelled due to Indian professionals taking up high income jobs in the US, UK, Europe, Hong Kong, Singapore and other service-oriented mature economies. But with H1-B visa cuts, higher-income migration will reduce and inward remittances will commensurately shrink.
Third, as remittances decline and India’s earnings from software exports reduce due to declines in outsourcing, the ‘invisibles’ surplus in the current account will reduce and the trade deficit will not be compensated as much by invisibles as is normal. A larger trade deficit will lead to a higher current account deficit.
On the other hand, the capital account surplus has started reducing. A higher current account deficit and a lower capital surplus don’t imply balance of instability. But they do mean lower growth in foreign exchange reserves.
If the US dollar continues to strengthen, then reserve depletion due to valuation losses will be much more. India is not the only economy that will be affected by inward-looking labour policies.
Other emerging markets with comparative advantages in service exports will face difficulties. These are inescapable consequences of global integration. The initial impact of the downturn jolted financial markets.
Withdrawal of FIIs dampened market sentiments forcing indices to tumble. India’s capital market appears to have overcome the initial turbulence. It is now in the process of reconciling to a new set of revised and more moderate expectations. But the contagion has now begun spreading through other channels. Remittances and exports are the latest ones.
The protectionist moves drive home the importance of internal stimulus in emerging markets like India. Fortunately, both official as well as unofficial (in the form of bounties for forthcoming general elections) stimuli are in the pipeline. These will act out over a period in time.
From a global perspective, there are two other clear signals.
First, in spite of assurances at the G-20 summit in Washington in November 2008, protectionism is on a strong comeback trail. Key G-20 members themselves are adopting protectionism as the way out of the crisis. What is true for India applies to other developing countries also.
Second, history appears to be repeating itself in a familiar fashion. Nearly seven decades ago, the Smoot-Hawley Tariff Act of 1930 successfully began the process of converting a mild recession into the Great Depression.
As policy focus shifts from productivity to protection, outlook for world trade gets worse. The possibility of recession turning to depression again doesn’t appear remote.