One of the cornerstones of India’s policy prerogative of becoming a global manufacturing powerhouse is the China Plus One supply chain transition. But a rude surprise in the form of punitive US tariffs could trip India’s march towards becoming a preferred alternative to China. While the more immediate problem can be solved with quick-fix solutions, a more durable solution to bolster India’s defences is to carry out deep, long-term reforms to make the country a magnet for global business.
The compulsion to diversify supply chains away from China that has gained currency globally had also fired up India’s dream of projecting itself as a viable alternative to China. The change in the US regime in late 2024 was marked by the initial optimism of China being penalized with excessive tariffs and India being treated somewhat leniently, thereby widening the tariff differential between the two nations. This made India the natural choice for diversification of supply chains away from China.
However, Trump’s punitive tariff of 50 percent on India is seen as a deterrent, as the inability to access the world’s largest market in favourable terms can prove to be a serious challenge in attracting investments, especially when most competing partners have a tariff advantage over India.
China has built a moat around its manufacturing that is hard to replicate, and a favourable tariff differential was a way to eat into that pie. Unless fruitful negotiations results in much lower tariffs, without India having to compromise a lot in the bargain, it could pose a short -term challenge to India’s dream of becoming a formidable alternative to China.
Historically China has attracted way more FDI compared to India because of the natural advantage it has offered to investors. However, at the behest of the western world’s seriousness in diversifying away from China, it got lower FDI in 2023. But it did not land in India as FDI inflows to India were also down by 42 percent.
The much talked about argument of India diversifying its exports beyond US isn’t a straightforward one either. While USA’s contribution in China’s export mix has reduced, it has gone up for Asian countries and has held up in the European region. In the last seven years, China’s export to ASEAN countries and the European Union (EU) has grown at a CAGR of 11 percent and 7 percent each. That means competitive intensity for Indian goods in these markets has increased. Moreover, these markets aren’t as promising and fast growing as the US.
Why foreign investors haven’t got excited about India as much as China
India’s business environment is seen as more challenging than China’s. With years of efforts, China has built an unmatched manufacturing ecosystem. In simple terms it is easier to set up a factory, get it up and running and ship products out of China compared to India. In China for instance, land is available on long-term lease within a month, and skilled labour is readily available and machineries mostly sourced locally are in place in no time. In India land acquisition is a complex process in most states, labour is plentiful but getting the right skillset is a challenge and most machines and spare parts have to be imported thereby adding to the timeline. For distribution of the final produce, the logistics turnaround time is much lengthier in India.
Finally, while India boasts of a large domestic market like China, the two aren’t comparable with China’s per capita GDP ($13,687) almost 4.76 times that of India ($2,878). India might be populous but to turn the demographic disadvantage to a dividend, India has an arduous task of finding gainful employment for its young labour force, largely unskilled and semi-skilled and might find it difficult to find employment in the age of AI and automation that is likely to replace a large number of low-end jobs. Approximately 12 million young people join the workforce annually, and the country has been unable to generate jobs for most of them. About 90 percent of the Indian labour force is engaged in the informal economy, where productivity is about half of the national average.
If India aspires to be a contender in global supply chain realignments, it has to implement long-overdue structural reforms in land acquisition and labour markets. India must also foster an environment conducive to large-scale, competitive manufacturing by expanding its workers’ skill sets. India’s skills deficit is stark – only 20 percent of the country’s 600 million-strong labor force is skilled, compared to a global average of 80 percent in developed countries.
India’s social, economic and human capital challenges are compounded by regional divergence, leading to what economists call the “two Indias” wherein fertility rates of northern states is higher than national average whereas those in the southern states are below the national replacement value. South India boasts higher literacy rates and performs better on most social indicators. This is reflected in economic output, with South India contributing 31 percent to India’s GDP in FY24, despite its smaller population share.
The need of the hour is not to divert precious resources to do a quick fix of the labour-intensive sectors like textiles, leather, gems & jewellery etc that are battered by Trump’s tariff, but to efficiently implement long-pending economic reforms and invest massively in skills training. This crisis could be a 1991 moment for India to leap into the next level.
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