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India's Exports to Pakistan: Transaction Cost Analysis

India and Pakistan, as natural trading partners with a common border, can have costs of trading substantially lower than with the rest of the world. On the basis of a firm level survey this article shows that restrictive trade policies, limited trade routes, inadequate transport infrastructure and procedural hindrances lead to high transaction costs for Indian exports to Pakistan. The article suggests measures that could lower such costs.

India’s Exports to Pakistan: Transaction Cost Analysis

India and Pakistan, as natural trading partners with a common border, can have costs of trading substantially lower than with the rest of the world. On the basis of a firm level survey this article shows that restrictive trade policies, limited trade routes, inadequate transport infrastructure and procedural hindrances lead to high transaction costs for Indian exports to Pakistan. The article suggests measures that could lower such costs.

NISHA TANEJA

T
rade between India and Pakistan, though at low levels has grown significantly in recent years. During 2003-04 to 2005-06 trade has increased by two and a half times from US$ 345 million to US$ 869 million. What is escaping the attention of analysts is the fact that this growing trade is taking place at high transaction costs. This paper poses three key questions – (i) what are the key transport routes? (ii) what are the factorsthat contribute to transaction costs along these routes? and (iii) how do these routes compare in terms of efficiency parameters?

The findings of the study are based on a survey that was conducted in Mumbai, Delhi and Amritsar. The sample covered trading firms, freight forwarders and government officials and academicians. A semi-structured questionnaire was used to elicit both qualitative and quantitative information from respondents. The size of the sample is small (59), hence, the results from the survey are only indicative. The survey was conducted in January 2005.

Key Transport Routes

Even though India and Pakistan share a long land border, trading between India and Pakistan is allowed only by rail along the Attari/Wagah border in Punjab. In fact, the operation of this rail route between the two countries has been erratic. Following the attack on the Indian parliament in December 2001, rail links between the two countries were suspended. Amid a peace process begun in April 2003, rail service reopened between the two countries in January 2004. The road route for trade has been non-existent until very recently, while transportation of goods by air is very limited.1 The survey indicated that due to bottlenecks in trading through the land route (discussed later), exporters are forced to use the land-cum-sea route. The survey indicated that several firms in Delhi first transported their goods by the land route to Mumbai and then to Karachi by sea.

Economic and Political Weekly January 13, 2007

The sea route between Mumbai and Karachi has operated unhindered and has been the only consistent operational transport link. Another major route used to transport goods from India to Pakistan is the indirect sea route via a third country such as Dubai. Since Pakistan allows only a limited number of items (773)2 to be imported from India, those not on the permissible list are being traded through third countries. In other words, goods are transported by ship from Mumbai to Dubai and then to Karachi. Technically, this is an official route. Interestingly, in the course of the survey it was found that sometimes, goods actually move from Mumbai to Karachi, but the bill of lading shows the origin of the goods as being from Dubai, Hong Kong or Singapore. Such a bill of lading is illegal and in the shippers’ jargon is called a “switch bill of lading” (SBL) which can be obtained at a cost/bribe.

The key land routes under study are the Delhi-Attari rail route, Delhi-Attari roadrail route and the Delhi-Mumbai-Karachi land-cum-sea route which is used because the Delhi-Attari route is not always accessible. The key sea routes are the Mumbai-Karachi sea route and the Mumbai-Dubai-Karachi route. The latter is used to transport items not on the permissible list. The Mumbai-Karachi sea route using a SBL is also considered to illustrate the magnitude of transaction costs on an illegal/unofficial route.

Goods are transported by rail or by road from Delhi to Amritsar from where they are transported by train across the Attari/ Wagah border. Goods move either by goods wagons or by parcel wagons that are attached to the Samjhauta Express – a passenger train.3 There is no fixed timing for a goods train but the trains do not move across the border after 5 pm due to security reasons. Under a reciprocal arrangement between the two countries, the wagon balance has to be cleared every 10 days between the two countries. The Indian railways crew and engine is allowed to carry the wagons till the Attari/Wagah border only (and vice-versa) from which point the wagons are transported by the Pakistani rail engine head. Goods that are transported by the Samjhauta Express by parcel wagons move at fixed timings on a bi-weekly basis. The same number of parcel wagons (10) move on every trip, whether loaded or unloaded.

The mechanism in place, particularly in the case of goods wagon poses several problems to traders. First, there is a scarcity of wagons since supply of wagons does not always match demand. Second, since the wagon balancing takes place only thrice a month, there is a scarcity of wagons till such time that that there is a zero balance. The scarcity and availability of wagons leads to transaction costs in the form of bribes, which is as high as $ 2.5 per tonne. Third, the frequency of the goods train is erratic. The uncertainty created in this manner translates into additional transaction costs for traders. Traders employ agents whose job is to get information on the departure/arrival timing of the goods train. Fourth, to deal with the demand for wagons, the railways give priority to perishables like ginger, fresh vegetables, soy meal and sugar while high value goods like tyres and books have to wait longer for wagons. Exporters have mentioned that 75 per cent of the available wagons are needed for tyres alone. While the average time to get wagons is nine days, for tyres the wait has been reported to be up to 23 days. On the other hand, railway authorities have stated that the number of wagons can be increased only if there are adequate handling capacities in Pakistan. Also, since wagon balancing takes place only thrice a month, the opportunity cost of having the wagons parked in Pakistan is very high.

Traders face several other problems. Traders have pointed out that there is no provision for movement of containerised

Table 1: Route-wise Transaction Cost (TC) Per Container

(US $)

Transport Cost (Tpt) Bribes Total Rail/Road Sea Total Tpt Bribes for Other Total TC Cost Clearances Bribes Bribes

(1) (2) (3) (4)=(2)+(3) (5) (6) (7)=(5)+(6) (8)

Delhi-Attari Rail 325 325 21 451 66 391 Delhi-Attari Road -Rail 338 338 32 452 77 415 Delhi-Mumbai-Karachi Rail-Sea 460 550 1010 48 48 1058 Mumbai-Karachi Sea 550 550 26 26 576 Mumbai-Dubai-Karachi Sea 750-950 750-950 26 26 776-976 Mumbai-Karachi

(with switch bill

of lading) Sea 550 550 26 2003 226 776

Notes: Estimates for transport and other transaction costs have been obtained for a 20-feet sea container load that can transport 18 tonnes of soya meal. Costs for land transport have been obtained for the same quantity. Information was elicited from freight forwarders. 1, 2: Other bribes include bribes paid for procuring rail wagons.

3: Other bribes include bribes paid for obtaining a switch bill of lading. Source: Survey (2005), January.

Table 2: Route-wise Comparison of Transaction Cost (TC) Per Container-Km

Distance Total Transport Total Trans-Bribes as Ranking Ranking (Km) Tpt Cost Cost TC Cost action Per Cent of of $ Per $/Con-$ Per Cost of TransportTransaction Container tainer-Km Container $/Con-Transaction Costs Costs tainer-Km Costs $/Con-$/Container-Km tainer-Km

Land (1) (2) (3) (4) (5) (6) (7) (8) Delhi-Attari (rail) 478 325 0.68 391 0.82 17.1 5 4 Delhi-Attari

(road/rail) 479 338 0.71 415 0.87 18.4 6 5 Delhi-Mumbai-

Karachi

(land cum sea) 2274 1010 0.44 1058 0.47 6.4 2 2 Sea Mumbai-Karachi 885 550 0.62 576 0.65 4.6 3 3 Mumbai

Dubai-Karachi 3127 750-950 0.24-0.30 776-976 0.25-0.31 3.2 1 1 Mumbai-Karachi

(with switch bill

of lading) 885 550 0.62 776 0.88 29.5 3 6

Notes: Estimates for transport and other transaction costs have been obtained for a 20-feet sea container load that can transport 18 tonnes of soya meal. Costs for land transport have been obtained for the same quantity. Information was elicited from freight forwarders.

Source: Survey (2005), January.

Economic and Political Weekly January 13, 2007 rail cargo from Amritsar. This is in contrast to such facilities being available on major rail routes in the hinterland. The wagons that are currently used are also antiquated. Traders have also pointed out that unloading goods at Lahore can sometimes take several days.

Goods brought into Amritsar go through customs clearance at the Amritsar customs house. Transaction costs in the form of bribes are incurred in getting customs clearances. Often unnecessary queries are raised on bill of entry/shipping bill with the purpose of extracting bribes. It may be noted that there are no electronic data information (EDI) facilities available for filing a shipping bill/bill of entry. A disadvantage for traders sending their goods by rail/road from another city, e g, Delhi, is that the bill of lading can be issued only from Amritsar and not from Delhi. It needs to be noted that this facility is available to traders when goods are transported by a main route such as Delhi-Mumbai-Karachi involving inter-modal trans-shipment.

Maritime trade between India and Pakistan is governed by the 1974 protocol between the two countries on resumption of trade. The protocol does not allow third country flagships/vessels to lift India/Pakistan-bound cargo. Also, it does not allow the flag carriers of both countries to lift cargo for a third country from each other’s ports. As a result freight rates between Mumbai and Karachi are high. Despite these restrictions, at the current level of trade, traders do not face any additional problems on the Mumbai-Karachi route compared to other sea routes for trading with the rest of the world. In other words, trading with Pakistan does not imply additional inspections or clearances compared to those required for other countries.

The survey identifies five factors that account for high transaction costs for Indian exports to Pakistan – limited trade routes, inadequate transport infrastructure, shipping and rail protocols between the two countries, restriction on the number of items permitted into Pakistan from India, and procedural clearances.

Quantifying Transaction Costs

For the purpose of the study, transaction costs include cost of transportation and bribes to rail authorities, police, port authorities and customs for various procedural clearances. Transport and other transaction costs were obtained for a 20 feet ship container load of 18 tonnes of soya meal. Costs related to transportation by rail and road were calculated for an equivalent amount (18 tonnes) of soya meal.4This item was selected because it is a homogeneous commodity. Also, at the time of the survey it was easier to locate freight-forwarders and traders dealing with soy meal. Transport and other transaction costs are presented in two forms in Tables 1 and 2 – (i) costs per container which allows cost comparisons in absolute terms as traders often do not have the option of transporting goods through the most desirable/direct route, and

(ii) cost per container per km, which is used as a performance/efficiency indicator for alternative routes and allows ranking of costs incurred on all possible routes.

Expectedly, Table 1 indicates that absolute costs are the highest on the indirect trade routes, viz, Mumbai-Dubai-Karachi and Delhi-Mumbai-Karachi. Freight costs on the Mumbai-Dubai-Karachi route are around US$ 950 but could be as low as US$ 750 per container on account of low freight rates for goods moving from Dubai to Karachi. The price advantage usually accrues to agents operating from Dubai but may sometimes be shared with Indian

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exporters. Freight costs are often determined by the freight trade balance between two countries. Since Pakistan has a trade surplus with Dubai, containers moving back from Dubai to Karachi are not fully loaded and are therefore offered to Indian exporters at concessional rates. Further, if the same freight rule is applied to goods moving between India and Pakistan, then given that India has a trade surplus with Pakistan, freight costs of transporting goods from Pakistan to India should be less than cost of transporting goods from India to Pakistan. Freight forwarders, when questioned about the freight rates on the Mumbai-Karachi route, pointed out that the costs in both directions are the same. This is because the shipping protocol between India and Pakistan allows only Indian and Pakistani flagships to operate between the two countries leading to high transportation costs.

Further, Table 2 provides a comparison of transport and total transaction costs both in terms of absolute costs and in terms of efficiency measured by costs incurred per container per km. The survey reveals that the Mumbai-Dubai-Karachi and the Delhi-Mumbai-Karachi routes are the

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Economic and Political Weekly January 13, 2007

most efficient routes in terms of transport/ transaction cost incurred per container-km (see columns 7 and 8, Table 2). Both these routes are indirect routes. While the former is opted for instead of the direct Mumbai-Karachi sea route, the latter is used as an alternative to the choked land route.

If, however, transport and transaction costs are not normalised over distance, costs per container on the indirect route are much higher than the direct routes. Thus, on the Mumbai-Dubai-Karachi route transport costs could be 1.4 to 1.7 times while transaction costs could be 1.3 to 1.7 times the cost of transporting directly between Mumbai and Karachi. The discrepancy is even more glaring in the case of the Delhi-Mumbai-Karachi route where transport costs are 3.1 times and transaction costs are 2.7 times those in the direct route between Delhi and Attari (see columns 2 and 4, Table 2).

The ranking of the two indirect routes in terms of cost efficiency remains unaltered even if bribes are included in total transaction costs. However, inclusion of bribes changes the ranking of the Mumbai-Karachi route using a SBL to the lowest (see columns 7 and 8, Table 2). Bribes as a proportion of total transaction cost are the highest on this route accounting for 30 per cent of the total transaction cost. This is expected since it is an illegal route and not officially available to traders. This route is also relatively unattractive to the Mumbai-Dubai-Karachi route as total transaction costs could sometimes be the same on both routes (see column 4, Table 2). Traders would therefore opt for the official route. All the other routes under consideration are legal routes. Bribes on the direct land routes account for 17 per cent to 18 per cent of total transaction costs and on the Mumbai-Karachi and Mumbai-Dubai-Karachi routes bribes, range between 3 per cent and 5 per cent (see column 6, Table 2).

Finally, it is possible to measure the extent of efficiency in terms of transaction costs incurred per container-km between the direct and indirect official sea and land routes. The Mumbai-Dubai-Karachi route is 2.6 times more efficient than the direct Mumbai-Karachi route while the indirect Delhi-Mumbai-Karachi route is 1.9 times more efficient than the direct Delhi-Attari road/rail route.

Policy Recommendations

Transportation links between the two countries are weak with only two operational routes namely the Mumbai-Karachi sea route and Attari/Wagah land border. High transaction costs on these routes make the indirect routes, viz, Mumbai-Dubai-Karachi sea route and the Delhi-Mumbai-Karachi land-cum-sea route more efficient than the direct Mumbai-Karachi and Delhi-Attari routes. Perhaps the first step towards reducing transaction costs would be to move towards a negative list approach so that goods can move freely on the direct routes. Even though the South Asian Free Trade Agreement (SAFTA) has been fully operational since July 2006, Pakistan has not accorded the most favoured nation (MFN) status to India. On a more positive note, the two governments have agreed on and ratified the amendment of the maritime protocol. This change is likely to lower freight costs in the future. Transaction costs can be lowered by removing bottlenecks on the Mumbai-Karachi sea route and the Attari/Wagah land border. The rail protocol should be amended so that restrictions on wagon balancing are removed and wagon availability is improved. Measures such as simplifying border procedures and introduction of EDI facilities at the land borders would also reduce transaction costs of trading, both in terms of time and money. The opening of the road link through the Wagah border is also a welcome step but it is limited only to export of a limited number of perishable items but not to imports. New rail and road links, e g, the Khokrapar-Munabao link and the Srinagar-Muzaffarabad link (for goods transportation) would reduce transaction costs of trading further.

EPW

Email: NTaneja@icrier.res.in

Notes

[Research for this article was funded by the World Bank and is based on ‘India – Pakistan Trade’ Working Paper No 182, Indian Council for Research on International Economic Relations, 2006. Comments from Amer Durrani, Ijaz Nabi, Zareen Naqvi, Richard Newfarmer, Miria Pigato, Garry Pursell and Meenu Tewari are gratefully acknowledged.]

1 This article does not include the recently opened road route for exports of some items to Pakistan through the Wagah border as the survey was undertaken before this route was opened.

2 Even though the South Asian Free Trade Agreement has been operational since January 2006, Pakistan has not accorded India MFN status. In fact Pakistan is considering an expansion of the positive list by another 302 items.

3 The capacity of a goods wagon is 24 tonnes; capacity of a parcel wagon is 55.5 tonnes; one rake carries 1,750 tonnes.

4 The value of 18 tonnes of soya meal is $ 4,000.

Economic and Political Weekly January 13, 2007

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