Foreign Trade

Bhagwati, Jagdish N.; Sukhamoy, Chakravarty

The Indian policy literature with respect to the foreign sector has been concerned primarily with issues raised by foreign aid, private foreign investment, trade and exchange rate policies. The political counterpart to such economic analysis has been the appealing notion of ultimate self-reliance; its conflict with the view that foreign aid must continue as long as the income gap between the affluent and the underdeveloped countries is not drastically reduced has not been noticed. Many economists have attributed the prevalence of excess industrial capacity since the Second Plan. India was excessively tied to projects and thus led to creation of more capacity even when the existing capacity was not fully utilized. Although private foreign investment in India, whether gross or net of the outflow of the pre-Independence British investments, has been relatively unimportant in relation to the official capital transfers, it has attracted considerable attention from the economists. Some important factors in the Indian context have made governmental restrictions on the entry of foreign capital into specific areas necessary. The Indian trade regime has worked on the principle of automatic grant of protection to domestic industries, combined with restrictions on domestic entry operated through industrial licensing, monopoly rents accrue to investments in several activities. Hence, there exists a second best case for regulating entry into areas where the monopoly rents are likely to make the returns to foreign capital exceed its social marginal product.



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American Economic Review

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November 16, 2012