Development of SEZs in India: Some Issues

rbiAccommodation Times Research

By L. Lakshmanan*

Abstract of Report : Evolution of Special Economic Zones and some Issues: The Indian Experience submitted to RBI

In India, the SEZs have been introduced as a growth driver through increase in export potential of the country, development of infrastructure facilities and generation of employment opportunities. The infrastructure development in some of the regions has taken place due to the development of SEZs. However, Jagdish Bhagwati has remarked that “given the current progress in reforms undertaken in earnest since 1991 in India, there is no need to establish SEZs”. He says that India needs only clear policies that will integrate the country into the world market. Some are advocating that the SEZs are beneficial to certain business people rather than to the common man. Some others attribute that there is huge revenue loss to the Government due to various concessions extended to the SEZs. Some major issues in this regard are discussed below.

Increasing Numbers of SEZs: Critics argue that developing a sizeable number of SEZs in the country may not be a viable solution to achieve the desired goals. In India, more than 400 SEZs are in the pipeline to get notified, in addition to 274, which have already been notified. Overall, therefore, 552 SEZs have been formally approved, with an average land size of about 127 Ha. Another 141 SEZs have been given in-principle approval with an average land size of 869 Ha. The notified SEZs have the average land size of 118 Ha.

In China, the five SEZs, which are huge in terms of the land size of about 421,350 hectare encompassing all the amenities and with proximity to airports and sea ports have provided the necessary thrust for exports. The USA and China, which have a large number of SEZs at 266 and 190, are still behind India with 274 SEZs already notified, in addition to 19 existing zones. Majority of the investors have exhibited interest in specific product SEZs. Many of the African SEZs of this category have failed when the world production and consumption pattern underwent changes. Bigger size multi-product SEZs only could provide the required infrastructure and are sustainable options.

Are SEZs inherently anti farmers? This is the oft cited criticism against SEZs in India. The minimum area of land prescribed for multi-products SEZ is 1000 Ha. Small states like Jammu & Kashmir, Goa and the Union Territories do not have sufficient barren land stretches to develop multi-product SEZs. Therefore, the minimum land requirement has been prescribed at 100 Ha for these regions. The reduced land requirement is applicable for sector specific SEZs also. Specific products where India has a comparative advantage, the minimum land requirement has been reduced further to 10 hectare (Table 9). According to an assessment by the Government of the ground realities with regard to the land usage of SEZs, the total area for the proposed SEZs constitutes a miniscule share of the total land-size of the country. The approved land size for the SEZs (both formally approved and in-principle approval) would not exceed 0.063 per cent of the total land area in the country and not be more than 0.116 per cent of the total agricultural land in India.

Table 9: Minimum Land Area Requirement for SEZs

Classes of SEZ

Area in Hectare

1

2

Multi Product SEZ

1000

Multi Product SEZ for Services

100

SEZ in North Eastern Region

100

SEZ in Jammu & Kashmir, Goa and UTs

100

SEZ for Specific Sector or Port or Airport

100

SEZ for Electronic Hardware/Software, IT

10

SEZ for Bio-Technology, non-conventional energy, Gems & Jewellery

10

SEZ for Specific Sector in NER

50

SEZ for Specific Sector in HP, Uttarakhand, J&K, Goa and UTs

50

Free Trade and Warehousing Zone

40

Source : Compiled from SEZ Rules, 2006.

As per the Government regulations, more than one crop agricultural land area, which falls within the area for acquisition for the SEZ should not exceed 10 per cent of the total land area of the SEZ. In India, contrary to that in China, the availability of waste or barren land at a stretch to develop huge size SEZs is limited. The barren land available in India is either reserved for forests or for coastal zone. If these lands acquired for the purpose of development of SEZs, it may create environmental imbalances. Some stretches of such barren land are surrounded by agricultural land. If acquired and developed into SEZs, such land areas may adversely affect the agricultural production and even in some cases, severely affect the livelihood of the common man.

Taking these factors into account, a look at the agricultural pattern of the country reflects that about 39 per cent of total cultivable areas are irrigated. Remaining agricultural lands are either single crop land or double crop land depending upon the monsoon condition of the region, which are also critical for the livelihood of the masses. Further, considering the demographic transition which is taking place in India, India would be one among the most populated countries in the world by 2030 (according to UN). India, therefore, should be in a position to feed the vast population and be self sufficient in the availability of foodgrains. If agricultural lands are diverted for SEZ development, it would pose a difficult situation in terms of food problem in the long run.

Another fall-out of such a policy is that the farmers are paid low value for the land acquired for SEZs as compared to the market value of their land. Furthermore, in India, the rehabilitation and compensation policy is inadequate and varies depending upon the area, nature and political scene in the region. There are no standardised packages available for compensation of the affected farmers. The average selling price of the land for the past one year is fixed as compensation for the land acquired for SEZ purpose. This can, however, have two-way implications. One, if there were no SEZs, there would be no market value for farmer’s lands which are acquired for the purpose. More importantly, given that the states governments are the ultimate authority for land use, the farmer is not in a position to get the market value for his land on his own. Two, state control of sale of land is maintained on account of the fear that farmers would otherwise sell-off all their lands for industrial and urban use and there would be no farmland left. Given the nature of land use laws in India, there seems to be no easy way out of this dilemma.

Are sector-specific SEZ like IT/ITES a Viable Business Option? The sector-wise composition of approved SEZs reflects that more than 60 per cent of the SEZs are IT or ITES category due to recent boom in the IT related businesses. The land requirements for IT or the ITES is fixed at 10 hectare as compared with large stretches of land required for multi-product SEZs. However, sector-specific SEZs may be affected easily by cyclical and other economic factors, as could be seen from the fact that the IT related industries, particularly BPO sector faced severe attack due to the on going global economic recession that erupted during the latter half of 2008. As a result, considerable number of approved SEZs of IT/ITES category may not start their business due to uncertainty in the sector and the gloomy future outlook. Therefore, large scale development of the sector specific small and fragmented SEZs may not be a viable business option in the long-run and alternatively multi-product SEZs would withstand any such sudden shocks.

Another criticism in respect of sector-specific SEZs for IT/ITES highlights that since the minimum land requirement is very low with a minimum build up processing area of one lakh square meter, more than 50 per cent of the SEZs belong to the IT/ITES segments in almost all major states. This makes real estate development for processing, office accommodation as well as for dwellings imperative. Regulations permit the developers of sector-specific SEZs to build a maximum of 7,500 houses, a 100-room hotel, a 25-bed hospital, and have office space, retail stores and multiplexes up to 50,000 square meter, while a multi-product SEZ developer can build a maximum of 25,000 houses, a 250-room hotel, a 100-bed hospital and office space, retail stores and multiplexes of 200,000 square meter.

According to the Ministry of Commerce, about 35 per cent of the land within the SEZ is to be used for processing purposes and about 40 per cent of the land is to be reserved for open space, drainage, sewerage, etc. Housing for dwelling, hospital, school, recreation, etc., are to be developed in the remaining 25 per cent of the land. Therefore, huge property development is involved in the multi-product or specific product SEZs due to the nature of the proposition and the real estate activities will boom in the initial phase of the development of SEZs.

SEZs are offered undeserving tax holidays and other incentives: There is much more validity in this argument as SEZs promises both administrative simplicity, and economic incentives. Among them, the former represents the waiver of routine custom shipment inspections, and no licensing for production reserved for micro and small enterprises (MSEs). Economic incentives range from time-bound income-tax exemptions under Section 10A to zero duties on domestic and imported inputs. The theoretical basis of a trade-neutral policy, which assigns no special preference to either exports or imports, is violated by the SEZ schemes. The revenue losses due to excessive fiscal concessions to the SEZs could be sizeable but at the same time the SEZs would generate more production and exports and thereby more revenue accruals, which would compensate the revenue losses incurred during the course of SEZ development. In addition, pick up in organised sector employment arising from the new SEZs should lead to improved tax administration which could partly offset losses due to tax concessions. However, free trade zones like Santacruz in Mumbai grant very limited privileges but are working as successful SEZs. In fact, it is difficult to precisely estimate the cost-benefit of incentives and these incentives might often cost more than the benefits from the activity.

SEZs are essential to boost exports: This argument is true which is reflected in the export growth from SEZs in recent years (which recorded an overall growth of 381 per cent over past four year) (Table 10). The share of exports from the SEZs in the total manufacturing exports has been increasing steadily during the recent period and constituted about 16 per cent of the country’s manufacturing exports (in 2007-08). In general, the critics have been reluctant to recognise merits to this institutional mechanism on grounds that it is an inferior alternative to free trade and non-discriminatory commercial policy. The role of production clusters, per se, is well supported by economic theory. These clusters lead to external economies for all units in the form of good roads, power, etc., which no manufacturing unit by itself would be inclined to provide.

Table 10: Export Performance of SEZs

Year

Exports form SEZs (Rs. Cr)

Growth (%)

Share in Total
Manufacturing
Exports (%)

1

2

3

4

2001-02

9190

..

5.8

2002-03

10057

9.4

5.2

2003-04

13,854

37.8

6.2

2004-05

18,314

32.2

6.7

2005-06

22,840

24.7

7.1

2006-07

34,615

51.6

9.0

2007-08

66,638

92.5

16.1

Source: Ministry of Commerce and Handbook of Statistics on the Indian Economy, RBI.

Another aspect of the argument is that a sizeable chunk of exports of gems and jewellery, textiles and clothing, automobiles and parts and IT services are being produced in the naturally developed clusters like Chennai, Bangalore, Tiruppur, Delhi and Surat. In IT, for example, there is no evidence that the Government has had a major role in developing Bangalore or Delhi clusters. The coming up and success of SEZs rests mainly availability of adequate infrastructure with an aim to boost exports. The major constraints to development of such zones are port congestion and transport bottlenecks. It may be noted that the IMF called upon the industrial countries to improve market access for India’s exports, particularly by reducing trade-distorting subsidies and tariff and non-tariff restrictions on textiles, agriculture, and skill-intensive services, thereby generating considerable welfare gains not only for India, but also for consumers in advanced economies.

Possibility of shifting of existing manufacturing units to SEZs: It is generally argued that entrepreneurs like to do business in SEZs than in the DTA due to lucrative concessions and profit motive. Therefore, the units that would otherwise have come up in DTA would simply be diverted to tariff free zone, thereby reducing Government revenues without adding to employment or output. The obvious problem is that there would be an incentive for existing export units to switch to SEZ locations simply for the purpose of benefitting from the incentive provisions.

Private vs Government SEZs: The crucial issue of whether a private-operated and financed SEZ can compete with a Government operated and financed SEZ sparked a considerable amount of debate. The fact is that strong developers are required to finance the creation of SEZs, but financing of economic zones, like all project finance, requires careful structuring to allocate risks appropriately. Risk mitigation is important, including phased build-up of infrastructure, and involving public agencies in financing to ensure and to signal Government commitment. One way of achieving this may be through public-private partnership (PPP).

Exclusion of backward Areas from SEZs: Many SEZ developers exhibit interest in setting up of SEZs in developed states like Maharashtra, Gujarat, Tamil Nadu, Andhra Pradesh and Karnataka, where the basic infrastructure has developed to an extent. On the other hand, the developers have not shown much interest in setting up of SEZs in backward states like Bihar, Jharkhand, Uttarakhand, etc., where sufficient barren lands may be available. In an open economy and a free market regime, Government cannot make it obligatory upon anyone to set up SEZs in such States. However, developers could be encouraged to set up SEZs in such regions if necessary concessions are provided and basic infrastructure is put in place in these states to make it attractive for the investors. Overall, a well balanced and conducive policy environment is required to make the SEZ programme a successful proposition.

 

Editor’s Note : The author is Assistant Adviser in the Internal Debt Management Department of the Reserve Bank of India. This Paper was prepared initially as an internal note when the author was working in the Department of Economic Analysis and Policy. The responsibility of the views expressed in the Paper rests solely with the author and the usual disclaimer applies.







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