Pakistan and India are the two largest economies in South Asia with very low levels of bilateral trade. This has been the result of border disputes and political tensions, but also of inward-looking import-substitution growth strategies. Trade (including official and unofficial) between the two countries stood at around US$ 2.5-2.6 billion in 2007/08 but it could potentially be as much as US$ 5-10 billion or two to four times its current levels. The Composite Dialogue Process (CDP) has led to substantial improvements in political relations over the last 5 years and trade relations have shown positive outcomes as well. This paper recommends that the process be strengthened further by restarting the stalled CDP, Pakistan granting most favored nation (MFN) status to India, continuing to reduce impediments to trade and trade logistics, and perhaps even considering the possibility of a free trade agreement (FTA) with India.
JEL Classification: F19, 024.
Keywords: Bilateral trade, Pakistan, India, competitiveness.
Pakistan and India are the two largest economies in South Asia.1 Together, they account for 90 percent of the gross domestic product (GDP) and 85 percent of the population of the region. They share a long contiguous border, have similar cultures, and, in the not-too-distant past, enjoyed well-integrated transport and market links. If we look at neighboring countries similar in size to India and Pakistan in terms of population or current GDP-such as Malaysia and China or Brazil and Argentina-bilateral trade accounts for 2.2 percent and 10.2 percent, respectively, of world trade in these countries. The case of Pakistan and India is quite different. In 2007/8, the share of total trade in goods between Pakistan and India was less than 0.5 percent of their combined trade with the rest of the world.
The abysmally low level of Pakistan-India bilateral trade is not only a result of border disputes and political tensions, but also of inward-looking import-substitution growth strategies. This has rendered South Asia among the least integrated economic regions in the world. Between 1980 and 2005, intraregional trade as a share of total trade within South Asia only rose from 3 to 4 percent, whereas in East Asia-a region of comparable size in population and GDP-intraregional trade more than doubled from 6 to 14 percent.2 It is striking that, over the same period, South Asia's worldwide exports grew from only $12 billion to $126 billion-a tenfold increase-while East Asia's jumped from $48 billion to over $1 trillion-a twentyfold increase.3
Bilateral trading relations between India and Pakistan were not always so limited. In 1950/514, 4 years after the partition of the Indian subcontinent, bilateral trade stood at $147 million, or close to 5 percent of their total world trade. Over the past 55 years, both economies have grown significantly in terms of GDP and per capita income. The combined GDP of India and Pakistan was close to a trillion US dollars in 2005/06, while their trade (exports and imports) of goods and services with the world accounted for US$361 billion, or around 39 percent of their combined GDP in that year (see Figures 1-4). However, bilateral trade accounted for less than a billion US dollars in 2005/06, or only 0.3 percent of their combined trade in goods and services with the world. Trade between India and Pakistan is miniscule compared to what it could potentially be, which by estimates could be as high as US$10 billion or 2% of the combined merchandize trade with the world. Thus, both countries have missed the opportunity of anchoring their own growth and competitiveness on bilateral trade. Being the two largest economies in South Asia, regional trade and economic integration too has suffered considerably compared to other regions of the world.
This paper discusses the issues that prevent Pakistan and India from reaching their full potential of bilateral trade. …