China's Capital, India’s Quandary - A Dance of Economic Diplomacy

In the complex interplay of global economics, the one partnership that forges the most complex paradox would be that of India and China. On one hand, the stalemates stand as competitors vying for power and influence in Asia and beyond; on the other, their shared economic interests link them through trade and investment. And as India aspires to emerge as a global manufacturing powerhouse, the ideal approach to Chinese engagement remains debatable.

Illustration by The Geostrata

The Economic Survey of 2023-24 stirred the hornet’s nest by calling for an increased FDI from China, sparking debate across political, economic, and strategic spheres raising the question of whether this is a calculated gambit to leverage China's strengths for India's advancement, or a risky move that could checkmate our long-term security? 

The debate on the question of FDI remains polarised, in fact, “There seems to be differences within the government's own ministries on the issue of FDI from China," as observed by V. Upadhyay, a veteran economist and former professor at IIT Delhi.

There’s factionalism with proponents arguing for the potential economic benefits, while opponents steadfastly caution against what they see as an imprudent gamble. This debate echoes Churchill's adage, "In finance, everything that is agreeable is unsound and everything that is sound is disagreeable," highlighting the inherent tension between economic pragmatism and national security. 

China’s dominance as a manufacturing giant is an open secret. Its strategic blend of low labor costs, vast domestic market, robust supply chains, and enticing tax incentives, have served as irresistible siren calls to all global economies, and India has been no exception.  

China has recently overtaken the United States as India’s top exporter for the FY 2023-24, with imports from China accounting for 15% of India’s total, underscoring the nation’s reliance on its northern neighbor.

Yet, Union commerce minister Piyush Goyal opined to not proceed with the survey’s recommendation, stating: “There is no rethinking at present to support Chinese investments in the country”.

Meanwhile, in a twist of perspective, Arvind Panagariya, Chairman of the 16th Finance Commission, offers a pragmatic counterpoint:: “I think we should not hesitate to go forward after all we are trading with China also. We should not hesitate with FDI either.” His argument pushes us to question: if India and China are already so economically entangled, why is Chinese FDI such a contentious issue?

The answer, as always, lies in the past. Dealing with China has long been fraught with political risk, a sentiment deeply embedded in the national psyche since 1962. The underlying issue is of trust—or rather, the lack thereof, which is the irreversible casualty of the Galwan Valley clash. The clash was more than just a territorial loss. 

Arun Mohan Sukumar has expressed the gravity of the Galwan Valley situation in his book Midnight’s Machines as an inflection point for Indian strategic thought. The war exposed the vulnerabilities of India’s emerging industries and reinforced the urgency of building a self-reliant defense apparatus.

Yet, despite the hard-earned wisdom, the trade deficit with China has grown by 75% since 2020, even as India has taken a tougher stance post-Galwan Valley clash with quality control measures, stringent visa restrictions and banning of Chinese applications. 

One cannot overlook that the matter transcends mere economics, it is grounded in geopolitics. Allowing Chinese FDI means potentially increasing China's influence within India’s economy—a prospect that naturally raises concerns. The West’s “small yard, high fence” approach reflects India’s own strategy, which includes initiatives like the Production-Linked Incentive (PLI) scheme launched in 2020, which aims to counter China’s economic dominance by encouraging Indian manufacturers to boost productivity.

Ashok Chandak provided the government with several recommendations on how India could take advantage of the PLI schemes and a strategic revision of import duties to attract supply chain Chinese firms without losing strategic autonomy and increasing local value addition.

The PLI scheme targets sectors where China leads, like solar panels and electronics, to foster local production and reduce reliance on Chinese imports.

In 2021 the scheme was reinforced by  ramped up inspections and tightened standards for electronic products and components—a sector heavily reliant on Chinese supplies. The Bureau of Indian Standards (BIS) introduced mandatory certifications for a range of products, including toys, electrical goods, and certain chemicals. These measures effectively reduced the amount of low-quality Chinese goods in the Indian market and protected Indian consumers from substandard products. 

These steps were not isolated but part of a broader geopolitical campaign to reduce reliance on Chinese goods, boost domestic manufacturing, and assert India’s economic sovereignty. Still, the complexity of Chinese FDI cannot be ignored.

As Pankaj Mohindroo points out, a simplified approach may not be sufficient given the nuanced nature of India-China relations. While India has shown a willingness to give its relationship with China a new start, it remains adamant that true normalization can only come once peace on the border is a reality.

The “China Plus One” strategy offers a potential solution, encouraging countries to reduce reliance on a single nation for manufacturing. The global markets thus seek to diversify their operations and increased Chinese FDI could catapult India to emerge as an eminent player in the global supply chain. 

By inviting Chinese industries to invest and manufacture within its borders, India could significantly enhance its export capabilities. Thus reversing the trade deficit with China while simultaneously boosting domestic manufacturing—a classic case of killing two birds with one stone.

But, failing to capitalize on Chinese FDI could mean forfeiting significant economic benefits such as technology transfer, job creation, and export growth. Without it, India may remain dependent on Chinese imports, which would do little to reduce the trade deficit or expand its manufacturing base. Meanwhile, other nations could swoop in and attract the Chinese investments that India rejects, leaving India out in the cold in the race to become a global manufacturing hub.

The hesitancy of the US and Europe to invest in sectors like solar energy and battery manufacturing has stalled production across industries that rely on Chinese machinery and expertise. This challenge is compounded by bureaucratic delays in granting visas to Chinese technicians, a problem that has weakened India’s competitive position.

The absence of Chinese experts is already hindering productivity, with industries like sports footwear manufacturing losing out to countries like Bangladesh, where such visa barriers are absent.

To revitalize Indian manufacturing and better integrate into the global supply chain, India must inevitably connect itself to China’s supply chain, as highlighted in the Economic Survey.

Dr. Virmani’s suggestion to establish joint ventures with Chinese companies, particularly in sectors where India's production capabilities remain nascent, emerges as a savvy strategy.

This could potentially reduce import dependency and foster a more robust domestic manufacturing base, a point underscored by the recent approval for a joint venture between Bhagwati Products (Micromax) and Huaqin Technology.

However, the feasibility of the arguments in favor isn’t without flaws. As Ajay Srivasatava observes, the lower cost of production in China might still encourage Chinese technicians to import inputs from their parent companies, limiting the impact of local manufacturing given India’s higher production costs. Even if some imports are replaced, a substantial portion is likely to persist.

The notion that manufacturing in India and exporting finished products to Western markets would be more profitable than importing from China is questionable, especially considering recent developments in Southeast Asian countries like Vietnam and Korea. In June, the US imposed tariffs of up to 250% on solar panels produced by Chinese companies in these countries.

The idea of completely de-risking from China is attempting to sever a Gordian knot—appealing in theory, complex in execution. As Biswajit Dhar points out, no economy can develop in isolation, and complete decoupling is neither practical nor economically viable—a reality recognized by global players like the EU and the UK. Today’s technological ecosystems are a web of transnational dependencies, meaning all actors, including China, remain interdependent.

With China facing challenges like declining consumer demand, stagnating real estate, and high government debt, it is seeking new markets abroad. High tariffs from the U.S. and Europe have pushed China to dominate Asia-Pacific economies by offering cheaper goods. In this scenario, avoiding economic engagement with Beijing could isolate India within the broader Asia-Pacific economic sphere, where China's influence is significant.

In this scenario, eschewing economic engagements with Beijing could potentially isolate India within the broader Asia-Pacific economic sphere where China’s influence is pervasive and profound. Recognizing that complete disentanglement from Chinese influence is neither feasible nor desirable, to pursue a path of strategic autonomy or to embrace a more nuanced approach becomes a dilemma.

Although India may well stand to gain more than to lose from closer ties with China, the relationship remains a brittle bridge suspended over a deep divide of historical distrust and simmering suspicion.

Increased Chinese investment, while potentially beneficial, also risks deepening economic dependency– a perilous position in times of geopolitical strain. The prospect of Chinese companies leveraging their financial stakes to gain strategic insights or even control over critical infrastructure is a real and pressing threat to India’s national security. 

The impact on domestic industries must also be considered. An influx of Chinese firms could overshadow local businesses, especially in sectors where Chinese companies have a technological edge. Sri Lanka’s Hambantota Port project, heavily financed by China, has adversely affected local industries by prioritizing Chinese operations, leaving local manufacturers struggling to compete.

It is apparent that the shadows of the historical confrontations are not easily dismissed, as they subtly shape contemporary decisions. But, there is growing consensus that India cannot afford to completely shut its doors to Chinese capital if it is to emerge as a global manufacturing hub and integrate more deeply into global markets. 

Like many other economies, India is deeply entangled with Chinese manufacturing, making complete decoupling an unviable option. India still relies heavily on imports from China for critical industries like electronics, chemicals, and machinery, which cannot be replaced overnight.

For instance, in its bid to achieve net zero emissions by 2070 and derive half of its electricity from renewable sources by 2030, India lags far behind China, whose solar power generation is five times that of India, standing at 584 TWh compared to India’s 113 TWh. While security concerns remain paramount, pragmatism should not be sacrificed on the altar of caution. 

As Jawaharlal Nehru once said, “The policy of being too cautious is the greatest risk of all.” Rejecting the opportunities presented by Chinese FDI could mean letting a valuable economic opportunity slip away.

Thus, India must develop an economic strategy that aligns with its diplomatic goals, carefully balancing engagement and caution.

With a fall of the curtain on this intricate debate, the question remains unanswered. The road ahead is a tightrope walk between peril and promise, and the decisions made today will resonate through history. In its quest for economic growth, should India court the dragon or keep it at arm’s length? The answers are neither simple nor straightforward, but they will undoubtedly shape the future of India's economic destiny.

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BY SAMEEKSHA CHAUHAN

TEAM GEOSTRATA

info@thegeostrata.com