In a global industry determined to develop its beneficiation sector and grow its trading activity, India’s recent introduction of a 2 percent import duty on polished diamonds goes against the grain. The tax will ultimately limit India’s competitive edge, and with it the local industry’s growth opportunities.
In mid-January, India’s Finance Ministry announced the tax on polished diamonds as well as a 2 percent duty on gold and 6 percent on silver imports, all effective immediately. Local industry leaders welcomed the move as a means to curb round tripping – the practice of re-importing stones to procure additional bank financing using them as new export transactions – that has plagued the industry over the past few years.
Already, reports indicate that it had the desired effect. India’s polished exports fell 19 percent year on year in January 2012, while its polished imports slumped 59 percent, according to the Gem & Jewellery Export Promotion Council (GJEPC).
Since its introduction, manufacturers have argued that the goods now being exported are the genuine export goods, while the banks are becoming more focused on financing real transactions and manufacturing activity.
However, despite any altruistic suggestions to the contrary, it’s unlikely that the round tripping issue was the motivating factor in introducing the tax. Rather, it should be viewed as an additional revenue source for the government and, more importantly, an attempt to protect the local trade from foreign competitors operating in the country.
This latter motivation will have unintended consequences for the industry. Primarily, it is discouraging diamond trading from taking place in Mumbai and will limit the Indian industry to focus on cutting and polishing. The tax increases the cost of foreign companies operating in India, making their goods more expensive, and will encourage them to seek other centers to trade their wares. Indeed, centers such as Hong Kong, Dubai, New York, Antwerp and Ramat Gan may well be the ultimate beneficiaries.
The argument that Indian polished goods will sell at 2 percent less than goods brought in from overseas is also shortsighted. Market forces will kick in and Indian prices will be adjusted in response. Why should a local manufacturer sell his stones at a discounted price to others on the market? If anything, it may lead to widespread upward pressure on prices.
While the practice of round tripping may have decreased since January, the tax has yet to prove its long-term effectiveness in this regard. Banks will still lend according to export transactions and a company could still find it worthwhile to swallow the charge for the sake of financing. Rather, the banks should be giving credit according to a company’s net exports (exports less imports) as a healthier means to tackle round tripping. Furthermore, while a portion of those re-imported goods returned to India undeclared before the duty was introduced, the new tax raises concerns that a greater volume of polished will be smuggled into the country.
Time will tell. For now, the new import duty threatens the leading role that India plays in the international diamond arena. The country’s advantage has long been its reach across the diamond pipeline. It is the ultimate mine-to-market center with a powerful cutting and polishing industry at its core. India’s dominance in that sphere – an estimated 90 percent of diamonds in the global market are cut in Surat – has influenced strong rough and polished trading in the country, while its historic love for jewels has spurred an influential jewelry retail sector. Furthermore, and somewhat significantly, the country has been at the forefront of encouraging growth in new areas such as jewelry design on the international stage and even has a fledgling mine in the works on the other end of the pipeline.
Despite its ascendency, the country cannot afford to be complacent. China is waiting in the wings to ramp up its cutting activity while other centers are intent on maximizing their exposure to the international diamond trade. Consider that Botswana, the world’s largest producer of rough diamonds, has a dedicated program in place to grow its beneficiation industry, introduce rough trading and subsequently polished trading to Gaborone. Other diamond hubs will be only too happy to regain much of the market share they lost to India in recent years.
A worst case scenario would encourage those centers to follow India’s precedent and introduce their own import fees, but this is unlikely. They have too much to gain by encouraging trade and they don’t have a cutting industry the size of India’s to protect.
And that is really the point. India cannot be compared to Botswana, or any other country. Its industry is too big and its structures are unique. But its strength in cutting and polishing may expose its greatest weakness. The country must recognize that it too needs foreign trade to ensure long-term growth. It is in India’s interest to have diamond traders come to Mumbai to buy and sell polished diamonds, especially as it seeks to spur activity at its new diamond hub, the Bharat Diamond Bourse (BDB) in Mumbai’s Bandra-Kurla Complex.
India’s diamond industry does not need a tax to protect its position in the market. Quite the opposite, the country has proved that it thrives with intense competition. Contrary to the new import duty’s intention, India cannot grow its business alone.