Things have not been going terribly well between India and Nepal in the run-up to the visit by the Indian foreign minister Jaswant Singh on Friday.
There has been hostile coverage in Nepali media of the Uttar Pradesh state government's construction of an embankment that has submerged parts of Nepal.
The preferential Indo-Nepal trade treaty of 1996 which allows unrestricted access for Nepali goods in the Indian market has come under blistering attack from Indian business. Indian media has given prominent coverage over the past six months to cheap Chinese goods allegedly flooding the Indian market via Nepal, of a "surge" in Nepali exports which have undermined Indian manufacturing.
After the latest round of secretary-level talks two weeks ago broke down, India on Tuesday asked for a revision of that treaty which would have been automatically renewed in December. India is effectively rolling back the soft-on-neighbours Gujral Doctrine which made the 1996 treaty possible.
The best Nepal can now hope for is a more restrictive treaty like the one India signed with Sri Lanka in 1998, which requires up to 35 percent value addition and quantitative restrictions and exclusions. The India-Sri Lanka treaty is also a free trade agreement, which would require parties to mete out reciprocal treatment. The worst case would be MFN (Most Favoured Nation) status.
If the treaty had been automatically renewed, Nepali goods-except alcohol, tobacco, and cosmetics-would have continued to enjoy duty free access to the Indian market for another five years. That would have given Nepal time to intensify industrialisation before the World Trade Organisation (WTO) rules go into effect.
After the 1996 treaty, Nepal's exports to India rose seven-fold to Rs 22.6 billion, and the trade deficit narrowed by about two billion rupees. India also gained: its already very high annual exports to Nepal doubled in five years.
In the talks earlier this month, the Indian delegation gave the example of 46 out of 146 vanaspati units in Uttar Pradesh allegedly shutting down because Nepal's refundable duty on raw material and low export tax was no match against India's 75 percent duty on palm oil imports-a measure taken to protect growers in Andhra Pradesh and Tamil Nadu.
Another Indian allegation is that Nepal had become a conduit for re-routing semi-finished goods imported from third countries. Indian officials had suggested going for MFN treatment for the five "problem products"-vanaspati, acrylic yarns, copper wires, steel pipes and zinc oxide.
Nepali officialdom could offer no valid counter-arguments, only reiterate the "spirit" of the 1996 treaty. Nepali and Indian businessmen had been meeting over the past months precisely to avert this standoff. One FNCCI-CII recommendation was to offer to introduce stricter internal controls on origin certification and value addition in Nepal. "Maybe that could have helped build confidence and avoided re-opening the treaty," a business source told us. "But the opportunity is now gone."
Nepali officials admit they understood India was not happy but were confident that another round of talks could have untangled the problem. "Introducing MFN for the only products we sell in some substantial amount defeats the very purpose of preferential trade, so how could we accept that?" a Nepali official asked. "They wanted stricter manufacturing controls and we introduced a one-digit change in the four-digit harmonised code." Nepal has approved 250 products for export to India of which only 50 have actually been exported, of the 50 only 10 products have significant sales.
No one has much hope that Jaswant Singh's goodwill visit is going resolve the trade issue. Bonhomie between Indian and Nepali politicians does not always translate into goodwill at the ground level. But it could at least clear the air for a compromise at the next round of talks on keeping the treaty.