Vertical and Horizontal Industrial Integration in South Asia

Intra-regional trade in South Asia remains low at around 5 per cent of total trade only, despite many efforts at regional economic liberalization since SAPTA came into effect in 1995. Furthermore, trade imbalances continue to be a feature in the region with many South Asian countries facing trade deficits with respect to India. One way to address both problems – that is low intra-regional trade and persistent trade imbalances – is to invigorate the trade-investment nexus in the region. New trade theory draws on the relationship between trade theory and industrial organization to suggest theoretical possibilities of the interaction between trade liberalization and FDI. One channel is that through the increased incentive for vertical integration of production between firms in the different trading partners, trade liberalization can result in greater investment flows, and vice-versa. Evidence from other regional initiatives such as the EU and ASEAN has shown that reduction of barriers and costs to trade, in conjunction with more conducive investment climates, can boost both intra-regional trade and investment as a result of firms forging backward and forward linkages. This study will examine the existing extent of vertical and horizontal integration in the region, including some case studies of sectors where there has been some vertical integration. The study will also explore other sectors where there is potential for vertical and horizontal integration and will suggest policy measures to ease the bottlenecks that prevent this from taking place