SEZs and Demonstration Effecs, Economic and Political

India's adoption of the SEZ model of promoting infrastructure/investment/development has in the past been justified in terms of its likely demonstration effect. Once it becomes apparent how dynamic firms within these zones are, it is sometimes argued, greater impetus will emerge to adopt similar policies (fast-tracking investment, reducing regulation, streamlining bureaucratic procedures) for the country as a whole.

It is increasingly clear, however, that this logic can cut both ways, particularly when the political dimensions of SEZs are taken into account. First there was the argument, voiced at the time the SEZ policy was first being introduced, claiming that the narrow applicability of these policies (limited only to 'special zones') is an admission that the architects of the SEZ policy were well aware that the country at large was not politically ready for such far-reaching policy change.

Second, the resistance movement that have sprung up during the implementation of the SEZ policy -- particularly with respect to land acquisition -- have led to speculation that the SEZ approach may spur a negative demonstration effect, politically speaking. That is, the SEZ experience has highlighted the high political costs of pushing through these policy measures, even in the geographically circumscribed form they have taken thus far. This can put governing elites off the idea of more radical economic reforms for the economy writ large.

A newer position has been staked out by market-friendly commentators, including two Harvard Business School professors, writing in the Christian Science Monitor. They argue that the political controversies that have arisen in implementing the SEZ policy shows that, in fact, a MORE radical approach to policy reform is needed -- one note confined to special zones. Briefly recapping the opposition to SEZs in a number of regions, they ask: 'Considering how thorny the issue has become...Does India really need them?' Their answer is that 'The best policy for the government may be to provide the benefits of SEZs – low tariffs, reasonable taxes, good infrastructure, little red tape – to all firms in all parts of the country.' The authors do not spell out how opposition to such policies, if pursued nationally, could be overcome.

It is nevertheless intriguing to see friends of liberalization taking the position that SEZs may not be worth the political costs they inevitably impose.