India's SEZ system ushers in biggest reform since 2005: manufacturing ambitions and new realities of global trade

Background: From Export Engine to Institutional Aging

In 2005, India enacted the Special Economic Zones Act, aiming to create a friction-free operational environment for export-oriented manufacturing. This framework successfully attracted investment and boosted exports, fostering industrial clusters particularly in information technology, pharmaceuticals, engineering, and electronics. However, two decades later, global trade rules, domestic tax policies, and the industrial competitive landscape have all undergone fundamental changes, and the original SEZ model has gradually revealed structural deficiencies.

Triple Pressures Force Reform

First, the erosion of tax advantages. The original framework provided income tax exemptions, Minimum Alternate Tax (MAT) and Dividend Distribution Tax (DDT) relief, among other policies, but these gradually expired or were abolished over time, significantly diminishing the attractiveness of SEZs to investors. Ashoo Gupta, Partner at Shardul Amarchand Mangaldas & Co, pointed out that the removal of tax incentives is one of the key factors weakening the competitiveness of SEZs.

Second, constraints from WTO rules. Tax subsidies linked to export performance are subject to WTO subsidy and countervailing measures, forcing India to adjust its incentive structure. Arpita Mukherjee, Professor at the Indian Council for Research on International Economic Relations (ICRIER), emphasized that non-fiscal incentives are limited, while fiscal incentives are constrained by WTO disputes.

Third, competition from alternative frameworks. The Manufacturing and Other Operations in Warehouse Regulations (MOOWR) scheme allows companies to operate from any location, defer customs duties, have no net foreign exchange earnings requirement, and serve both domestic and export markets simultaneously, offering far greater flexibility than traditional SEZs. Gulzar Didwania, Partner at Deloitte India, stated that this framework shifts investment decisions from tax considerations to supply chain and export orientation.

SEZ 2.0: Reform Direction and Strategic Intent

• According to a Business Standard report, the SEZ 2.0 reforms under discussion cover the following key areas:
• Simplify domestic market access: Reduce tariff barriers for domestic sales, addressing the reverse tariff disadvantage faced by SEZ enterprises when their products enter the domestic market—where similar products might enter with lower tariffs under free trade agreements.
• Flexible operational rules: Abolish minimum land area requirements, allowing smaller-scale manufacturing units to attract SMEs and emerging industries.
• Reform foreign exchange requirements: Adjust net foreign exchange earnings (NFE) requirements to make it easier for enterprises to balance domestic and export sales ratios.
• Strengthen global value chain integration: Use tax and non-tax incentives to encourage SEZ enterprises to integrate into the regional and global supply chains of multinational corporations.

Nilanjan Banik, Professor at Mahindra University, pointed out that the core value of the original framework lay in one-stop approvals and infrastructure, but issues at the implementation level, such as cumbersome state government approvals and overlapping regulations, remained unresolved for a long time. SEZ 2.0 attempts to address these chronic problems through central-state coordination mechanisms.## Deeper Significance for Indian Manufacturing

This reform is not merely a patch-up of an aging policy, but a critical move for India to compete for manufacturing investment amid the "China+1" global supply chain restructuring. As multinational corporations seek to diversify production bases, India needs to offer an internationally competitive policy environment. The success of the reform will determine whether India can leap from low-end assembly in the value chain to higher-value manufacturing.

Mahendra Chouhan, Chairman of the IMC Chamber of Commerce, pointed out that the original SEZs contributed to exports, investment, and infrastructure, but manufacturing expansion fell short of expectations, with many approved parks having low utilization rates. If SEZ 2.0 can synergize with policies such as the Production Linked Incentive (PLI) scheme and "Make in India," it could create a combined force.

Challenges and Prospects

Despite the right direction, the reform still faces obstacles: slow progress in state-level land and labor reforms; uncertainty in tax policies that may affect investor confidence; and how to balance the existing advantages of frameworks like MOOWR. Additionally, new issues such as ESG standards and green energy requirements need to be integrated into SEZ design.

Arpita Mukherjee believes that the reform should avoid a "one-size-fits-all" approach, tailoring incentives according to industry characteristics (e.g., electronics manufacturing, pharmaceuticals, software) and simplifying compliance procedures.

Conclusion

This reform of India's SEZ system reflects a shift in its economic policy from "quantity" to "quality": no longer simply pursuing export volumes, but aiming for value chain upgrading, job quality, and technology spillovers. If SEZ 2.0 can be successfully implemented, it will become a catalyst for the rise of Indian manufacturing; if it remains perfunctory, it may once again miss the window of global industrial chain restructuring. Investors and businesses should closely monitor the implementation details and execution efficiency of the policy.