Can trade improve relations between hostile nations? Can economic benefits and cooperation overtake political conflicts? Are better trade relations between two nations possible only after a settlement of all conflicts? However, according to the Classical Trade Theory, international trade serves to reduce political conflicts. Trade between two nations accure gains to both while the loss of existing trade ties, resulting from a political conflict between the two nations, imply a loss of economic benifits. Two countries trading with each other, therefore, make an effort to avoid conflicts in order not to suffer such a loss. For instance, China and Japan have shown they can have good trade relations despite having differences over important political issues. In the case of India and Pakistan, the political conflict over J&K seems to be holding free trade hostage.

The South Asian Free Trade Agreement (SAFTA), signed in January 2004, has been seen as an important tool that can take SAARC away from its jinxed past.Though this agreement came into operation on 1 January 2006, its Tariff Liberalisation Programme (TLP) started only on 1 July because the member-countries were not ready . Under this agreement all member-countries are expected to conduct trade with each other on all items, except those in the negative list on which duties are not reduced. However, there is a significant exception to this rule - that is the trade from India to Pakistan. This exception considerably lowers the prestige of SAFTA and raises question about its future.

Pakistan ratified SAFTA on 15 February 15 2006. This step by Pakistan raised hopes that the trade barriers between it and India might soon come down. With SAFTA making the Most Favoured Nation (MFN) treatment automatic, there were also hopes that Pakistan's refusal to give India MFN status would cease to matter. India gave Pakistan the MFN status in 1995. But, in an interview to a newspaper soon after the 15 February ratification Pakistan's commerce minister Humayun Akthar Khan said that full-fledged commercial relations between the two countries would have to wait for the resolution of the Kashmir issue. Until then, bilateral trade would continue to be guided by the positive list.

In line with this stated policy, Pakistan's Central Board of Revenue (CBR) has issued an order notifying the tariff concessions under the SAFTA agreement. The tariff reduction would be available on import of 4,872 products from Sri Lanka, Bangladesh, Bhutan, Nepal and Maldives. But, imports from India would be subject to the Pakistan import policy order of July 2005, which restricts imports of goods from India or goods of Indian origin to a positive list of only 773 items. Pakistan's argument is liberalisation of trade has to be linked to progress on the resolution of long-standing disputes between the two countries, the core issue being that of Kashmir. Pakistan dismisses New Delhi's position that trade must not be held hostage to the settlement of a long-standing problem.

Surprisingly the State Bank of Pakistan, recently published a report departing from this traditional argument, though it bear no relation to Pakistan's official trade policy with India. The report released on 10 July 2006, says that Pakistan stands to save between $400 million and $900 million on its import bill if it would expand the positive list and allow imports from India that it presently imports from other countries at a higher cost. There are 2,646 items that are common in Pakistan's imports and Indian exports. The report, based on 2003-2004 data, says that after excluding the items that are on the positive list for India, 45 per cent of the items could be imported by Pakistan at lesser cost from India than the current cost of import from the rest of the world.

For instance, in the iron and steel sector, the report says Indian imports are on the whole not as cheap as Iran's. But, it identifies 47 products that are cheaper to import from India. It also points to chemicals and pharmaceutical products. In these sectors, Pakistan's imports from India were 4.3 per cent and 6.8 per cent respectively of its total imports in these sectors. As many as 166 of these items cost less to import from India than from other countries.

Though Pakistan has ratified SAFTA there is no significant change in its trade relations with India. Unless this change takes place SAFTA would not be able to achieve much. Pakistan links full implementation of SAFTA with the resolution of the Kashmir issue but the resolution of  the Kashmir issue to the satisfaction of all parties is a difficult one. Both countries, however, need to make an effort to avoid conflicts in order not to suffer such a welfare loss. The development of trade relations between the two countries will serve to resolve their political conflicts. For this, political will and long term vision is required.