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Post-2015 Consensus: Trade Assessment, Anderson

Summary of The Targets From The Paper

  World Developing Countries
Trade Targets Total Benefits ($T) Total Costs ($T) Benefit for Every Dollar Spent Benefit for Every Dollar Spent
Complete the languishing Doha Development Agenda process at the World Trade Organization. $533 $0.28 $2,011 $3,426
Implement a free trade agreement between member states of the free trade area of the Asia Pacific. $371 $0.22 $1,728 $2,559
Implement a free trade agreement between selected APEC countries (known as the Trans-Pacific Partnership). $91 $0.07 $1,229 $1,870
Implement a free trade agreement between ASEAN countries and China, Japan and South Korea (known as ASEAN+3). $243 $0.13 $1,914 $3438

Summary

Lowering trade barriers would contribute to four likely key goals of the United Nations’ Post-2015 development agenda: poverty alleviation, ending hunger, reducing inequality and strengthening global partnerships for sustainable development.

While trade barriers have been reduced considerably in recent years, many remain. These harm most the economies imposing them, but barriers to imports of agricultural and textile goods are particularly harmful to the world’s poorest producers. Lowering barriers is politically easier if this done in concert with other countries. For developing countries, that is especially so if the agreement includes an aid-for-trade package.

Five current opportunities to reduce the remaining price- and trade-distorting measures stand out. Completing the Doha Development Agenda (DDA) would be the most beneficial, but three alternative Asia-Pacific regional agreements are also considered here. Although these do not directly involve the countries of South Asia and sub-Saharan Africa where the majority of the world’s poorest people live, these regions could benefit indirectly and substantially from the new opportunities to trade with East Asia’s booming economies.

One more potential opportunity not currently on the WTO’s DDA involves bringing disciplines to export restrictions to match those for import restrictions, especially for farm products.

Why do trade barriers persist?

Despite the net economic and social benefits of reducing most government subsidies and barriers to international trade and investment, almost every national government intervenes in markets for goods, services, and capital in ways that distort international commerce.

Despite significant liberalisation since the Second World War, many subsidies and trade restrictions remain. The reluctance to reduce trade distortions is often because such measures would redistribute jobs, income and wealth in ways which would reduce a government’s chances of staying in power.

Arguments for lowering trade barriers

Static economic gains from own-country trade reform

International trade enables countries to exploit their comparative advantages more fully. Domestic industries become more productive. The gains from opening an economy are larger, the greater the variance of rates of protection among industries, particularly within a sector.

The static gains from trade tend to be greater as a share of national output the smaller the economy, where competition is less than perfect. Those gains from opening up will be even greater if accompanied by a freeing up of domestic markets and the market for currency exchange. The more stable is domestic macroeconomic policy, the more attractive will an economy be to capital inflows. If domestic policy reforms were to allow governments to redistribute income and wealth more efficiently to match society’s wishes, there would be fewer concerns about the societal consequences of trade liberalisation.

Modern information and communications technology allows firms to take advantage of factor cost differences across countries without moving entire production chains offshore. With tasks such as data transfer not included in trade, the variance of import protection is even greater than for recorded trade, and welfare gains from reducing protection could well be far greater than estimated from conventional models.

Dynamic economic gains from own-country trade reform

Trade opening can also boost economic growth. The latest surge of globalization has been spurred also by the technology ‘lending’ that is involved in off-shoring an ever-rising proportion of production processes. The dynamic gains from openness can be greater when accompanied by reductions in domestic distortions, with flexible labor markets conferring a further gain. Reformed financial markets not only reduce credit costs but can stimulate growth by disciplining firms to look after the interests of shareholders better, and governments to provide greater macroeconomic stability.

The available empirical evidence strongly supports the view that open economies grow faster. In the second half of the 20th Century, countries that liberalized their trade (raising trade to GDP ratios by an average of 5%) enjoyed an average 1.5% boost to their rate of growth. Ascribing causality is not easy, but there are no examples of autarkic economies having enjoyed sustained economic growth, while many reformed economies have boomed. For example, three different countries in three different regions chose to liberalize in three different decades (Korea from 1965, Chile from 1974 and India from 1991), and per capita GDP growth in each of those countries accelerated markedly thereafter by several percentage points per year.

Investment liberalization also boosts growth. Open economies not only have a one-off boost to capital stock and productivity but also higher ongoing rates of capital accumulation and productivity growth, as long as governments allocate and protect property rights and allow markets to operate freely and maintain macroeconomic and political stability.

Benefits to reformed economies can be substantial. Even assuming a modest liberalization by halving import tariffs from 20 to 10%, modelling shows virtually no chance of a welfare gain of less than 3%, and a gain of up to 37% if international capital flows are also allowed.

Key opportunities for trade barrier reductions

The most obvious route to follow is a non-preferential, legally binding, partial liberalization of goods and services trade following the WTO’s current round of multilateral trade negotiations, the Doha Development Agenda. But, despite some progress in Bali in December 2013, it is proving politically difficult to come to an agreement, making it sensible to consider alternatives.

Three other opportunities considered here involve prospective sub-global regional integration agreements. One is the proposed Trans-Pacific Partnership (TPP) among a subset of twelve member countries of the Asia Pacific Economic Cooperation (APEC) grouping; another involves extending the free-trade area among the ten-member Association of South East Asian Nations to include China, Japan and Korea (ASEAN+3); and the third opportunity is a free-trade area among all APEC countries. Also considered below is a potential opportunity to include another item on the WTO’s agenda, namely, bringing discipline to export restrictions on farm products to match those on imports.

The TPP began in 2006 with four small APEC members – Brunei, Chile, New Zealand and Singapore – discussing greater economic integration. Up to April 2014, they had been joined by the USA, Australia, Malaysia, Peru, Vietnam, Canada, Japan and Mexico, bringing the total to 12 of APEC’s 21 members. There have been separate discussions between the ten members of ASEAN (who already have their own free-trade agreement, AFTA) and China, Japan and Korea. APEC leaders see both regional integration tracks as potential pathways to an FTA involving all APEC members, which is the third regional opportunity considered here.

While all these initiatives are in the Asia-Pacific region, the World Bank estimated this to account for 60% of the global economy in 2011, so the importance of reform in this region to other much smaller economies is very considerable.

Estimates of benefits from reducing trade barriers

Benefit estimates are generated using computable general equilibrium (CGE) models of the global economy.

In the case of sub-global preferential trade reform studies, the estimated gains to the countries involved are almost always smaller than from mulltilateral reform, and some excluded countries – and even some participating ones – may lose. However, virtually all studies are comparative static ones, so are unable to capture growth enhancement. Unfortunately endogenous growth has yet to be satisfactorily introduced into CGE models.

Economic consequences of Doha multilateral reform

A recent study estimates that, if the current proposals for reducing trade barriers and subsidies were to be adopted by all WTO member countries, then global GDP would be 0.36% higher. That is reduced to an estimated 0.22% globally when the various proposed flexibilities are allowed for. Developing countries’ economies would on average grow at only half that rate, and GDP would actually drop in some poor countries. This is taken as the lower-bound estimate of gains.

When economies of scale and monopolistic competition are assumed instead of constant returns to scale and perfect competition, and firms are assumed to be heterogeneous rather than homogeneous, and when trade is liberalized not just in goods but also in services and investment flows, estimates of potential gains are raised several fold. An upper bound estimate is five times the lower one: 1.1% globally, 1.25% for high-income countries and 0.85% for developing ones. It is assumed that gains would fully accrue after 2020, with a six-year phase-in starting in 2015.

Growth rates for high-income and developing countries from 2010 to 2025 are estimated to be 2% and 5% respectively (3% globally). Reform might boost GDP rates by one-fifth, to 2.4% and 5.6% for high-income and developing countries and hence 3.6% globally up to 2025. While the boost due to trade liberalization will not last forever, it could continue for several decades. We assume this declines to zero by 2050, leaving only the comparative static gain thereafter.

Economic consequences of preferential reforms in the Asia-Pacific region

The estimated gains from Asia-Pacific trade liberalization are large because the region is projected to become a much more important part of the global economy by 2025, when the TTP12 countries and the ASEAN+3 group each account for about one quarter of the total and the complete APEC membership for nearly half of global GDP. If either thecurrent Trans-Pacific Partnership or ASEAN+3 removed their bilateral barriers, global GDP would be boosted by over 0.2%. This would rise to 0.85% for a free trade area covering the whole of APEC (FTAAP). Developing countries would gain only 0.06% of GDP from the TPP, but 0.36% from ASEAN+3 and 1.17% from the full FTAAP. They would be the biggest winners from the second and third of these initiatives.

Non-APEC countries would lose very little in aggregate, showing that all three options create more trade than they divert. Also, the estimated gain from full liberalization within APEC is higher than that for the partial Doha multilateral reform. As with the analysis of the Doha reforms, the estimates of benefits for the regional reforms do not capture the dynamic gains, so we again assume a boost of one-fifth to the participating economies between 2010 and 2015, with a linear return to just comparative static gains by 2050.

Estimated costs associated with trade reform

As well as trade negotiating costs, there are private costs of adjustment to firms and workers plus social costs to consider when trade policies are liberalized. These costs are one-off, in comparison to the non-stop flow of economic benefits, and can be minimised with longer phase-in periods. Indeed, analysts have not found a significant link between phased import expansion and unemployment. Nevertheless, governments are often reluctant to open their economies because the anticipated losses in jobs and asset values are very obvious and concentrated whereas the benefits are thinly spread, are less-easily attributed to the trade reform, and are taken up often by people other than those losing from the reform.

We assume that there is an adjustment period of six years, with costs of 10% of the estimated annual static benefits in each of those years.

Net benefits and benefit/cost ratios

In present value terms (2015 in 2007 dollars, assuming high or low gains and 3% or 5% discount rates) the net benefits of a Doha agreement range from $291 trillion to $772 trillion, for costs of less than $300 billion. Today’s developing countries would reap about half of the net gains. The benefit/cost ratios are between 2100 and 4700 for developing countries, and between 1300 and 2800 globally.

If successful completion of the Doha Development Agenda is politically impossible, preferential trade deals could be sought. The greatest gain (about three quarters of that for completion of the Doha round) would come from an APEC-wide free trade area. This would deliver a slightly higher overall benefit to developing countries than a Doha agreement. In the absence of that, the ASEAN+3 proposal would yield slightly more global and developing country benefits than the TTP, but necessarily less than the FTAAP. Benefit cost ratios for the three proposals are in the range 800 to 2600 globally and 1600 to 4700 for developing countries.

Social and environmental benefits and costs of trade reforms

The large and ongoing economic gains from trade liberalization provide funds to spend on more pressing problems. In addition, reform can also have more direct impacts on other post-2015 targets.

Poverty alleviation

Aggregate economic growth differences have been largely responsible for differences in poverty alleviation across regions. Trade liberalization is therefore likely to be beneficial, but it also alters relative product prices domestically and internationally. The net effect on poverty depends on how these change household expenditure and earnings. Since developing countries account for just one-fifth of global GDP but would receive nearly half the total benefit of trade reform, liberalization would clearly substantially reduce the income gap between rich and poorer countries. For households within developing countries, it is likely that lowering barriers to imports from developing countries of agricultural and textile products would increase demand for labor and thus reduce poverty. Our crude estimates show that by 2030 there will be 160m fewer people in extreme poverty if the DDA were implemented. However, there would be a lower impact on poverty under the alternative scenarios since there are fewer poor in the Asia-Pacific than elsewhere.

The environment

Although environmentalists have tended to focus on the direct environmental costs of trade reform and economic growth, the reality is that there are many examples where cuts to subsidies and trade barriers would reduce environmental damage. Much environmental damage in developing countries is a direct consequence of poverty; insofar as trade reform reduces poverty, so it will reduce such damage.

When impacts are global, as is the case with greenhouse gases and their apparent impact on climate change, international agreements may be required. It is difficult to prevent relocation of carbon-intensive industries when developing countries are not signed up to emissions targets, however. An alternative approach likely to generate economic benefits while achieving some emissions reductions involves lowering coal subsidies and trade barriers so as not to encourage excessive consumption of fossil fuels.

Malnutrition and hunger

Since enhancing food security is mainly about alleviating poverty, trade liberalization has a role to play. Trade in agricultural technology, particularly new crop varieties, can reduce malnutrition and hunger, with the Green Revolution being a good case in point. Varieties offering improved nutrition, such as ‘golden rice’, could also bring significant benefits. However, the negative attitude of the European Union and some other countries to genetic modification means the technology has not yet been adopted. The cost of that trade barrier to developing countries has been very considerable

Caveats

Measuring the benefits and costs of trade liberalization is still an inexact science. More empirical research on the real costs of adjustments to trade policy changes would be helpful. Those costs may in fact be only a small fraction of those assumed above, in which case the above benefit/cost ratios may be greatly underestimated. On the benefit side, economists have made more progress but plenty of scope remains for further improvements, particularly on the size and longevity of dynamic gains from trade reform.

In the absence of international agreements, agricultural protection tends to rise with economic development because of fundamental changes in the structure of the economy. In particular, there is a tendency for agricultural protection to be low or negative in very poor countries because the number of farmers is large and it is difficult for them to organize to apply pressure on governments, while food is an important part of the budget of the urban poor. As economies develop, farmers are fewer but more commercially orientated and find it easier to organise themselves, while food prices become a smaller factor for the large urban population. Gains from reducing import protection and subsidies on farm produce are therefore understated, in that in the absence of reform, costs of those policies would rise over time.

Conclusion

Pre-announced, gradual reductions in trade barriers, especially if agreed multilaterally under the WTO’s DDA, would yield huge economic benefits and impose relatively little economic cost. This suggests extremely high benefit/cost ratios (up to 2,800 globally and between 2100 and 4700 for the developing country group). Moreover, the net social and environmental effects of such reform also would be very positive, assisting in the achievement of several of the other targets in the UN’s Post-2015 agenda including alleviating poverty, promoting equality, reducing malnutrition and hunger, and boosting employment and sustainable economic growth. Should it prove too difficult for WTO members to reach a DDA agreement, opening up of trade in the Asia-Pacific region would also have substantial benefits and very high benefit-cost ratios.