Millennium Development Goals

Week (April 11, 2007) Trade Growth Development?

by Can Erbil

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Trade Liberalization and Growth

International trade can

expand markets,

facilitate competition and

disseminate knowledge,

creating opportunities for growth, poverty reduction and human development.

Trade can also

raise productivity and

increase exposure to new technologies,

which often spurs growth.

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Linking Human Development and Trade

Trade can be a powerful source of economic growth. But while broadly based economic growth is necessary for human development, it is not enough.

Human development also requires enlarging people’s choices and opportunities - especially poor people’s.

NO AUTHOMATIC LINK

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Linking Human Development and Trade

Liberalizing trade does not ensure poverty reduction or human development, nor does it guarantee immediate economic growth. [Rather, this is largely determined by internal and external institutional and social pre-conditions.]

The nature of resource allocation and social inclusion — especially for women and those participating in the informal sector — are important determinants of growth leading to poverty reduction and human development.

NO AUTHOMATIC LINK

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(Millennium Development Goals Report 2006)

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Openness to trade is associated with higher incomes and better economic performance.

“While there are differences of view about the magnitude and strength of this relationship, the general direction of effect is not in doubt: no closed or isolated economy has performed better than those integrated into the world economy”.

Trade openness can be a powerful driver of economic growth, which is indispensable to reduce poverty and foster development.

TRADE OPENNESS

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Trade, however, is not a silver bullet for achieving development.

There is no way around the other institutional, macroeconomic, and microeconomic conditions that, along with well designed social policies, must also be met to attain development.

Yet it is very likely that if developed countries opened their markets significantly more to developing countries and developing countries also became more open, poverty would fall faster worldwide, including in most of the poorest countries, provided the needed complementary policies were in place.

NOT A SILVER BULLET

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Throughout most of its existence, however, the trading system has mainly served the interests of developed countries.

Sometimes by their own decision and other times by explicit exclusion dictated by richer countries, developing countries have not been influential in the design of the multilateral trading system. The system is thus unbalanced against the interests of developing countries.

Balancing the system will give developing countries greater economic growth potential, a major stake in developing multilateral trade rules and disciplines and in pursuing trade liberalization, and a more effective capacity to expand trade and defeat poverty.

UNBALANCED TRADING SYSTEM

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Actions to make markets more open need to be coupled with actions to support developing countries’ capacity to participate effectively in global markets.

Opening markets to developing-country agriculture exports by rich countries committing to eliminate all tariffs on farm products by 2010, and by abolishing trade-distorting export subsidies by 2010, routinely used by industrialized countries to artificially lower the world price of farm commodities.

Opening markets for manufactured goods, by rich countries committing to reduce tariffs to zero by 2015, and by developing countries committing to reduce tariffs by 2025. Rich countries should extend tariff free access to products of the poorest developing countries starting in 2005.

RECOMMENDATIONS

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Making it easier for people in poor countries to work temporarily in rich countries: trade in services can offer enormous potential gains for developing countries and developed countries must make progress on liberalizing labor rules.

Establishing a temporary “aid for trade fund” that would give developing countries the additional assistance they need to comply with new trade rules; this includes support to compensate for lowering import duties, funding to help ease supply side constraints of infrastructure and to help adjust to the erosion in traditional preference agreements.

RECOMMENDATIONS

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According to UNDP

Trade reforms are complementary to other parts of development policy, such as infrastructure investments and social programs to develop a healthy and well educated workforce.

An MDG-based international trade policy should focus on two overarching issues:Improved market access and terms of trade for the poor countries.Improved supply-side competitiveness for low-income exports, through increased investments in infrastructure (roads, electricity, ports) and trade facilitation.

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From UK Government’s Department for International Development (DFID) and Department of Trade and Industry (DTI), December 2005

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Ifs and buts and iffs…

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A Trade Regime Friendly to Human Development

A vision for the future: Four simple principles of international trade:

1) Trade is a means to an end, not an end in itself.

2) Trade rules have to allow for diversity in national institutions, development strategies and standards.

3) Countries should have the right to protect their own institutions and development priorities.

4) No country has the right to impose its institutional preferences on others.

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Possible Problems with Trade The Dutch Disease Immiserizing Growth Import Substitution (infant industry) Picking Winners by Government Officials

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Infant Industry Argument

I am too young, I need

protection!

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Anadol of Turkey

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Imaginary (fictitious) Exports of Turkey

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Trade Growth Development?Can happen, but not automatically!!!

Working institutions are prerequisite!!!

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Africa “It is no longer a matter of public debate anywhere in the world that trade is indeed the most powerful

engine of growth, particularly for poor countries.” - Ghana’s Trade Minister December 2006

“Africa will not be able to achieve the Millennium Development Goals, nor set itself on a sustainable path to growth and poverty reduction, without increased trade.” - Commission for Africa report 2005

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Africa*Africa will fail to achieve sustainable growth and poverty reduction, and fail to meet the Millennium Development Goals, unless it increases its diminishing share of world trade. Growing global competition makes this even more challenging than in the past. African countries and the international community, working together can make progress possible, by: Increasing Africa’s capacity to trade. The investments in infrastructure and the enabling climate for the private sector are at the top of the agenda. Further measures focus on trade facilitation, including: customs reform; removal of regulatory barriers, especially in transport; improved governance; air and sea transport reform; and regional integration.

*From The Commission for Africa’s report published on 11 March 2005

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Africa Removing the trade barriers in developed and other developing-country markets that frustrate the fulfillment of Africa’s

trade potential. Progress requires the successful completion of an ambitious Doha Round, with specific and timebound goals for ending appalling levels of developed-country protectionism and subsidies. Development must be the priority in all trade agreements, with liberalization not forced on Africa.

Providing transitional support to Africa as global trade barriers are removed. First, this requires making current preferences work more effectively – expanding schemes to cover all low-income countries in sub-Saharan Africa, and ensuring that rules of origin requirements are not veraciously applied. Second, the rich countries must finance ‘aid for trade’ to help meet the economic and social costs of adjusting to a new global trading environment.

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World and African Exports 1948-2003

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Name of Variable (1)

African Value

(2)

OECD Value

(3)

Foregone Annual Growth

(4) Price of Investment Goods 123 70 0.44% Human Capital (1): Primary School Enrollment 0.42 0.97 1.47% Human Capital (II): Life Expectancy 42 68 2.07% Human Capital (III): Malaria Prevalence 0.80 0.00 1.25% Geography: Fraction of Area in the Tropics 0.85 0.03 1.21% Openness 0.10 0.66 0.67% Public Spending in Consumption 0.16 0.07 0.40% Conflict: Ethno-linguistic Fractionalization 0.58 0.12 0.52%

USING BACE COEFFICIENTS

Notes: Column 1 displays the name of the variable. Column 2 shows the average value that the variable has for African countries. Column 3 reports the corresponding value for OECD economies. Finally, Column 4 uses the empirical estimates of Sala-i-Martin, Doppelhoffer and Miller (2003) to compute the additional annual growth rate that Africa would have enjoyed if, instead of the values reported in Column 2, it had had the OECD values reported in Column 3. For example, the average relative price of investment for Africa was 123. The corresponding price for OECD was 70. If investment in Africa had been as low as in OECD, Africa’s annual growth rate would have been 0.44 percentage points larger.

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Research on Trade & Growth Sachs and Warner* found that closed poor economies grew at 0.7% per capita per year while open poor economies grew at 4.5% per capita per year. When a previously closed economy became open, they found that its growth increased by more than one percentage point a year. They defined countries as closed if they had average tariffs over 40% (plus other considerations). Other studies, such as an analysis by the Organization for Economic Cooperation and Development, have found a growth gap of roughly two to one in favor of open economies.

*Sachs, Jeffrey D. and Andrew M. Warner (1995). “Economic Reform and the Process of Global Integration.” Brookings-Papers-on-Economic-Activity: 1-95.

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Research on Trade & Growth

Nevertheless, cross-national comparisons reveal no systematic relationship between countries’ average levels of tariffs and non-tariff barriers and their subsequent economic growth.

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Policy outcomes such as trade as percent of GDP (which are often not in governments’ control) are used as measures instead of actual trade policies (e.g. tariff reduction).

The measurements are based on rates of growth in trade volumes, which are the outcome of many things, including an economy’s overall performance.

Many such measures of openness are actually correlated with alternative explanatory variables such as: macroeconomic instability, poor institutions, and geographic location.

Trade and Growth LiteratureThe best-known literature that claims trade liberalization promotes higher growth—including the Sachs-Warner (1995) and Dollar (1992) studies—are flawed in important respects.

The approaches used for classifying developing countries as ‘open’ or ‘closed’ have the following widespread problems:

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Once these problems are corrected, the only systematic relationship found is that countries dismantle trade barriers as they get richer.

The experiences of industrial and successful developing countries provide the following additional lessons:

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Integration with the world economy is an outcome of growth and development, not a prerequisite.

Institutional innovations — many of them unorthodox and requiring considerable domestic policy space and flexibility — have been crucial for successful development strategies and outcomes.

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Most recently in Asia, Viet Nam is a good example which illustrates that trade, esp. import liberalization is not a prerequisite for sustained economic growth (the Republic of Korea, PR China and India are others)

Since the mid-1980s Viet Nam, which became a WTO member on January 11th of 2007, has taken a gradual approach to economic reform, following a two-track program that has the following characteristics:

Significant state trading

Maintenance of important import monopolies

Retention of quantitative restrictions and high tariffs (30-50%) on agricultural and industrial imports

Import liberalization is not a prerequisite for sustained economic growth: CASE of VIETNAM

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Yet Viet Nam has:

Achieved GDP growth of more than 6% per annum for a sustained period

Sharply reduced poverty Expanded trade Attracted considerable foreign investment And (despite high trade barriers) is rapidly integrating with the

global economy

Import liberalization is not a prerequisite for sustained economic growth: CASE of VIETNAM

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A rarely discussed fact is that both China and India implemented their main trade reforms about a decade after the onset of higher growth.

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Experiences of China and IndiaChinese and Indian trade restrictions are amongst the highest in the world.

•Increase in China’s growth started in the late 70s. Trade liberalization started only when the growth rate increased substantially - in the second half of the 80s and the 90s.

•India’s growth rate increased substantially in the early 80s. Trade reform started in 1991 – 1993. Tariffs were higher in the high growth period of the 80s than in the low growth 1970s.

It is therefore not obvious that:

i)Further liberalization is in all countries’ interests

ii)That the world requires a set of global rules, universally applied, that promote greater freedom for global market actors

The Indian and Chinese experiences suggest that a gradual, sequenced approach is beneficial, and that import and trade liberalization are not necessarily the highest development priority.

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Experiences of the LDCsLDCs have been told that trade liberalization reduces poverty, but their experiences have not proved this:

Poverty is increasing in the LDCs with both open and closed trade regimes. But between these extremes, poverty is increasing in countries that have liberalized trade more.

Conclusion 1: trade liberalization does not necessarily reduce poverty.

LDCs have also been told to export their way out of poverty. GDP declined or stagnated in 8 out of 22 LDCs with increased exports. In 10 of these countries, poverty increased. 14 with rising GDP saw poverty fall.

Conclusion 2: Unless there is sustained growth, increasing exports does not reduce poverty.

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Opening up is not always good…

Trade liberalization does not stimulate growth in economies with excessive regulation, and may even retard it, data from a World Bank study of more than 100 countries show.

Excessive regulations restrict growth because resources are prevented from moving into the most productive sectors and to the most efficient firms within sectors.

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…if it’s not preceded by deregulation

Chile's low regulatory barriers allowed resources to be reshuffled to the most efficient producers and largely contributed to the growth spurt following trade liberalization.

By contrast, in highly regulated economies, increased trade liberalization is more likely to occur in the "wrong" goods – where comparative advantage does not lie.

The results imply that regulatory reform enhances the benefits from trade liberalization.

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From the World Bank