Chapter 6: Economic Development: A Missed Opportunity

By William Krist

The General Agreement on Tariffs and Trade’s (GATT’s) treatment of developing countries also has evolved, becoming progressively more responsive to developing countries’ concerns.  The World Trade Organization (WTO), which was launched in 1995 as a result of the Uruguay Round, promoted developing-country interests in some respects, but in others greatly exacerbated the developed country-developing country divide.  The latest round of multilateral trade negotiations, the Doha Round, was launched with great fanfare as a “development” round in the wake of the terrorist attacks on September 1, 2001.  The reality, however, is that developed-country negotiators approached the actual negotiations as a traditional trade round.

A number of U.S. free trade agreements (FTAs) with developing countries were undertaken for foreign policy reasons. So that the United States can fulfill its foreign policy objectives, it is critical that these agreements help to promote economic development in America’s developing country partners; however, U.S. agreements include features that may have a negative impact on development in U.S. partner countries.

The role of economic development in U.S. trade policy took on increased significance in the wake of the September 11, 2001 terrorist attacks on the United States, as noted in chapter 5. After 9/11, policymakers argued that impoverished nations could be havens for terrorists and could be breeding grounds for dissatisfaction and potential new terrorists. And they believed that economic development would help create more democratic governments.

Trade expansion was seen as an important tool to promote economic development, and the rules in trade agreements were seen as useful in promoting the rule of law in developing countries. Accordingly, promoting economic development became an important objective of the U.S. trade agreements program.

From a commercial perspective, it is also in the United States’ long run interest for poor countries to develop economically. Poor countries cannot afford to buy many U.S. products, such as Boeing aircraft or Ford cars. As developing countries become prosperous, however, U.S. exporters find new and growing markets.

After 9/11 the United States pushed trade agreements as a tool for economic development, both in U.S. bilateral FTAs and in the WTO. Bilateral and regional negotiations were launched with a number of poor countries in the Americas, the Middle East, and Africa, and the United States pressed for a new round of multilateral trade negotiations in the WTO. This new round was launched in November 2011, with a vow by WTO members “to make positive efforts designed to ensure that developing countries, and especially the least-developed among them, secure a share in the growth of world trade commensurate with the needs of their economic development.”[1]  The round was dubbed the Doha Development Round.

Changing Theories of Trade and Development

Economic theories regarding how trade policy can promote development have changed radically over the past fifty years, as have the actual practices of developing countries. To a significant extent, trade theory has driven policies adopted by newly independent countries, and to a significant extent the actual real world results of different trade policies have then shaped economic theory.

In the early 1960s and the 1970s, as Europe’s former colonies gained their independence, the dominant view among economists was that the best way to promote economic development was through a policy of import substitution, which called for high trade barriers, often coupled with subsidies and preferred treatment for domestic industries. One of the most well-known advocates of this policy was Raul Prebisch, an influential Argentine economist. Although Prebisch was mainly focused on how to best promote economic development in Latin America, African nations largely adopted this approach as they gained their independence.

The import substitution approach built on the “infant industry” theory developed by Friedrich List, a nineteenth-century German. This theory held that industries must be protected in their early years when they are weak and unformed and would not be able to survive if exposed to strong international competition. (In fact, both the United States and Germany followed this model in protecting their infant industries against British competition in the nineteenth century, and Japan followed it in the postwar years.)

This approach, of course, is fundamentally different from the policies that are implied by David Ricardo’s theory of comparative advantage.  Under Ricardo’s approach, a country would produce those products where it had a comparative advantage, and for developing countries, by and large, this would be primary products for export to the developed countries. Under import substitution policies, however, countries would seek to move up the value chain by protecting targeted industries until they could compete in world markets.

Although this approach had worked for Germany and the United States and most recently for Japan, it did not work well for Africa and smaller Latin American nations in the 1970s and 1980s. To be successful, a country needs to be big enough to generate the economies of scale needed for many industries, such as steel or automobiles, to become globally competitive. Second, it requires a government that can identify industries that have the potential to become competitive and to ensure that industries do not come to rely on permanent protection.

All these problems plagued the newly independent African countries, which were generally small nations with corrupt governments. Prebisch himself came to the view that import substitution was the wrong approach; when he was appointed to head the United Nations Conference on Trade and Development in the 1960s, he advocated that small countries seek to expand their market size through regional integration. He also pushed for special trade preferences by the developed countries that could help developing nations gain market opportunities to allow for economies of scale, and in 1971 the GATT did authorize these special preference schemes for developing countries.

By 1980, it was becoming increasingly clear that import substitution was not working for Latin America. Nancy Birdsall, Augusto de la Torre, and Felipe Valencia Caicedo characterized this period as “the dark side of inward-looking industrialization, . . . [which] was manifested in a well-known catalog of maladies. These included internationally uncompetitive industries; severely distorted relative prices leading to inefficient allocation of resources; rent-seeking and corruption in the administered allocation or rationing of credit, fiscal, and foreign exchange resources; bottlenecks and economic overheating; large public deficits; excessive foreign borrowing by Latin sovereigns; rising and unstable inflation (and actual hyperinflation in several countries).”[2]

During this same period, South Korea, Taiwan, Hong Kong, and Singapore—the so-called Asian Tigers—were growing rapidly by focusing on global markets. These economies all concentrated on export markets and became export powerhouses. However, their import policies were radically different. South Korea and Taiwan pursued protectionist import policies, following the path set out by Japan several decades earlier.  However, Hong Kong and Singapore pursued the opposite strategy and reduced their barriers to imports, and they became two of the most open markets in the world. 

In the 1980s and 1990s, India and China both shifted to a more outward-looking development strategy. However, both continued to have high import barriers and only began to reduce import barriers after high growth rates had been achieved. In addition to a high level of import barriers, China maintained a sharply undervalued currency (an undervalued currency acts as both an import barrier and an export subsidy). This was the same model Japan followed until the mid-1980s and, like Japan before it, China accumulated a massive trade surplus.

The Washington Consensus

As a result of the success of the Asian Tigers in focusing on global markets and the relatively sluggish Latin America performance, economic thinking more and more turned to reliance on market forces to promote economic development and away from state control. The 1989 fall of the Iron Curtain seemed to symbolize the weaknesses of state planning and the strength of market-driven systems.

In 1989, John Williamson, an economist at the Institute for International Economics, outlined a “Decalogue” of policy principals that emphasized reliance on markets, such as privatizing state enterprises, abolishing regulations that restrict competition, establishing property rights, the removal of barriers to foreign direct investment, and reforming tax systems to broaden the tax base along with moderate marginal tax rates.  With regard to trade policy, Williamson advocated replacing quantitative restrictions with tariffs, and then progressively reducing these to a uniform range of around 10 percent. He posed an exception to this in noting that it may be good policy to provide substantial but temporary import protection to infant industries to allow them to develop economies of scale. He dubbed these ten policy measures the “Washington Consensus.”

In the 1990s, many Latin American countries implemented these recommendations, removing import quotas and reducing tariffs from nearly 50 percent in the early 1980s to around 10 percent by 1999. A group of African countries have also been pursuing a strategy along the lines suggested by Williamson. Steven Radelet of the U.S. Agency for International Development has identified seventeen African countries that have adopted this strategy to varying degrees and have been experiencing solid annual growth of more than 3.2 percent since 1996; Radelet dubbed these countries the African “Cheetahs.”[3] The Cheetahs have seen their trade double while education, health, and the distribution of income have all improved. Seven of these countries apply an average tariff on manufactured goods of 10 percent or less, and the rest have average tariffs of 10 to 20 percent (data are not available for São Tomé).[4]

Over the fifteen years after Williamson articulated the Washington Consensus, however, the International Monetary Fund and a number of economists took these ideas to the extreme. The IMF required developing countries to sharply reduce tariffs in a very short time period as a condition for receiving an IMF loan. This produced a sharp backlash, as these countries were generally dependent on customs revenues for financing the government, and as their weak domestic industries faltered under sudden international competition.[5]  Additionally, given the experience of some countries in achieving rapid growth through aggressive export promotion coupled with import protection, questions began to be raised about the Washington Consensus.

Today, almost all economists agree that policies to promote exports are important to economic development. Exporters need to compete with the best foreign firms, and this forces them to be efficient, and export earnings pay for financing the importing of needed raw materials and intermediate goods. Additionally, exporting can help firms in small countries gain economies of scale.

As noted in chapter 3, however, import policies are more controversial.  Advocates of the desirability of reducing import barriers make a number of points. First, tariffs on raw materials and intermediate inputs can raise the costs of manufacturing and can make exporters uncompetitive in world markets. Additionally, tariffs on products not produced in the country raise the costs to consumers, thereby reducing aggregate demand for other products. Advocates of import liberalization point to economies such as Botswana, Hong Kong, Singapore, and Chile that have achieved high growth while sharply reducing import barriers.

A number of economists, however, argue that reducing barriers to imports is not important for promoting economic growth. For example, Joseph Stiglitz argues that “it is exports—not the removal of trade barriers—that is the driving force of growth. Studies that focus directly on the removal of trade barriers show little relationship between liberalization and growth.”[6]  Dani Rodrik adds that “the available studies reveal no systematic relationship between a country’s average level of tariff and nontariff restrictions and its subsequent economic growth rate. . . . The only systematic relationship is that countries dismantle trade restrictions as they get richer.”[7]

Most of the criticisms of the Washington Consensus as it applies to trade policy, however, are not really relevant to Williamson’s original formulation. As Rodrik summarizes the view, “Most well-trained economists would agree that the standard policy reforms included in the Washington Consensus have the potential to promote growth. What the experience of the last few decades has shown, however, is that the impact of these reforms is heavily dependent on circumstances.”[8]

The U.S. Responsibility in Trade Negotiations

Wealthy nations such as the United States generally have large teams of negotiators who are able to actively participate in all the many issues that are covered in a trade negotiation, and they have staff members back in the capital who can research the implications of all the various proposals. In negotiations with other developed countries, U.S. negotiators can operate on the assumption that their counterparts will work with them to develop agreements that are win-win, where on balance all parties come out with an agreement that they consider to be in their national interest. They can assume that their counterparts understand the issues and how their country will be affected by the different proposals on the table.

Many developing countries, however, have very small negotiating teams and are not able to follow all issues; in fact, sixteen developing countries do not even have a permanent mission at WTO headquarters in Geneva.[9]  Additionally, if a developing country does not pay its WTO dues, it is designated “inactive,” which means that it does not receive a number of benefits, such as the distribution of documents. In 1997, twenty-three developing countries were so designated; and in 2011, there were still nine such countries.[10]

The reality is that many developing countries are not able to effectively promote their national interests in trade negotiations. More advanced developing countries—such as China, India, and Brazil—of course are totally capable of defending their own interests, and in fact they do so very effectively. However, many developing countries, particularly some of the smaller and poorer African and Latin American countries, cannot adequately advance their own interests in trade negotiations.

As noted, it is generally considered to be in the United States’ national interest that these countries grow and develop economically. In fact, in many cases, the United States explicitly negotiated the agreement to promote its foreign policy interests by promoting economic development.  And the Doha Development Round was launched in the belief that over the long run, the developed countries would benefit from helping the poor countries become an active part of global commerce.

So how should the United States approach negotiations with developing countries that do not have the capacity to fully advance their own interests?  First, it should seek to ensure that it does them no harm. This requires U.S. negotiators to understand the impact of proposed provisions of trade agreements on poor countries, which are basically in very different circumstances than developed countries. And then it requires U.S. negotiators to recognize these effects in developing their positions, even in cases where it may cost some domestic political support. As we shall see, there are several provisions in the WTO and in the United States’ bilateral FTAs that do in fact cause poor countries significant difficulty—or even injury.

Second, there are a number of areas where agreements could be reached that would benefit both the United States’ developing-country partners and its own commercial interests. These need to be aggressively pursued and brought to closure, and given a higher priority than might be the case if the United States were only focused on its own immediate commercial interests.

Which Are the Developing Countries?

The GATT and now the WTO have never defined what is a “developing country.”  Instead, it leaves it up to each member to self-designate themselves as a developing country if they so choose. However, a country’s self-selection as a developing country is subject to challenge by other contracting parties, and other members may or may not accept that self-designation.

Although there is no WTO definition of “developing country,” the WTO is clear as to what is a “least-developed country” (LDC). The WTO uses the United Nations definition of “least-developed country,” which is an annual per capita gross domestic product (GDP) of under $992 based on a three-year average, coupled with a human resource weakness and an economic vulnerability, for inclusion on the list. (If per capita GDP increases to more than $1,190, the country is considered to have “graduated” and is removed from the list of LDCs.) The United

Nations lists forty-nine nations as LDCs, of which thirty-four are members of the WTO.[11]  Of the forty-nine LDCs, thirty-four are in Africa, fourteen are in Asia, and one is in Latin America.

Although the WTO does not define “developing countries,” the World Bank does classify countries based on per capita gross national income (GNI).[12]  By the World Bank’s definitions, a “low-income developing country” has a per capita GNI of less than $1,025. The World

Bank defines a “lower-middle-income” country as one with a per capita GNI of $1,026 to $4,035 and an “upper-income” developing country as one in the range of $4,036 to $12,475. Both lower-middle-income and upper-income countries can be considered to be “developing” countries, along with low-income developing countries not classified as least developed.

Countries classified as “high-income countries,” which have per capita incomes of $12,476 or more annually, can be basically considered to be “developed countries.” The 2011 per capita GNI for the United States was $48,620, more than four times as high as the poor countries in the “high-income” category. The World Bank ranked the United States as the ninth-wealthiest country in 2011, although it was well behind Switzerland, at $76,400, and Norway, at $88,890.

It is important to emphasize, however, that developing countries and LDCs do not all have the same problems or objectives, and this is true for countries in each category of development. Some countries are food exporters, while others cannot produce enough food to satisfy their needs, and some are oil producers with all the advantages and disadvantages that brings. Twenty-five are nations with populations of less than 1 million, while India and China have populations greater than 1.1 billion each. Some are rapidly growing and have clearly embarked on self-sustaining growth, while others are stagnant or even going backward into deeper poverty.

Some of the developing countries—such as Brazil, Russia, India, and China (known as the BRICs)—are commercial powerhouses and have a major impact on world trade. Indeed China and India, both classified as lower-middle-income countries and home to more than half the world’s population living on less than $2 a day, nonetheless have a significant impact on the economic situation in the United States. In fact, from an economic development and from a trade policy perspective, every country must be considered based on its own unique conditions.

The Evolution of the Trade System

From its early days, the GATT had been sensitive to the problems of developing countries. In 1954, the members of the GATT added a new article to the agreement that called for special treatment for developing countries.[13]  Consistent with economic theory at that time, this article recognized that “countries in the early stages of development” may need to impose import restrictions to facilitate the establishment of an industry.  Additionally, it recognized that developing countries may need “to apply quantitative restrictions for balance of payments purposes.”

In 1965, the GATT agreed to a new Part IV, titled “Trade and Development,” which allowed for special and differential treatment of developing countries. One provision noted that the “developed contracting parties do not expect reciprocity for commitments made by them in trade negotiations to reduce or remove tariffs and other barriers to the trade of less-developed contracting parties.”

Part IV also called on the developed countries to make positive efforts to remove or reduce barriers to trade in the primary products particularly produced by developing countries. However, the language of Part IV is basically more hortatory than binding. For example, it includes language such as “shall to the fullest extent possible.” Nonetheless, it did set the stage for some concrete measures to provide special assistance to developing countries.

In the late 1960s and early 1970s, a number of developed countries implemented special preferences for developing countries in arrangements known as the Generalized System of Preferences. Under these arrangements, the developed countries would accord a reduced tariff or no tariff on the importing of specified products from the developing countries while applying the full most-favored-nation (MFN) tariff to imports of the same product from non-beneficiary countries. Another measure stimulated by Part IV occurred in 1976 and 1977, when most developed countries eliminated or reduced import barriers on tropical products, such as mangoes and bananas.

In the Tokyo Round, these provisions were carried a step further with the 1979 “Decision on Differential and More Favourable Treatment, Reciprocity, and Fuller Participation of Developing Countries.” This decision authorized groups of developing countries to enter into preferential trade arrangements among themselves, without the requirement imposed on free trade areas and customs unions that barriers be eliminated on substantially all items.

In each of the multilateral rounds of trade negotiations under the GATT, the developing countries were not asked to reduce tariffs to the same extent as the developed countries, and they were given longer transition periods to implement tariff reductions. The LDCs were not required to make any concessions. Additionally, only a few developing countries signed on to the codes of conduct on nontariff measures that were negotiated in the Tokyo Round. In addition to granting developing countries preferential access to developed-country markets and to allowing delayed implementation of the rules or tariff concessions, or even permanent exemption from the rules, “special and differential” treatment of the developing countries called for special efforts to assist these countries in implementing GATT commitments, although the amount of such assistance has been small.

The New World of the WTO

When the GATT became the WTO as a result of the Uruguay Round in 1995, however, things changed dramatically. Toward the end of the Uruguay Round, the developed countries pressed for a “single undertaking,” which required all WTO members to adhere to all the agreements except government procurement. And under the new WTO binding dispute settlement mechanism, they could be subject to trade sanctions if they did not implement these agreements.

The existing developing-country members were allowed to continue to have significantly higher tariffs than the developed countries, but suddenly they were required to sign on to all the codes. In addition, they were required to sign on to the new agreements negotiated in the Uruguay Round on intellectual property protection, investment, and services.  However, the developing countries were given more time to implement the WTO codes than were the developed countries, and the LDCs were given the longest transition periods.

The WTO agreements did have a number of important benefits for the developing countries. First, the developed countries reduced their tariffs by some 30 percent on average, and a number of developing countries have benefited from this, including China and India.

Second, though commitments in the services sector were limited, they still offer potential economic benefits for the developing countries. Many services are labor intensive, and many developing countries have a comparative advantage in low-cost labor and should also be able to benefit from greater access to the developed-country markets.

Opening their own markets in services can also benefit the developing countries. Efficient and productive service industries in such areas as communications, business services, and transportation can promote efficiency throughout the economy, and allowing service providers from other countries to compete in their market can promote efficiency.

However, countries need to consider the overall economic context when they liberalize services trade, including the effectiveness of their regulatory regimes such as their antitrust and tax policies. Some developing countries could easily have problems from an abrupt liberalization of service sectors such as finance and telecommunications without an appropriate regulatory regime in place.

The developing countries can also benefit from adopting many of the rules of the WTO, to which they had not had to adhere under the GATT.  For example, one agreement that is in the long-run interest of developing countries is the customs valuation code; traders need to know how products will be valued in crossing borders, and this code provides greater certainty.

The new WTO dispute settlement mechanism can also help the developing countries on some occasions, because they can now pursue disputes in a more legalistic approach, whereas under the GATT system they had little real power to take on a major trade partner. In fact, under the new WTO system, a number of developing countries have won dispute settlement cases against the major developed-country WTO members.  And as part of the agreement on dispute settlement, the developed countries, including the United States, agreed to forgo the use of unilateral measures such as “voluntary restraint agreements” to force action by a trade partner.

Unfortunately, however, there were several aspects of the new WTO that have not benefited many of the poorest countries. First, the developing countries believed that they would benefit from improved access to developed-country markets in the textile and apparel areas as a result of the Uruguay Round, which required the developed countries to give up import quotas maintained under the Multi-Fibre Arrangement. Second, they looked to future benefits from the commitment in the Uruguay Round to launch negotiations by 2000 to improve access to developed country agricultural markets and to reduce developed-country trade distorting agricultural subsidies.

However, these expected benefits have not materialized. China, which was not a member of the WTO in 1995, has gained the lion’s share of the benefits of improved market access to developed-country textile and apparel markets, as well as other labor-intensive product areas. Additionally, expected improved access to developed-country agricultural markets has not occurred, and the developed countries have not made WTO commitments to reduce subsidies to their farmers.

Many of the developing countries had a poor understanding of the implications of the WTO codes for their economies. What they found out was that the implementation of the WTO codes can cost upward of $100 million per country. Although this expense might seem trivial to the developed world, it can represent a significant fraction of a poor country’s budget.

TRIPS and Developing Countries

The most expensive of these codes to implement is the Agreement on Trade-Related Intellectual Property (TRIPS); in addition to its expense, the TRIPS agreement has a number of severe negatives from the developing country perspective. The first major problem developing countries faced was that the new WTO rules made it more difficult to obtain affordable drugs to combat the AIDS epidemic. As described in chapter 2, developed-country negotiators had to agree to establish a procedure whereby small countries could import generics to deal with emergencies in order to gain a consensus to launch the Doha Round.

The developing countries had until 2005 to implement the TRIPS pharmaceutical provisions, and the LDCs have until 2016. This meant that developing countries such as India could produce generic, first generation AIDS antiretroviral drugs up to 2005. At that time, they were required to have implemented their TRIPS commitments, which meant that they could not manufacture generics of any new antiretroviral drugs developed after that date. This is very significant because these drugs are being constantly improved and countries such as India could not make cheaper generics of these latest versions.

The second major problem for the developing countries caused by the TRIPS agreement is that many of these countries did not have a system for protecting intellectual property in place and implementing such a system is very expensive. Michael Finger of the World Bank estimates that for some developing countries the costs of implementing a regime to protect intellectual property is greater than the foreign aid they receive annually. As a result, some developing countries have not yet implemented the agreement or have only partially done so. (The World Intellectual Property Organization has provided technical assistance to developing countries to implement the TRIPS agreement, and this can offset the costs to some extent.)

The third problem for the LDCs is that the TRIPS regime does not protect the type of intellectual property found in some developing countries, namely, traditional and indigenous knowledge, such as knowledge of specific plants that have medicinal properties. There have been instances where pharmaceutical companies have come in and taken this traditional knowledge and patented it, making it harder for the developing countries to even use their own knowledge, much less benefit from it. 

The Doha Development Round

To help overcome the argument by the developing countries that the Uruguay Round was unbalanced in favor of the developed countries, the new trade round launched at Doha in 2001 was called the “Doha Development Agenda.” However, from the beginning some old trade hands were skeptical of this approach of emphasizing economic development in the mandate of a trade round, arguing that the WTO is essentially a trade organization, not a development organization. For example, Jan Woznowski, the former director of the Rules Division in the WTO, says: “The term ‘Doha Development Agenda’ does not make much sense because it neither reflects all negotiators’ real intentions and objectives for the negotiations nor the Doha Declarations’ content, nor the negotiating process in the Round. The name DDA is a largely political creature and, in fact, is somewhat misleading.”[14]

In fact, U.S. and other developed-country negotiators by and large approached the Doha Development Round as a standard trade round, and primarily sought to promote U.S. commercial interests. Given the need to gain congressional approval for any trade package, the negotiators know that they must have some powerful industries that benefit from any agreement and will be willing to lobby Congress for passage.  They also need to minimize the number of industries that are hurt by trade liberalization and that would likely lobby against passage.

Over the twelve years since the Doha Round was launched, negotiators have produced vast reams of paper outlining various country positions, but unfortunately the gaps between key players seem to be too large to bridge. In particular, the gaps between the developed and developing countries in the critical areas of agriculture and non-agriculture market access have been major stumbling blocks.

The agricultural negotiations have stonewalled over the unwillingness of the United States, the EU, and Japan to substantially reduce their trade barriers and subsidies. Many in the U.S. agricultural community have decided that they like government subsidies, and since 2000 they have been lobbying for larger subsidies, not reduced subsidies, as U.S. trade partners were demanding. In 2002 they pushed a new farm bill through Congress that nearly doubled U.S. farm subsidies, and the 2008 Farm Bill increased these subsidies even further. So U.S. negotiators had limited flexibility and basically only proposed binding current subsidy levels in the Doha Round, and not reducing subsidies as expected following the Uruguay Round.

The developing countries themselves have different views with regard to the elimination of trade-distorting developed-country subsidies for agriculture. The developing countries and regions that export or have the potential to export agricultural products, such as Brazil and the cotton growers in West Africa, want significant reductions in developed-country agricultural subsidies. However, countries that are dependent on food imports because they are unable to produce enough for domestic consumption welcome these subsidies, because they result in lower prices. On balance, however, the developing countries would benefit from the elimination of trade-distorting agricultural subsidies.[15]

In the tariff negotiations on nonagricultural goods, the negotiators have generally agreed on a formula for reducing bound tariff rates. Under this formula, the developed countries would reduce the tariff rates they actually apply, because their bound and applied rates are the same. The developing countries would also reduce their bound rates, but because most of them have applied rates that are much lower than their bound rates, their applied rates would be basically unchanged because the proposed formula does not cut deep enough to impact their applied rates.

U.S. industry views these proposed formula cuts as grossly unfair, because major exporters such as China, India, and Brazil, which already enjoy a trade surplus with the United States, would be gaining market access without any reciprocal benefits to U.S. exporters. To compensate for this problem with the tariff formula approach, U.S. industry has been pressing for duty free trade in key sectors—including chemicals, paper and forest products, information technology, machinery, and health products—but the developing countries have refused to make deeper cuts in these sectors.

Reductions in developed-country tariffs on nonagricultural goods would benefit those developing countries that have globally competitive industries, such as China, India, and Brazil. However, some of the poorer countries in Africa and Latin America would lose by these tariff reductions, because they currently enjoy duty-free access to the developed country markets in many products under their FTAs or from developed country preference schemes such as AGOA and the Generalized System of Preferences.

This means that if the developed countries reduce their MFN tariff rates, the margin of preference currently enjoyed by these countries would be less and their trade would suffer as the more competitive countries like China, India, and Brazil pick up market share. A number of developing countries, such as Mauritius, have been deeply concerned about this potential erosion of preference margins, and this has been another impediment to completing the tariff negotiations.

In both the non-agriculture market access and agricultural areas, the developing countries have argued that they need “policy space,” that is, room to maneuver in the future if unexpected circumstances arise. The developed countries, conversely, have pressed for firm commitments so that their exporters could be assured that market access commitments would not be undermined in the future.

On July 28, 2008, the negotiations basically collapsed, as noted in chapter 2, although there have since been occasional efforts to craft a Doha deal, and the negotiations have not been officially pronounced as being over. Though the negotiations have not lived up to the name “Doha Development Round,” there are two elements that could benefit developing countries, and that might be salvaged in a “small package” at the December 2013 Ministerial Meeting.

The first is an issue called “trade facilitation.” The trade facilitation negotiations seek to reduce barriers to trade in the areas of fees and documentation requirements for imports and exports, the publication and administration of trade regulations, and freedom of transit for landlocked countries. If successful, these negotiations could be of benefit to many developing countries, which often have very cumbersome procedures for trade, including requirements for excessive documentation and fees for imports and exports. Landlocked countries have a particular problem because they need trade corridors to ports through other countries that would enable them to efficiently import and export, and these corridors often do not exist.

Some developing countries, such as Mauritius, have made enormous progress in reducing their own barriers to imports and exports and are as efficient as most developed countries. However, most of the LDCs and middle-income developing countries still have a long way to go in improving trade facilitation.

The World Bank has compiled a number of indices to measure the efficiency of trade facilitation, one of which is the Logistics Performance Index.[16]  Bernard Hoekman and Alessandro Nicita at the World Bank estimate that “if low-income countries were to converge to a set of policies that would generate the observed average levels of the various indicators in middle-income countries” their imports might increase by some 15.2 percent and their exports by 14.6 percent.[17]

Another area that could benefit the developing countries, called “aid for trade,” is aimed at improving both the “hard” infrastructure for trade, such as roads, and the “soft” infrastructure, such as trade finance.  To some extent, these negotiations have already resulted in greater funding to assist the poorer countries expand trade. At the 2005 WTO Ministerial Meeting, “Japan announced development assistance spending on trade, production and distribution infrastructure of $10 billion over three years, the United States announced Aid-for-Trade grants of $2.7 billion a year by 2010, and the EU and its member States announced trade-related development assistance spending of €2 billion per year by 2010.”[18]  Additional aid for trade could become part of a December “small package.”

The Shift to Bilateral Agreements

Of the twenty countries with which the United States has an FTA, seven are developed, seven are upper-level developing countries, six are midlevel developing countries, and none is an LDC.[19]  These agreements all built on existing commercial arrangements that the United States already had in place with these countries. First, the United States only negotiates FTAs with countries that are members of the WTO, and the various chapters of the FTA build on the WTO obligations. Second, the United States often has trade and investment framework agreements with countries before negotiating an FTA with that nation; these framework agreements establish councils that generally meet at least annually to encourage the liberalization of trade and investment, but they do not have nearly the breadth and scope of U.S. FTA agreements.

Additionally, many U.S. FTAs are negotiated with countries with which the United States already has a bilateral investment treaty (BIT) in place, although this is not always the case (e.g., among the Central American Free Trade Agreement (CAFTA) countries, only Honduras had an existing BIT with the United States). For countries that did not have an existing BIT, the investment chapter imposes new requirements, and for those that did already have a BIT, the investment provisions are now subject to the dispute settlement mechanism of the FTA. By and large, these investment commitments increase the attractiveness of U.S. developing-country partners to U.S. investors, and this can have a positive impact on economic development. Foreign investors bring in capital, management skills, and new technology, which all tend to diffuse out to other sectors in the country. However, for foreign direct investment to be beneficial, the right regulatory environment needs to be in place in U.S. developing-country partners to prevent monopoly practices or other unfavorable outcomes.

All thirteen U.S. developing-country FTA partners were also eligible for one or more of the special preference programs administered by the United States, such as the Generalized System of Preferences, which provide duty-free treatment on their imports into the United States for most products. However, under the FTA, U.S. developing-country partners gain almost complete duty free access to the U.S. market, whereas only some 91 percent of products were duty free without the FTA (54 percent under the preference program, and 37 percent because of a zero U.S. MFN duty). Additionally, the FTA basically provides for permanent duty-free entry, whereas the preference programs have to be periodically renewed by Congress, and there have been a number of lapses in authorization, which creates considerable uncertainty.

In addition to expanded duty-free coverage and greater certainty, the United States has sometimes provided funding to its developing-country FTA partners for capacity-building efforts to better enable them to benefit from the agreement.

In view of the fact that they already enjoy preferential access to the U.S. market, the question might be asked why a developing country would want to negotiate an FTA with the United States. There are a number of reasons why some countries have chosen to move on to an

FTA. First, because of the huge size of the United States’ market, some of its partners calculated that reciprocal duty-free access would be in their commercial interest. Second, some hoped that strengthening the rules for investment would encourage foreign direct investment. Third, some developing-country partners wanted an FTA in order to cement a close political relationship with the United States. Fourth, the CAFTA countries wanted an FTA to level the playing field with Mexico. And fifth, a number of U.S. developing-country partners wanted the FTA as a way to lock in their own trade liberalization for the future and thereby provide traders and investors with a more certain commercial environment.

U.S. agreements with developing countries either call for it and its partner to completely eliminate tariffs by the same year or allow its developing-country partner to have a longer implementation schedule. Additionally, the United States commits to immediately eliminate duties on a substantial portion of its imports from its partners; for example, 95 percent of Chile’s exports to the United States had immediate duty-free access, and 99 percent of Peru’s and Colombia’s exports receive immediate duty-free access. The United States’ trade partners also provide immediate duty-free access to many U.S. exports, although to a lesser degree than the United States gives its partner; for example, 85 percent of U.S. exports to Chile have immediate duty-free access and 80 percent have immediate duty free access to Peru.

In the services area, as noted in chapter 2, the North American Free Trade Agreement (NAFTA) followed the approach taken in the WTO’s General Agreement on Trade in Services, whereby the partners notified only services commitments that they were willing to commit to (the positive list). In subsequent U.S. FTA agreements, however, the parties agreed to a negative list approach, whereby all trade barriers were removed except those that were notified as remaining in effect. In NAFTA and subsequent U.S. agreements, both the United States and its developing-country partners have made commitments that go beyond concessions made in the WTO, although most of these commitments are in the form of additional bindings.

The Dark Side of the U.S. Bilateral Agreements

Whereas the United States’ FTA partners seem to have generally benefited from these agreements, three features are not in their interest and are in the FTAs largely because of pressure from special interests in the United States. The first is the agriculture sector—a sector where most developing countries are relatively competitive. Unfortunately, the United States has insisted on full access to its partners market while continuing to give its growers huge subsidies, putting its developing-country partners at a competitive disadvantage. And in CAFTA, with regard to sugar, the United States will maintain its tariffs and only liberalize its quota to a small extent for the CAFTA countries. (To get around the U.S. quota, El Salvador expanded its ethanol production, which is then given duty-free/quota-free entry to the United States.)

A second feature is the provision in most U.S. FTAs in the services chapter that appears to prohibit U.S. partners from imposing controls on the flow of speculative capital into and out of their country. Such speculative capital is very different from foreign direct investment in manufacturing plants or business enterprises, which has a long-term commitment to the country. Speculative capital can move across borders with the click of a computer’s mouse, and often moves for reasons that have nothing to do with economic events within the country.

Speculative capital that flows into an economy can cause asset bubbles that distort the economy and can cause the currency to appreciate to levels where many sectors in the real economy that had been competitive can no longer compete. And when speculative capital suddenly decides to leave an economy, it can cause a sudden devaluation of the currency and economic collapse. This is what happened to Thailand, Indonesia, and South Korea, and to a lesser extent Hong Kong, Malaysia, Laos, and the Philippines in 1997, when they were hit with a severe financial crisis, which many blamed on speculative capital flows and weak regulatory regimes.[20]

A third area where the United States has pressed for a provision that is not in the interests of its developing-country partners is the protection of pharmaceuticals in the intellectual property chapter that goes beyond the WTO’s TRIPS agreement or what is in U.S. law. As noted above, there is an important balance that needs to be in place between the holders of intellectual property rights and consumers. Too much protection means that poor countries—and indeed consumers in the developed countries—do not have reasonable access to low-cost generics, yet insufficient protection will reduce the incentive for the pharmaceutical companies to develop new drugs. The TRIPS agreement came out of a negotiation between countries that have much intellectual property to protect, and countries that have very little and want access to intellectual property at a reasonable price.  Accordingly, it represents somewhat of a balance between the need to promote innovation and the needs of consumers.

However, in many U.S. FTAs with developing countries, the United States has insisted on what is called TRIPS Plus. As noted in chapter 4 on U.S. commercial interests, the aspect of TRIPS Plus that pertains to strengthened enforcement is well justified. However, some provisions provide added protection for pharmaceutical patents over what is provided for in the WTO agreement, and these provisions can be damaging to developing-country interests.

The potential problems for the United States’ developing-country partners are aptly summed up by Carsten Fink and Kimberly Elliott: “Most notably, U.S. negotiators generally seek to extend the length of the patent term to compensate for delays in regulatory approvals; to allow for patents for new uses of existing compounds; to limit the grounds for issuing compulsory licenses; to force drug regulatory agencies to play a role in enforcing patent rights, even though they typically have no expertise in that area; and to create another layer of market exclusivity through rules for the protection of pharmaceutical test data, further complicating the use of compulsory licensing.”[21]

Not surprisingly, some of the United States’ potential FTA partners refused to agree to these provisions, and U.S. insistence on TRIPS Plus reportedly was a factor in the hesitancy of the Southern African Customs Union and Thailand to conclude FTAs. It also appears to be a factor in the current negotiations for the Trans-Pacific Partnership.

These provisions also energized nongovernmental organizations in the United States concerned about global health and economic development, and these organizations lobbied Congress to force the George W. Bush administration to negotiate a May 10, 2007, deal to scale back the

TRIPS Plus provisions as they apply to pharmaceutical products.  Among other provisions, this deal allowed for a more flexible approach for the United States’ developing-country partners on extending the length of patent terms to compensate for delays in regulatory approvals, and clarified that the period for protection of pharmaceutical test data will not be longer for the same product than it is in the United States.  Though agreements negotiated after May 10, 2007, follow these guidelines, some nongovernmental organizations focused on health are concerned that the old provisions may reappear in the Trans-Pacific Partnership negotiations.

NAFTA’s Impact on Mexico

The United States’ 1994 FTA with Mexico is the only FTA that has been in effect long enough for serious analysis as to its impact on one of the United States’ developing-country partners. This is also a good agreement to consider in more depth, because the economic impact of this agreement would be expected to be larger than the other U.S. agreements because of Mexico’s proximity to the U.S. market.

Mexico entered into NAFTA as part of a long-term strategy to become more market oriented, which included such measures as joining the GATT in 1985 and easing restrictions on foreign investment in 1989.  As is always the case in real world economics, there were a number of exogenous events that make analysis of NAFTA’s impact difficult. One of the largest exogenous events was the Mexican peso crisis in 1995, which had an enormous economic impact, but other events include the U.S. dot-com bubble, which burst in 2000; the global world recession of 2008; a number of other Mexican FTAs; and China’s joining the WTO and becoming a major player in world trade.

A number of economists believe that NAFTA did increase foreign direct investment in Mexico. For example, Gordon Hanson concludes that “NAFTA appears to have raised capital inflows in part by raising investor confidence in the country’s commitment to free trade. From 1980 to 1994, foreign direct investment (FDI) averaged 1.3% of Mexico’s GDP, while from 1995 to 2000, it averaged 2.8% of GDP.”[22]  And a 2004 Congressional Research Service report notes that from 1994 to 2002, U.S. foreign direct investment in Mexico rose from $16.1 billion to $58.1 billion.[23]

There also is a consensus that NAFTA has contributed to a significant increase in Mexico’s trade. For example, Gordon Hanson notes that Mexico’s policy of trade liberalization “helped increase the share of trade in Mexico’s GDP from 11.2% in 1980 to 32.2% in 2000.”[24]

One major problem of NAFTA, however, has been the agricultural sector. The agreement itself gave Mexico a long transition period to eliminate duties on grains, particularly corn, but Mexico decided to implement duty elimination on a much more rapid schedule. Joseph Stiglitz describes this situation as follows: “Poor Mexican corn farmers now have to compete in their own country with highly subsidized American corn. . . . A fairer trade agreement would have eliminated America’s agricultural subsidies and its restrictions on imports of agricultural goods, like sugar, into the United States. Even if the United States did not eliminate all its subsidies, Mexico should have been given the right to countervail—that is to impose duties on U.S. imports to offset the subsidies.  But NAFTA does not allow that.”[25]

The result was that rural Mexican growers of corn could not compete with heavily subsidized corn from the United States. Agricultural employment in Mexico dropped from 8.1 million in the early 1990s to 5.8 million in 2008, to some extent because of increased imports, and many of the unemployed rural poor flooded into the country’s metropolitan areas. Many of these may subsequently have become illegal immigrants into the United States.

Although NAFTA does seem to have contributed to an increase in investment and trade, there is no consensus as to whether the overall impact on Mexican growth has been positive or negative. Eduardo Zepeda, Timothy Wise, and Kevin Gallagher argue that “the evidence points overwhelmingly to the conclusion that Mexico’s reforms, backed by NAFTA, have largely been a disappointment for the country. Despite dramatic increases in trade and foreign investment, economic growth has been slow and job creation has been weak.”[26]  However, J. F. Hornbeck quotes a World Bank study that argues without NAFTA, Mexico’s GDP growth would have been 4 to 5 percent lower by 2002.[27]

Conclusion: Economic Development: Too Often Ignored

Economic theories of the role of trade in economic development have changed dramatically over the past sixty years. In the 1960s, most economists argued that poor countries should impose high import barriers to allow domestic industries to grow to a level where they could compete in world markets. By the late 1990s, the consensus view was radically different; the Washington Consensus held that developing countries should aggressively pursue export markets and should have relatively low and transparent barriers to imports to promote economic growth. Today, this model has been criticized for ignoring the experience of neomercantilist countries, such as China, which have achieved extremely rapid growth while maintaining high import barriers, an undervalued currency, and low transparency.

The position taken here is that both the Washington Consensus and the neomercantilist approach can be effective in promoting economic development, provided other pro-growth policies are pursued such as reducing corruption, promoting savings and education, and removing impediments to trade such as cumbersome customs procedures. However, it needs to be emphasized that the neomercantilist approach is essentially a beggar-thy-neighbor approach that does not comport with the theoretical benefit of international trade based on the law of comparative advantage.

The GATT did not require the LDCs to open their markets, and it gave middle-income countries a great deal of flexibility in trade liberalization and adherence to the various nontariff measure codes. However, the WTO radically changed the approach to the treatment of developing countries, requiring them to adhere to almost all the agreements, and subjecting their practices to the new robust dispute settlement mechanism.

The WTO, however, did promise some benefits to developing countries, including tariff reductions by developed countries, a commitment to end the restrictive trade regime on textiles and apparel, and a promise to begin negotiations in 2000 to reduce agricultural subsidies.

By 2000, however, many developing countries came to believe that they had been sold a bill of goods. Some of the agreements, particularly the TRIPS agreement, were proving to be very expensive to implement and of negligible benefit to the LDCs. Furthermore, China was grabbing most of the benefits of trade liberalization in textiles, apparel, and other goods, and the agricultural negotiations were going nowhere as the farm lobby in the United States and other countries effectively blocked efforts to reduce agricultural subsidies and trade barriers.

Accordingly, to get agreement from the LDCs to launch a new trade round, the negotiators committed to make the Doha Round a “development round.” However, this original objective has largely been lost sight of, as the United States, Europe, and others approached the negotiations as a standard trade negotiation, and the Doha negotiations have now apparently failed. But the negotiators did make progress on a “trade facilitation” agreement that would benefit both developing and developed countries, and this should be salvaged from the failed Doha Round.

U.S. bilateral and regional FTAs also have some features that can help the United States’ developing-country partners economically and some negative features. On the positive side, these agreements give U.S. partners nearly complete, assured access to the U.S. market, and the

United States often provides capacity-building assistance. On the negative side, the United States demands free access for its agricultural exports that it heavily subsidizes, such as corn and cotton, which poses unfair competition to producers in its partner. Other negatives sometimes include provisions on pharmaceuticals that go beyond the WTO’s TRIPS agreement, and limitations on the ability of the parties to the agreement to restrict capital flows to protect the integrity of the capital markets in U.S. developing-country partners.

The United States often has important foreign policy objectives in negotiating its trade agreements, including both in the WTO and in its bilateral agreements with developing countries. However, all too often there seems to have been overreliance on the assumption that expanded trade will lead to economic growth, and too great a willingness to demand special interest provisions that may injure a U.S. trade partner in order to gain domestic U.S. support for the agreement.

One of the reasons that U.S. negotiators do not always take into account the developmental impact of U.S. proposals is that the interagency process that helps the president formulate the nation’s approach is not designed to consider these issues. The U.S. Agency for International Development (USAID), which is the key federal agency designed to promote economic development, only participates in the staff -level Trade Policy Staff Committee, and not the sub-Cabinet Trade Policy Committee.

To remedy this, USAID should be added to the Trade Policy Committee, and USAID and the Department of State should be given a specific mandate to consider the impact of the United States’ proposals on its developing-country partners. Additionally, the U.S. International Trade Commission should be charged with conducting an analysis of the impact of U.S. proposals on developing countries as soon as possible in the negotiating process.

Trade policy can be an important tool to help promote economic development, but unfortunately it is a tool that is not being used to maximum effect at this time.

[1] WTO Ministerial Declaration, November 2001, paragraph 2, http://www.wto.org/english/thewto_e/minist_e/min01_e/mindecl_e.htm.

[2] Nancy Birdsall, Augusto de la Torre, and Felipe Valencia Caicedo, The Washington Consensus: Assessing a Damaged Brand, Working Paper 213 (Washington, D.C.: Center for Global Development, 2010), 4.

[3] The seventeen cheetahs are Botswana, Burkina Faso, Cape Verde, Ethiopia, Ghana, Lesotho, Mali, Mauritius, Mozambique, Namibia, Rwanda, São Tomé and Príncipe, the Seychelles, South Africa, Tanzania, Uganda, and Zambia. See Steven Radelet, Emerging Africa: How 17 Countries Are Leading the Way, Center for Global Development Report (Washington, D.C.: Brookings Institution Press, 2010).

[4]Source: http://stat.wto.org/Home/WSDBHome.aspx?Language=.

[5] Because customs duties are easier to collect than taxes, particularly in countries with a high level of corruption, many developing countries today rely on customs duties for more than one-quarter of their tax revenues. Even the United States relied on tariffs for about half of total government revenue until 1910.

[6] Joseph E. Stiglitz, Making Globalization Work (New York: W. W. Norton, 2006), 72.

[7] Dani Rodrik, One Economics—Many Recipes: Globalization, Institutions, and Economic Growth (Princeton, N.J.: Princeton University Press, 2007), 217.

[8] Ibid., 56.

[9] World Trade Organization, “WTO Organizes ‘Geneva Weeks’ for Nonresident Delegations.”

[10] World Trade Organization, “Minutes of General Council Meeting of February 22, 2011 (WT/GC/M/130),” April 5, 2011, 22.

[11] The United Nations list of least developed countries is available on the UN Web site at http://www.unohrlls.org/en/ldc/164.

[12] The World Bank categorization of countries by development status is available at http://data.worldbank.org/about/country-classifications.

[13] This new article, “Governmental Assistance to Economic Development,” became Article XVIII of the General Agreement on Tariffs and Trade.

[14] Jan Woznowski, “Anti-Dumping Negotiations in the GATT and the WTO: Some Personal Reflections,” in Opportunities and Obligations: New Perspectives on Global and US Trade Policy, edited by Terence P. Stewart (Amsterdam: Kluwer Law International, 2009), 94.

[15] E.g., William Cline, an economist at the Peterson Institute, says “concerns about losses for food-importing developing countries have been exaggerated. Most of the world’s poor live in countries that are net agricultural exporters. Even most of the least developed countries (with the notable exception of Bangladesh) have a comparative advantage in agricultural goods, and so should benefit rather than lose from a rise in world agricultural prices following industrial country liberalization.” William R. Cline, Trade Policy and Global Poverty (Washington, D.C.: Peterson Institute for International Economics, 2004), 4.

[16] This index is available on the World Bank Web site, http://www.worldbank.org/lpi.

[17] Bernard Hoekman and Alessandro Nicita, Trade Policy, Trade Costs, and Developing Country Trade, Policy Research Working Paper 4797 (Washington, D.C.: World Bank, 2008), 18.

[18] World Trade Organization, “Building Trade Capacity,” http://www.wto.org/english/tratop_e/devel_e/build_tr_capa_e.htm.

[19] Developed-country partners are Australia, Bahrain, Canada, Israel, South Korea, Oman, and Singapore. Upper-level developing countries are Chile, Colombia, Costa Rica, Dominican Republic, Mexico, Panama, and Peru. Mid-level developing countries are El Salvador, Guatemala, Honduras, Jordan, Morocco, and Nicaragua.

[20] Until recently, the IMF also pressed countries to allow the free flow of speculative capital. However, in February 2010, the IMF changed its position to recognize the potential danger of speculative capital to developing countries.

[21] Carsten Fink and Kimberly Elliott, “Tripping over Health: U.S. Policy on Patents and Drug Access in Developing Countries,” in The White House and the World: A Global Development Agenda for the Next U.S. President, edited by Nancy Birdsall (Washington, D.C.: Center for Global Development, 2008), 222.

[22] Gordon H. Hanson, What Has Happened to Wages in Mexico since NAFTA? Implications for Hemispheric Free Trade, NBER Working Paper 9563 (Cambridge, Mass.: National Bureau of Economic Research, 2003), 2.

[23] J. F. Hornbeck, NAFTA at Ten: Lessons from Recent Studies (Washington, D.C.: Congressional Research Service, 2004), 3.

[24] Hanson, What Has Happened to Wages in Mexico, 1.

[25] Stiglitz, Making Globalization Work, 64.

[26] Eduardo Zepeda, Timothy A. Wise, and Kevin P. Gallagher, Rethinking Trade Policy for Development: Lessons From Mexico under NAFTA (Washington, D.C.: Carnegie Endowment for International Peace, 2009), 1.

[27] Hornbeck, NAFTA at Ten, 4.

Chapter Updates

 

Home

Chapter 1: U.S. Trade Policy in Crisis

Chapter 2: America's Trade Agreements

Chapter 3: Trade Agreements and Economic Theory

Chapter 5: Foreign Policy: The Other Driver

Chapter 6: Economic Development: A Missed Opportunity

Chapter 7: Uneasy Neighbors: Trade and the Environment

Chapter 8: The Labor Dilemma

Chapter 9: The Way Forward

Bibliography

For more information or questions contact William Krist at william.krist@wilsoncenter.org