WORLD: THE BALANCE OF TRADE.

WORLD: THE BALANCE OF TRADE. - The world appears to be breaking up into three regional trading blocs. But the terms of engagement for each bloc vary widely. And where does the WTO fit in?

by Robin Niblett.
Last Updated: 31 Aug 2010

The world appears to be breaking up into three regional trading blocs. But the terms of engagement for each bloc vary widely. And where does the WTO fit in?

The World Trade Organisation (WTO) is 'alive and functioning' says Dr Vincent Cable, director of International Economics at Chatham House. Yet, in the past two years, there have been a series of dramatic new initiatives to try and create regional free trade areas (FTAs) in North America and the Asia-Pacific region. Do these initiatives herald the demise of an open world trading system and the transition to a more conflictual, tripolar system of trading blocs? Or can British companies have some faith in the durability of the multilateral principles embodied in the new World Trade Organisation (WTO)?

The contents of the recently completed Uruguay Round agreement suggest that the WTO has developed more bite: the agreement has more than doubled (from 20% to 44%) the share of non-agricultural imports by industrialised countries that will be free of duties. The agreement also drew the two most contentious sectors in world trade, agriculture and textiles, into the multilateral orbit, through "tariffication" of agricultural price supports and an agreement to abolish the Multifibre Arrangement on textile trade by 1 January 2005. The agreement extended GATT competence over three increasingly important areas of the world trading system: the trade in services, which now accounts for over 25% of world trade; the protection of intellectual property rights (IPR); and trade related investment measures. The agreement also stipulates that WTO members must phase out selective safeguard arrangements such as voluntary export restraints (VERs) and the procedures for dispute settlement have been strengthened considerably. All existing and new international GATT trading rules now come under a single institutional framework: the WTO. Members of the WTO can no longer choose the areas where they participate. They must accept all GATT provisions, with just four exceptions: government procurement, civil aviation, bovine meat and dairy products.

Nevertheless, the WTO still faces an uphill struggle to ensure that countries live up to their far-reaching pledges in the agreement. It must continue negotiations on the unresolved issues of telecommunications, commercial aircraft subsidies, and trade in audiovisual services. The use of anti-dumping duties (ADDs) must be stemmed before these replace tariffs as the barrier of choice among a growing range of countries seeking to protect domestic producers. The WTO must also tackle the growing sense in the West that the lack of global environmental standards and standards for workers' rights provides less developed countries (LDCs) with an unfair trading advantage over OECD countries. The EU trade commissioner Sir Leon Brittan has warned that unless the WTO finds a way to fold these issues into the agreements, 'we are open to protectionist demagogy, for example to the effect that other countries exploit child labour in order to increase European unemployment.' A further problem facing the WTO is how to incorporate China into the system. After absorbing Hong Kong in 1997, China will be the world's fourth largest exporter and its continued exclusion from world trade rules would lead to a deepening of complex bilateral arrangements.

While the WTO digests the Uruguay Round, what scope is there for an increase in trading ties between countries in the same geographical region? Contrary to the WTO's multilateral approach, the perceived advantage of Free Trade Areas (FTAs) is that they permit countries to choose their closest trading companions. Ideally, members of an FTA should be economically homogenous either in trade patterns or in levels of economic development. Countries can then reap the benefits of an expanded market base, while minimising the problems that tend to flow from the desire of one nation's manufacturers to relocate to the markets of other FTA members with lower labour costs.

The FTAs have the advantage of being flexible. Member states need not lose the right to use ADDs or safeguards against other FTA members in case of a sudden surge of imports. FTAs are also accompanied by detailed negotiations on the 'rules of origin' for products that will be eligible for preferential treatment within the FTA. This means that national border controls can still prevent third countries from using neighbouring FTA members as launching pads for preferentially priced imports. Instead, those countries which are part of an FTA find their membership acts as a magnet to attract direct investment from foreign companies seeking to gain a foothold within the FTA.

Despite these advantages, there will still be winners and losers in an FTA. Successful FTAs, therefore, must rely upon a certain level of shared political cohesion in order to smooth over the disputes which are bound to surface periodically as economic interpenetration accelerates.

European Union

The European Union offers the clearest example of a regional agreement that blends economic and political self-interest. EU member states operate from the principle that their national economies cannot compete effectively either in domestic or in global markets unless they give their companies a wider regional base from which to operate. The European Union is a customs union rather than an FTA. This means that member states have dismantled most national trade barriers and replaced them with a Common External Tariff (CET). EC member states also pooled control over their national trade policies into a Common Commercial Policy in which the European Commission acts as the single representative of the collective wishes of EC governments in international trade negotiations. As part of the drive for 'ever closer union', EC governments also extended freedom of movement to three other areas; services, capital, and labour.

Today, however, the EU faces two challenges. First, how can it go beyond the FTAs signed with central and east European countries and enlarge to the East without undermining the process of European integration? Setting aside the political issues of altering decision-making, David Wood of the CBI international affairs division fears that 'the political decision to extend membership has been taken without thinking about the economic consequences of combining inside the EU countries with such widely divergent levels of development'.

Second, what will be the economic fall-out for the EU customs union of monetary union? In an interview with the NCM credit insurance group, 54% of UK-based exporters said they were against a single currency because they feared a loss of price competitiveness to rivals. However, UK exporters would be advised to consider the following question: can a limited number of EU members that adopt a single currency sustain a policy of open borders to imports from those members outside the single currency area, if the latter take advantage of their position to increase the relative price competitiveness of their intra-EU exports through currency devaluations? EMU among a hard core could cause disruption to established trade and investment patterns in Western Europe.

NAFTA

Regional integration in other parts of the Western hemisphere does not yet face the complex dilemmas which currently trouble the EU. The North American Free Trade Area (NAFTA) between Canada, Mexico, and the United States was signed as recently as January 1994. It is a free trade area and not a customs union and hence aims at a lower level of economic interpenetration at this stage. Nevertheless, reflecting the importance of foreign direct investment for all signatories, NAFTA's parameters go well beyond the mere liberalisation of tariffs. The agreement provides a detailed framework to remove barriers to direct investment, the free flow of services (including financial services), and the free movement of transportation. It also tackles the issues of environmental and labour standards, and has established an effective dispute settlement mechanism.

NAFTA has much in its favour. The US cannot afford to see Mexico's political and economic reform programmes descend into chaos and has clear political and economic reasons to want NAFTA to succeed.

First, Mexico offers US multinationals a low-labour cost, contiguous market from which to import components for final assembly in the US. Second, the potential for trade-led growth in the Americas is enormous. NAFTA makes good economic sense for any other Latin American countries. Participation in NAFTA will help them to sidestep the worst excesses of future US unilateral trade actions. More fundamentally, most Latin American governments want to use a deepening of regional trade to encourage imports and to attract foreign direct investment. However NAFTA faces a number of challenges. The disparity in incomes between Mexico and its northern American partners, although part of the reason for integration, may also become a source of friction (in 1994, US GDP per capita stood at $25,000 and Canada's at $21,000, while Mexico's was $5,000). In the short term it seems unlikely that NAFTA can meet the wealth-creating expectations placed on it by Mexican politicians. Unlike the EU, NAFTA lacks any formal financial redistributive mechanisms to assist Mexico adapt to the rigours of a market economy. Latin American countries are also dependent on the political willingness of the US to expand NAFTA. This may prove difficult given the growing resistance in the US Congress to any steps that would appear to threaten US jobs in the short term. In June 1990, President Bush called for an Enterprise for the Americas Initiative that would bring free trade to the Americas. The target date, agreed in Miami in December 1994, is the year 2005. Dr Sydney Weintraub of the Center for Strategic and International Studies in Washington DC, believes that it is far more likely that the US will pursue a series of less far-reaching bilateral trade agreements with individual Latin American countries, while the level of sub-regional and bilateral agreements between Latin American countries may increase.

Such agreements will undoubtedly expand opportunities for multinational businesses with affiliates in Latin America. Yet David Wood warns that a proliferation of preferential trade agreements, each with its own rules of origin requirements, could increase the transaction costs of doing business in the region.

East Asia

Regional trade arrangements in East Asia are far less developed than either in Europe or the Americas. The Association of South East Asian Nations (ASEAN) pledged in January 1992 to trim intra-regional tariffs to a mere 5% by 2003 and to create a free trade area for manufactured goods by 2007. Subsequently, the Prime Minister of Malaysia, Dr Mohamad Mahathir, proposed the creation of an East Asian Economic Caucus (EAEC) to include ASEAN members and also Japan. However, strong US opposition to this 'Caucus without Caucasians' has kept the initiative on the backburner. Instead, the US has given its backing to a broader regional initiative entitled Asia-Pacific Economic Cooperation (APEC) which is designed to link the economies of ASEAN, NAFTA, Japan, China, some other East Asian states, Australia and New Zealand.

At their summit in November 1994, leaders of APEC committed themselves to create a free trade area across the Pacific by the year 2010 for industrialised members, and by 2020 for the rest. From the American perspective, APEC would prevent the emergence of an exclusionary regional agreement that might be detrimental not only to US business interests, but also to its regional political influence.

The primary logic for Asian regionalism, however, is market-driven. It is based, in particular, on increasing levels of foreign direct investment by the most advanced East Asian states, such as Japan and Singapore. Some 61% of FDI flows into East Asian economies in 1986-90 were from within the region and such trade within East Asia has increased at a faster rate than in the other two blocs, averaging 20% a year to reach 50% of total Asian trade in 1993. A large part of this growth in FDI and in trade gererally simply reflects the rapid growth of the economies in the region. It is nevertheless striking that when North America is included, trade within the entire Asia-Pacific region accounts for 65% of world trade, making it comfortably the largest trading 'zone' in the world. It would be wrong, however, to deduce from these figures that either the Asia-Pacific region or East Asia itself is developing into some form of institutionalised trade bloc. First, the region is riven by unresolved disputes and political fault-lines. Second, Asian nations are extremely cautious about US intentions. Singapore, Malaysia, and China, in particular, suspect the US of plotting to force through Western standards of democratic accountability on the back of APEC trade initiatives. Low levels of economic institutionalisation in the East Asia also reflect the differing levels of development that exist there. In ASEAN alone, annual GNP per capita ranges from $22,250 in Singapore, $2,315 in Thailand, to $220 in Vietnam. Dr Andrew Walter of St Antony's College, Oxford, believes that the economic divergence between these countries will make it difficult to pursue regional initiatives on the new issues of international trade such as government procurement, standards, competition policy, and dispute settlement: 'A loose framework of open regionalism such as APEC which includes the US and is largely confined to investment promotion rather than coordinated trade liberalisation might be the most attractive option.'

Regionalism and the WTO

Looking in detail at the dynamics behind the EU, NAFTA, APEC, and ASEAN, it is easy to agree with the view of Dr Vincent Cable that the concept of three neat 'trade blocs' is flawed. 'Vast differences exist between the EU, NAFTA, and East Asia,' he argues, 'both in terms of the depth of economic integration and the political underpinnings of economic regionalism.' Statistically speaking, however, a 'tripolarisation' of the world economy is taking place around the EU, NAFTA, and the Asia-Pacific region. At the corporate level, multinationals have lobbied for regional integration, seeing regionalism as an integral part of the changing structure of international trade. This new structure is based partly upon the growing dependence of companies on international trade. It is also based upon the growing importance to companies of being able to invest in as many countries as possible. Between 1985-1993, foreign direct investment (FDI) by firms grew twice as fast as their direct exports.

Assisted by rapid technological modernisation, FDI serves many purposes, among them to allow firms to produce goods for local, regional, or global markets in the most competitive manner; to produce or co-produce intermediate products in the most efficient locations, then move them across borders for final assembly; and to provide services on an international basis. The importance of the interaction between international trade and FDI is illustrated by the fact that one third of world exports in 1993 consisted of trade within multinationals.

From the corporate viewpoint anything which facilitates international trade and investment is to be welcomed - whether on a reginal or global basis. Thus multinationals have been at the forefront of the lobby to ensure that reducing restrictions on investment has been firmly on the WTO agenda. And where governments are unable to achieve agreement on a global basis, most companies will then press for an improvement in trade conditions on a regional basis. Interestingly, a focus on regionalism has a habit of spurring multilateralism, as the pattern of successive GATT Rounds reveals. In today's global economy, governments are less willing to risk seeing investment diverted into regional markets that are more effectively integrated than their own.

The question then remains whether future liberalisation will take place on a multilateral basis under the auspices of the WTO, or whether a deepening of regionalism will demand a new stratum of inter-regional arrangements, such as the recently-mooted Transatlantic Free Trade Area. Either way, competing regionalism should increase the international trading opportunities for companies both great and small.

WHO SENT WHAT WHERE, 1993

Exports by value ($ billion) %

Western Europe Intra-regional 1,104 68.9

North America 128 8.1

Latin America 38 2.4

Asia 142 8.8

Rest of world 189 11.8

Total 1,601 100

North America*

Intra-regional 217 35.6

Western Europe 123 20.2

Latin America 81 13.3

Asia 153 25.0

Rest of world 36 5.9

Total 610 100

East Asia

Intra-regional 444 46.5

Western Europe 168 17.6

North America 252 26.4

Latin America 25 2.6

Rest of world 67 6.9

Total 956 100

*North America is the United States and Canada Source: GATT

International Trade Yearbook, 1994

TRIPOLARISATION OF WORLD TRADE

% of total world imports 1980 1993

Within the three blocs

Western Europe 28.0 31.0

North America 5.9 7.5

East Asia 6.1 11.2

Among the three blocs

W Europe - N America 7.7 7.2

E Asia - N America 7.1 11.1

W Europe - E Asia 4.6 7.5

All other 40.6 24.5

Total 100 100

Source: IMF-Direction of Trade Statistics Yearbooks 1981-1994.

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