International Agreements to Improve Investment and ...

Fast-growing developing countries havecommonly been successful in setting upinvestment regimes that facilitate private

investment and marshal competition to ensuregrowth in productivity. As with trade reform,most of the benefit from new sound invest-ment and competition policies comes fromunilateral reforms of domestic policies. Thischapter explores the potential of internationalcollaboration—collaboration principally inthe form of international agreements—to helpdeveloping countries consolidate sound invest-ment climates.

International agreements that are associ-ated with multilateral or regional arrange-ments can potentially provide additionalbenefits when coupled with domestic reforms.Benefits can take several forms. For investmentpolicies, international agreements usually havethe objective of eliciting more investment bylocking in reforms and providing additional in-vestor protections. They can also reduce policyexternalities that have “beggar-thy-neighbor”consequences. Moreover, participating in in-ternational negotiations can prompt partnersto undertake reciprocal reforms that wouldnot otherwise occur, as well as strengthen thehand of domestic reformers. For competitionpolicy, international agreements might lead toremoval of restraints that inhibit competition,thereby unleashing new price competition thatbenefits all countries. A central purpose of thischapter is to identify collective actions thathave the greatest development effects.

Ministers of the World Trade Organization(WTO) set an agenda for investment and com-petition when they met in Doha, Qatar, inNovember 2001, and decided to launch nego-tiations on a multilateral framework that cov-ers investment and competition. These negoti-ations are subject to a decision to be madeby explicit consensus on modalities at theCancún Ministerial Conference, to be held in2003. The purpose of the new framework is“to secure transparent, stable, and predictableconditions for long-term cross-border invest-ment” that will expand trade and “enhancethe contribution of competition policy to in-ternational trade and development.”1

The international community, and develop-ing countries in particular, therefore faces twoquestions: What types of new multilateral ini-tiatives on investment and competition policycan promote more—and more productive—investment, and hence more rapid develop-ment? And, which issues are best tackledthrough voluntary initiatives and multilateralcooperation, and which are best handledthrough binding commitments, such as those inthe WTO and regional arrangements? The an-swers to these questions require a separate dis-cussion of investment and competition policy.

Can coordinated investment policiesincrease flows to developing countriesand reduce beggar-thy-neighbor policies?An overall purpose of coordinating an invest-ment policy is to expand the flow of investment

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1International Agreements toImprove Investment andCompetition for Development

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around the world, to minimize distortions thathurt neighbors, and to help improve economicperformance. Coordination might contributeto achieving these goals through three mainchannels: (a) protecting investors’ rights inorder to increase incentives to invest, (b) liber-alizing investment flows to permit enhancedaccess and competition, and (c) curbing poli-cies that may distort investment flows andtrade at the expense of neighbors.

Analysis suggests several broad conclusions.As with trade reforms, unilateral reforms toliberalize foreign direct investment (FDI) arelikely to have the greatest and most directbenefit for the reforming country. Beyondthis, new international agreements that focuson establishing protections to investors cannotbe predicted to expand markedly the flow ofinvestment to new signatory countries. This isbecause many protections are already coveredthrough bilateral investment treaties (BITs),and even these relatively strong protections donot seem to have increased flows of investmentto signatory developing countries. These factssuggest that expectations for new flows associ-ated with protections emerging from any mul-tilateral agreement should be kept low.

International agreements that allow coun-tries to negotiate reciprocal market liberaliza-tion and to promote nondiscrimination canreinforce sound domestic policies and con-tribute to better performance. Because most ofthe remaining investment restrictions are onservices, the existing General Agreement onTrade in Services (GATS) provides an oppor-tunity to meet this objective. Similarly, curb-ing beggar-thy-neighbor policy externalitiescan benefit developing countries, especiallyif agreements focus on two critical issues.The first issue is the reduction of trade barri-ers that—by depriving developing countriesof market access and discouraging theirexports—will lessen the attractiveness ofopportunities for both foreign and domesticfirms to invest in developing countries’ exportindustries. In this regard, reducing trade barri-ers in developing countries is as important as

reducing trade barriers in rich countries. Thesecond issue is the curbing of emerging com-petition among countries in order to lureforeign investment through incentives. Unfor-tunately, information on the extent of invest-ment incentives is inadequate to assess theireffects. Thus, a high priority for internationalcollaboration is to systematically compile thisinformation.

Finally, participating in international in-vestment agreements may have benefits overand above unilateral reforms if those agree-ments are accompanied by reciprocal marketaccess in areas of importance to developingcountries. These benefits can become clearonly in the course of negotiations.

Collective action can improve competitionGreater competition is associated with morerapid development. Lowering policy barriersto trade and foreign investment in develop-ing countries, as shown in chapter 3 of thisvolume, is a powerful, procompetitive force.International agreements on competition pol-icy might bring benefits beyond unilateralactions—provided that the agreements addressthe major restrictions that adversely affectdeveloping countries.

Restrictions on competition in the globalmarketplace that will most hurt developmentcan take three forms. First, policy barriers inmarkets abroad limit competition from devel-oping countries in these markets. Particularlyharmful are the $311 billion in agriculturalsubsidies and textile quotas, as well as thehigh border protection, tariff distortions (suchas tariff peaks and escalation), and protection-ist use of antidumping. Those policy barriersare common in all countries—rich and pooralike. All of these restrictions limit the abilityof exporters in developing countries to com-pete in international markets.

Second, private restraints on competitioncan adversely affect prices for consumers andproducers in developing countries. For exam-ple, companies that are based in high-incomecountries have cartelized some markets;

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proven cartels have taxed consumers in devel-oping countries by up to $7 billion in the1990s. Actions that facilitate prosecution ofcartels should be high on the priority list.Such actions can range from more systematicarrangements to exchange information, togranting developing countries the ability tosue under foreign antitrust laws when theirtrade is adversely affected. Indeed, developingcountries would benefit from much greaterefforts to identify and to document restrictivebusiness practices that adversely affect pricesof their trade.

Third, many governments in high-incomecountries officially sanction trade restraints byexempting their companies from domestic an-titrust laws. For example, many governmentspermit their companies to cartelize exports.Although these cartels are shrouded in thesecrecy of government registries, national ex-port cartels may well raise prices to develop-ing countries. Efforts should be made to maketransparent any information on national ex-port cartels. If cartels were found to haveadverse price effects, everyone would benefitfrom reducing these officially sanctioned pri-vate restraints on trade. Similarly, antitrustexemptions of ocean transport have given riseto price-fixing arrangements that systemati-cally hurt consumers everywhere, includingconsumers in developing countries.

Competition policies in developing coun-tries themselves can, in many cases, be im-proved through increased transparency,nondiscrimination, and procedural fairness.However, international cooperation in thiscomplex area of regulation has to recognizethat countries have different capacities andinstitutional settings, which warrant cautionin recommending—much less in mandating—across-the-board policies. This is an area wherevoluntary programs that facilitate learning andadoption of best practice in developing coun-tries can pay high dividends.

This chapter analyzes first the investmentpolicy issues, and then the global competitionissues.

International efforts to promoteinvestment

Any pro-development effort to coordinateinvestment policies through agreement

has as its objectives increasing the flow ofinvestment, minimizing distortions amongcountries, and helping countries participatein the potential gains from investment andinvestment-related trade. Chapter 3 of thisvolume singled out domestic policies that in-fluence the quantity and productivity of pri-vate investment, both domestic and foreign.Governments that have provided stablemacroeconomic policies and effective prop-erty rights for investors, and that have low-ered policy barriers to competition have, byand large, enjoyed greater success in creatingthe conditions for sustained growth. Interna-tional efforts to support these policies cantake several forms: bilateral, regional, andmultilateral. They can be binding, as in thecase of the WTO and the North AmericanFree Trade Agreement (NAFTA), or nonbind-ing, as in the case of the Organisation for Eco-nomic Co-operation and Development(OECD). The current regimen is a mixture ofbinding and nonbonding efforts.

Today’s international investmentframework is a patchwork quilt sewntogether over many yearsThe growing waves of FDI observed in recentdecades have been accompanied by a steadyrise in international agreements on invest-ment. Agreements are typically founded onthe presumptions that cross-border investmentprovides benefits to both investing and reci-pient countries, that rules can minimize dis-putes and provide for their resolution, andthat agreed-on rules can enhance both thequantity and quality of investment. TheHavana Charter, designed to create the Inter-national Trade Organization (ITO) at the endof the 1940s, proposed the inclusion of invest-ment provisions together with trade provi-sions. The investment provisions were quitelimited in scope because many countries—

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particularly developing ones—feared foreigncontrol over their natural resources and strate-gic industries.2 Since then, a patchwork quilthas emerged, made of differing bilateraltreaties, regional arrangements, and multilat-eral instruments relating to cross-border in-vestment. This regulatory quilt stands in sharpcontrast to the more comprehensive system

of norms and principles that govern interna-tional trade.

Bilateral agreements. Recent years havewitnessed a surge in BITs. The number of BITsquintupled during the 1990s, reaching 2,099by the end of 2001 (see box 4.1). During 2001alone, 97 countries concluded 158 BITs (see


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The number of BITs mushroomed in the 1990s(see box figures). These agreements typically

contain broad definitions of foreign investment,inclusive of nonequity forms, various types of invest-ment assets (including portfolio investments), andintangible assets such as intellectual property. BITsgenerally avoid a direct regulation of the right toestablishment, referring this matter to national laws(and thus recognizing implicitly the right of hostcountries to regulate the entry of FDI). Most BITs

Box 4.1 What is a BIT?treatment, and treatment according to customaryinternational law. In addition, BITs prescribe specificinvestment protections, which cover topics such asthe transfer of funds, expropriation, and nationaliza-tion. They typically provide for the settlement ofdisputes between the treaty partners and betweeninvestors and the host state. Provisions for so-calledinvestor-state arbitration normally refer to pre-existing arbitration rules, notably those under theInternational Center for the Settlement of Investment

2,000

0

500

1960s 1970s 1980s 1990s

1,000

1,500

Source: UNCTAD (2000).

BITs are increasing...

500

0

100

200

300

400

1960s


1970s 1980s 1990s

...even among developing countries

With transition Europe

South-South BITs

North-South

also do not explicitly address ownership and controlissues, though they often cover some operationalrestrictions, such as the admission of key managerialpersonnel. Only a few BITs discipline the use of per-formance requirements.

Most BITs prescribe national treatment, most-favored nation (MFN) treatment, fair and equitable

Disputes (or ICSID, which is affiliated with theWorld Bank); the United Nations Commission onInternational Trade Law (UNCITRAL); or the Inter-national Chamber of Commerce (ICC).

Source: World Bank staff.

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UNCTAD 2002). For much of the post–WorldWar II period, BITs tended to be negotiated ona North-South basis. More recently, however,there has been strong growth in the numberof South-South BITs. In 2001, for example,treaties between developing countries ac-counted for 42 percent of new BITs (UNCTAD2002). BITs covered an average of 50 percentof all foreign investment flows to developingcountries in 1999–2001.

Regional arrangements. Investment disci-plines have figured prominently in regionaltrade and integration agreements, particularlythe most recent ones. Some of these agree-ments embed foreign investment into abroader framework of rules that are aimed atpromoting economic cooperation and deeperintegration. This framework includes theEuropean Union; NAFTA; the free tradeagreement linking the G-3 countries (Mexico,the República Bolivariana de Venezuela, andColombia); the recently concluded Singapore-Japan agreement; and the European FreeTrade Area. Other agreements—such as theOECD’s Codes of Liberalization of CapitalMovements, the Colonia Protocol on the Pro-motion and Reciprocal Protection of Invest-ments within the Southern Cone CommonMarket (Mercosur), and the Asia PacificEconomic Cooperation (APEC) Non-BindingInvestment Principles—are less comprehensivewith regard to their treatment of the trade-investment interface.

A distinguishing feature of regional agree-ments with investment disciplines is their ten-dency to address both investment protectionand liberalization (entry) issues, together withdisciplines on post-establishment operatingconditions and means to settle investmentdisputes (both state-to-state and investor-state disputes). The architecture of the most-advanced regional free trade and integrationagreements reflects the complex interrelationsamong investment, trade, services, intellectualproperty rights, competition policy, and themovement of business people. Other impor-tant issues that are dealt with in some regional

agreements include technology transfers, envi-ronmental protection, taxation, conflictingrequirements, and standards for the conductof multinational enterprises.

Multilateral accords. Significant multilateralrules for investment were put in place dur-ing the Uruguay Round, which concluded in1994. All of the following agreements eitherdirectly or indirectly address key investmentissues: the Agreement on Subsidies and Coun-tervailing Measures (ASCM), the Agreementon Trade-Related Investment Measures(TRIMs), the GATS, the Agreement on Trade-Related Aspects of Intellectual Property Rights(TRIPs), and the plurilateral Government Pro-curement Agreement.

Numerous multilateral agreements andarrangements that have been concluded out-side the WTO also affect investment and canmake a positive contribution to enhancinginvestment climates in developing countries.Among others, these arrangements includeefforts to curb bribery and corruption (OECD,Organization of American States [OAS]); rulesgoverning the conduct of multinational enter-prises (OECD Guidelines on MultinationalEnterprises, United Nations [U.N.] GlobalCompact); guidelines on corporate socialresponsibility and corporate governance(OECD, World Bank); and cooperation onbest practices in investment promotion activi-ties (U.N. Conference on Trade and Develop-ment (UNCTAD), World Bank).

New efforts exist for collective action oninvestmentThe rising tide of FDI around the world hasbeen, in part, a consequence of a progressive re-ceptivity of developing countries to FDI flows.Just as tariffs have fallen, so too have restric-tions on incoming investments (particularly inmanufacturing) been lifted. Governments oncehostile to transnational corporations (TNCs)now actively seek their participation—andeven compete for it. One indicator of this is thechange in investment regulations. Between1991 and 2001, a total of 1,393 regulatory


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changes were introduced in national FDIregimes, of which 1,315 (or 95 percent) were inthe direction of creating a more favorable envi-ronment for FDI (figure 4.1). During 2001alone, a total of 208 regulatory changes weremade by 71 countries, only 14 of which (or6 percent) were less favorable for foreign in-vestors (UNCTAD 2002). This opens the ques-tion of whether this evident willingness to im-prove the investment regime could be leveragedto achieve some additional benefits, throughreciprocating in multilateral negotiations, anissue that we take up below.

The potential—and the challenge—of co-operation on investment policies becomeclearer if it is broken down into the three coresubagendas that parallel the investment cli-mate discussions in chapters 2 and 3. Thesepolicies relate to liberalizing investment to

facilitate access and entry, establishing in-vestor protections as an incentive to invest,and curbing investment-distorting policiesthat affect trade and investment location.

Liberalizing investment promotes market access—The inclusion of investment in internationalnegotiations may lead to greater openness ofinvestment regimes that can be accomplishedunilaterally. If investment is negotiated as partof a broader set of trade negotiations, ratherthan in isolation, then the traditional mecha-nism of reciprocal access concessions can helpcreate support for greater openness at homeand abroad. For example, exporters in devel-oping countries who obtain improved accessto foreign agricultural markets can be a coun-tervailing force against those who resist the


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Because investment regulations extend beyond tar-iffs into domestic regulation, the political difficul-

ties of enticing large groups of countries to harmo-nize their domestic rules are not trivial. Thosedifficulties were evident in the latest—and failed—attempt at crafting a multilateral accord. In 1995,developed countries pushed to establish a Multilat-eral Agreement on Investment (MAI) within theOECD that had the objective of setting “state of theart standards for investment regimes and investmentprotection with effective dispute settlement proce-dures.”3 These efforts were unsuccessful, and theMAI was not established.

One reason for the MAI’s demise was the wan-ing support within the business community as it be-came apparent that the level of investment protectionafforded to MAI signatories would almost certainlybe lower than that offered in BITs. It was apparentthat prospects for significant investment liberaliza-tion would be held back, first, by concerns of freeriding by non-OECD WTO members (which stoodto receive many of the benefits of the MAI by virtue

Box 4.2 The Multilateral Agreement on Investment (MAI)

of the GATS’s MFN requirement without makingany reciprocal concessions). Also at play was thereluctance of OECD countries to open up sensitivesectors to foreign investment (for example, to mar-itime transport and audiovisual services). Labor andenvironmental groups objected to the fact that theMAI would give TNCs more power to ignore work-ers’ interests and environmental concerns whileproviding them with extensive rights to challengedomestic regulatory conduct before internationalarbitration panels. Meanwhile, many developingcountries, left out of the discussions because of theMAI’s venue in the OECD, protested their unwilling-ness to accept rules that they had no voice in design-ing (Gilpin 2000).4 By the fall of 1998, negotiationson the MAI were formally abandoned, thereby offer-ing sobering insights on the complexity and politicalsensitivities involved in attempts at comprehensiveinvestment rulemaking.


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elimination of investment barriers in telecom-munications. At the same time, the need tofight these battles about the domestic politi-cal economy makes a country a credible ne-gotiator for improved access. The process, if itworks, could produce a double benefit: liber-alizing countries would benefit from the in-creased competition that is associated withFDI, and their firms would have improvedaccess to foreign markets. A key issue—whichcan be determined only during the negotiationprocess—is the extent to which an investmentagreement leverages reciprocal commitmentsamong trading partners. Because reciprocalgains are difficult to gauge, an important pre-requisite for each country is to ensure that anydomestic policy commitment makes sensewhen seen through the lens of promotingnational development.

Even though most foreign investment orig-inates in rich countries and is destined forother rich countries, there may well be somescope for reciprocal agreements that benefitdeveloping countries, even within the narrowdomain of investment. Because developingcountries are increasingly becoming active asinvestors themselves, they have a mutual in-terest in clear rules of access. They tend to

invest primarily in other developing countries.Estimates suggest that nearly one-third offoreign investment flows to developing coun-tries originated in other developing countries,up from negligible amounts in the early 1990s(World Bank 2002a), so South-South FDIflows have grown.5 (See figures 4.2 and 4.3.)


123

0

10

20

30

40

50

60

80

70


1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

Figure 4.1 Countries are increasingly liberalizing their investment regimes

National regulatory changes in FDI regimes, 1991–2000

(number of regulatory changes)

0

50

100

150

250

200More favorable to FDI

Less favorable to FDI

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

(number of regulatory changes)

Source: Aykut and Ratha (2002).

Figure 4.2 South-South FDI is rising

FDI flows to developing countries

10

020001994 1995 1996 1997 1998 1999

20

40

30

50

60

70

80

90

100

High non-OECD countries

High OECD (North-South) countries

South-South

(billions of dollars)

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The preceding argues that the potentialfor benefits investment agreements to gener-ate merits examination. Coordinated efforts toliberalize investments can subsume two issues:first, transparency, and second, nondiscrimi-nation in treatment of foreign investment inmarket access.

Transparency. Transparency involves mak-ing relevant laws and regulations availableto the public, notifying parties when lawschange, and ensuring uniform administrationand application. In addition, transparency canbe increased by offering affected parties theopportunity to comment on laws and regula-tions, which implies communicating the policyobjectives of proposed changes, allowing timefor public review, and providing a means tocommunicate with relevant authorities.

A nontransparent business environment ina host country raises information costs, divertscorporate energies toward rent-seeking activi-ties, and may give rise to corrupt practices. Thisenvironment weighs down both domestic andforeign businesses, though in many cases it maybe particularly discouraging to foreigners whoare usually less privy to locally available infor-mation. This heightened risk of operating in

the host country’s business environment eithertranslates into higher risk premiums (in the caseof pricing corporate assets) or imposes addi-tional information costs on enterprises. To besure, transparency, alone, can add little if theunderlying laws and rules are inadequate orunpredictable.

Case studies suggest that companies may,for example, be willing to invest in countrieswith legal and regulatory frameworks thatwould not otherwise be considered “investorfriendly”—provided the companies are able toobtain a reasonable degree of clarity about theenvironment in which they will be operating.Conversely, there appear to be certain thresh-old levels for transparency beneath which thebusiness conditions become so opaque thatvirtually no investor is willing to enter, re-gardless of the extent of the inducement.

These policies do not lend themselves wellto including sanction-based dispute resolutionprocedures in legally binding agreements.Thus, international collaborative efforts shouldperhaps take other forms such as increasingdeveloping countries’ participation in nonbind-ing best-practice instruments or developing as-sistance to strengthen institutions. To the ex-tent that transparency obligations are anchoredin WTO agreements, monitoring by multilat-eral peer review and surveillance may providethe best means for promoting governance-enhancing reforms in host countries.

Nondiscrimination in treatment of foreigninvestment in market access. The practice ofplacing foreign and domestic sellers on anequal competitive footing is a hallmark oftrade agreements. This objective is no lessimportant in investment agreements. Promot-ing liberalization in international investmentessentially boils down to securing nondiscrim-inatory terms of entry and operation. Thisapproach has elements of both MFN treat-ment (that is, nondiscrimination as between allforeign entities) and national treatment (thatis, nondiscrimination between “like” domesticand foreign entities).


124

0

1994 1996 1997 1998 1999

102030405060708090

100

Source: Aykut and Ratha (2002).

Figure 4.3 Share of South-South FDI intotal FDI is rising

South-South FDI is rising and so is its share in totalFDI

1995 2000

High-incomenon-OECD/total FDI

South-South FDI/total FDI

North-South FDI/total FDI

(percent)

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Departures from nondiscriminatory treat-ment essentially take one of two forms: beforeentry in the “pre-establishment” phase of aninvestment, and after entry in the “postestab-lishment” operating conditions of a business.Governments everywhere have been reluctantto extend full pre-establishment privileges toall potential entrants in every sector. Securingnondiscriminatory conditions of treatment isequally important in the postestablishmentphase, because foreign investors will typicallyhave significant start-up costs and will beaverse to sudden, unanticipated changes inregulatory conditions that may tilt competi-tive conditions in favor of local competitors.Nondiscrimination commitments in the post-

establishment phase can thus send to foreigninvestors powerful signals of the credibility ofa host country’s reform efforts.

By far the most contentious aspect of liber-alization is the pre-establishment commitmentto openness, given the tendency to maintainrestrictions on entry in a few sensitive sectors.Most countries now permit liberal access toforeign investors in manufacturing. The sameholds true—if to a lesser extent—in miningand agriculture. Indeed, as a result of variousinvestment incentive schemes that are notavailable to domestic firms, foreign investorsin manufacturing often enjoy treatment thatis better than that available to domestic in-vestors. Most governmental measures that


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Most FDI flows within developing countries arebetween the Association of Southeast Asian

Nations (ASEAN) countries, and, recently, amongthe Latin American countries, especially the Mercosurmembers (UNCTAD 1999). There are signs thatFDI flows from East and Southeast Asia to LatinAmerica and Africa are picking up. According to theChinese Ministry of Foreign Trade and EconomicCooperation, China attracted $3 billion in invest-ment from 22 developing countries in 1998. Thoughthis figure made up only 7 percent of total FDI in-flows to China, the flows originated in a wide spec-trum of countries (in terms of size and per capitaincome levels) and extended to varying sectors(Aykut and Ratha 2002). In addition, Chinese TNCsare becoming prominent in world markets. Chinahas invested, not only in Asian countries, but also inBangladesh, Brazil, India, the Islamic Republic ofIran, and Poland, in addition to countries in Africa.

The Republic of Korea, an OECD member,invested nearly one-third of its direct investment indeveloping countries (excluding those in Africaand the Middle East) in 1998. By 1999, Korea hadinvested nearly 50 percent of its aggregate invest-ment in other developing countries. Malaysian FDI

Box 4.3 South-South flows: who invests and whoreceives?

has also expanded its boundaries from East Asia toLatin America and to parts of Africa. Since the sec-ond half of the 1990s, almost 30 percent of totalFDI inflows into India are from other developingcountries—the principal sources being Mauritius,Malaysia, and Korea (Aykut and Ratha 2002). Out-flows from Latin America in 2001 were directed pri-marily at other countries in the region (UNCTAD2002). Chile continued to be the major player ininterregional investment, followed closely by Mexicoand Argentina. Some South African TNCs haverecently moved to a strategy of international growth,partly through cross-border mergers and acquisi-tions. A noteworthy example of a global player isSouth African Breweries, which operates 108 brew-eries in 24 countries including China, large parts ofAfrica, and Europe (UNCTAD 2002). FDI outflowsfrom the Central and Eastern European countriessuch as Croatia, Estonia, and Slovenia are alsoheaded primarily to neighboring countries. A ten-dency to invest in neighboring countries that are atsimilar or lower levels of development is another fea-ture of South-South FDI (Aykut and Ratha 2002).


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overtly discriminate against foreign investorsand that restrict FDI inflows are maintained inthe service sector and concern key industriessuch as telecommunications, broadcasting andrelated audiovisual services, satellite services,energy services, financial services (especiallybanking and insurance), civil aviation, andmaritime transport.6 Sauvé (2002) estimatesthat 80–85 percent of restrictions affecting in-ternational investment are maintained in ser-vice sectors. Among the most dynamic sectorsof the global economy, services are also wheresome two-thirds of cross-border FDIs havebeen directed in recent years (see chapter 2,this volume).

One telling proxy of the potential of ser-vices for investment liberalization is providedby the negative lists of measures drawn up byprospective signatories of the ill-fated MAI.The lists identify those sectors in which thenegotiators wished to restrict access by foreigninvestors (see figure 4.4). A similar trend is ev-ident under the NAFTA. Simply put, the mar-ket access or agenda for investment is largelycentered on services (Hoekman and Saggi2000; Sauvé and Wilkie 2000).

A multilateral vehicle already exists forrealizing the positive externalities that poten-

tially arise from the liberalization of invest-ment in services: the GATS. The GATS hasseveral features that are attractive to countries,potentially making it a useful tool to widennondiscriminatory access in a reciprocal frame-work. By having a positive list approach—inwhich countries voluntarily schedule sectoralcommitments to apply national treatmentand to grant market access—governmentsenjoy considerable flexibility to exempt sec-tors that they deem of special national interest.Once commitments are undertaken, countriesaccord all suppliers—foreign and nationalalike—the same conditions of entry and oper-ation in a nondiscriminatory fashion. To date,however, the GATS has fallen short of itsliberalizing potential. The coverage of com-mitments for a large number of countries islimited. About two-thirds of the WTO mem-bership has scheduled fewer than 60 sectors(of the 160 or so specified in the GATS list)(see Stern 2002). In many cases, commitmentsdo not reflect the actual degree of openness(Mattoo 2000). In other cases, countries havenot moved actively to schedule sectors—evenwhen domestic policies are open to foreigninvestments. Finally, sometimes countries’commitments serve to protect the privileged


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Note: Listed are nonconforming measures reserved under the draft Multilateral Agreement on Investment.Source: Sauvé (2002).

Figure 4.4 Revealed preferences: governments shield services more often thanmanufacturing from the winds of investment competition

Business

Communication

Construction

Financial

Tourism

Recreation

Transport

Other

Total

16%

16%

2%

21%

2%

2%

37%

4%

100%

All sectors21%

Goods16%

Services63%

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position of incumbents, domestic or foreign,rather than to enhance the contestability ofmarkets.

Countries could take greater advantage ofthe opportunity offered by the GATS to lendcredibility to reform programs by committingto maintain current levels of openness or byprecommitting to greater levels of futureopenness. To advance the process of servicesreforms beyond levels undertaken indepen-dently and to lead to more balanced outcomesfrom the developing countries’ points of view,countries could better harness the power ofreciprocity by devising negotiating formulasthat widen the scope for tradeoffs across sec-tors (both goods and services) and acrossmodes of delivery, notably temporary move-ment of workers (Mattoo 2002).

—but protecting investment may not increase flowsA foundation of any country’s investment cli-mate is the protection of property rights forits investors. An agreement that encouragescountries to improve investor protections hasthe potential for improving investment flowsfrom abroad and for eliciting more domesticinvestment. The international community, ingeneral, and developing countries, in particu-lar, might find three benefits from multilateraldisciplines on investment protection.

First, an agreement on common standardswould promote efficiency by carrying poten-tially significant economies of scale in makingrules: one multilateral agreement could be-come a “one-stop” substitute for the complexand legally divergent web of existing BITs.

Second, a multilateral regime for invest-ment protection could help counterbalancethe bargaining asymmetries built into BITsand into regional agreements conducted alongNorth-South lines. In some cases, the negoti-ating asymmetries that are common to bilat-eral agreements have led to treaties in whichdeveloping countries have taken on substan-tive obligations without any reciprocity otherthan the promise of increases in future privateinvestment. However, there is an important

caveat to this argument: To the extent thatthe power imbalance is redressed in a multi-lateral agreement in favor of weaker states,then the constituencies within the global busi-ness community may well prefer—as was thecase in the MAI negotiations—the strongerlevel of investment protection flowing fromBITs, and may lose interest in a multilateralagreement.

Third, a multilateral set of disciplines oninvestment protection would arguably helpdeveloping countries send a positive signal topotential foreign investors regarding the per-manence of policy changes, the expectedstandard of treatment afforded to foreign in-vestors, and recourse to a dispute-settlementprocedure.

While these factors suggest that investmentflows might increase because of such anarrangement, care should be taken not tooverstate the response of investors. Five factsargue for caution. First, the absence of a bodyof multilateral disciplines on investmentprotection has hardly deterred cross-borderinvestment activity. Indeed, FDI has far out-stripped trade and output growth over thepast decade and a half (see figure 4.5).

Second, the absence of an agreement hasnot prevented substantial unilateral reform(see discussion above, and figure 4.1).

Third, a more precise indicator is the his-torical experience of the BITs in eliciting newinvestment. Does the signing of BITs increasethe flow of FDI? Hallward-Driemeier (2002)finds few independent effects of BITs on sub-sequent increases in investment (box 4.4).

Fourth, it is not clear whether multilateralinvestment disciplines—whether in the U.N.,WTO, or OECD—will embody investmentprotections that are superior—and, therefore,additive—to BITs. In the case of the WTO, theDoha Ministerial Declaration reflects a signif-icantly more-limited approach that clearlydoes not view a multilateral framework on in-vestment as a substitute for bilateral and re-gional arrangements. Recent negotiating briefsin the WTO indicate that some major coun-tries have withdrawn support for investor-state


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dispute settlement, which would tend to lessenthe additive value of investor protection in amultilateral accord.

Dispute settlement is another critical—andas yet unresolved—issue that will influencethe content of any multilateral agreement tostrengthen investor protections. Most BITscontain dispute resolution mechanisms thatallow investors to challenge government rul-ings before arbitration panels or internationalcourts. In the context of the WTO, while thereis generally little support for the inclusionof investor-state arbitration provisions in aprospective multilateral investment agree-ment, WTO rules on investment protectioncould entail complications even when admin-istered through state-to-state dispute settle-ment. For example, what would be the appro-priate remedy in an instance of unlawfulexpropriation of a foreign investment? Thesedifficult and contentious issues will take timeto resolve in any international agreement.

Beggar-thy-neighbor investmentdistortions must be minimizedGovernments have adopted policies that mayaffect the location and performance of trans-

national investment. Three negative policyexternalities—when one country’s policiesadversely affect another—merit discussion.The first and most powerful of these negativepolicy externalities are investment-distortingtrade barriers. Tariffs, tariff escalation,and other forms of protection discourageinvestment—both foreign and domestic—inexport industries in developing countries.Said differently, if developing countries con-front impediments to market access abroad,the effect of the barriers is to lower the poten-tial stream of earnings in their export activities.This change reduces the incentive for foreignand domestic investors to invest in produc-tion for export in developing countries. Quotaarrangements, antidumping actions, subsidies,overly restrictive rules of origin, and othertrade restrictions distort not only trade, butalso investment, and these distortions arearguably the largest negative policy externalityaffecting investment in developing countries.

Two other sets of policy externalities figureprominently in investment decisions: perfor-mance requirements—to compel multina-tional companies to locate a greater part of thevalue added chain in the domestic market—


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Figure 4.5 FDI is growing faster than exports and output

Source: UNCTAD (2001), Handbook of Statistics: World Bank (2002), World Development Indicators; and WTO (2001),International Trade Statistics.

Developing countries: merchandise exports, output, and FDI inflows, 1980–2000

(index, 1980 � 100; average annual growth rates in parentheses)

0

500

1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000

1,000

1,500

2,000

2,500

3,000FDI inflows(1981–90: 5.3%)(1991–2000: 20.8%)

GDP(1981–90: 3.2%)(1991–2000: 4.4%)

Merchandise exports(1981–90: 3.3%)(1991–2000: 9.6%)

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BITs are instruments used by countries to protecttheir foreign investors, while host countries view

BITS as an important means of attracting foreigninvestors. BITs can provide the basis for resolvingdisputes; they can also impose potentially extensiveobligations on the part of the governments hostingthe investment. For example, almost all treaties stip-ulate compensation for the expropriation of invest-ments. In some cases, treaties proscribe any govern-ment action—even environmental actions or otherregulations—that would reduce the value of theprivate investment and they establish grounds forcompensation. Such compensation could eitherentail extensive liabilities for the host governmentor compel it to refrain from making certain policychoices. Against this backdrop, the question ofwhether BITs actually increase FDI is important.

Surprisingly little empirical work has been doneto test BITs’ role in attracting FDI. UNCTAD, in arecent study, found little evidence that BITs increasedFDI (UNCTAD 1998). That work looked at a singleyear of investments and tested whether the numberof BITs signed by the host was correlated with theamount of FDI it received. Hallward-Driemeier(2002) redid that test, but applied it to 20 years ofdata, looking at the bilateral flows of OECD mem-bers to 31 developing countries. The Hallward-Driemeier test covered the vast majority of FDIflows, as well as those relationships that were histor-ically the bulk of such treaties. Overall, the evidenceis, at best, weak that BITs increase the amount ofFDI. By the end of the 1990s there were many moreBITs, and FDI had increased dramatically. However,controlling for a time trend, there was little indepen-dent role for BITs in accounting for the increase inFDI. Countries that had concluded a BIT were nomore likely to receive additional FDI than werecountries without such a pact.

Another question is whether a BIT would drawattention to a particular location, thus leading to anincrease in flows in the aftermath of negotiations.However, comparing flows in the three years after aBIT was signed to those in the three years before, therewas no significant increase in FDI (see box figure).

A third question is whether the relative amountof FDI that a source country allocated to a particular

Box 4.4 Do BITs increase investment flows? Only a bit

0.3

0

0.1

Yearsigned

Years before signing Years after signing

�1�3 �2 �1 �2 �3

0.2

Source: Hallward-Driemeier (2002).

The share of FDI received by developingcountries is relatively unaffected by thesigning of a BIT(share of annual FDI flow)

host country was affected by the presence of a BIT.The evidence here is that concluding a BIT is posi-tively associated with receiving a larger share of asource country’s FDI outflows, but that the result isnot statistically significant.

Some countries have looked to BITs as a way ofsignaling their respect for property rights. Particularlyif their reputation for protecting such rights is weak,they have seen the signing of a BIT as a way of assuag-ing the concerns of foreign investors. Conversely, thecredibility of such a signal may not be that strong. Itmay be that the domestic rule of law must be suffi-ciently strong before foreigners are willing to considerthe terms of the BIT as being enforceable. To test be-tween these hypotheses, the study ran regressions thatincluded measurements of the rule of law, governmenteffectiveness, and regulatory quality. These measureswere then interacted with the presence of a BIT. Theresults indicate that in weak investment climates, theBIT does not serve to attract additional FDI. However,in countries with stronger investment climates, thepresence of a BIT does weakly increase the amountand relative share of FDI that the host receives.

Source: Hallward-Driemeier (2002).

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and investment incentives—usually throughtax breaks or direct transfers from the state toattract FDI. Even when these policies benefitthe domestic economy, they both have the po-tential for adversely affecting trade and invest-ment flows with neighbors. Therefore, furtherinternational cooperation to curb their nega-tive effects can create positive benefits for all.

Unlike restrictions on entry that primarilyaffect services, performance requirements andinvestment incentives usually affect manufac-turing. In general, performance requirementshave been the instrument of choice for devel-oping countries that are seeking to ensure thatTNCs’ activities generate the greatest possiblespillovers for their economies. OECD coun-tries have been the predominant users of in-vestment incentives to attract investment,though in recent years numerous developingcountries have followed suit (see chapter 3,this volume; see also UNCTAD 2002).

The trade-distorting effects of performancerequirements—termed TRIMs—have forsome time been subject to negotiated disci-plines at both the regional and multilaterallevels. WTO disciplines on performance re-quirements were codified with the TRIMsAgreement in 1995. Among performance re-quirements, the most prevalent measuresrelate to local content, joint ventures (ordomestic equity participation), exports, tech-nology, and employment requirements. Theinitial rationale for export requirements wasin part to relieve the pressure on the trade bal-ance that inward investment—particularlyimport-substituting investment—was generat-ing. Local content requirements were designedto maximize vertical linkages and develop-ment of local skills.7 Current discussions ofchanges to the TRIMs Agreement are associ-ated with the review process that is mandatedunder Article 9 of that agreement.8 At present,these debates are not on the Doha Agenda.

In contrast with disciplines on performancerequirements, disciplines on investment incen-tives are—with the exception of the EuropeanUnion’s comprehensive set of disciplines onstate aids—more limited. The Uruguay

Round’s ASCM introduced limited disciplineson the granting of investment incentives.These disciplines are largely indirect becausethey apply solely to export subsidies and othergoods-related transactions—that is, a govern-ment may invoke the agreement’s provisionsonly when certain types of investment incen-tives used by certain types of members can beshown to distort trade in goods.9

Strengthening disciplines on investment-distorting incentives could benefit developingcountries because those disciplines would re-duce the scope for this zero-sum tax competi-tion. However, progress in crafting a set ofmultilateral disciplines on investment incen-tives has been negligible to date. One reasonfor this stalemate is that in large federal gov-ernments many investment incentive programsoriginate at the subnational level as instru-ments to promote regional development.Another reason is that many emerging devel-oping countries have themselves become heavyusers of incentives in recent years. Conse-quently, investment incentives have not figuredprominently among topics to be discussed ininternational forums such as the WTO. The ill-fated discussions in the MAI were also unsuc-cessful in broaching investment incentives.

Nonetheless, competition among govern-ments for FDI through incentives is becomingincreasingly common in many parts of theworld. Developing countries often find them-selves in competition with each other, but fewexamples can be found of developing coun-tries in direct competition with developedcountries. Also, competing developing coun-tries are often middle-income countries. Fourreasons seem to explain these patterns.

First, studies show that the bulk ofincentive-bidding activity among governmentstakes place within regions, rather than glob-ally (Oman 2000; Charlton 2002). Only ahandful of developing countries situated closeto developed nations experience direct compe-tition with the deep pockets of the treasuriesof rich countries. Mexico’s automotive indus-try under NAFTA is perhaps the most promi-nent example of this situation.10


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Second, locational competition tends to bestrongest between close neighbors with similareconomic conditions, factor endowments, andpolicy regimes. Competition is also strongestin high-skill, technologically intensive indus-tries, particularly for firms producing goodsfor export. Automakers, silicon chip produc-ers, and pharmaceutical firms are among themost sought-after investments. Only a limitednumber of higher-income developing countriesare likely to qualify for such a category ofinvestment.

Third, competition is likely only when in-vestors are somewhat indifferent about whereto locate an investment among alternative lo-cations. This indifference implies that only themore relatively advanced economies (emerg-ing or transition economies) could have causeto bid against developed nations.11

Fourth, overt bidding wars between coun-tries are relatively rare—even though biddingmay be intense within particular countries—and are typically limited to a few sectors. Theygenerally occur when individual projects are ex-ceptionally large and when the sectors in ques-tion (for example, automobiles or electronics)are considered a high priority for national orregional economic strategies (Charlton 2002).

To be sure, striving for a ban on all incen-tives may be counterproductive because, insome cases, incentives can offset local disad-vantages or can be used to capture spilloversfrom inward FDI (see Hoekman and Saggi2000). In the case of Ireland and Portugal,for example, incentive programs have playeda significant role in attracting investment toless-developed regions. In the case of Brazil,some evidence shows that incentives competi-tion may have contributed to reducing re-gional disparities, because FDI in some sectors(particularly automobile manufacturing) is in-creasingly located outside the traditional in-dustrial heartland around São Paulo (Cano1998). While it is probable that, with re-spect to incentives, stories of failures andexcessive expenditures outnumber successes,agreements must contain some elements offlexibility. A first step is generating adequate

information that can be used to assess thetrade- and investment-distorting consequencesof incentives—and, more broadly, to evaluatetheir net development benefits.

Taken together, the existing multilateralagreements do provide limited discipline oncertain types of beggar-thy-neighbor policiesthat are currently in use around the world.With respect to curbing incentives, eventhough potential benefits for countries existfrom a multilateral accord, the absence ofevident momentum at the multilateral level—when combined with a regional pattern ofpossible tax competition and trade effects—suggests that regional arrangements may bemore promising for international collective ac-tions. However, data are lacking. Multilateralefforts to improve information on investmentincentives, perhaps through a WTO mecha-nism, would help remedy that lacuna andallow better analysis of the extent of invest-ment distortions.

Summary: Getting the biggestdevelopment benefit from internationalcollaboration on investmentDeveloping countries can benefit from inter-national collaboration to liberalize marketaccess for investment, to address investor pro-tections, and to minimize investment distor-tions. Five conclusions emerge.

First, in each of these areas the primarybenefits of attracting high-quality investmentfrom sound investment policies are likely toresult from unilateral enacting of domesticreforms. Long a truism for trade liberalizingreforms, this conclusion—given the apparentlack of investor responsiveness to interna-tional agreements—is increasingly germane toinvestment. Many of the remaining restric-tions are on services. As we have seen in chap-ter 3, progressive liberalization in services canproduce substantial economy-wide benefitsand should be a priority for consideration aspart of any development strategy. Bettertelecommunications, banking, auditing ser-vices, retail and wholesale trade, and the otherservice industries have multiple linkages to the


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rest of the economy, and can be sources ofproductivity growth for the whole economy.But the pace and form of investment liberal-ization necessarily must vary across sectorsand across countries, because they require reg-

ulations that are consistent with local capaci-ties and national objectives. The internationalcommunity can assist with these effortsthrough multilateral and bilateral develop-ment assistance, government-to-government


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Currently, proposed investment rules in theWTO focus exclusively on disciplines for gov-

ernments, but they say little about responsibilitiesof corporations (see Moran 2002). Improper corpo-rate behavior—bribery or improper accounting—can corrode the social fabric of developing and de-veloped countries alike. In the wake of the Enron,Arthur Andersen, and WorldCom accounting scan-dals in the United States, efforts to improve corpo-rate transparency and good conduct assume a newimportance. Many such activities outside the WTOare under way.

To help combat bribery and corruption, theOECD has recently established the Convention onCombating Bribery of Foreign Public Officials inInternational Business Transactions. The convention,put into force in 1999, currently includes all 29OECD members and five nonmembers (Argentina,Brazil, Bulgaria, Chile, and the Slovak Republic) assignatories. The convention makes bribing a foreignpublic official a criminal offense. It also encompassesnoncriminal rules for prevention, overall trans-parency, and cooperation between countries, and itends the practice of allowing tax deductibility offoreign bribes. Many countries, however, have yet tomodify their national legislation to implement theconvention fully. Regional forums of cooperation canalso help. For example, the Inter-American Conven-tion against Corruption was established in 1996 inthe OAS; in April 2001, the Summit of the Americascreated an implementation mechanism for the Inter-American Convention. Experience shows that, foranticorruption initiatives to be effective, participa-tion by civil society, private agencies, and the generalpublic is critical. In this context, cooperative effortsby nongovernmental organizations (NGOs), such asTransparency International, the Global Coalition forAfrica, the Novartis Foundation, and the Public

Box 4.5 Disciplines on corporations can also improvethe investment climate

Affairs Center, and by international organizationsand banks, such as the World Bank, the InternationalMonetary Fund (IMF), the Asian Development Bank,the U.N. Development Programme, and the U.S.Agency for International Development, in developingapproaches to counter corruption are noteworthy.

Other programs have a more technical focus.The World Bank’s work on corporate governanceemphasizes disclosure, transparency, the rights andtreatment of shareholders and stakeholders, and theduties of board members. Using the OECD’s Princi-ples of Corporate Governance as a benchmark, theBank prepares corporate governance assessments forits client countries to assess their institutional frame-works for corporate governance. In addition, theWorld Bank and the IMF together initiated theFinancial Sector Assessment Program and theReports on the Observance of Standards and Codes.

More broadly, the U.N. adopted the GlobalCompact in July 2000 to allay concerns about thesocial effects of globalization on the developingworld. About 100 major multinationals and 1,000other companies across the world’s regions are cur-rently engaged in the Global Compact. Projectsrelate to making microcredit more accessible, reduc-ing carbon dioxide emissions, fighting against humanimmunodeficiency virus/acquired immune deficiencysyndrome (HIV/AIDS), and expanding of basic edu-cation in local communities. In a similar vein, theOECD significantly revamped its Guidelines onMultinational Enterprises in 2000 by addingrecommendations about eliminating child and forcedlabor, improving internal environmental manage-ment, addressing human rights, finding methods tocombat corruption, and improving disclosure andtransparency.


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information exchanges, and private efforts toinform and assist governments.

Second, international agreements thatfocus on liberalizing conditions of entry by re-moving barriers that discriminate against for-eign competition may help consolidate domes-tic reforms at the same time that they opennew avenues for reciprocity abroad. Becauseof the sensitivity of investment regimes, espe-cially in services, any agreement has to allowfor country diversity and must permit govern-ments the flexibility to design liberalization inways consistent with their development strate-gies. Because the GATS provides this flexibil-ity and addresses most of the remaining out-standing restrictions, multilateral efforts couldconcentrate on expanding the still-limited cov-erage of the GATS by increasing the numberand quality of commitments that allow com-mercial presence. Harnessing the full force ofreciprocity—both across modes (especially byputting on the table any temporary movementof workers) and across sectors—may helpmotivate this expanded coverage.

Third, an international agreement thatseeks to substantially increase investmentflows by increasing investor protections seemsdestined, on the basis of available evidence, tofall short of expectations. Some key issues arealready covered by relatively strong investorprotections in BITs. Moreover, it is not clearthat any investor protections emerging frommultilateral negotiations would add markedlyto existing protections found in bilateralagreements. Finally, merely creating new pro-tections does not seem to be strongly associ-ated with increased investment flows. Forthese reasons, the overall additional stimulusof multilateral rules that apply to new invest-ment over and above unilateral reforms wouldprobably be small—and virtually nonexistentfor low-income developing countries.

Fourth, international agreements can use-fully discipline two forms of beggar-thy-neighbor policy externalities that are particu-larly adverse to development. The first andmost important are investment-distortingtrade measures. Tariff escalation, tariff peaks,

quota arrangements, and other barriers—barriers that are common among developingcountries as well as between rich and poorcountries—stifle developing countries’ exportsand the investment needed to supply them.Reducing these trade barriers would precipi-tate new investment in exports as these activi-ties expand, and some portion of this newinvestment can be predicted to come fromabroad. The second set of externalities con-cerns disciplines for investment incentives thatdistort the allocation of investment. Coopera-tive measures at the multilateral level have theadvantage of being conceptually clean andbroad based. However, because investmentstend to affect countries in close regional prox-imity, countries may find it easier to work onrules that curb disadvantageous competitionon investment incentives through regionalarrangements. A prerequisite for collectiveaction is information on the extent of invest-ment incentives and their effects; thus, a mul-tilateral inventory of investment incentives isa high priority. One option is to set up an an-nual surveillance process, perhaps under theauspices of the WTO or as part of the IMF’sannual surveillance.

Finally, if new investment arrangementsleverage reciprocal commitments for reformsabroad on other issues on the trade agenda,particularly new market access, then agree-ments would certainly help developing coun-tries. These matters can be decided only in thecourse of negotiations.

International agreements topromote competition andcompetition policy

Promoting development requires not onlypolicies to encourage investment, but also

policies to ensure that investment is produc-tive; among these policies, competition is oneof the most powerful. Most policies to pro-mote competition are domestic, and an impor-tant conclusion of chapter 3, this volume, isthat the reduction of policy-related barriers tocompetition is essential to raising domestic


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productivity. Among the many domestic policybarriers to competition, the most prominentoften involve aspects of globalization, such astariffs, restrictions on FDI (especially in ser-vices), state monopolies, and competition-limiting regulations in postprivatized sectors.Competition policy that disciplines private re-straints in domestic markets is also important.However, competition laws have to be appro-priate to local circumstances because they relyheavily on the strength and independence ofthe judiciary, the enforcement capacity oflegal authorities, and probity in public admin-istration. A well-intentioned law in an inap-propriate institutional environment can be-come a source of bureaucratic harassment andcorruption.

Governments working together in a multi-lateral or regional framework may be able toenact policies that widen the scope of compe-tition and thereby confer benefits beyondthose obtained from unilateral reforms. Analy-sis has to begin with the restraints on compe-tition in the global marketplace that mostadversely affect developing countries and that,if removed, would provide the biggest stimu-lus to development.

Three categories of restraints on competi-tion in the global marketplace are particularlyadverse. First are those that involve policybarriers to trade that disadvantage exportersin developing countries by directly limitingtheir ability to compete in markets. The mostimportant barriers affect agriculture, textiles,and other labor-intensive manufactures andservices. Second are private restraints on inter-national competition that can raise prices toconsumers or to producers in developingcountries. These restraints include interna-tional cartels that are commonly illegal inOECD countries when they affect OECD mar-kets. Third are officially sanctioned restraintsthat may adversely affect developing coun-tries’ import or export prices. We discussbelow the effects of exemptions from antitrustlaws that governments grant to their firmsnational export cartels, and the price-raisingeffects of ocean transport and aviation

arrangements that systematically hurt devel-oping countries. Competition policies in de-veloping countries themselves can, in manycases, be improved through increased trans-parency, nondiscrimination, and proceduralfairness. All of these policies are subjects ofinternational negotiation, but they have quitedifferent potential effects on development.

The most important restraints oncompetition are policy barriers to tradeExporters from developing countries—particularly exporters of agricultural prod-ucts, textiles, and labor-intensive manufac-tures and services—confront significantrestraints on their ability to compete in globalmarkets. Developing countries generally facehigher barriers to exports than do industrialcountries (World Bank–IMF 2002). Japan andthe United States provide maximum protec-tion against imports from developing coun-tries, while European Union protection isskewed against imports from middle-incomecountries. Developing countries, with averagebarriers higher than those in rich countries,also raise barriers against competition fromother developing countries. Taken together,protectionist measures such as high tariffs,tariff peaks, restrictive tariff rate quotas onlow-tariff imports, and domestic and exportsubsidies are ubiquitous and raise barriers tocompetition from all developing countries. Be-cause the world’s poor people usually produceagricultural and labor-intensive products, theworld trading system is tilted against the poor.The average poor person selling into theglobal marketplace confronts tariffs that aretwice as high as those faced by people who arenot poor (World Bank 2002c; see also Oxfam2002).

Subsidies and trade barriers in agricultureare particularly pernicious. In developedcountries tariff rates in agriculture are twicethose of manufactures. Sheltering of agricul-ture by hefty subsidies aggravates the effectsof these tariffs (OECD 2001; WorldBank–IMF 2002). The costs of such price sup-ports are borne by low-income consumers in


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protected markets—those consumers whospend a large proportion of their income onfood, while the supports benefit only a hand-ful of large farmers. The U.S. subsidies tocotton producers, for example, cost taxpayersnearly $4 billion a year—three times the U.S.aid budget for Africa—while adversely affect-ing low-income West African economies thatproduce cotton. High protection and supportof the sugar industry in the European Unionand the United States is another example ofthese harmful policies. Total OECD supportfor agriculture amounted to 1.3 percent of thegross domestic product of those countries in2001, with the producer support estimates12

the highest in the European Union in absoluteterms (see figure 4.6). Prices received byOECD farmers were on average 31 percentabove world prices (measured at the border)(World Bank–IMF 2002). Though effortshave been made to lower protection for agri-culture in OECD countries, the recently en-acted 2002 U.S. Farm Bill increases supportspending to a projected $45 billion, or 21 per-cent of producer income during fiscals2002–07 (see appendix 2). This increase maywell aggravate secular deterioration in devel-

oping countries’ terms of trade through itseffects on long-term world prices. Protectionof agriculture is also common in developingcountries—comparable in weighted ad val-orem equivalent terms—but is much lowerwhen subsidies are taken into account (seeWorld Bank–IMF 2002).

Policy barriers restrain competition inclothing and textiles with similarly adverseeffects on developing countries. Developingcountries account for about 50 percent ofworld textile exports and 70 percent of worldclothing exports (World Bank–IMF 2002).Under the Uruguay Round Agreement onTextiles and Clothing, quota restrictions are tobe abolished gradually during 1995–2005.The slow pace of removing restrictions oncompetition in textiles and clothing has re-sulted in sizable losses in export earnings andproductive employment in many developingcountries. The combined negative income ef-fect for developing countries caused by quotasand tariffs on industrial-country importsamounts to $24 billion annually, and theexport revenue loss is $40 billion (WorldBank–IMF 2002).

Impediments to competition take otherforms as well. Between 6 and 14 percent of thetariff lines of Canada, the European Union,Japan, and the United States are subject totariff peaks, in some cases at rates well over100 percent (Hoekman, Ng, and Olarreaga2001). Developing-countries’ exporters maybe displaced by high tariff peaks in Canadaand the United States (in textiles and clothing)and in the European Union and Japan (in agri-culture, footwear, and food products). Eventhough France exports 12 times more to theUnited States than Bangladesh, U.S. tariffrevenues on imports from Bangladesh wereroughly the same tariff revenues on importsfrom France (Gresser 2002). Escalatingtariffs—in which protection is lower for pri-mary products but increases as the local valueadded increases—discourage development offorward processing. Chilean firms, for exam-ple, can export fresh tomatoes to the UnitedStates, paying a tariff of 2.2 percent; however,


135

Source: World Bank–IMF (2002).

Figure 4.6 OECD countries spent $230billion in 2001 to support agriculturalproducers

Producer support estimate by the OECD countriestotaled $230 billion in 2001

European Union$93,083 million

United States$49,001 million

Japan$47,242 million

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if they dry and package the tomatoes, the U.S.tariff is 8.7 percent; and if they make salsaout of the tomatoes for export, the duty is11.6 percent (Schiff 2001). By reducing thedemand for higher-processed imports from de-veloping countries, tariff escalation preventsdeveloping countries from diversifying exportsinto areas of their competitive advantage.These tariff structures are common in poor aswell as in rich countries (see World Bank2002c: 45).

Another restraint on competition is fre-quent recourse to antidumping and othertypes of contingent protection. Antidumpinglaws were originally created to counteractpredatory practices of foreign sellers into ahome market. This was the original rationalefor U.S. antidumping legislation of 1916. Thefear was that a foreign firm (or cartel) coulddeliberately price products low enough todrive existing domestic firms out of businessand to establish a monopoly. Once estab-lished, the monopolist could more than re-coup its losses by exploiting its market power.For predation to work, the monopolist or car-tel would not only have to eliminate domesticcompetition, but would also have to be able toblock entry by new competitors. It would,therefore, need to have a global monopoly,

need to convince the importing government toimpose or tolerate entry restrictions, or needto be able to raise private entry barriers(Hoekman and Kostecki 2001).

In practice, post–World War II cases of suc-cessful predatory dumping are the exception,not the rule. More than 90 percent of all an-tidumping investigations would never havebeen launched if a competition standard—potential threat of injury to competition—hadbeen used as a criterion (Messerlin 2000).13 Asit has evolved, antidumping has become a fa-vored vehicle for restricting competition fromimports, and it is applied with increasing fre-quency by developing countries against eachother. Since 1995, countries have initiatedmore than 1,800 antidumping investigations(table 4.1). Although industrial countries havetraditionally been the main users of such mea-sures, developing countries have been moreactive in recent years, led by India, Argentina,Brazil, and South Africa. In the seven years to2001, developing countries initiated almosttwo-thirds of all investigations, well in excessof their share in world trade. However, devel-oping countries have also been the target ofnearly 60 percent of investigations, mostly ini-tiated by other developing countries. The re-cent steep rise in antidumping investigations


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Table 4.1 Many antidumping investigations were initiated during the 1995–2001 period

Affected countries

Industrial United European Developing TransitionInitiating country countries States Union countries countries Total

Number of investigations 511 102 313 1,086 248 1,845Industrial countries 128 17 67 363 114 605

Of whichUnited States 79 0 46 146 30 255European Union 15 6 0 165 66 246

Developing countries 379 85 242 718 131 1,228Transition countries 4 0 4 5 3 12

Percentage of investigations 28 6 17 59 13 100Industrial countries 21 3 11 60 19 100

Of whichUnited States 31 0 18 57 12 100European Union 6 2 0 67 27 100

Developing countries 31 7 20 58 11 100Transition countries 33 0 33 42 25 100

Source: WTO Secretariat, as reported in World Bank–IMF 2002.

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puts the predictability and nondiscriminatoryapplication of trade policies at risk.

Removing these restraints on competitionfrom developing countries would have a bigdevelopment payoff. These issues and detailedpolicy recommendations have been well ana-lyzed elsewhere (see, for example, World Bank2002c). Suffice it to say that dismantling bothworldwide trade barriers and agricultural sub-sidies could increase long-term growth in de-veloping countries by as much as 0.5 percentannually, which, when taken together withterms-of-trade improvements, could reducethe number of people living in poverty by asmuch as 13 percent by 2015. One-third toone-half of the welfare gains would accrue tothe developing world (World Bank 2002c).Because of the growing importance of South-South trade and the remaining high barriersamong developing countries, removing thebarriers to competition among themselveswould produce substantial gains (see WorldBank 2002a; and World Bank–IMF 2002).These facts underscore the importance of theDoha Development Agenda of the WTO andthe various regional efforts around the worldthat could lower trade barriers to developingcountries’ exports. Because not all countrieswill benefit from some reforms (such as re-moving the textile quotas), a broader reformthat covers all trade issues and is linked todevelopment assistance is vital.

Private restraints on internationalcompetition can raise pricesto developing countriesBesides policy barriers to competition, largeinternational companies with market powercan form cartels that fix prices, allocate mar-kets, and restrain competition. Although tradereform and the expansion of potential com-petitors in markets around the world haveundoubtedly reduced the scope for privatecartels, the numerous international cartels un-covered in the 1990s suggest that marketforces alone do not offer complete protectionagainst price-fixing and market-allocationarrangements that raise prices to developing

countries. These cartels are typically illegalwhen they adversely affect a country’s owncommerce. However, OECD governmentshave no authority to prosecute cases whencartel activities function outside their nationaljurisdictions and cannot be shown to affectprices of imports or domestic goods.

The 1990s saw the uncovering of severalinternational cartels. Prosecutions of interna-tional cartels picked up after 1993 when theUnited States revised its anticartel enforce-ment practices to grant amnesty to the firstcartel member that cooperated with authori-ties. Before 1993, approximately one firm ayear applied for leniency under anticartellaws, and big cases were rare; now, one firm amonth applies for leniency. U.S. fines againstdomestic and international cartels during the1990s totaled $1.7 billion. The publicity asso-ciated with these prosecutions (many of whichaffected international markets as well as theUnited States) encouraged prosecutions byother enforcement agencies, including those inseveral middle-income countries (for example,Brazil and Korea). Antitrust authorities in theUnited States and European Union aloneprosecuted 40 international cartels during the1990s.

Cartels that have been uncovered throughlaw enforcement have had a substantial role inincreasing the prices to developing countries.Although estimates vary, the average interna-tional price increases caused by internationalcartels have been estimated to be on the orderof 20–40 percent. The estimated price in-creases resulting from cartels, as shown in sixhigh-profile international cartel prosecutions(table 4.2), vary widely—from 10 percent forstainless steel tubes to 45 percent for graphiteelectrodes. Cumulative overcharges to devel-oping countries over the life of the cartels inthe six cases ranged from $3 billion to $7 bil-lion, depending on whether SITC or HS codesare used. Developing countries imported 12products that had a value of sales of $11 bil-lion in 2000 and that were sold by interna-tional cartels prosecuted during the 1990s(figure 4.7); if price collusion were to raise


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prices by an average 20 percent, the total over-charges would have reached almost $2 billionin 2000.

Despite the rise in prosecutions, reiningin international cartels remains difficult. Thefines imposed by authorities often fall wellshort of the estimated overcharges, raising

questions about the effectiveness of prosecu-tion as a deterrent for cartel behavior. More-over, 24 of the 40 cartels prosecuted by theUnited States and the European Union lastedfor at least four years, indicating that marketforces are not always adequate to rapidlyeliminate cartels. The history of cartels


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Table 4.2 International cartels can be expensive: estimates of sales and overcharge

Possible overcharge toCartel sales developing countries

Years of Number PriceProduct cartel of firms SITC HS increase SITC HS Fines

Vitamins 1990–99a $26.4 billion $10.8 billion 35% $3.05 billion $1.71 billion Almost $2 billionCitric acid 1991–95 111 $9.9 billion $447 million 20% $402 million $67 million Over $250 millionBromine 1995–98 2 $598 million $409 million 15% $46 million $8 million $7 millionSeamless steel tubes 1990–95 8 $26.6 billion $21.7 billion 10% $1.63 billion $1.19 billion 99 million eurosGraphite electrodes 1992–97 23 $9 billion $7 billion 45% $1.35 billion $975 million Over $560 millionLysine 1992–95 5 $4.8 billion $913 million 10% $294 million $43 million About $200 million

SITC � Standard International Trade Code; HS � Harmonized System Classification.Notes: Figures for each cartel span the entire period of the conspiracy. Sales are approximated using export statistics from countries of origin of indictedfirms and thus exclude domestic sales. If participating firms are multinationals and the locations of their subsidiaries are known, sales are calculated bytaking into account the exports of countries of subsidiaries. When that information is unavailable and production is understood to be global, sales arecalculated by using exports of all countries producing the cartel product. Overcharge refers to imports to developing countries / (1 � price increase) �price increase. Sales calculations provided are based on the SITC Revision II and the HS 1988.a. Because the cartel ended in February 1999, sales and overcharge estimates are aggregated from 1990 to 1998.Source: Connor (2001), Levenstein and Suslow (2001), OECD (2000), and World Integrated Trade Solution database.

30

35

25

20

15

10

5

01981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991

Year

1992 1993 1994 1995 1996 1997 1998 1999 2000


Imports to industrial countries

Imports to developing countries

Figure 4.7 Imports affected by cartels rose from 1981 to 2000 for both richand poor countries

Total imports of twelve products where proven cartels existed

(in billions of dollars)

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indicates that some operate intermittently overdecades.14

New initiatives to discipline illegalinternational cartelsFirms will be deterred from price fixing andforming cartels if the fines for doing so, multi-plied by the probability of being caught (thatis, the expected value of the cost), exceed theextra profits that result from this anticompet-itive behavior (that is, if the potential punish-ments for creating cartels exceed the benefits).Reforms that raise the sanctions on cartels andthat increase the probability of successfullyprosecuting cartels will tend to dissuade morefirms from forming cartels, whether domesticor international. The secret nature of mostcartel agreements poses a special problembecause it implies that governments must ac-tively search for evidence or must encouragecartel members to come forward with evi-dence; otherwise, firms will perceive the prob-

ability of prosecution to be very low (Evenett,Lehmann, and Steil 2000).

One option for curbing illegal internationalcartels is to extend further the extraterritorialreach of industrial nations’ anticartel laws(Hoekman and Mavroidis 2002). When acompetition authority in an industrial econ-omy uncovers a cartel that affects marketsboth inside its own borders and in other coun-tries, then that authority could take enforce-ment action on behalf of all affected nations.A stronger version would have the competi-tion authority take action even if the cartelaffected a foreign market without affecting thehome market. In both cases, the authoritycould request help in collecting evidence fromenforcement bodies in other nations. Finesand sanctions against the cartel would be de-termined on the basis of its detrimental effectson all affected economies.

Yet another option is to grant governmentsof developing countries—or their citizens—


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Lysine is a food additive used in hog and poultryfeeds. The global lysine cartel lasted from 1992

to 1995. During that period the five participantscontrolled more than 97 percent of global capacity.Cartel members engaged in price-fixing, allocatingsales quotas, and monitoring volume agreements. In1994, at the peak of the cartel’s effectiveness, theprice of lysine reached about $1.20 per pound, ap-proximately $0.50 above the competitive price level.

Estimates of the overcharges to U.S. customersduring this period vary and are as high as $141 mil-lion. Although no formal analysis of non-U.S. over-charges is available, the observed lower prices inAsia suggest overcharges in the rest of the worldwere lower than those in the United States. Accord-ing to Connor (2001) a reasonable projection of theglobal overcharge by the lysine cartel would be inthe $200 million to $250 million range. A more con-servative estimate assumes a 10 percent overchargeon $1.4 billion in global sales during the life of thecartel, for a total of $140 million (OECD 2000: 16).

Box 4.6 The lysine cartel, 1995–2001The cartel had a significant effect on both po-

tential producers and users of lysine. Lysine produc-tion in 1994 was at least 20 percent less than undercompetitive conditions, resulting in lower productionamong the feed and meat industries that dependon lysine. Moreover, the cartel limited potentialdeveloping-country competitors by using price dis-crimination across regions, and it froze the relativepositions of the leading firms in the market, whencompared with the very fluid situation before theconspiracy. Although a few relatively small produc-ers entered the market during the 1990s (mainly inHungary, the Slovak Republic, and South Africa),most new entrants began production only after thelysine cartel had been broken up in 1995. China, inparticular, has been a source of increasing lysine pro-duction. Nevertheless, the five original participantsin the cartel continued to control 95 percent ofglobal capacity at the end of the decade.

Source: Connor (2001).

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standing in the major OECD countries sothose affected could initiate private injurysuits against companies headquartered underthe jurisdiction of a particular antitrust au-thority. Because most antitrust actions are dri-ven by private complaints and through privatesuits, such legal changes would markedlystrengthen the hand of consumers and busi-nesses in developing countries to curb privaterestraint practices. The principal attraction ofsuch a proposal is that it would allow devel-oping countries to benefit from the sophisti-cated investigative powers and regulatoryexpertise in the OECD competition authori-ties. The enforcement record in the 1990s sug-gests that the overwhelming majority of cartelmembers have their headquarters in industrialeconomies. A drawback to the proposal is thatextraterritorial application is a perennialsource of tensions among countries, and theincentives are low for OECD governments totake actions against their own firms for effectsin foreign markets.

A more modest option for reform couldfocus on notification and information ex-changes by national enforcement authorities.This exchange would build on the growingnumber of bilateral cooperation agreementson competition matters, thus expanding theirscope to include many more economies. Theobjective here is to raise the probability of suc-cessfully prosecuting cartels by encouragingthe sharing of conspiracy-related informationbetween enforcement authorities. The modali-ties for this type of international cooperationhave received considerable attention in recentyears, not the least of which is the OECD’snonbinding Recommendation on Hard CoreCartels. However, this approach essentially of-fers gains only to those economies that haveeffective competition laws, and many devel-oping economies do not. Furthermore, theamount of information that can be exchangedon cartel cases today is highly constrainedbecause most countries have laws againstsharing confidential information. The originalintent of those laws was to protect legal busi-ness secrets and plans, and the confidentiality

provisions have, unfortunately, been appliedto illegal conduct uncovered during cartel in-vestigations. These restrictions on informationexchange are especially worrisome at a timewhen so much evidence about internationalcartels is being collected through nationalleniency programs, thereby suggesting that thepotential for information exchange could beconsiderable.

Another approach is a multilateral agree-ment. Proponents of including competition onthe multilateral agenda have gravitated to-ward a relatively narrow focus. They are seek-ing disciplines on (a) the so-called core issuesof nondiscrimination, national treatment, andtransparency; and (b) private “hard core” in-ternational cartels. These disciplines wouldapply to all WTO members, both industrialand developing, with technical assistance andcapacity building envisaged. Most recent dis-cussions have emphasized the need for volun-tary international cooperation (Anderson andJenny 2001).15

In summary, policies that help developingcountries discipline international cartels moreeffectively would have a potentially large ben-efit, for consumers in rich and poor countriesalike.

Officially sanctioned private restraints canhurt trade to developing countries . . .Officially sanctioned restraints on trade makeup the third major category of competitionrestrictions that adversely affect developingcountries. These restraints take the form ofexemptions from domestic antitrust laws andpertain to certain types of international activ-ity. Many governments legally permit theirown private firms to cartelize export mar-kets—as long as markets affected are outsidethe country, and export cartels do not providean opportunity for producers to fix pricesat home. Indeed, numerous economies haveexplicitly exempted export cartels fromtheir domestic competition laws—essentiallyproviding some legal cartel privileges fortheir national firms, but not foreign firms(table 4.3). U.S. soda ash producers have


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taken advantage of these provisions in U.S.law to form an export cartel, which hassubsequently been the target of Europeanand Indian enforcement actions. Generally,these cartels may attempt to raise prices intheir export markets to the detriment ofoverseas consumers. Their success depends onthe number of other foreign competitors inthese markets. Because competition is morelikely to be limited in the smaller marketsof developing countries, it is probable that de-veloping countries are adversely affecteddisproportionately.

Because cartel registers are secret in Europeand Japan, and virtually secret in the UnitedStates, information on their extent, products,and geographic coverage is nil. The legal ex-emptions are known, and the latest availableinformation—from the OECD in 1974—hasindicated a broad proliferation. The initialrationale for export cartel exemptions was thatsmall exporters could join to share theallegedly substantial costs of marketing theirproducts abroad. Even if such arguments were

legitimate in the past, most small- and medium-sized enterprises in industrial economies todayexport without a need for cartels, so the ratio-nale is moot.

Another exemption from OECD antitrustlaws is maritime transport, which inadver-tently put developing countries at the mercyof price fixing. The exemption in U.S. lawextended to maritime transport has facili-tated, through shipping conferences, collusivearrangements in ocean-liner shipping. Agree-ments among private shipping companieshave a long history, beginning with trade be-tween the United Kingdom and India in the1870s. Such arrangements have taken differ-ent forms, including the conclusion of agree-ments on uniform freight tariff rates andconditions of service, the establishment of ex-clusive or preferential working relationshipsbetween shipping lines, or the integration ofshipping networks through strategic alliances.

The power of such arrangements haseroded in recent years because outside ship-ping lines have gained a significant share of


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Table 4.3 National exemptions to competition law for exporters

Country Type of exemption Reporting requirement

Australia Contracts for the export of goods or Submission of full particulars to the national supply of services outside Australia authority within 14 days

Brazil Joint ventures for exports, as long as there Approval by the national authorityare no effects on the Brazilian market

Canada Export activities that do not affect domestic Nonecompetition

Croatia Agreements that contain restrictions that aim Notification of the agreement to national authorityto improve the competitive power of within 30 days after conclusion of the agreementundertakings on the international market

Estonia Activities that do not affect the domestic market NoneHungary Activities that do not affect the domestic market NoneJapan Agreements regarding exports or among Notification of and approval by the industry

domestic exporters administrator Latvia Activities that do not affect the domestic market NoneLithuania Activities that do not affect the domestic market NoneMexico Associations and cooperatives that export NoneNew Zealand Arrangements that relate exclusively to exports Authorization of the national authority

and that do not affect the domestic marketPortugal Activities that do not affect the domestic market NoneSweden Activities that do not affect the domestic market NoneUnited States Webb-Pomerene Act: activities that do not Webb-Pomerene Act: filing of agreements with the

affect domestic competition U.S. Federal Trade CommissionExport Trading Companies Act: strengthened Export Trading Companies Act: Certificates ofimmunities granted by Webb-Pomerene Act Review provided by U.S. Department of Commerce

Source: Evenett and Ferrarini (2002); drawn from OECD (1996), OECD (2000), and <http://www.gettingthedealthrough.com>(accessed May 2002).

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the market and regulators have moved to en-courage greater price competition. Nonethe-less, Fink, Mattoo, and Neagu (2001) con-clude that a breakup of cooperative workingagreements and price-fixing arrangementsamong the major private carriers could reducetransport prices by 20 percent on U.S. routes,for a savings of $2 billion or more (seetable 4.4; see also Francois and Wooton 2001).

If developing countries could save the samepercentage of their import costs, then theirtotal import bill would fall by $2.3 billion.This figure is probably an underestimate ofthe effect of breaking up private constraintson ocean trade services for developing coun-tries. Their freight charges are more likely tobe subject to price-fixing than are freightcharges on industrial-country routes becauselow traffic volumes limit the number of com-mercially viable competitors. For example, theEuropean Commission found that the Associ-ated Central West African Lines abused itsdominant position by providing rebates toshippers that complied with its policies, aswell as carrying out other anticompetitivepractices.16

. . . and international agreement couldrein in their adverse effectsMultilateral efforts to curb national exportcartels, as well as to rein in private restraintsin regulated industries that have been rootedin exemption from antitrust laws, are particu-larly well suited to the WTO. Most govern-ments today either encourage or acquiesce tonational cartels that adversely affect markets

beyond their borders. Government supportfor beggar-thy-neighbor export cartels isanachronistic in an era of global trade rules.Reciprocal international agreements offer thepromise of reducing foreign distortions todomestic markets in return for commitmentsto desist from such practices. Agreements oninternational cartels involve giving up somerents from exporting in return for the benefitsof more competitive markets at home.

A multilateral accord to curb export cartelswould probably benefit developing countries.An alternative and less-ambitious approach isto narrow the coverage to sectors in which itcan be demonstrated that small- and medium-sized enterprises cannot compete internation-ally without a mechanism to share burdenssuch as marketing costs, and so on. Becausethe extent of injury to foreign consumers isnot known, a minimalist policy toward exportcartels involves disclosure. If export cartels areallowed to retain their legality, governmentsshould agree to require that firms seeking toestablish an export cartel publicly register assuch—and that those registries be updated an-nually and made accessible to the public overthe Internet. Furthermore, if these cartel ex-emptions were specifically to aid small firms,then there is no argument for permitting largefirms to participate.

Similarly, countries could agree to end anti-trust exemptions for maritime transport and,at the same time, give standing so exportersin developing countries that are harmed bysubsequent cartel activities can sue under an-titrust statutes. This change would have sig-nificant effects by unleashing competition inthis sector and by altering an arrangementthat today drives up the cost of exportingfrom many developing countries.

International collaboration can strengthendomestic competition policiesDomestic policies in developing countrieshave a significant effect on competitive con-ditions. Chapter 3 underscored the particu-lar importance of policy barriers to competi-tion, particularly in trade, in restrictions on


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Table 4.4 Breaking up floating cartelscould help developing countries(Economic effects of ending private restrictions on ocean-liner competition)

Effect Amount

Reduction in price of ocean transport 20%Projected total savings for U.S. imports $2.1 billionProjected savings for developing-country

imports $2.3 billion

Source: Fink, Mattoo, and Neagu (2001); World Bank(2002c).

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incoming FDI, and in restrictions on newentry (foreign or domestic) in regulated indus-tries. Chapter 3 also concluded that the po-tential role of a domestic competition agencywas shaped largely by the domestic institu-tional environment. In some countries withstrong legal and judicial systems, a competi-tion agency could help augment competition;in other countries with weak legal and judicialsystems, establishing a competition agencycould be counterproductive if they become asource of rent-seeking and corruption.

International discussions on trade policyhave, since their inception, seen domesticcompetition policy as an issue associated withmarket access. Competition policy is intrinsi-cally related to the principles of national treat-ment and MFN treatment insofar as competi-tion law allows recourse to address certainkinds of discriminatory policies and arrange-ments that deny foreigners access to markets.17

The launching in 1997 of the WTO Work-ing Group on Trade and Competition Policysignaled the beginning of the most recent in-ternational discussions about the interfacebetween trade and competition, as well as thepossibility of multilateral cooperation oncompetition law. Not all domestic competitionmatters give rise to international trade prob-lems, and vice versa. There are situationswhen the lack of, or inappropriate applicationof, competition law can impede trade andmarket access, however. After five years ofdiscussions, governments have progressivelyretreated from ambitious applications (such asharmonization) to proposals that focus oncore principles, transparency, nondiscrimina-tion, and procedural fairness. Governmentsmay perhaps also focus on provisions address-ing illegal international cartels (see discussionabove). Aside from these general principles,the exact content of national competitionlaws could vary considerably in the range ofconduct and structural disciplines that theyinclude.

From a national point of view, for compe-tition law to be a priority it must yield ahigher payoff than other choices. Competi-

tion law is technical and requires the use ofskills that are in short supply in many devel-oping countries. Building capacity to applycompetition legislation effectively will taketime. Given that competition law is appliedon a case-by-case basis, dealing with systemictrade and investment barriers and with gov-ernment regulations that restrict competitionmay generate a higher rate of return (seechapter 3). Kee and Hoekman (2002) haveinvestigated the effect of the existence of acompetition law on estimated industrymarkups over cost. They used cross-country,cross-industry time series panel regressionsthat include data on the number of firms byindustry (turnover), sales (market size), andimport competition. They concluded thatantitrust legislation on its own has no effecton markups, but that imports and entry havea major and statistically significant effect inreducing markups (see chapter 3). Competi-tion law is found to have an indirect effect,however, by reducing the first order marginaleffect of imports and by reinforcing the mar-ginal effect of domestic competition. Thateffect is stronger in the more-developed andlarger economies.

The effect of government policies that re-strict competition for nontradables may bemore important from a development perspec-tive than is antitrust enforcement, becausethose policies affect the price and quality ofkey intermediate inputs that determine thecompetitiveness of industries on world mar-kets (for example, Fink, Mattoo, and Neagu2002; Francois and Wooton 2001). Depend-ing on the capacity of government, a role mayexist for a competition agency that reviewsnew policy and regulatory barriers to compe-tition (see chapter 3, this volume, as well asAnderson and Holmes 2002).

As Winters (2002) notes, administration ofcompetition law is complex, and its misappli-cation can have a costly and chilling effect oninvestment. Issues relating to the institutionaldesign, the independence of investigating au-thorities, the effective judicial review andappeal mechanisms, and the availability of


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expertise—both legal and analytical—are allcritical issues for the effective application ofantitrust law. Therefore, the development ofcompetition law in many countries has oc-curred gradually over a long period, and con-tinues to evolve. The necessary administrativeapparatus cannot be put into place within ashort time frame. The institutional guaranteesnecessary for a competition authority to beindependent from eventual political influence(so that it can concentrate on its mandate) re-quire government acceptance that branches of

the national administration will operate out-side its direct control. Until a few decades agomost European Union member states had noexperience in the field of antitrust. Before agovernment determines national priorities,both the costs and benefits of competition en-forcement ought to be considered, includingthe possibility of perverse outcomes throughcapture or corruption.

This discussion suggests that the reciprocalbargaining and enforcement framework ofthe WTO is less well suited to collective action


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Several entities outside the WTO have activities thatare germane to competition policy. For example,

the OECD launched a Global Forum on Competitionin October 2001 to stimulate a comprehensive policydialogue about competition, and that goes beyond itsprevious activity of providing technical assistance.The Forum, backed by the OECD’s Committee onCompetition Law and Policy, engages in high-leveldiscussions with key officials from member and non-member countries, including countries that do nothave well-developed competition enforcement author-ities. The objective of the Forum is, first, to encouragecommon understanding and sharing of experiencesamong a larger number of competition officials and,second, to generate benefits through cooperation,conflict prevention, and voluntary convergence. Itsfirst meeting successfully highlighted the role ofcompetition policy and of its authorities in economicreform; it also fomented greater international cooper-ation on such matters. The latest semiannual meetingin February 2002 discussed the merits of competitionpolicy for developing economies, international coop-eration in merger and cartel cases, capacity building,and technical assistance. In addition, the forum bene-fits from contributions of regional organizations suchas the Common Market for Eastern and SouthernAfrica and international organizations such as theWorld Bank, UNCTAD, and the WTO.

Another example of an entity outside the WTOwith activities germane to competition policy is the

Box 4.7 International cooperation aids competition policy

ICN, created on October 25, 2001, to deal with in-ternational antitrust enforcement through regularconsultations between government officials, privatefirms, and NGOs from around the world. Accordingto its mandate, the ICN will “formulate proposalsfor procedural and substantive convergence througha results-oriented agenda and structure.” Its specialstatus stems from the fact that it is maintained by theenforcement authorities themselves, has voluntarymembership, and is not bound by rules, but ratherby a community of interests. The first annual confer-ence was held in Italy during 2002 and sparked dis-cussions on reforms to the merger review process;the advocacy role and activities of competition agen-cies (especially in developing and emergingeconomies); and recommendations on best practices.Individual enforcement authorities will have the flex-ibility to make decisions on the most suitable meansof implementing the recommendations. The ICN willaddress complex issues, and newly established com-petition authorities will no doubt benefit from thecollective experience of other member agencies.

Though it is too early to gauge the success ofthe Global Forum on Competition and the ICN interms of fostering global cooperation, they play auseful role in disseminating information on bestpractices for implementing a competition law policy.


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on competition law than international col-laboration through development assistanceand other venues. To be sure, internationalnegotiations can help reinforce progressivedomestic reforms in competition law (seeBirdsall and Lawrence 1999).18 However, inthis complex area of domestic regulation, onesize does not fit all, and, as many WTO mem-bers have noted, cooperation on competition-law policy requires establishing a domesticenforcement capacity that at present is beyondthe reach of many developing countries. Otherchannels can help disseminate best practices tocountries wishing to strengthen their competi-tive conditions. Several agencies and forumshave work programs on international compe-tition policy. These agencies include theOECD, UNCTAD, and the InternationalCompetition Network (ICN) (see box 4.7).The OECD and UNCTAD have developedtheir own guidelines or recommendations fortackling international cartels, but they have nopowers of enforcement or investigation. Thenascent ICN has focused more on interna-tional mergers and acquisitions, and it is in-tended to facilitate information exchange anddissemination of best practices.

Conclusions

For both investment and competition policy,domestic reforms that are implemented

unilaterally in the national interest of promot-ing a sound investment climate and a morecompetitive economy are likely to yield themost direct and positive effect on growth andpoverty reduction. The international commu-nity can assist the reform process throughmultilateral and bilateral development assis-tance, government-to-government informa-tion exchanges, and private efforts to informand assist reform-minded governments. Coun-tries may be able to use regional and multi-lateral agreements to motivate progressive re-forms at home at the same time that they usereforms to leverage reforms abroad to pro-mote development. Yet to be effective, theseagreements must be designed to achieve spe-

cific objectives that will be important to de-veloping and reinforcing positive domesticpolicies rather than distorting them.

For investment policy, international agree-ments may help increase flows of foreigninvestment, but evidence suggests that thesebenefits are likely to be limited unless theyfocus on creating nondiscriminatory termsof liberalization and on eliminating adversepolicy externalities. Agreements that curbbeggar-thy-neighbor investment policies thatdistort investment location are particularlyimportant in two areas. One critical area isinvestment-distorting trade barriers—that is,border protections, agricultural subsidies, tar-iff escalation, and other practices that bias in-vestment flows away from developing coun-tries’ export activities because such barriersdiscourage imports from those countries. Asecond critical area is disciplining competitionamong governments to lure foreign invest-ment through wasteful investment incentives.An important initial step is developing an in-ventory of the extent, costs, and distortingconsequences of those incentives. Agreementsshould be carefully designed to limit theirscope to areas where international externali-ties exist. In the case of the WTO, the designshould focus on reducing discrimination andincreasing market access. International coop-eration on the design of domestic regulation ismore effectively provided through develop-ment assistance—whether bilateral, regional,or multilateral.

For competition policy, an agreementwould potentially have large benefits if itaddressed those restrictions on competition inthe global marketplace that most adverselyaffected developing countries: policy barriersto competition that hurt exporters, private re-straints in the form of international cartels,and officially sanctioned private restraints em-anating from antitrust exemptions. Muchmore information is needed in this area on theprevalence and effects of policies that restrictcompetition. The international communitycan collaborate with developing countries byproviding technical and financial assistance


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to foster mutual learning, information ex-changes, and cooperation on competitionpolicy.

Notes1. WTO 2001a, Paragraphs 20 and 23 in the Doha

WTO Ministerial Declaration. The need for enhancedtechnical assistance and capacity building in theseareas was also recognized.

2. See Ostry 1997; see also Hart 1996.3. United States 1998, as cited in Gilpin 2000: 184.4. See Smythe 1998.5. South-South FDI is calculated by comparing

developing countries’ FDI inflows with recorded out-flows from other regions. This figure may be more ac-curate than others because developing countries oftenunderreport FDI outflows. In addition, round trippingof a country’s own capital can overestimate the FDIfigure (World Bank 2002a).

6. For a cogent description of the predominance ofservices in the NAFTA reservation lists, see Rugmanand Gestrin 1994. See also Gestrin and Rugman 1993.

7. By 2003, all members must have completelyphased out performance requirements that were inplace at the time of the agreement and that were grand-fathered through a notification process. All 27 notifi-cations of policies not consistent with the agreementwere from developing countries. Almost half of noti-fied measures related specifically to the automotive sec-tor. Many of these performance requirements havealready been phased out during the transition period.Ten countries that requested an extension of the tran-sition were granted an additional four years, to 2003.

8. WTO members are faced with two options.First, they can agree to re-open the agreement, whichseems unlikely. Second, they can seek to reduce or elab-orate on the length of the Annex Illustrative List. Theissue is that, even though both notifications and dis-putes have, to date, centered primarily on the “illus-trated” list (notably on local content and, less so, ontrade-balancing requirements), the agreement arguablyprohibits a greater range of as-yet unspecified perfor-mance requirements. Introducing greater specificity inthe language could enlarge the effective coverage of theagreement or confine it to the illustrated list.

9. Within the framework of the ASCM the scopefor discipline lies in the challenge of an investment in-centive that can be shown to be specific, to be withinthe meaning of the agreement, and to be contingent onexport or on having an “adverse effect” on the trade ofanother member. The difficulty of such a challenge de-pends on the specific types of policies that are in ques-tion. One of the key factors in determining a subsidy is

the “financial contribution” that could cover the rangeof fiscal and financial incentives that are used by de-veloped and developing countries. These disciplineshave yet to be tested. In the case of services, the GATSprovides a mandate for developing “necessary multi-lateral disciplines to avoid such trade-distortiveeffects.” The work has progressed slowly.

10. There is evidence of significant investment diver-sion away from the Caribbean Basin countries and to-ward Mexico, but Mexico’s adherence to NAFTA hasalmost certainly been a more important motivating fac-tor than the use of fiscal or financial incentives, whichit can generally ill afford.

11. This is not to deny the potential risk of “invest-ment poaching,” including within developing coun-tries. Studies have indeed documented the negativewelfare implications that derive from incentive pack-ages that merely transfer investment from one locationto another without creating new jobs or improvingproductivity. In the case of Brazil, for instance, the con-sensus among researchers is that heavily indebtedstates have granted very large tax breaks to automotivecompanies to build factories that the companies hadintended to build in Brazil anyway (Rodríguez-Poseand Arbix 2001).

12. Producer support estimates are the annualmonetary value of gross transfers from consumersand taxpayers to support agricultural producers. Thesenumbers are taken from World Bank–IMF 2002.

13. The fact that predation has very little to do withantidumping as it is practiced is perhaps best illustratedby the United States, which has two antidumpingstatutes. One, the Antidumping Act of 1916, maintainsa predation standard for antidumping; the other, theTariff Act of 1930, as amended, has a price and cost-discrimination standard. Invariably cases invoke thesecond act and not the first.

14. Epstein and Newfarmer 1980, for example,found that a cartel for heavy industry operated off andon from December 1939 through the mid-1970s, withovercharges of more than 20 percent on sales of steamturbines and other products.

15. WTO members with established competitionenforcement seem to insist that a precondition for co-operation is that developing countries adopt legislationand establish enforcement capacity: “[C]ooperationwith respect to competition matters [is] only possiblewhen a competition regime [is] already in operation;that is, when there [is] a domestic competition law ofsome sort and a domestic competition authority ex-isted with sufficient powers to effectively enforce thatlaw . . . . While cooperation could be provided within avoluntary framework of mutual interest, it would notbe possible for a developing country to eradicate anti-competitive practices which had an impact on their


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markets unless it also developed a national competitionlaw” (WTO 2001c: 27, para. 79).

16. See World Bank 2002c for a fuller discussion ofconferences on ocean liners.

17. See WTO 2002.18. Birdsall and Lawrence (1999) write: “When de-

veloping countries enter into modern trade agreements,they often make certain commitments to particulardomestic policies—for example, to antitrust or othercompetition policy. Agreeing to such policies can be inthe interests of developing countries (beyond the tradebenefits directly obtained) because the commitmentcan reinforce the internal reform process. Indeed, partic-ipation in an international agreement can make feasi-ble internal reforms that are beneficial for the countryas a whole [and] that might otherwise be successfullyresisted by interest groups.”

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