Let me introduce myself…

• Professor Alan Matthews• Professor Emeritus of

European Agricultural Policy in the Department of Economics

• Former Director, Institute for International Integration Studies

• Particular research interests in agriculture, trade and development

Outline for my course contribution

• Trade and protectionism

• Balance of payments and exchange rates

• Green growth: growth and environment

• Addressing imbalances: Future issues for the global economy

• [Role of the financial system]

Rafique Mottiar

Trade and Protectionism

Session 4Macroeconomics and the International

EconomyMSc Economic Policy Studies

Alan Matthews

The policy context

• The WTO Doha Round of multilateral trade negotiations

• New EU trade policy late 2010

• Focus now on bilaterals and ‘megaregionals’

• Commodity market turmoil

• Challenges/opportunities for Ireland?

Learning objectives

• Describe some of the stylised facts about trends in international trade

• Review our understanding of the gains from trade• Identify barriers to trade and trade protectionism• Explain the role of the WTO in setting trade rules

and encouraging further trade liberalisation• Describe significance of new generation of regional

trade agreements• Discuss Ireland’s trade policy objectives in the

context of the global economic crisis

Section 1.

Stylised facts about trade

Global trade – stylised facts

• Most trade takes place between the North America, Europe and East Asia

• Some developing countries now important suppliers of manufactured exports

• Shift in importance from commodities to goods to services• Significance of intra-industry trade• Success of multilateral system in liberalising trade in

goods…• .. But paradoxical increase in interest in RTAs• .. And growing hostility to further trade liberalisation

Source: WTO International Trade

Statistics 2012

Ireland’s export profile

Structure of Irish merchandise trade

Source: WTO Trade Profiles

Structure of Irish services trade

Source: WTO Trade Profiles

.. But free trade is not popular

Section 2.

Review of gains from trade

The various gains from trade

• Traditional gains– Comparative advantage– Variety of products

• Modern extensions– Competition and contestability– Economies of scale and scope– Innovation and R&D– Product and quality improvement

World Price and Comparative Advantage

If a country has a comparative advantage, then the domestic price will be below the world price, and the country will be an exporter of the good.

If the country does not have a comparative advantage, then the domestic price will be higher than the world price, and the country will be an importer of the good.

Priceof Steel

0 Quantityof Steel

Domesticdemand

International Trade in an Exporting Country...

Domesticsupply

Worldprice

Price after trade

Price before trade

Priceof Steel

0 Quantityof Steel

Worldprice

Domesticdemand

How Free Trade Affects Welfare in an Exporting Country...

Domesticsupply

Price after trade

Price before trade

A

B

C

D

Exports

Priceof Steel

0 Quantityof Steel

Worldprice

Domesticdemand

How Free Trade Affects Welfare in an Exporting Country...

Domesticsupply

Price after trade

Price before trade

A

Consumer surplusbefore trade

B

C

Producer surplusbefore trade

Priceof Steel

0 Quantityof Steel

Worldprice

Domesticdemand

How Free Trade Affects Welfare in an Exporting Country...

Domesticsupply

Price after trade

Price before trade

A

Consumer surplusafter trade

C

B

Producer surplusafter trade

D

Exports

How Free Trade Affects Welfare in an Exporting Country

The analysis of an exporting country yields two conclusions:

Domestic producers of the good are better off, and domestic consumers of the good are worse off.

Trade raises the economic well-being of the nation as a whole, i.e., the potential size of the cake for redistribution.

International Trade and the Importing Country...

Priceof Steel

0 Quantityof Steel

Domesticsupply

Domestic demand

World Price

Price after trade

Price before trade

How Free Trade Affects Welfare in an Importing Country...

Priceof Steel

0 Quantityof Steel

Domesticsupply

World Price

Domestic demand

Price after trade

Price before trade

A

B

C

D

Imports

How Free Trade Affects Welfare in an Importing Country...

Priceof Steel

0 Quantityof Steel

Domesticsupply

World Price

Domestic demand

Price after trade

Price before trade

A

Consumer surplusbefore trade

C

B

Producer surplusbefore trade

How Free Trade Affects Welfare in an Importing Country...

Priceof Steel

0 Quantityof Steel

Domesticsupply

World Price

Domestic demand

Price after trade

Price before trade

A

Consumer surplusafter trade

B D

CProducer surplus

after trade

Imports

How Free Trade Affects Welfare in an Importing Country

The analysis of an importing country yields two conclusions:– Domestic producers of the good are worse off,

and domestic consumers of the good are better off.

– But N.B. – trade raises the economic well-being of the

nation as a whole because the gains of consumers exceed the losses of producers.

The Gains and Losses from Free International Trade

• The gains of the winners exceed the losses of the losers.

• The net change in total surplus is positive.

• This is the basis for the pro-trade stance of economists

• So… trade is beneficial, but what is the basis for trade?

Efficiency gains from trade

Production per person per working dayAbsolute advantage

Comparative advantage

UK more efficient in clothing, Portugal in wine

Portugal more efficient producer of both clothing and wine – but trade still mutually beneficial because of differences in relative costs. Wine

is more expensive in the UK, clothing is more expensive in Portugal

Portugal England Wine 6 3 Clothing 4 7

Portugal England Wine 6 3 Clothing 4 3

Comparative advantage in action

• England– Two workers reallocated from wine to clothing implies– -6W + 6C– Clothing is exported to Portugal in exchange for wine– -6C + 9W– Net result: -6W + 9W = +3W

• Portugal– Exports 9W in exchange for 6C from England:– -9W + 6C– To produce 9W it must give up 6C in domestic product– +9W – 6C– Net result: 0

Gains from trade again

Comparative cost trade theories

• Differences in technology (labour productivity - Ricardo)

• Differences in domestic endowments (Heckscher-Ohlin)– factor price equalisation

– remuneration increases for the factor that is employed most intensively in the commodity whose price increases

– empirical performance in explaining trade flows?

Further sources of trade gains

• Gains from enhanced competition and contestability of markets – reduced X-inefficiency (‘cold shower’ effect)

• Gains from exploiting economies of scale (“Smithian gains”)

• Gains from greater product variety– Intra-industry trade

• Growth effects– Gains from the stimulus to investment and thus economic

growth– Technological spillovers and productivity effects

• Political arguments for free trade (avoidance of ‘rent-seeking’)

Empirical evidence on trade gains/costs of protection

• Empirical estimates of the classical gains from trade (and thus the cost of limiting trade) are quite limited, rarely more than 0.5% of GNP

• Much greater welfare effects arise if account is taken of modern sources of gains from trade

• The costs of trade policy intervention can be quite high if political economy considerations are factored in.

Section 3.

Trade policy instruments

Arguments for protectionist trade policy

• Tariffs as a source of revenue• Optimum tariff argument (for large countries) • Industrial policy considerations

– infant industry argument (learning economies)– external benefits: the strategic industry argument

• Strategic trade theory (profit-shifting) argument• Non-trade concerns (e.g. food security, rural environment)• Protection against ‘unfair’ competition due to lower costs or

standards• Concerns over unemployment and adjustment costs

http://economics.about.com/od/international- trade/a/The-Arguments-Against-Free-Trade.htm

Trade policy instruments

• Tariffs (specific, ad valorem and variable)

• Quotas (what happens to rents)

• Voluntary export restraints

• Contingent protection (anti-dumping)

• Beyond-the-border barriers (regulatory regimes)– (evidence from the EU single market)

• Trade facilitation measures

Partial equilibrium analysis of tariffs

Q2 Q4 Q3 Q1

Pw

Pw'

Price

Quantity

SH DH

.. lower tariffs improve welfare

A B C D

Why is trade policy controversial?

• Trade and unemployment (trade costs jobs)• Trade and income distribution (distribution

within countries)• Trade and convergence (distribution of

income between countries)• Trade and environment (pollution haven

hypothesis)• Trade and labour standards (race to the

bottom)

More reasons why trade policy is controversial

• Trade and consumer non-trade concerns

• Trade and public services

• Debates about trade rules– Multilateral versus regional approaches– Governance arrangements for trade policy-

making and role of the WTO– Unfair rules for developing countries.

Section 4.

Trade policy rules

EU trade policy making• Common Commercial Policy

– Qualified majority voting..except when unanimity required in internal decisions, plus cultural and audiovisual services [social, education, health services]

• Council – approves mandate for trade negotiations and outcome

• Article 133 Committee• European Parliament – following Lisbon Treaty must be

consulted on progress of negotiations and has power of assent on ‘take it or leave it’ basis. Decides trade regulations using Ordinary Legislative Procedure.

• Commission – conducts negotiations under the Council mandate

World Trade Organisation• Established 1995• One member, one vote – principle of consensus• Sets rules, monitors rules and acts as forum for further trade

liberalisation

• General Agreement on Tariffs and Trade (GATT 1994)– Multilateral Trade Agreements, including

• Agreement on Technical Barriers to Trade• Agreement on Agriculture• Agreement on Sanitary and Phytosanitary Standards• Agreement on Textiles and Clothing• Agreements on Subsidies and Anti-Dumping (measures against unfair

trade)

– Plurilateral Trade Agreements• General Agreement on Trade and Services (GATS)• Trade-Related Aspects of Intellectual Property Rights

WTO general norms (1)

• Non-discrimination– Most Favoured Nation (MFN) treatment of like

products (BUT exceptions for free trade arrangements)

– National treatment

• Reciprocity– the political economy justification for

multilateral trade negotiations

WTO general norms (2)

• Enforced commitments– tariff bindings and Schedules

• Transparency– Trade Policy Review Mechanism

• Safety valves– restrictions in the case of serious balance-of-payments

difficulties or to support infant industries– Article XX - general exceptions allowing trade

restrictions• Disciplines on unfair trade practices (subsidies)• Disciplines on technical barriers to trade

(standards, food safety)

WTO dispute settlement

• Binding arbitration

• Possibility of retaliation

• Key US – EU trade disputes

Achievements of the Uruguay Round

• Eighth negotiating round

• Extended GATT disciplines to agriculture and services

• Completed as a single undertaking

• But with principle of special and differential treatment for developing countries

Agreement on Agriculture

• Agriculture was previously outside GATT disciplines

• Introduced a three pillar structure– Market access

– Export subsidies

– Domestic support

• Included a rendez-vous clause• Food safety and technical barriers covered by

separate Agreements

GATS as a framework agreement

• General obligations– MFN treatment: applies across all sectors regardless whether

specific commitments have been made unless specific exemptions notified initially

• Specific commitments related to specific sectors– These relate to three areas (i) market access (ii) national treatment

and (iii) other commitments

– Commitments only apply to sectors scheduled and may prescribe conditions and qualifications

• Understanding that periodic negotiations will be undertaken to progressively liberalise trade in services

Problems of services negotiations

• Market access barriers are entirely regulatory - not traditional border barriers

• Market access is not divisible (like tariffs) - all or nothing

• Difficult to quantify concessions for the purpose of determining reciprocity

• Developing countries are net importers of services - saw few possibilities for export gains

Section 5

Trade policy issues

EU trade policy

• Global Europe 2006– Strong commitment to multilateral WTO process

– Marked end of de facto moratorium on competitiveness-oriented FTAs

– Negotiations launched with Korea, India and ASEAN in 2007, with Canada 2009 and Mercosur 2010.

– Korea FTA now approved , also Peru, Columbia, Central America

– Reformulation of ‘development’ trade agreements• EBA, EuroMed, GSP, EPAs

EU focus on non-tariff barriers

• Regulatory issues

• Intellectual property rights

• Government procurement

• Foreign investment protection and liberalisation

• Services

• Link with the Single Market– Implementation of the Services Directive

• Export restrictions on raw materials and energy

• Keep focus on the big trading partners without agreements – US, China, Russia, Japan, India, Brazil – which account for 50% of EU trade

WTO Doha Round

• Unfinished business from Uruguay Round

• The Doha Development Round 2001– Seattle, Doha, Cancun, Hong Kong, Geneva

• Covers agriculture, manufactures, services, rules

• Negotiations to date – role of developing countries

What’s on the table?

• Significant further reductions in manufacturing tariffs, but disagreement on the balance between developed and developing countries

• Ambitious cuts in agricultural tariffs and subsidies, but with flexibilities

• Disappointing offers in services to date

• Some progress on rules issues

Regionalism

• Appears to liberalise trade, so what is the problem?

• Inherently discriminatory, and therefore inefficient due to trade diversion costs

• Role of rules of origin• But when tariffs are low, trade diversion costs

insignificant• Reduced regulatory barriers are inherently non-

discriminatory

Illustrating Viner's trade creation and trade diversion effects

Country A(Home)

B(Partner)

C(World)

Price = unit costs 35 25 20Price including 100 per centtariff

- 50 40

Price including 50 per cent tariff - 37.5 30

Trade creation: the welfare change due to the replacement of (higher-cost) domestic production of import goods by

(lower-cost) imports

Trade diversion: the welfare change due to the replacement of imports from a low cost source by imports from a high

cost source

Trade creation and diversion - small country in a small union

yx

z

PW(1+t)=PW'

PU

PW

Price

SH D

H

SW

SU

SW'

a b

SU'PU(1+t)=PU'

B C D E Quantity

EU objectives in the Doha Round of WTO trade negotiations

• To further liberalise access to overseas markets for EU goods and particularly services

• To strengthen coverage of WTO rules in areas such as investment, competition, transparency in government procurement, intellectual property and trade facilitation.

• To ensure more assistance is provided to developing countries to help their integration into the world economy

• To get the WTO to focus more on issues of public concern such as the environment, animal welfare and food safety

EU and Irish interests in the Doha Round

• Market access– But will we gain enough on non-agriculture and services to offset

problems for agriculture?

• Improved rules– What would be gains from extending rule to investment, competition,

trade facilitation, procurement?

• The development agenda– Coherence with development objectives

• Addressing public concerns– Incorporating environmental and public health concerns into trade

rules

Trade policy today

• Can creeping protectionism be avoided?

• The role of China

• What to do about the Doha Round?

• Agricultural protectionism

• The EU’s strategy of bilateral RTAs

• Addressing governance deficiencies in the WTO

• The developing country agenda

Reading

• McAleese Chapter 17

• Supplementary references:• Brulhart, M and Matthews, A., EU external trade

policy, in El-Agraa, A. ed., The European Union: Politics and Economics, Cambridge University Press

• Policy documents on WTO, EU and Irish trade policy on course website