A Critical Focus of the Benefits of Trade Liberalization for Developing Countries

Introduction

Trade Liberalization refers to the reduction or removal of barriers/restrictions on free trade (exchange of goods and services) between nations. This involves the reduction or removal of both non-tariffs as well as tariff obstacles. Non tariff obstacles include quotas and licensing rules, among others whereas tariff obstacles include surcharges and duties (Cline, 2012). The eradication or easing of these barriers promotes free trade among different countries. Proponents of trade liberalization allude to the fact that trade liberalization eventually reduces consumer costs, enhances efficiency ultimately fostering economic growth. However, the critics of trade liberalization argue that it risks jobs and even lives, since the market gets flooded by cheaper goods some of which may be of questionable quality (Craigwell, 2007). This paper explores trade liberalization based on the thesis that it has been good for developing countries.

Trade Barriers: Tariffs and Non-Tariff Trade Barriers

Over the past two centuries, the changing pattern of world trade has been shaped by two great opposing forces. These are the protection from free trade and the promotion of free trade by different countries (Dollar, 2008). Trade protection refers to the process of putting barriers to trade by a country while trade liberalization attempts to make trade free of such barriers (Kym, Will and Dominique 2005).Trade barriers are classified into two broad categories namely, Tariffs and Non-tariff barriers (NTBs). A tariff barrier may be in the form of taxes on imports or on exports (international trade tariff). A tariff may also refer to a list of prices for things like rail services, electrical usage – electrical tariff and bus routes (Cline, 2012). The economic theory views tariffs as a fundamental element for international trade whose function is to affect the flow of trading activities by controlling (raising/lowering) the prices of particular targeted goods/services. This aims at creating what may amount to an induced competitive advantage (Dollar, 2008).

Non-tariff trade barriers, on the other hand, refer to “trade barriers that restrict imports but are not in the usual form of a tariff. Some common examples of NTB’s are anti-dumping measures and countervailing duties, which, although called non-tariff barriers, have the effect of tariffs once they are enacted” (Cline, 2012, 16). NTBs include Licenses, quotas, embargo, standards, administrative/bureaucratic entrance delays, import deposits as well as foreign exchange controls and restrictions. The most commonly used instruments for direct import (and at times export) regulation are licenses and quotas (Dollar, 1998). The system of licenses demands that a nation issues foreign trade permits for transactions involving import/export of such good and services as per the list of licensed merchandises (Cline, 2012). Licensing is based on various international level agreements on standards particularly, the General Agreement on Tariffs and Trade (GATT) as well as the Agreement on Import Licensing Procedures (Thirlwall and Pacheco, 2008).

Foreign trade licensing closely relates to quotas – quantitative restrictions on exports/imports of some goods. “A quota is a limitation, in value or in physical terms, that is imposed on imports and exports of certain goods for a certain period of time Thirlwall and Pacheco, 2008). This category comprises global quotas with respect to particular countries, voluntary export restraints and seasonal quotas. Quotas are a direct government administrative system for regulating foreign trade (Cline, 2012). Quotas and licenses limit an enterprise’s independence of entering foreign markets. They also narrow the range of nations with which trade can occur as well as control the range and number of goods allowed for export and import (Tornell, 2002). However, licensing and the quota systems have proved to be more effective and flexible as compared to economic methods of regulating foreign trade by establishing strong controls over trade. This may be attributed to the fact that quota and licensing systems have become important methods regulating trade for a majority of nations in the world (Kym, Will and Dominique 2005).

Estimated Benefits of Trade Liberalization in the Developing World

The results of the World Bank indicated that by 2015, there would be a yearly global welfare growth of US $286 billion more than the growth would be without trade liberalization. Out of these global gains the World Bank noted that the developing countries would gain the largest share of approximately US $100 billion from liberalization of trade in agricultural goods and services (World Bank, 2012). About US $80 billion of the gain is likely to accrue from liberalizing trade in agriculture in the developing world. In fact, in case high-income nations liberalize their agricultural trade as well, the developing countries would gain some additional US $20 billion (World Bank, 2001). Agriculture is the backbone of most economies in the developing world. Liberalization of the sector has therefore given them an opportunity to access the vast market in the developed world. This explains why agricultural trade liberalization in the developed world still gives additional gains to the developing countries (Cline, 2012).

Similarly, trade liberalization in manufactured goods by the developing world would gain them about US $33 billion annually by 2015. However, trade liberalization in manufactured goods by high-income nations would earn the developing countries an additional US $25 billion per annum (World Bank, 2012). This contradicts the common belief that prosperity of the developing nations primarily depends on trade liberalization in the developed world (Kym, Will and Dominique 2005).As a matter of fact, liberalization in the developed world would benefit developing nations less (US $45 billion) as compared to US $113 billion that they would benefit from liberalization in the developing world itself (World Bank, 2012). This World Bank study was used by most countries in the developing world, especially in Sub-Saharan Africa to formulate fundamental frameworks towards liberalization of trade in both agriculture as well as trade in manufactured goods with designated countries in the developed world (Dollar, 1998).

William Cline (2012) also estimated global welfare benefits due to complete elimination export subsidies, tariffs, input subsidies as well as export taxes. From his study, Cline pointed to an annual global welfare gain of US $228 billion by 2015, an equivalent of 0.93% increase in annual global GDP. For the developing world, the gains would add up to US $87 billion which equates to 1.35% of the GDP of the developing world while the developed world would gain US $141 billion, a mere 0.78% of their GDP (Cline, 2012). Cline’s scenario indicates greater absolute benefits by the developed nations. However, it is necessary to recognize developing countries would have superior relative benefits. With annual GDP growth boosted by 1.35% developing nations will grow 0.57% times faster than developed nations (World Bank, 2012). Global trade liberalization would also have significant impact on poverty alleviation. According to the World Bank, trade liberalization would result in enhanced economic growth that would cut poverty (based on daily per capita income of below US $1) to 12.5% in 2015 from 29% in 1990 (Winters, 2004).

Empirical Evidence: The Case of Sub-Saharan Africa

Recently, Kym, Will and Dominique (2005) conducted a study on Sub-Saharan Africa (SSA) that was commissioned by the World Bank. The study presents cross country national cases of the dollar value of Sub-Saharan Africa welfare gains from full trade liberalization of the world wide merchandise. Taking the year 2001 as the reference year, they approximated that by the year 2015, Sub-Saharan Africa would have its yearly welfare growth US $4.8 billion more than it could be without any trade liberalization (World Bank, 2001). However, it is important to note that Sub-Saharan Africa would have a relatively smaller welfare gain from world trade liberalization as compared to many of the other developing regions such as the Caribbean and Latin America which would earn approximately US $29 billion per annum (Cline, 2012). However, this does not rule out the fact that trade liberalization has earned the developing world overalls higher welfare gains to boost their economies than it would be in a closed market scenario (World Bank, 2001).

In addition, World Bank studies indicate that Sub-Saharan Africa stands to benefit more from internal liberalization of trade. According to the World Bank’s Development Prospects Group, it is estimated that the welfare benefits that Sub-Saharan Africa would get from simple tariff trade liberalization by African countries would be tremendous. By the year 2015, the yearly welfare growth expected in Sub-Saharan Africa would stand at US $1.746 billion more than it will be without intra-SSA tariff trade liberalizations taking place (Cline, 2012). This would be an equivalent of 6.4% of total annual welfare benefits that Sub-Saharan Africa will gain from full trade liberalization of the global merchandise (US $4.8 billion). Furthermore, Intra Sub-Saharan trade will increase by US $12.6 billion which represents a 54% increase (Kym, Will and Dominique 2005). With reference to 2001, this clearly indicates how trade liberalization has and still stands to benefit the economy of SSA and the developing world in general.

With view of the widespread poverty in SSA and the developing world, the World Bank, estimated that “Even if Sub-Saharan Africa could turn her falling per capita incomes into annual increases of 1.6 percent—an assumed baseline scenario—its rate of growth would be less than one-third of the rate of growth that is expected in East Asia. The relatively poor performance of Sub-Saharan Africa makes the Millennium Development Goals (MDGs) for the African region especially challenging” ( Tornell, 2008, 76). For instance, the World Bank pointed to a baseline study indicating that the fraction of Africans living on about US $1 per day or even less would be only 42.3% in 2015 other than the 24% target of the millennium (Cline, 2012). However, it is important to note that even 42.3% level of poverty will still reflect a significant reduction in poverty levels compared to the reference year 2001 when poverty levels in the Sub-Saharan region were reportedly higher than the estimate (World Bank, 2001).

William Cline (2012) also estimated a 20% poverty reduction all over the world as a result of trade liberalization. According to him, out of about 2.75 billion people reportedly living on below US $2 a day, 540 million people are likely to be saved from poverty by the year 2015.

However, out of the developing world, he significantly warns that Asia will benefit from a greater share of poverty reduction as opposed to Sub-Saharan Africa (World Bank, 2001). Asia and Sub-Saharan Africa are the two world’s poorest regions. However, according to the study, Cline pointed out that Asia will reduce her poor population by up to 23% while Sub-Saharan Africa would only manage a poverty reduction of 12% (Cline, 2012).As a result, economists have suggested that liberalization of trade in Sub-Saharan Africa requires being associated with domestic socio-economic and political reforms, which would work to make sure that capital is available and it remains in Sub-Saharan Africa. Plans should also be instituted to ensure that the available capital is utilized in a productive way (World Bank, 2001).

Risks of Trade Liberalization

Although trade liberalization has had significant benefits on both the developed and the developing world, lobby groups as well as protestors opposed to trade liberalization and free trade have cited various possible risks. They argue that removal of the trade barriers may result in short-term structural unemployment which can impact many workers, families as well as local economies. It may be hard for such workers to get employment within the growth industry hence government interventions may be necessary (Mandelbaum, 2003). There is also the risk of an increase in domestic economic instability out of international trade cycles as a result of economies becoming highly dependent on the global markets. Thus, businesses, consumers and employees are more susceptible to economic downturns of their trading partners. For instance, the US economic recession led to a decrease in demand for Australia’s exports. This reduced export incomes, lowered the GDP, reduced incomes, lowered internal demand and raised unemployment levels (World Bank, 2001).

Moreover, international markets never offer a level trading field because nations having surplus products can dump the products to the world market at very low costs. In such conditions, some very efficient industries can find competition for long periods difficult (Dornbusch, 1993).In addition, countries with largely agriculture-dependent economies face unfavorable trade terms (export to import prices ratio). This is where their income from exports becomes much less than their expenditure on imports hence large CADs as well as subsequent huge foreign debts (Mary, 2005). Another risk that is often associated with free trade is that new/developing industries find it hard to get established in such a competitive environment, especially in the absence of short-term government protection policies. It is also extremely difficult to create economies of scale in presence of competition from established foreign enterprises. This applies mostly in infant economies or developing industries (Edwards, 1998).

Free trade may also lead to cases of rising pollution as well as other environmental degradation problems. This is because companies may fail to involve these costs in pricing their goods as they try to compete with companies operating under weaker environmental laws in their countries (Mary, 2005). Finally, trade liberalization and free trade may increase pressure of increasing protection during global financial crises. During the recent 2008-2009 global recession and financial crisis, the effect of rising unemployment was a clear indication that pressures for protection had started rising in many nations (Mandelbaum, 2003). For example, in New South Wales, the government received sharp criticism for importing police and firefighters’ uniforms at lower prices instead of purchasing the same from local companies in Australia. Similar pressure was also experienced by governments of developed countries such as the Britain, the United States of America and other countries in Europe (Dornbusch, 1993).

Conclusion

Trade liberalization is the reduction removal of artificial barriers that restrict trade among countries. The barriers may be in form of tariffs or non-tariff restrictions. Free trade has been beneficial to developed countries but also much more to the developing world. Global welfare gains have increased tremendously with trade liberalization, with developing countries taking a considerable share of the gain especially due to liberalization of their agricultural sectors. It has also been proven that even liberalization in the developed world had greater benefit to developing countries than the developed world. Cross national case studies in the developing world indicates that the greatest beneficiary by 2015 would be Asia at 23% poverty reduction rate as compared to SSA which would only manage 13%. Though it poses potential risk to employment, domestic economic instability and unlevel trading ground in the international market, trade liberalization has been good for developing countries to boost their economic growth and reduce poverty levels.

List of References

Cline, W., (2012). Global Welfare Gains Resulting From Complete Elimination of Tariffs, Export Subsidies, Input Subsidies, And Export Taxes. Trade Policy and Global Poverty, 23(2), pp. 179–82.

Craigwell, R., 2007. Tourism Competitiveness in Small Developing States. UNUWIDER, Research Journal, 19(13), pp.67-68

Dollar, D., 1998. Outward-oriented developing economies really do grow more rapidly. Economic Development and Cultural Change, 19(3), pp. 65-72.

Dollar, D., and Kray, A., 2004. Trade, growth and poverty. Economic Journal. 12(111), pp.112-123

Dornbusch, R.,1993. Policy-Making in the Open Economy. London: Oxford University Press

Edwards , S., 1998. Openness, productivity and growth: what do we really know? Economic Journal, 34(2), pp.19-20

Edwards, S., 1993. Openness, trade liberalization and growth in developing countries. Journal of Economic Literature, 5(2), p.56

Kym,A.,Will,M., and Dominique, V.M., 2005. Would Multilateral Trade Reform Benefit Sub-Saharan Africans?”CEPR Discussion, 34(49), p.6

Mandelbaum, M., 2003. The Ideas that Conquered the World: Peace, Democracy, and Free Markets in the Twenty-First Century. New York: Pantheon Networks Ltd.

Mary,A., 2005. Tough Unions Make It a CAFTA Holdout. Wall Street Journal, 23(5), pp.12-14

Matthews, R., 1986. The Economics of Institutions and the Source of Growth. Economic Journal, 96(1), pp. 903-18.

Rodrik, D., Subramanian, A., and Trebbi, F., 2008. Institutions rule: the primacy of institutions over geography and integration in economic development. Journal of Economic Studies 3(97), p.45

Santos, P.A., and and Thirlwall, A., 2004. Trade liberalization and economic performance in developing countries. Economic Journal, 24(2), pp.56-58

The World Bank, 2005. Organization of Eastern Caribbean States: Towards a New Agenda for Growth. Caribbean Country Management Unit, 12(112), pp.67-89.

Thirlwall, A.P., and Pacheco, L.P., 2008. Trade Liberalisation and the Poverty of Nations, Kingstone: Edward Elgar.

Tornell, A., 2002. Economic Crises and Reform in Mexico. Crony Capitalism and Economic Growth in Latin America: Theory and Evidence, 6(9), pp.89-102)

Wacziarg, R., and Karen, H.w., 2008. Trade Liberalization and Growth: New Evidence. World Bank Economic Review, 22(2), pp. 187-231.

Weiss, J., 1995. Economic Policy in Developing Countries, New York: Prentice Hall,

Winters, A., 2004. Trade Liberalization and Economic Performance: An Overview. The Economic Journal, 114 (21), pp. 55-67.