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Estimating GDP Effects
of Trade Liberalisation
on Developing Countries
A Study by the Centre for Development Policy
and Research, commissioned by Christian Aid
July 4, 2005
Presentation at the School of Oriental
and African Studies
This study estimates GDP losses caused by trade
deficits due to trade liberalisation.
Recent econometric studies suggest that while trade
liberalisation in poor countries led to an increased growth
of both exports and imports, it has caused import growth
to systematically outpace export growth
In a sample of 17 least developed countries, yearly import
growth outpaced yearly export growth by 1.4 percentage points
The effect is not transient, but rather worsens with time,
as the difference in export and import growth rates
Introduction (continued)
Import growth outpacing export growth will cause trade
balance problems; an often neglected result is that it will
also lead to lower national income as net demand for
domestic goods is reduced
The allocation of impacts between GDP and the balance
of payments in each country and year would depend on
private demand and government policy, as well as on the
respective country’s ability to raise additional external
finance for the increase in trade deficit
The problem cannot be fixed by a one-time financing
inflow, but only by either an ever-increasing stream of
external finance (unrealistic), or by an ongoing
depreciation of the real exchange rate.
The Main Question of Our Study
Had trade liberalisation not happened,
what GDP level could have been sustained,
given the same level of external financing?
Computable General Equilibrium (CGE) models are the
accepted method for studying macro effects
Most CGEs postulate full employment and full capacity
utilization, so that no recessionary impacts of deficient
demand are even possible
We build the simplest possible CGE model that has
variable capacity utilization
We use regression results of existing cross-country
studies for behavioral coefficients, national accounts and
government statistics for calibration
We solve the model for every country where sufficient
data is available ( a sample of 32 LDCs and low income
countries), for every post-liberalization year
Basic Causal Chain of the Model
Import demand as
share of GDP
Trade Balance
Specific Modeling Choices
High aggregation level
All accounting is done in dollars
Total external finance is constant across
Compare history in a year to a counterfactual in
the same year
No explicit model of exchange rate behavior
Role of the Real Exchange Rate
Import demand as
share of GDP
Trade Balance
Real Exchange Rate
In Walrasian/neoclassical models, the real exchange
rate adjusts to clear the balance of payments
After trade liberalisation, real exchange rate does in fact
depreciate – but is that sufficient to offset the increase in
import demand?
Testing the Role of the Real
Exchange Rate
To assess the importance of real exchange rate
depreciation in the adjustment to the trade balance
deficit, we conducted sensitivity analysis with respect to
real exchange rate changes
The mitigating effect of real exchange rate adjustment
never exceeded 25% of the overall impact, and was
typically around 10% of the overall impact.
That suggests that exchange rate changes alone are not
a sufficient adjustment instrument to address trade
liberalization-caused balance of payments problems.
The results suggest that over the countries in the
sample, the negative GDP impact of trade liberalisation
was typically between 7% and 18% of GDP
Converting to constant 2000 US dollars, this sums up to
896bn US$ over a 20-year period for all countries in the
The sectors likely to have been most strongly affected by
this GDP loss are manufacturing and the service sector
The manufacturing sector has the highest value-added
The short-term damage to demand for local
manufacturing products is further likely to have led to
decreased investment in manufacturing capacity,
undermining prospects for future growth
The service sector in LDCs is largely informal and
typically contains a large share of the poor