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Globalisation and Free Trade (ch 17) MBA Session 5 Professor Dermot McAleese Trinity College Dublin OUTLINE Trends in global trade Gains from foreign trade Quantifying the gains from trade Why protection failed Competitiveness and Globalisation WHERE ECONOMICS BEGAN Adam Smith, Wealth of Nations, 1776 Productivity the key to wealth of nations (not gold, not balance of trade surplus) Productivity enhanced by specialisation Dexterity Saving of time Machinery invented by workmen Specialisation increased by enlarging the extent of the market Extent of market limited by Trade barriers Monopoly ‘Invisible hand’ will even look after the poor! ‘in a well-governed society, opulence extends itself to the lowest ranks of the people’ TRENDS IN GLOBAL TRADE Growth in trade Composition of trade Trade regimes (GATT, Uruguay Round, WTO) Two Core Principles of WTO • Non-discrimination • National Treatment (banks, insurance, gasoline stations etc) THE FUNCTIONS OF THE WTO Administration and implementation of the 29 multilateral agreements which make up the WTO ( incl agriculture, textiles, GATS, government procurement) A forum for multilateral trade negotiations Resolving trade disputes (200 cases outstanding) Reviewing national trade policies (142 members to date) Co-operating with other global economic policy institutions Table 1. Trade and GDP, 1900-2000 (average annual percentage change in volume) Merchandise trade Gross domestic product 1900-13 1913-50 1950-73 1973-00 4.3 2.5 0.6 2.0 8.2 5.1 4.7 2.8 Source: WTO, Regionalism and the World Trading System (Geneva, April 1995); International Trade Statistics (1995); own estimates Table 1a. Value of world exports, 2000 (US$ billion) World merchandise exports Commercial services Total Source: WTO and own estimates 6180 1415 7595 Table 2. Leading exporters and importers in merchandise trade in 2000 Exporters Rank Country $US bn % share Importers Rank Country $US bn 1 2 3 4 5 6 7 8 9 10 US Germany Japan France UK Canada CHINA Italy Netherlands Hong Kong 782.4 552.0 479.0 298.1 280.1 277.2 249.2 234.6 211.7 202.4 12.3 8.7 7.5 4.7 4.8 4.2 3.9 3.7 3.3 3.2 1 2 3 4 5 6 7 8 9 10 US Germany Japan UK France Canada Italy CHINA Hong Kong Netherlands 1 EU 15 855.4 17.2 2 EU15 Source: WTO, press release, 6 April 2000. % share 1,258.0 500.1 379.5 331.7 305.4 249.1 233.3 225.1 214.0 197.0 18.9 7.5 5.7 5.0 4.6 3.7 3.5 3.4 3.1 3.0 959.2 18.2 Table 3. How important is trade? Country Exports as a % of GDP (1998) The least trade-dependent nations Rwanda Brazil Albania Uganda Argentina India Peru Iran Bangladesh 5 7 9 10 10 11 12 13 14 Major industrial economies (G7 nations) US Japan China Germany France UK Italy Canada 12 11 22 27 27 29 27 41 The world's most trade-dependent nations Singapore Hong Kong Malaysia Ireland Estonia Belgium 153 125 114 80 80 73 Source: World Development Indicators, The World bank (2000). GAINS FROM TRADE Traditional gains comparative advantage variety of products Modern extensions competition and contestability economies of scale and scope innovation and R&D (imports) product and quality improvement ON FOREIGN TRADE ‘No extension of foreign trade will immediately increase the amount of value in a country, although it will very powerfully contribute to increase the mass of commodities, and therefore the sum of enjoyments.’ David Ricardo, Principles of Political Economy and Taxation 1821, Chapter VII The gains from trade liberalization should not only be seen through a narrow economic lens. Trade has also been a vehicle for promoting broader political objectives, especially peace and stability. Trade establishes mutually beneficial links among nations, creating interest in cooperation. It cements relationships among disparate peoples and societies, lessening the risk of conflict, and it strengthens the commitment of governments to rules in the place of realpolitik. World Trade Organization, Annual Report, 1998 Table 4. Developing countries: trade orientation and economic performance 1974-85 1986-92 Strongly outw ard-oriented Real GDP growth Real per capita GDP growth Total factor productivity 8 6.1 2.6 7.5 5.9 3.8 Moderately outw ard-oriented Real GDP growth Real per capita GDP growth Total factor productivity 4.3 2.2 0.9 4.8 2.5 2.4 Moderately inw ard-oriented Real GDP growth Real per capita GDP growth Total factor productivity 4.4 1.8 1.3 2.4 -0.1 0.3 Strongly inw ard-oriented Real GDP growth Real per capita GDP growth Total factor productivity 2.3 -0.3 -0.4 2.5 -0.1 0.3 All developing countries Real GDP growth Real per capita GDP growth Total factor productivity 4.1 1.7 0.8 3.8 1.5 1.4 Source: IMF, World Economic Outlook (May 1993), p. 76. Estimated Annual Income Gains form the Uruguay Round ($bn) US EU Japan Developing economies China Chinese Taipei Other 122 164 27 116 19 10 52 Total 510 COMPARATIVE ADVANTAGE ‘nations should concentrate on what they are best at producing’ International Trade Theory A country can have an absolute disadvantage in all goods and yet gain from trade with the more efficient partner The gain is realised through imports Trade involves mutual gains (trade is a positive sum game) The total gain from trade may be unevenly shared X-EFFICIENCY AND FREE TRADE Wine T’ T 0 T T’ Clothing QUANTIFYING THE GAINS FROM TRADE gains from free trade vs. autarky gains of incremental movement towards freer trade comparative analysis TRADE POLICY AND PROTECTION Sources of possible distortion: Unemployment and the capacity to adjust Foreign monopoly power Failure of prices to signal future changes in comparative advantage Neglect of environmental effects WHY FREE TRADE MIGHT NOT ALWAYS BE BEST POLICY (Adam Smith, Box 17.4) Defence of the country Level playing field Retaliation Transitional protection MODERN ARGUMENTS FOR PROTECTION optimum tariff infant industry income distribution strategic trade theory WHY PROTECTION FAILED • Protected industries started well but became inefficient • Downward pressure on prices for food products (bad for farmers, good for the consumer) • Protection discouraged exports, thus missing out on economies of scale • Protected industries were poor innovators • Protection gave incentive to corruption What determines comparative advantage? What can we export? ‘Comparative advantage is no longer seen as divine inheritance… …nor are market structures and rivals’ behaviour set in tablets of stone’ Cecchini, P., The European Challenge 1992, (Aldershot: Wildwood House, 1988), p. 85 PORTER’S DIAMOND Chance Firm Strategy Structure and Rivalry Factor Conditions Demand Conditions Related and Supporting Industries Government Source: Michael Porter, The Competitive Advantage of Nations (London: Macmillan, 1990) TRADE POLICIES AND NEW TRADE ISSUES how to cope with the losers (Box 17.5) how to maximise the gains trade agreements and the WTO new forms of protection Case Study: Effects of China’s entry into WTO (Dec 2001) • • • • • Some concessions on agriculture Improved access to global market Textiles and clothing agreement Strong foreign investment effect Spur to efficiency in import-competing firms • Underpins market reform process Effects of China’s entry into WTO – Short run costs • • • • Job losses in state operated enterprises Pressure on agriculture Cost of intellectual property agreement Exposure to any downturns in the world economy China’s trade by area 2000 • Exports US Hong Kong Japan Korea EU $bn 52 45 42 11 % 21 18 17 5 18 • • • • • • Imports Japan Taiwan S Korea US EU $bn 42 26 23 22 % 18 11 10 10 15 Higt tech= computers, telecom,electron ics Sitc 77 High tech Exports (% of total exports to OECD) BIS annual report 2001 p.43 • • • • • • • China Hong Kong Indonesia Korea Malaysia Philippines Singapore 20 30 9 41 58 60 77 Thailand 34 Taiwan 50 China and WTO – the view from Geneva There is no doubt that China’s decision to join the WTO is particularly momentous. Opening its markets to foreign trade and investment will make China more prosperous, and commtting China to world trade rules will foster and consolidate market-based reforms. WTO Members stand to gain by better access to an economy of 1.3 billion consumers, which was growing at 8% in 2000. WTO Annual Report 2001 Class Exercise What has the WTO done for the developing countries? NEW TRADE ISSUES Services (GATS) Intellectual property (TRIPS) Environment Direct foreign investment Fair trade and competition Labour standards Bribery and corruption Trade and development in the least developed countries FREE TRADE AND UNEMPLOYMENT Wine A P P* T Clothing Note: If free trade brings the economy from A to P* instead of to P, there will be unemployment. P* is certainly a worse point than P: it could also be wore than A ‘In the past comparative advantage was function of natural-resources endowments and factor proportions (capital-labour ratios). Cotton was grown in the American south because the climate and soil were right. Slavery provided abundant labour. Cotton was spun in New England because it had the capital to harness available waterpower. Each industry has its natural location. Consider what are commonly believed to be the seven key industries of the next few decades – microelectronics, biotechnology, the new materials industries, civilian aviation, telecommunications, robot plus machine tools, and computers plus software. All are brainpower industries. Each could be located anywhere on the face of the globe. Where they will be located depends upon who can organise the brainpower to capture them. In the century ahead comparative advantage will be man-made.’ Lester Thurow, Head to Head: The Coming Economic Battle Among Japan, Europe and America (1992).