The Global Trading System and the Developing Countries in 2000

Working Paper
January 1999

1999 is likely to be a watershed year for the world trading system. The Ministerial Conference of the World Trade Organization in Seattle in November/December hopes to chart a course for global trade policy in the early part of the twenty-first century. The European Union, Japan, the United States, and Canada-the Quadrilateral Group that functions as an informal steering committee for the system-and many other countries have already agreed to use that occasion to launch a Millennium Round of multilateral negotiations to liberalize trade further and write new rules to govern additional types of economic transactions among nations.

At the same time, a substantial backlash against globalization is clearly gathering force in some quarters. If successful, that backlash could both derail the effort to commence new international liberalization initiatives and promote the creation of new protectionist pressures around the world. Some of the backlash can be found in developing countries. Surprisingly, however, very little reaction against trade liberalization has surfaced in the East Asian countries that have been hit hardest by the global financial crisis (and even their pullback from full participation in global financial markets has been quite limited). The most worrisome tendencies are in fact emerging in the United States, despite the continued strong performance of its economy, and it must be of deep concern to all trading countries because of America's pivotal role in both world trade and the functioning of the global trading system.

The developing countries have a very strong interest in the outcome of these global economic debates. "Outward orientation" has become a central tenet of virtually every successful development strategy. Trade has grown twice as fast as world output over the past decade or more. Nineteen of the world's top thirty exporters, counting the European Union as a single entity, are now developing countries. Seven of the top twenty recipients of foreign direct investment are in the developing world.

"Outward orientation" itself is of course not a sufficient condition to assure development success. High rates of national investment, stability of macroeconomic policies, and resilient domestic political institutions are crucial as well.1 But "outward orientation" appears to be a necessary component of effective development strategy and a key explanation of why some countries have done better than others. Trade and investment liberalization demonstrably pays high dividends in terms of improved economic performance. Their maintenance and indeed expansion is thus a central consideration for global development.

This in turn means that an open international trading system has been of central importance for the development successes of the past several decades. "Outward orientation" in individual developing countries would never have succeeded, indeed would probably never have been attempted, in the absence of relatively open markets around the world. Hence, systemic openness is also a crucial component of any effective global approach to development.

A number of the distinguished speakers at this symposium will address the links between trade and development in some depth. Following the principle of comparative advantage, I will focus instead on the outlook for the global trading system and how its evolution may affect the prospects for development. In particular, I will analyze a series of threats to the prospects for continued openness, suggest how they might be countered, and recommend ways in which the developing countries themselves can contribute to maintaining a global trading system that will permit their own national development strategies to flourish.

In addressing these issues, and devising a strategy for the Millennium Round and beyond, it is first essential to sketch the pattern of global trade policy that has been evolving over the past couple of decades. I will then analyze the contemporary threats to the trading system, with considerable emphasis on the trade policy of the United States, and propose a strategy to avoid a renewed slide toward protectionism around the world. Finally, I will attempt to draw out several implications for developing nations, proposing that they adopt a proactive role in both moving the global system in a constructive direction and pursuing their own national interests within that context.

The Trend Toward Free Trade

A large part of the world has eliminated all barriers to trade or is in the process of doing so. The 15 members of the European Union have created a "single internal market." Australia and New Zealand have completed their free trade area. Several large groupings are en route to a similar outcome: the North American Free Trade Agreement (Canada, Mexico, and the United States), Mercosur (Argentina, Brazil, Paraguay, and Uruguay) and the ASEAN Free Trade Agreement (Brunei, Indonesia, Malaysia, Philippines, Singapore, Thailand, and now Vietnam).

In addition, a series of newer groupings have pledged to abolish all impediments to their international trade in the coming years. The European Union and the Mediterranean countries (EUROMED) have committed themselves to free trade by 2010. The 34 democracies of the Western Hemisphere agreed at their Miami summit in December 1994 to work out a Free Trade Area of the Americas (FTAA) by 2005, and negotiations to that end began last spring. The 21 members of the Asia Pacific Economic Cooperation (APEC) forum-which account for half of world output and include the three largest national economies (United States, Japan, and China)-decided via their Bogor Declaration of November 1994 to establish free trade and investment in the region by 2010 for their higher income members, which make up 85 percent of their commerce, and by 2020 for the rest.

Over 60 percent of international commerce now takes place within these existing or planned free trade regimes (table 1). This share is rising rapidly, both because of the creation of new arrangements and because trade expands more quickly under such conditions. The question thus arises: why not eliminate all trade barriers throughout the world? Why not launch a movement toward global free trade at the upcoming WTO Ministerial Conference in Seattle?

Competitive Liberalization

In answering these questions, it is first essential to understand why so many countries, in so many different parts of the world, with such different economic systems, and at such different stages of development, have all headed in the same direction. There are of course different national circumstances that explain the detailed strategies and timing of the individual initiatives. The overarching force, however, has been the process of competitive liberalization.

The rapid increase of global interdependence has induced virtually all countries, whatever their prior policies or philosophies, to liberalize their trade (and usually investment) regimes. Economic success in today's world requires countries to compete aggressively for the footloose international investment that goes far to determine the distribution of global production and thus jobs, profits, and technology. Most countries offer direct incentives to foreign investors, but an open trade and investment regime is even more critical for this purpose. Mexico was traditionally a very closed economy (and was extremely wary of embracing its northern neighbor), for example, but decided to liberalize and propose NAFTA when it became convinced that doing so was essential to avoid losing out in the global competition for capital.

Moreover, success in today's global economy requires countries to compete effectively in international markets rather than simply at home. This is true no matter how large the domestic market: some of the world's most self-contained economies including Brazil, China, India, and, perhaps most notably, the United States-which maintained extensive quotas on autos, machine tools, steel, and numerous other products less than 15 years ago-have joined the competitive liberalization race.2

Competitive liberalization is pursued by countries that until recently had deeply entrenched protectionist traditions. France is a dramatic case in point. So is virtually all of Latin America, which embraced import substitution doctrines as recently as two decades ago. The most stunning reversal of all comes from many of the former command economies of the Communist world, ranging from China and through Central Europe to parts of the former Soviet Union and now Vietnam.

An intellectual and ideological sea change underlies this historic development. Import-substitution and even autarkic models of development and national economic strategy were reasonably respectable into the 1960s and even the 1970s. But their shortcomings were then exposed, including by the third world debt crisis of the 1980s, and replaced by a new consensus of "outward orientation."3

The Asian, now global, financial crisis has interrupted neither these policy actions nor the intellectual trends. To be sure, there has been some East Asian reaction against short-term capital flows (though even Malaysia liberalized its treatment of foreign direct investment, including short-term transactions within multinational firms, at the same time it imposed new barriers to hot-money flows). But there has been very little recourse to new trade barriers. Korea and Indonesia have reduced their barriers further. The ASEAN countries have even decided to accelerate the timetable for achieving free trade under their ASEAN Free Trade Agreement (AFTA).

This change in basic thinking does not, however, explain the onset of regional or other international trade arrangements. Why didn't the new attitude simply produce a spate of unilateral trade liberalization, which textbooks recommend as the most direct route to maximizing trade benefits for an individual country? The answer lies in the politics of trade reform.

The Political Economy of Trade Reform

To be sure, some unilateral liberalization has taken place. This has been especially true in East Asia and Latin America. Most of the 100 or so instances of "unilateral liberalization" over the past couple of decades were adopted within the context of IMF or (especially) World Bank adjustment programs, however, which suggests that "reciprocity" in the form of foreign financial assistance played an important role in those decisions.4

In most cases, domestic political opposition blocked countries from abolishing their traditional barriers. Entrenched interests fought hard, and frequently with prolonged success, to maintain their protected positions. The politics of economic reform were difficult and contentious in virtually every case.5

The standard strategy for achieving trade reform was to mobilize enough pro-trade interests to overcome the forces that resisted further market opening. These included beneficiaries of imports such as consumers and industrial users of imported inputs.6 However, such groups are rarely organized and their gains from liberalization are both modest and widely diffused. Hence they typically produce little political counterweight against those who would be adversely affected by increased foreign competition.

To overcome such opposition, it became necessary to appeal to exporters and others who gain directly from the opening of markets abroad. The political economy of trade liberalization in individual countries thus rested heavily on parallel liberalization in partner countries. The most assured technique for achieving such parallel action was to insist on reciprocity, through the negotiation of trade agreements with enough existing or potential markets to tip the internal balance in favor of the desired liberalization.

The United States agreed in the Uruguay Round to get rid of its textile quotas, which was of enormous benefit to many developing countries, by negotiating concessions from the rest of the world on intellectual property rights and agricultural distortions. Through that same negotiation, Japan and Korea began to open their rice markets, another benefit for many developing countries, by appealing to the export interests of their (especially high-tech) manufacturers. It is not only respectable but essential, for even the wealthiest economies in the world to use external pressures for liberalization to overcome internal political resistance.

Negotiated liberalization thus turns out to be far more feasible than unilateral liberalization. The key becomes a country's ability to persuade its foreign partners to proceed in tandem with it. Large trading entities, such as the United States and the European Union, obviously have the most leverage in this context because of the attraction to others of the opening of their markets.

Another key variable is the stage of liberalization at which a country finds itself. Initial reductions of very high tariffs can be relatively easy because they put few dents in the real level of protection and thus can often be implemented unilaterally. But most countries have found that they must apply the traditional political economy approach to engineer the later and most difficult phases of the process.

All these considerations apply to developing as well as industrial countries. They too can deploy the domestic political economy of trade reform, through participation in reciprocal trade negotiations, to overcome resistance to further "outward orientation." In many cases, their markets are large (and dynamic) enough to provide them with real leverage in international negotiations-especially if they work together effectively. Since trade barriers in many developing countries have now come down to levels that are difficult to reduce further, invocation of the political economy of international trade has become especially important-and especially promising.

Regional vs. Global Liberalization

In seeking reciprocal liberalization, countries could turn either to their respective geographic region or to the global trading system as a whole. The global approach is fundamentally superior because it maximizes the number of foreign markets involved and avoids the economic distortions (and political risks) of discrimination among trading partners. Indeed, the succession of GATT "rounds" throughout the postwar period has made a major contribution to freeing global trade.

As the urgency of competitive liberalization accelerated over the last decade or so, however, the regional approach has played an increasingly prominent role. It has turned out to be less time-consuming and less complicated to work out mutually agreeable arrangements with a few neighbors than with the full membership of well over 100 countries in the WTO. Moreover, regional groupings are demonstrably willing to proceed much more boldly: many of them have decided to adopt totally free trade, as noted above, whereas none of the global conclaves to date has even considered such an ambitious goal. The rapid growth in the membership of the WTO, whose predecessor GATT had fewer than 50 members though the first several postwar negotiations, added to this change in the calculation.

Desires to overcome traditional political rivalries have also been a driving force in the success of several of the regional economic arrangements. The cardinal goal of the European Union was to end the historic hostility between France and Germany. Mercosur sought to end the arms race, including its nuclear dimension, between Argentina and Brazil. A successful APEC would reduce the risk of intra-Asian and trans-Pacific conflicts, which have been so prevalent over the past century. A successful South Asian FTA would presumably help ease tensions between India and Pakistan. Regional trade arrangements are thus often motivated by priority national security concerns. This is another reason why they frequently move more quickly and more boldly.

Much of the political economy of competitive liberalization in recent years has in fact played itself out in the dynamic interaction between regional and global initiatives to reduce trade barriers. The United States initiated the Kennedy Round in the 1960s to counter the discrimination inherent in the creation of the European Common Market (as well as for broad foreign policy reasons) and the Tokyo Round in the 1970s to counter the additional discrimination from the Community's expansion to include the United Kingdom. The Europeans cooperated in both ventures and thus enabled the regional and global efforts to "ratchet up" the scope and pace of liberalization.

The positive interaction between the two strategies accelerated sharply in the 1980s and 1990s as competitive liberalization became the norm and countries searched for tactics to obtain the needed domestic support. The United States reversed its traditional aversion to regionalism by embracing free trade agreements with Israel and Canada after the European Community blocked the launch of new negotiations in the GATT-to which the EC responded by dropping its veto and permitting the Uruguay Round to begin. When the Round faltered in the late 1980s, the three North American countries launched NAFTA and the Asians initiated APEC.7 When the Round almost failed to meet its final deadline in December 1993, APEC's initial summit in Seattle in November 1993 induced the Community to finally agree because, according to one top European negotiator, it "demonstrated that you had an alternative and we did not." The regional initiatives also reinforced each other: APEC's Bogor Declaration was instrumental in galvanizing the Miami summit, a few weeks later, to commit to free trade by a date certain in the Americas.

This positive interaction also extends to the subregional level. President Bush's offer in 1990 to negotiate free trade pacts throughout the Western Hemisphere led to an explosion of bilateral and plurilateral agreements across South and Central America as countries sought to prepare themselves to qualify for free trade with North America. In Asia, AFTA has accelerated its timetable and substantially broadened its coverage to stay ahead of APEC. AFTA and Australia-New Zealand have discussed possible linkages between the groups.

Hence regional and global liberalization initiatives have been mutually reinforcing throughout the past three decades or more. The fears of some observers that regionalism would derail globalism have been demonstrably overcome.

It is particularly noteworthy that many of these regional institutions have been driven by developing countries: NAFTA by Mexico, a Free Trade Area of the Americas by a number of Latin American countries, APEC's "free trade by 2010/2020" commitment by Indonesia and several other Asian countries, and of course the "South-South" agreements (such as AFTA and Mercosur) themselves. Indeed, the North-South cooperation manifest in many of these trade agreements stands in marked contrast to the confrontation and even hostility between North and South that was prevalent as recently as the 1970s. Broader political as well as trade, development, and other economic objectives have been well served by these initiatives.

The Threats to the Trading System

But determined leadership has been required to avoid conflicts between regionalism and globalism. Doing so has also required the maintenance of effective global trade rules to provide a framework that would deter conflict between the regional arrangements, including rules that apply to the arrangements themselves, and an institution to enforce them. Even so, there have been some close calls-especially when the global system faltered. The new regional arrangements spawned by the missed deadlines of the Uruguay Round were intended to serve as alternatives to the global regime if needed. An ultimate failure of the Round, which almost occurred, would have discredited the entire global system and raised a real specter of competing blocs.

Moreover, the European Union frequently seems to focus so heavily on its regional agenda that it forgets its global responsibilities. The United States is sometimes viewed as preoccupied with NAFTA or APEC. By joining East Asia and North America, APEC has eliminated any possibility of the evolution of the three-bloc world that was so widely-and rightly-feared a few years ago, but a failure to work out accommodations with Europe could instead create a two-bloc world that would convey substantial dangers as well. South America might decide to halt its liberalization once Mercosur has consolidated, and Brazil might be happy to leave its new leadership of that region undisturbed for at least a while. Countries not participating in any of the major regional pacts, such as India, correctly see a risk of increasing discrimination against them if regionalism were to become the dominant form of trade liberalization. There is a constant need to keep the global-regional interaction on a supportive course. This is one key reason why a new initiative is now required to consolidate the regional liberalization initiatives into an agreement to achieve global free trade in the early 21st century.

There are other risks to the continued progress of competitive liberalization that need to be met by a new global initiative. The most threatening of these challenges do not arise in the countries that have rejected openness most strongly in the recent past-some developing countries and the former command economies-although some of them do harbor lingering doubts that could again assume ascendance. Paradoxically, the strongest pressures to reverse the liberal course can be found in the countries that created, nurtured, and championed the postwar order: the United States and the European Union.

Two structural changes dominate the evolution of the American economy over the past generation. One is globalization: the share of trade has almost tripled in a generation and now exceeds the same share in the European Union as a group and (especially) in Japan. The other is the stagnation of real incomes and a regressive shift in income distribution: the United States has created tens of millions of new jobs, but the median family income, despite a pickup in the last couple of years, is still lower today than a generation ago and only the top 20 percent of the population is unambiguously better off.

The central question for present purposes is the degree of causality between the two phenomena. Globalization, like any dynamic economic change, of course creates losers as well as winners despite its net positive effects on the economy, and virtually all economists agree that it has contributed to some of the problems cited. The majority believes the relationship accounts for only 10-20 percent of the problem and that a retreat into protectionism would make it worse.8 But at least a few serious studies attribute a larger part of the country's chief economic difficulties to globalization and call for a shift in trade policy as a result.

American politics frequently reflect this tension. Only extremists of both right and left have launched frontal attacks on the bipartisan trade policies of the past 60 years and all their nationwide campaigns have been decisively rejected. But organized labor and its allies have succeeded in stalemating US trade policy over the past four years, persuading Congress to deny the president any new trade-negotiating authority despite the strength of the American economy. Labor and its allies remain implacably opposed to any new trade (or international investment) liberalization, and are indeed seeking new protection in steel (and perhaps other sectors in the near future). Especially when cyclically adjusted, US trade policy is in serious trouble.

Moreover, the US trade and current account deficits are likely to exceed $300 billion in 1999 and continue growing for the foreseeable future. These numbers are double the previous record of the middle 1980s and are approaching those deficits' record share of the total economy. During that previous episode, the dollar dropped by over 50 percent against the other key currencies and Congress almost passed massively protectionist trade legislation (and did substantially tighten the antidumping statutes and enact the infamous "Super 301" provision). Any significant slowdown in the US economy and concomitant rise in unemployment could turn US trade policy in a severely protectionist direction.

It is important to recognize that these protectionist pressures in the United States are directed largely at lower wage (and hence lower income) countries. Trade with them is blamed for depressing US wages and incomes (and, in the cruder forms of the argument, for destroying US jobs). Trade with them is charged with fostering "races to the bottom" for labor standards, environmental standards, and a host of other social ills. "No more NAFTA," i.e., no further liberalization with lower income countries, is the rallying cry of the antiglobalization forces. Any outbreak of protectionism in the United States would clearly focus on developing countries.

The situation in Europe is fundamentally similar if quite different in its details. Europe's chief economic problem is high unemployment, which has risen from 2-3 percent a generation ago to above 10 percent now-from well below the American norm to more than twice as high. But average wages and incomes in Europe have risen substantially over this period, in sharp contrast to their stagnation in the United States.

These two great industrial areas have thus made very different social choices. By limiting its social safety net and permitting firms to downsize to boost profits, the United States forces its displaced workers to find new jobs at whatever wage is available-pricing its labor competitively and thus maintaining full employment. Europe has by contrast become a generous welfare state with extremely rigid labor laws, discouraging new hires from both the supply and demand sides while maintaining social peace through government transfers of a large share of its higher incomes to the poor.

The bottom line is that neither Europe nor the United States has been able to generate a steady increase in the number of well paying jobs. Europe has rising incomes but high unemployment. America has low unemployment but flat incomes. It is of course mainly up to these countries themselves to take the necessary domestic steps to rectify their problems. But perceptions and politicians in both could come to treat trade as a major source of the problem, or even the major source of the problem, and thus pave the way for a massive reversal of global liberalization. Indeed, these two trade giants are now openly clashing between themselves over a wide range of trade issues-adding substantially to the systemic risk.9

The Asian giants, Japan and China, also pose major threats to the continued openness of the trading system. The political economy of liberalization succeeds in winning domestic support, even in a country as large as the United States, only when its major foreign markets (especially if they are also its toughest competitors) are seen as joining the process and contributing their fair shares to the process. Japan, despite running the largest trade surplus in the history of any country, has grudgingly participated in all the GATT rounds but access to its markets remains extremely truncated (and it single-handedly blocked APEC's latest liberalization initiative).10 China has not yet committed to the minimum reforms necessary to join the World Trade Organization. Protectionists in other countries, with some justification, will use the reluctance of Japan and China to liberalize to oppose further reduction of their own nations' barriers.

Restarting the Bicycle

Why do all these threats to future liberalization matter? International trade and investment continue to flourish, if at a modestly slower pace due to the financial crisis. Does business simply need to be assured that no new impediments will be erected?

The problem with this "stand pat" scenario is its instability. The history of trade policy teaches forcefully that failure to move steadily forward toward liberalization condemns the trading system to tip over in the face of protectionist pressures-the "bicycle theory." For example, protectionism scored major successes, especially in the United States, during the prolonged periods when the GATT became moribund immediately after the successful conclusion of the Kennedy Round in the late 1960s and the Tokyo Round in the early 1980s. It is no accident that protectionism is on the rise in the United States, despite the strength of the overall economy, in light of the current trade policy vacuum.

One of the great advantages of the recent regional liberalization initiatives is that they have kept the bicycle moving forward after the conclusion of the Uruguay Round. The Round itself also helped by scheduling future negotiations in a number of sectors, and the three subsequently successful sectoral agreements-on telecommunications services, information technology, and financial services-also maintained the forward momentum. But no additional agreements are in sight and none of the regional negotiations are making headway. No serious trade-liberalizing effort is underway anywhere in the world at this time. The bicycle has stopped. Hence it is necessary to launch a new global strategy that will simultaneously keep the bicycle moving forward and avoid the centrifugal risks of drifting into conflicting blocs. The US and European governments want to launch a new round to do so but need agreement with the rest of the world to offer a prospect with sufficient benefits to win their difficult domestic debates on proceeding.

The substance of a new global initiative should include elimination of all remaining tariff and nontariff border barriers. The Uruguay Round teed up these remnants of traditional protection for decisive action by converting agricultural quotas into tariffs, removing quota protection from textiles and apparel, and obtaining bindings of most duties. One more major effort could condemn these practices to the dustbin of history.11

In addition, new negotiations are needed to enable the global system to catch up with some of the "new problems" that are plaguing international trade relations. Protectionists in all countries are ingenious in staying "one step ahead of the judge," and the system needs continuous updating to stay within reach.

For example, most American (and others') complaints about Japan no longer relate to that country's border barriers. They focus instead on the anticompetitive behavior of its firms with their exclusive supplier or distributor arrangements (vertical keiretsu, as in auto parts and film, respectively) and domination of particular markets (horizontal keiretsu, as in glass or soda ash). The United States has unfortunately, but perhaps necessarily, been using trade measures, such as Section 301, to address nontrade problems. There is an urgent need to work out new international agreements on competition policy and corporate behavior.

Investment is a second area in which the international rules have lagged far behind commercial practice. Investment is now an essential element of international trade, especially in services and in traditional manufacturing as well. Aside from a few very modest covenants on trade-related investment measures agreed in the Uruguay Round and APEC's inadequate "nonbinding investment principles," there are virtually no multilateral agreements on the issue.12

Since developing countries are both major recipients of direct investment and are legitimately concerned that they reap a fair share of its benefits, addressing it in the new round should be high on their priority lists. New research in fact shows that many of the devices used by host countries in an effort to maximize their gains, such as local content, joint venture, and technology transfer requirements, are in fact counterproductive because they discourage the firms from transferring their best know-how and integrating the covered subsidiaries into their best-practices global networks. Nor can most developing countries compete with the industrial countries in offering investment incentives. On the other hand, export performance requirements may be quite effective and economically justified. Hence developing countries have a high stake in working out new and better international rules in this area, trading their residual desire to impose domestic content, joint venture, and technology transfer requirements for limits on the rich countries' use of locational subsidies and investment incentives.13

Another pending issue is regionalism itself. The GATT article that governs such arrangements is extremely weak and its implementation has been even weaker: of the 100 or so "free trade agreements" that have been notified to the GATT, none have been rejected and only a very few have been approved. Now that regionalism is so prevalent, the WTO needs to adopt much stronger provisions and procedures to make sure that they evolve in an open manner.

A number of other topics must be addressed as well. The numerous linkages between environmental measures and trade must be sorted out in ways that both protect the environment and avoid providing new excuses for protecting against trade, as discussed at the High Level Symposium that preceded this one. The relationship between trade and labor standards needs to be resolved as well.

A broader yet clearly related issue is international monetary arrangements. The current regime of flexible exchange rates periodically permits sizable and prolonged misalignments of major currencies, such as the huge overvaluation of the dollar in the first half of the 1980s and its more modest overvaluation now, and the large undervaluation of the yen in the late 1980s and again until quite recently. These misalignments in turn lead to large trade imbalances that intensify protectionist pressures in the deficit countries by tilting the domestic political balance against exporters and in favor of import-competing industries. The WTO will not solve this problem but should push the International Monetary Fund, and the G-7 as its informal steering committee, to improve the functioning of the monetary system to reduce some of the pressures on the trade regime.14 Such trade-monetary linkage featured prominently in the original planning for the Tokyo Round in the early 1970s and to a lesser extent in the planning for the Uruguay Round in the middle 1980s.

The need for the WTO to address a series of new trade issues also replicates earlier postwar history. The Kennedy Round produced a major reduction in the high tariffs that were the major tool of protection in the early postwar period. The Tokyo Round then attacked government procurement, subsidies, and other nontariff border barriers. The Uruguay Round turned to major behind-the-border problems such as intellectual property rights and services rules. Each of these reforms exposed a new set of constraints on market access that required a further initiative to bring the international rules up to date, and the present period is no exception.

It would be possible to address all these issues in a series of separate regional negotiations. Indeed, some of the regional agreements have innovated successfully in addressing new topics in the past: the Canada-United States Free Trade Agreement provided a model for some of the services talks in the Uruguay Round; Australia-New Zealand successfully meshed their competition policies in a manner that also enabled then to eliminate antidumping duties; and NAFTA has pioneered in forging effective rules on investment. There would be a serious risk of inconsistency if such issues were addressed differently in the different regional fora, however, and it would be much more efficient to derive worldwide approaches that could be applied by all. The case for globalism is again compelling.

The "Grand Bargain"

The members of the WTO should therefore agree to consolidate the free trade arrangements that have already been set at the regional level, covering more than 60 percent of world trade as described at the outset, into a global commitment to achieve worldwide free trade by a date certain. The date could be 2010, on the APEC and EUROMED models, with a possible extension to 2015 or 2020 for the poorer countries. Implementation of the agreement would keep the bicycle moving forward for some time. It would thereby provide maximum support for the development goals of the poorer countries by maintaining an open multilateral trading system that would enable them to successfully pursue their "outward orientation" strategies.

Such a commitment would have to rest on a "grand bargain" between two groups of countries: the high-income mature economies of North America and Western Europe and the rapidly growing, lower income countries that make up most of the rest of the world plus Japan. As noted, the lower income fast growers (and Japan) owe much of their success in recent decades to the openness of the world economy that enabled them to pursue "outward oriented" development strategies. Hence they need insurance against any reversion to protection by the "old rich," especially in the wake of the adverse impact on those countries' trade balances of the financial crisis.

There is a second component of this "insurance motive" in a number of developing countries: insurance that their domestic successors will not reverse the liberalization of their own economies. Such reforms can be "locked in" by binding the country's liberalization in international agreements, regional, and/or global. Such bindings apply only to international trade and investment policies, and directly related domestic measures, but it would be difficult to reverse most domestic reforms if it were impossible to raise new external barriers to support a reversion to dirigisme.

The Asian and Latin American countries have been predominantly concerned about a possible reversion to protection in the United States, by far their largest market, and hence have emphasized trade deals with that country. They are also concerned about Europe, however, so are pursuing that dimension as well: Mercosur through a pending trade agreement with the European Union, and East Asia through its new summits with the Europeans. Neither of these arrangements are likely to produce much substance, however, so East Asia and Latin America-which are still likely, despite their current difficulties, to be two of the fastest growing parts of the world economy over the coming decades-would benefit greatly from engaging Europe and Japan in the same kind of free trade commitments they have already elicited from the United States. This can probably be done only through a global effort in the WTO.

The second part of the "grand bargain" would provide the higher income countries with increased, and eventually full, access to the markets of the lower income but rapidly growing countries around the world (and Japan). Most of this latter group, despite their impressive liberalizations over the past decade or so, retains substantial trade barriers.

This part of the bargain would be attractive to the rich countries because they too are heavily dependent on integration into global markets. Such dependence is nothing new for Europe but, as noted above, has only evolved in a major way for the United States over the past two or three decades. This rich-country interest focuses primarily on countries with large and rapidly growing markets that still maintain substantial access barriers, i.e., many developing countries. Hence the United States and Europe would benefit greatly from the proposed "grand bargain."

There is nothing new conceptually in this proposal for the "old rich" to pledge to avoid new barriers while the "rapid growers" commit to eliminate theirs. Such asymmetric liberalization has lain at the heart of the agreements on NAFTA, the FTAA, and APEC, the European Union, and even the Uruguay Round itself. In these versions of the "grand bargain," the poorer countries have bought assured, continued access to the markets of the rich countries by agreeing to catch up over time with those countries' prior liberalizations. There is rough justice in the proposed asymmetry because the willingness of the rich countries to facilitate the "outward oriented" growth strategies of the poor, by reducing their barriers much further and much faster, enabled some of the latter to start catching up with the income levels and standards of living of the former.

The novel element here is to shift the context to the global plane via the WTO. This would consolidate and link the existing regional agreements. It would also bring South Asia, the former Soviet Union, Africa, and the few other uncovered parts of the world into the deal. It would keep the bicycle moving forward for some time.

The Implications for Developing Countries

Developing countries clearly reaped important gains from the Uruguay Round of multilateral trade negotiations. World Bank studies, for example, conclude that developing country income levels will rise by 1-2 percent as a result of the Round and that, as a group, they obtained about one half of its total benefits. The phase-out of the Multifiber Arrangement will provide a substantial boost to their exports. They gain from the total ban on voluntary export restraint agreements (VERs) that was concluded in the Round. The creation of the World Trade Organization (to replace the GATT), and especially its Dispute Settlement Mechanism (DSM), provides substantial protection for countries with smaller levels of trade.

As in any reciprocal negotiation, developing countries of course made several "concessions" in the Uruguay Round. Most of those "concessions," such as reduction in tariffs, in fact benefit their own economies on balance by reducing costs to consumers and to industrial users. Nevertheless, like the United States and all other countries, developing countries experience some costs from trade liberalization and some elements of society may on balance lose from the phenomenon. Hence domestic policy must provide for these contingencies, helping to smooth the required adjustments and to equip all segments of society to benefit from globalization rather than feel victimized by it.

Looking to the future, it is clear that the developing countries can reap major benefits from an early launch and successful completion of the Millennium Round. Failure to turn back the rising threat of protectionism, especially in the United States and the European Union, by restarting the bicycle of liberalization could levy substantial costs on their exports through a proliferation of antidumping cases and other new barriers. It could even jeopardize implementation of the complete phase-out of textile/apparel quotas agreed to in the Uruguay Round.

Moreover, a failure to pursue new multilateral liberalization could lead to renewed emphasis by the largest industrial countries, the United States and the European Union, on their regional arrangements. Many developing countries could thus suffer the double loss of renewed barriers and renewed discrimination.

Needless to say, developing countries should vigorously press their own priority interests in pursuing the new Millennium Round. The possibilities include:

  • elimination of the high tariffs that will remain, especially in the United States, on many apparel and textile exports after the phase-out of quotas under the MFA;
  • elimination of the very high tariffs on agricultural imports in many industrialized countries and future reductions in agricultural subsidies;
  • elimination of both tariff escalation and preferential tariffs in regional arrangements, including the EU and NAFTA, that discriminate against exports of many developing countries, by eliminating all tariffs;
  • new agreements on foreign direct investment that would both expand its levels and help developing countries achieve a fair share of its benefits, as described above;
  • tougher disciplines on the use of antidumping duties and other safeguard measures, especially by the United States and the European Union;
  • liberalization of movement of natural persons, where many developing countries have a strong competitive advantage, under the General Agreement on Trade in Services; and
  • further strengthening of the DSM to help protect the rights of countries with smaller trade levels.

In short, developing countries have a great deal to gain from a new multilateral round. Pursuing these goals actively would seem to be far preferable to seeking re-negotiation of the Uruguay Round, as some developing countries are considering, which would clearly jeopardize phase-out of the MFA as well as the other gains cited above. It is certainly a better strategy, and far more likely to succeed, than trying to block the launch of a new round pending full implementation of the Uruguay Round agreements, which will surely occur before implementation of the outcome of a new round would commence; such a negative course would replicate the futile effort of some developing countries to block the Uruguay Round, which discredited them in international trade circles for a prolonged period and would have turned out to be against their own interests. Developing countries should avoid any push for renewed "special and differential" treatment, which was effectively terminated by the creation of the WTO and never paid off for them anyway, rather than seeking full and active participation as an equal partner in the trading system (perhaps with longer phase-in periods to adopt their new WTO obligations or rear-end loading of implementation of those obligations as the United States did with textiles and apparel in agreeing in the Uruguay Round to phase out the MFA).

Launching the Millennium Round

A wide variety of considerations thus point in a single direction: launching later this year, at the Seattle Ministerial Conference, of a new Millennium Round in the World Trade Organization, perhaps in the context of a decision to achieve global free trade by a date certain in the early part of the 21st century. Such initiatives are needed to keep the bicycle of competitive liberalization moving forward. They are essential to provide effective multilateral means to deal with the trade and other international economic disputes that will inevitably increase as economic interdependence grows further. They are necessary to avoid the risk that the rapidly proliferating regional arrangements could turn into hostile blocs with adverse effects on international security as well as global prosperity.

From the standpoint of the developing world, new trading opportunities would result from such an initiative. Outward-oriented growth strategies could be sustained and accelerated with an assurance that the rich industrial markets would not turn inward. The proposed "grand bargain" would indeed globalize the enormously encouraging progress in bridging the North-South gap that has been pioneered in recent years by the key regional agreements-the European Union, NAFTA, APEC, and the FTAA-and which began at the global level in the Uruguay Round as well. The developing countries, which account for the bulk of the world's population and virtually all of its population growth, would become increasingly enmeshed with the "old rich" in a web of cooperative and mutually beneficial economic arrangements. There could be no better investment in securing future peace as well as prosperity.

Table 1: Regional Free Trade Arrangements Share of World Trade, 1994

EU 22.8
FTAA 2.6*
AFTA 1.3



Total 61.0

* Excluding subregionals


1. Dani Rodrik, The New Global Economy and Developing Countries: Making Openness Work, Washington: Overseas Development Council, 1999.

2. For the latest compelling evidence on the relationship between trade openness and growth see Sebastian Edwards "Openness, Productivity and Growth: What Do We Really Know?" The Economic Journal, vol. 108, no. 444, March 1998.

3. The intellectual history is traced in Anne O. Krueger, "Trade Policy and Economic Development: How We Learn," American Economic Review, Vol. 87, No. 1 (March 1997).

4. Huw Dixon, "Controversy: Trade Liberalization and Growth: An Introduction," and David Greenaway, Wyn Morgan and Peter Wright, "Trade Reform, Adjustment and Growth: What Does the Evidence Tell Us?", both in The Economic Journal, 108 (September 1998).

5. An excellent analysis of the political requirements for successful reform can be found in John Williamson, The Political Economy of Policy Reform, Washington: Institute for International Economics, January 1994.

6. See I. M. Destler and John S. Odell, Anti-Protection: Changing Forces in United States Trade Politics, Washington: Institute for International Economics, September 1987.

7. See Yoichi Funabashi, Asia Pacific Fusion: Japan's Role In APEC, Washington: Institute for International Economics, October 1995.

8. As summarized and enlarged upon in William R. Cline, Trade and Income Distribution, Washington: Institute for International Economics, November 1997.

9. C. Fred Bergsten, "America and Europe: Clash of the Titans?" in Foreign Affairs, March-April 1999.

10. Yoko Sazanami, Shujiro Urata and Hiroki Kawai, Measuring the Costs of Protection in Japan, Washington: Institute for International Economics, January 1995, conclude that the consumer costs of these barriers total at least 3-4 per cent of Japanese GDP and that they block at least $50 billion of imports annually.

11. This case is made persuasively in John Whalley and Colleen Hamilton, The Trading System After the Uruguay Round, Washington: Institute for International Economics, June 1996.

12. See Edward M. Graham, Global Corporations and National Governments, Washington: Institute for International Economics, May 1996.

13. These findings and recommendations derive from Theodore H. Moran, Foreign Direct Investment and Development: The New Policy Agenda for Developing Countries and Economies in Transition, Washington: Institute for International Economics, December 1998.

14. Specific proposals can be found in C. Fred Bergsten and C. Randall Henning, Global Economic Leadership and the Group of Seven, Washington: Institute for International Economics, June 1996.

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