Trade policies for development
ECES905205 pertemuan 9
I Made Krisna Gupta
10 Oktober 2022
Last Week
Argument pro-trade
Static efficiency: specialisation, economies of scale, productivity selection.
Dynamic efficiency: learning-by-exporting.
Argument against free trade:
Zero-sum-game for large countries (leads to FTAs)
Zero-sum-game for losers (usually better organized)
Market failures: externalities, infant industry.
For any justified government intervention, domestic policies should perform better than trade policies.
Trade policies for development
In the government’s eyes, trade policies often serves as a policy development.
While we have discussed that usually domestic policies are better, free-ish trade is not the norm.
- Free trade only really took off after World War 2.
Today, we discusses trade policies for development usually used by developing countries.
Import Substitution Strategy
Based on infant industry argument:
need time to compete with the global market.
requires a short term protection (usually tariff & quota)
was popular among developing countries pre-1970s (Asian Tigers included), but also developed countries pre-WW2.
Infant industry argument is really powerful among policy makers.
Infant industry problem
Protection against a good that the country is not comparatively good at will only resulted in higher cost.
- protection against capital intensive goods in a country with no capital, protection against goods reuires a certain climate.
India & Pakistan protects heavy-manufacturing goods (e.g., cars & steel), but they ended up exporting light-manufacturing goods (e.g., textiles).
needs to ensure that those industry exports because of the past protection.
Needs to separate real infant industry that will grop up in the future with the forever infant (rent seeker)
Infant industry justification
If an industri is truly infant, the capital market should have no problem with providing liquidity.
- Often happens: funds flow to potential industries.
However, capital market in developing countries does not function as good as developed countries’
- Bank is not efficient, interest rate is high, stock market is shallow, domestic saving is low.
Imperfect capital market justification: if the capital cannot find its way to the infant industry, then government intervention may be able to help.
Import-substitution
The orientation of trade protection is inherently domestic oriented instead of export oriented.
Import substiting Industrialization (ISI) is when a country limit import competition to replace it with domestic production.
Choosing ISI = choosing not to pursue export orientation growth:
protection skews up prices of importing industries relative to exporting industries,
factor of production akan geser ke importing industries, M naik, X turun.
ISI
ISI most often ended up accompanied by increased FDI.
The trade vs FDI trade-off (market seeking).
Large countries (e.g., Indonesia) has advantage in attracting FDI.
Small markets typically encourage export-promotion strategy.
It typically began by protecting consumer goods (food processing & automobile).
Then protects intermediate goods (steel, petrochems).
Does ISI work?
The discussion on ISI vs free trade is a dynamic one.
pre-80s → pro ISI.
80s-2000s, → pro free trade.
Since GFC & the rust belt, ISI is back.
One thing remains: which one is better for welfare?
- ISI helped manufacturing in Latin America but not the economy in general.
Why ISI fails?
It is possible the protection is given to an industry with a comparative disadvantage anyway.
- If this is the case, then the industry will be forever infant.
e.g., lack of skilled labor, expensive financing, bad organisation.
- Changing these may require policies, but NOT trade policies.
Why ISI fails?
Protection such as quotas & LCR are complicated & leads to high tariff-equivalent (49% in IDN)
It is also harder to calculate cost & benefits than simple tariff.
ISI may skew incentive toward rent seeking activity instead of productivity improvement.
ISI forces firms to limit its market, lose economies of scale.
- IDN market is large but not as large as China, US or EU.
Trade liberalization
Happens mostly in 1985, along with financial liberalization.
This leads to higher trade activity in developing countries, and more manufacturing goods trade as opposed to agricultures & mining goods.
But trade liberalization, like ISI, we need to be critical on its impact on economic growth.
The answer is mixed: Latin American Countries’ growth actually slows along with these liberalization, while India, China and The Asian Tigers were growing much more rapidly.
Asian Growth
The Asian Tigers (Taiwan, South Korea, Hong Kong and Singapore) experienced an amazing growth during these times.
- later, it’s India and China.
These countries conducted various policy changes, among them is a freer trade regime.
However, it is hard to attribute the success only to this policy changes.
Latin America and Mexico experienced similar level of liberalization with no significant economic growth.
Recent developments
usually, arguments for & against trade revolves around these debates.
These days, new arguments arrived: we have arrived in another flip in trade policy discussions.
More arguments for activist trade policy: technology externality, labor issues, and environment externality.
Tech externalities
Knowledge activities produce technologies which can be used by everyone.
- This leads to less people want to innovate because others will free ride.
Intelectual properties can be used, but:
sometimes other firms can produce better products than the innovators. (think of android vs iOS)
Kinda limited.
Targeting the right activity is non-trivial.
The tech industries
In the 80s, US was losing grip with the manufacturing of Random Access Memories (RAM) to Japan (and then South Korea)
This in turns snowball to downstream hardware industries.
US was fine because they dominates the emerged internet industries (the softwares).
The tech industries
However, the worry over control over hardware productions return.
Intel founders Andy Grove argues the importance of having a hardware industries near the place where software industries thrives.
In effect, he argues innovation in hardware and software are externalizing each other and should be closely linked.
The tech industries
Our analysis pre-UTS suggests that US focusing on IT & less on hardwares should be fine.
- Apple and others can keep inventing in chip design because they do not have to invest in building chip factories.
However, if it is true that having domestic chip foundries can provide externalities with the innovation as well, then it may warrant a good justification for intervention.
This debate requires good number crunching to settle.
Globalization and wage
low-value manufactured goods (e.g., textiles) coming from developing countries:
produced by lower wage labors.
low standard working condition (e.g., bangladesh plaza collapse).
Seharusnya working standard & wage di Bangladesh mendekati AS, kan? (factor price equalisation)
Globalization and wage
Menurut standard trade theory, benar bahwa pekerja di negara dengan labor yang tidak banyak akan merugi.
Namun, pekerja di negara dengan labor yang banyak masih lebih untung dibanding jika tidak globalisasi.
- meski wage-nya rendah, namun income dari export memberi mereka akses pada barang yang mahal jika dibuat sendiri di dalam negeri.
Globalization & labor standard
Dorongan de-globalisasi juga datang dari argumen working condition.
Dorongan ini sudah sering muncul, tapi trigger utamanya adalah runtuhnya pabrik garmen di Bangladesh yang menewaskan 1.200 pekerja.
Negara berkembang bisa menekan cost dengan menekan labor standard → “race to the bottom”
Konsumen harus tau supply chain barang konsumsinya jika ingin mengurangi footprint labor standard yang buruk.
Globalization & labor standard
Sekarang, advokasi untuk membuat labor standard yang baik semakin gencar.
Labor standard menjadi fokus AS dalam membuat FTA baru maupun kebijakan perdagangan lainnya.
- banyak perusahaan juga mensyaratkan supply chain yang bebas dari problem HAM bagi supliernya.
pushback dari developing countries: labor standard hanya akan jadi alat proteksionisme.
Globalisasi & alam
Argumen yg sama: permintaan negara maju mendorong negara berkembang merusak alam:
- praktik buka hutan yang eksesif untuk kayu, perkebunan, dan pertambangan.
Trade membuat kapal semakin besar & sering jalan → more emission.
pollution haven: Negara maju mengekspor polusi dengan membuat pabrik di negara berkembang dengan standar lingkungan yang lebih rendah (evidence untuk ini masih mixed).
Carbon tariff
Countries with strong environmental standard + carbon trading mechanisms imposes carbon tariffs to level the playing field.
Carbon tariffs reduces the possibility of pollution haven and may encourage accepting environmental standard embedded in an FTA.
Naturally, developing countries criticise this: developed countries will demand too high of a standard, and used as a protection.
Globalisation & communities
Some industries may be highly concentrated in a location in a country, it becomes a culture.
This argument rise importance after the finding of Autor et al. (2013):
Imports from China reduces manufacturing jobs in the US.
While the reduction is relatively small, it is highly concentrated in a small area.
Those areas’ demand for domestic services dies with it.
Issues in trade
The ISI comeback
Technology externalities
Labor wage and standard
Environments
Communities
Trade is more than numbers
There are more issues in trade that models alone consider.
However, some of these arguments are less technical with little calculation to support them.
Additionally, most of these problems can be countered by good domestic policies instead of a trade policy.
next week: the new industrialisation policy.
