International Economics By Robert J. Carbaugh 10th Edition Chapter 7: Trade Policies for the Developing Nations

Developing nations’ trade Developing nations and trade Developing nations’ trade Very dependent on the developed industrial countries as export markets and source of imports Exports are heavily weighted toward primary products (agricultural goods, raw materials, fuels) and labor-intensive manufactures Share of manufactured exports is increasing, but mainly in a small number of newly industrialized nations (such as China, South Korea, Hong Kong) Carbaugh, Chap. 7

Developing nations: dependence on primary products (2002) Developing nations and trade Developing nations: dependence on primary products (2002) Major export As % of Country product total exports Nigeria Oil 96 Saudi Arabia Oil 86 Venezuela Oil 86 Burundi Coffee 79 Mauritania Iron ore 56 Zambia Copper 56 Ethiopia Coffee 54 Chad Cotton 40 Rwanda Coffee 31 Carbaugh, Chap. 7

Tensions between developing and advanced industrial nations Developing nations and trade Tensions between developing and advanced industrial nations Many developing countries have taken to heart the advice that opening up to foreign trade and investment will help their economies At the same time, industrial countries have often responded by increasing barriers on developing country manufactured exports Developing country exports often compete with the most vulnerable industries (with the least skilled workers) in the industrial countries Developing country economies are also hampered by structural weaknesses and inadequate institutions Carbaugh, Chap. 7

Developing nations’ concerns Developing nations and trade Developing nations’ concerns Question whether gains from trade with industrial countries have been fairly distributed Face problems of unstable export markets Concentration on one or a few primary-product exports combined with inelastic supply and demand conditions Argue that they face worsening terms of trade as relative value of primary products has fallen compared to manufactured goods they import Face limited market access for exports because of protectionism Especially for agricultural and labor-intensive goods Carbaugh, Chap. 7

Export price instability for a developing nation Developing nations and trade Export price instability for a developing nation Carbaugh, Chap. 7

Trade barriers limit developed country exports Developing nations and trade Trade barriers limit developed country exports Tariff protection in agriculture is higher than in manufactures. Average MFN Tariffs in 1997–1999 (Unweighted in Percent) Carbaugh, Chap. 7

Trade barriers limit developed country exports Developing nations and trade Trade barriers limit developed country exports Tariffs impede trade in labor-intensive manufactures. Average MFN Tariffs in 1997–1999 (Unweighted in Percent) Carbaugh, Chap. 7

Assistance for developing nations (1) Developing nations and trade Assistance for developing nations (1) World Bank Makes loans in developing countries to improve infrastructure, alleviate poverty, and assist in restructuring economic policy International Monetary Fund (IMF) Makes shorter-term loans to finance balance-of-payments deficits; it also engages in structural adjustment lending Generalized system of preferences (GSP) Voluntary program where industrial nations give trade preferences to selected developing country manufactured exports Patchwork of measures has limited impact Carbaugh, Chap. 7

Assistance for developing nations (2) Developing nations and trade Assistance for developing nations (2) Stabilizing commodity prices - international commodity agreements Production and export controls Buffer stocks Multilateral contracts But experience with commodity agreements has been mixed, at best, and application of the GSP is spotty Carbaugh, Chap. 7

International commodity agreements Developing nations and trade International commodity agreements Agreement Membership Principal Stabilization Tools International Cocoa Organization 26 consuming nations 18 producing nations Buffer stock, export quota International Tin Agreement 16 consuming nations 4 producing nations Buffer stock, export controls International Coffee Organization 24 consuming nations 43 producing nations Export quota International Sugar Organization 8 consuming nations 26 producing nations International Wheat Agreement 41 consuming nations 10 producing nations Multilateral contract Carbaugh, Chap. 7

Production and export controls Developing nations and trade Production and export controls Carbaugh, Chap. 7

Buffer stocks: price ceiling and price support Developing nations and trade Buffer stocks: price ceiling and price support Carbaugh, Chap. 7

Developing nations and trade Cartels Attempt to restrict competition among producers and support higher prices for their product OPEC is a prime example Face obstacles: Incentive to cheat Number of sellers Cost and demand differences Potential competition Economic downturns Substitute goods Carbaugh, Chap. 7

Growth strategies Import substitution Export-led growth Developing nations and trade Growth strategies Import substitution Trade barriers protect emerging domestic industries Popular in 1950s and 1960s Export-led growth Focus on export of manufactures as engine of growth Became more common starting in 1970s Carbaugh, Chap. 7

Import substitution: pros Growth strategies Import substitution: pros Risk of establishing home import-replacing industry is low because home market already exists Easier for developing nations to protect their own markets than to force industrial nations to open theirs Gives foreign firms an incentive to locate production in developing country, providing jobs Carbaugh, Chap. 7

Import substitution: cons Growth strategies Import substitution: cons Trade restrictions shelter home industry from competition, giving no incentive for efficiency Small size of most developing country markets makes it difficult to benefit from economies of scale Protection of import-competing industries draws resources away from all other sectors, including potential exporters Once firms have sunk investments in sectors which only became profitable when protected, they will tend to resist ever removing those protections Carbaugh, Chap. 7

Export-led growth: pros Growth strategies Export-led growth: pros Encourages industries in which developing countries are likely to have a comparative advantage - such as labor-intensive manufactures Export markets allow domestic producers to utilize economies of scale Low level of trade restrictions forces domestic firms to remain competitive Carbaugh, Chap. 7

Export-led growth: cons Growth strategies Export-led growth: cons Main disadvantage to export-led growth is that it depends on the ability and willingness of industrial nations to absorb large quantities of manufactures from developing countries In other words, it is sensitive to economic cycles and protectionist pressures in the export markets Carbaugh, Chap. 7

Openness and economic growth Growth strategies Openness and economic growth Average Annual Growth in Real Income per Capita (%) Source: David Dollar and Aart Kraay, Trade, Growth, and Poverty, World Bank Development Research Group, 2001. Carbaugh, Chap. 7

Growth strategies: case studies Brazil - import substitution in computers Policy backfired, and was abandoned by 1991 East Asian newly industrialized countries - export-led growth Generally very successful, until 1997 crisis High rates of investment and building human capital Problems overlooked: pollution, income distribution Vulnerable to protectionist reactions elsewhere Carbaugh, Chap. 7

Growth strategies: case studies China - transformation from extreme import-substitution to focus on exports Dramatic change in China’s role in the world economy has accompanied rapid growth in its domestic economy Heavy state role in economy (legacy of central planning) raises issues of fairness Political issues, lack of enforcement of some agreements (intellectual property) complicate economic relations Accession to the WTO will mean adherence to global trade rules - and coping with the dislocations that will involve Carbaugh, Chap. 7