In a global trading landscape that is being increasingly influenced by protectionist narratives, the approval of the landmark European Union-Canada trade deal Comprehensive Economic and Trade Agreement (Ceta) by the European Parliament comes as a breath of fresh air. Trade between the two economies amounts to about $63 billion presently, and reports say Ceta could increase this by 20% to as much as $76 billion.
Realizing these gains from trade would require dismantling not just tariffs but also non-tariff barriers as envisioned in Ceta. While the former has finally been voted upon in the EU parliament and about to be enforced after more than seven years of negotiation, the latter still hangs in the balance. Reducing non-tariff barriers would require ratification by EU member states, a task that is both formidable and time-consuming. Last year, the tiny Wallonia region of Belgium, with a population of about 3.5 million, held the entire deal hostage to its concerns about the loss of welfare due to trade. Foreign competition induced by Ceta was particularly feared to hurt Wallonia’s farmers, who were increasingly facing higher production costs in their region. To be sure, such concerns are legitimate and are shared by a host of countries, including the US.
But that narrative fails to take into account the huge welfare gains that accrue to consumers of cheaper imports. A 2016 paper by economists Holger Breinlich, Swati Dhingra, and Gianmarco Ottaviano of the London School of Economics analysed the effects of free trade agreements (FTAs) negotiated by the EU in the past two decades. They concluded that these agreements not only improved the quality of the UK’s imports by 26%, but also lowered the quality-adjusted price of those imports by 19%. For EU-12 countries, which include Belgium, FTAs enhanced the quality of imported goods by 28%, while reducing the quality-adjusted prices by 11%.
In value terms, cheap imports resulted in savings of as much as $5.6 billion for UK consumers every year. Furthermore, the authors also predict that treaties such as the Transatlantic Trade and Investment Partnership between the EU and the US could save EU consumers $4.45 billion, while the Economic Partnership Agreement between the EU and Japan could save them $2.23 billion by way of lower import prices.
Even among those consumers, the poor tend to gain more through freer trade. This is because tradable goods constitute a large portion of their overall expenditure, and lower import prices of these goods feed into greater savings for them. A 2014 working paper by Pablo Fajgelbaum of the University of California and Amit Khandelwal of the Columbia University, published in the National Bureau Of Economic Research, found that the “real income loss from closing off trade is 63 percent at the 10th percentile of the income distribution and 28 percent for the 90th percentile.”
In simpler terms, trade has a pro-poor bias, and any barriers to trade can quickly degenerate into barriers to reducing poverty. That is not to downplay the distributional consequences of trade or engage in trade fundamentalism. Trade hurts uncompetitive businesses and causes unemployment. But as long as the losers are compensated from the aggregate welfare gains resulting from trade, there is a strong case to be made in favour of liberalizing restrictions. This compensation should be in the form of robust safety nets—such as unemployment insurance benefits or income support payments—that are combined with skilling programmes to retrain displaced workers for new employment opportunities.
There could also be a legitimate argument in favour of imposing anti-dumping or countervailing duties on certain items if the cheap import happens to be a result of market distortions created by the foreign trade partner in its home country. In its high growth years, for example, China witnessed heavy state-led investments in its steel industry. This led to industrial overcapacity in the subsequent low growth years when domestic demand faded. Consequently, Chinese producers engaged in price discrimination by exporting steel to foreign markets at prices far lower than those prevailing domestically. The importing countries naturally witnessed damage to their domestic steel industries, but not necessarily due to their own inefficiencies or weaknesses. They lost out owing to market distortions or failures induced by their foreign trade partner’s state policy. This could justify appropriate domestic measures.
The problem with such measures, however, is that it is often difficult to distinguish clearly between cheap imports induced by market distortions and those taking place as a result of genuine comparative cost competitiveness of the foreign producers. And the result is a flagrant misuse of anti-dumping measures to thwart even genuine imports. A 2015 working paper by economists Chad Bown and Rachel McCulloch of the European University Institute found that even though anti-dumping measures in the 1980s were originally employed to prevent anti-competitive behaviour, they gradually ended up being misused to create collusion and cartelization by domestic producers.
Given their potential for misuse, protectionist measures should be avoided or limited to exceptional situations only. Where such effects are unclear, trade should be allowed to take its own course
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Steve Ovett, the famous British middle-distance athlete, won the 800-metres gold medal at the Moscow Olympics of 1980. Just a few days later, he was about to win a 5,000-metres race at London’s Crystal Palace. Known for his burst of acceleration on the home stretch, he had supreme confidence in his ability to out-sprint rivals. With the final 100 metres remaining,
[wptelegram-join-channel link=”https://t.me/s/upsctree” text=”Join @upsctree on Telegram”]Ovett waved to the crowd and raised a hand in triumph. But he had celebrated a bit too early. At the finishing line, Ireland’s John Treacy edged past Ovett. For those few moments, Ovett had lost his sense of reality and ignored the possibility of a negative event.
This analogy works well for the India story and our policy failures , including during the ongoing covid pandemic. While we have never been as well prepared or had significant successes in terms of growth stability as Ovett did in his illustrious running career, we tend to celebrate too early. Indeed, we have done so many times before.
It is as if we’re convinced that India is destined for greater heights, come what may, and so we never run through the finish line. Do we and our policymakers suffer from a collective optimism bias, which, as the Nobel Prize winner Daniel Kahneman once wrote, “may well be the most significant of the cognitive biases”? The optimism bias arises from mistaken beliefs which form expectations that are better than the reality. It makes us underestimate chances of a negative outcome and ignore warnings repeatedly.
The Indian economy had a dream run for five years from 2003-04 to 2007-08, with an average annual growth rate of around 9%. Many believed that India was on its way to clocking consistent double-digit growth and comparisons with China were rife. It was conveniently overlooked that this output expansion had come mainly came from a few sectors: automobiles, telecom and business services.
Indians were made to believe that we could sprint without high-quality education, healthcare, infrastructure or banking sectors, which form the backbone of any stable economy. The plan was to build them as we went along, but then in the euphoria of short-term success, it got lost.
India’s exports of goods grew from $20 billion in 1990-91 to over $310 billion in 2019-20. Looking at these absolute figures it would seem as if India has arrived on the world stage. However, India’s share of global trade has moved up only marginally. Even now, the country accounts for less than 2% of the world’s goods exports.
More importantly, hidden behind this performance was the role played by one sector that should have never made it to India’s list of exports—refined petroleum. The share of refined petroleum exports in India’s goods exports increased from 1.4% in 1996-97 to over 18% in 2011-12.
An import-intensive sector with low labour intensity, exports of refined petroleum zoomed because of the then policy regime of a retail price ceiling on petroleum products in the domestic market. While we have done well in the export of services, our share is still less than 4% of world exports.
India seemed to emerge from the 2008 global financial crisis relatively unscathed. But, a temporary demand push had played a role in the revival—the incomes of many households, both rural and urban, had shot up. Fiscal stimulus to the rural economy and implementation of the Sixth Pay Commission scales had led to the salaries of around 20% of organized-sector employees jumping up. We celebrated, but once again, neither did we resolve the crisis brewing elsewhere in India’s banking sector, nor did we improve our capacity for healthcare or quality education.
Employment saw little economy-wide growth in our boom years. Manufacturing jobs, if anything, shrank. But we continued to celebrate. Youth flocked to low-productivity service-sector jobs, such as those in hotels and restaurants, security and other services. The dependence on such jobs on one hand and high-skilled services on the other was bound to make Indian society more unequal.
And then, there is agriculture, an elephant in the room. If and when farm-sector reforms get implemented, celebrations would once again be premature. The vast majority of India’s farmers have small plots of land, and though these farms are at least as productive as larger ones, net absolute incomes from small plots can only be meagre.
A further rise in farm productivity and consequent increase in supply, if not matched by a demand rise, especially with access to export markets, would result in downward pressure on market prices for farm produce and a further decline in the net incomes of small farmers.
We should learn from what John Treacy did right. He didn’t give up, and pushed for the finish line like it was his only chance at winning. Treacy had years of long-distance practice. The same goes for our economy. A long grind is required to build up its base before we can win and celebrate. And Ovett did not blame anyone for his loss. We play the blame game. Everyone else, right from China and the US to ‘greedy corporates’, seems to be responsible for our failures.
We have lowered absolute poverty levels and had technology-based successes like Aadhaar and digital access to public services. But there are no short cuts to good quality and adequate healthcare and education services. We must remain optimistic but stay firmly away from the optimism bias.
In the end, it is not about how we start, but how we finish. The disastrous second wave of covid and our inability to manage it is a ghastly reminder of this fact.