8:32 AM Nov 14, 1995

WTO YEARNS FOR LAISSEZ FAIRE TRADE ORDER

Geneva 14 Nov (Chakravarthi Raghavan) -- The World Trade Organization has advocated more restraints on governmental policies and measures -- dealing with new issues including environment, competition and investments -- through and multilateral legal constraints so as to establish and maintain a liberal trade order.

In its annual report, the WTO secretariat views technological change and evolving strategies of firms and individual investors as promoting globalization and integration and government policies on international trade and capital flows as a factor that could speed up, slowdown or even reverse the momentum towards globalization and global integration.

"If only governments everywhere were permanently committed to complete laissez faire in domestic and international policies," the WTO secretariat argues in its publication, 'International Trade: Trends and Statistics', global integration would progress under its own natural momentum."

Referring to the European experience -- from the Anglo-French agreement of 1860 for free trade to the experience of the 1930s and the post-war GATT system created from this experience -- the WTO report fears that while global integration has proceeded to a point where dis-integration on the 1930s scale would be unthinkable, a fracturing of the global economy with inward looking and potentially antagonistic trade blocs could become a reality if commercial relations reached the stage of trade warfare seen in the 1930s.

"It would be warfare not between countries, but between trade blocs held together by their own free-trade treaties and a desire to protect the degree of integration achieved within them".

To prevent such a development, the WTO report advocates pursuing in tandem ways to ensure current and future free trade areas and customs remain outward oriented, complimenting rather than competing with the multilateral trading system, and ensuring this by WTO members dealing with a wide range of shortcomings in Uruguay Round agreements.

Also needed would be broader effort to protect and extend credibility of new rules and disciplines of the Uruguay Round and adapt them to changing circumstances, and tackle new issues including telecommunications, financial services, environment, competition and investment policies.

According to the report, world trade in merchandise goods slowed down marginally in volume in 1995 and is expected to register a further modest slowing in 1996.

The trade in goods is expected to grow in volume in 1995 by eight percent compared to the 9-1/2% in 1994, but was triple the growth of world output.

Trade growth by volume of goods is expected in 1996 to grow at a rate somewhat below that for 1995 but close to double the world output growth, the WTO secretariat added.

The WTO report projects volume of world output growing in 1996 at about the same pace as in 1994 and 1995, while world trade will expand at a rate slightly below that of 1995, but close to double the world output.

In terms of value, and based on information available for first six months for leading traders (accounting for three-fourth's of world trade), showed that trade in goods spurted by 23 percent compared to the 13 percent over the same period in 1994.

But this gain is largely the result of the effect of the dollar depreciation.

The report says that it is not clear how the disturbances in foreign exchange markets may affect projected trade growth in 1995 and 1996. But the world trade figures for the first six months of 1995 did not show signs of being negatively affected by the sharp depreciation of the dollar.

"As for the turmoil in exchange markets near end September, it is too early to tell," the WTO report says, adding that available empirical research on exchange rates on world trade suggested that the impact would be small. While reasons for this are not clear, most explanations stress that new financial instruments enabling hedging on foreign exchanges help considerably to reduce risks of foreign exchange instability to traders.

The WTO report though appears to ignore a number of other studies that show that for many developing countries costs of hedging are higher and add to the transaction costs (and thus an inefficient resource allocation) and is largely unavailable for small and medium firms and commodity producers.

Studies done for the Group of 24 (developing country group in the IMF/World Bank), and published by UNCTAD in its "International Monetary and Financial Issues for Developing Countries" series, provide some contrary evidence of negative effects of exchange rate volatility and fluctuations on trade, production and investment.

The studies show that exchange rate fluctuations and volatility increases risk and uncertainty in international transactions and depresses supply of exports and demand for imports and that "this effect is independent of whether or not such risks are fully covered; although forward covering reduces the risk, the cost of operation in forward markets has similar effects on supply and demand behaviour as uncovered risk."

Also, exchange rate misalignments distort price signals and the profitability of different activities, and trigger inefficient shifts in degrees of capacity utilization and levels of employment and in the allocation of investments.

Moreover, misalignments damage composition and level of investments, and to the extent that long-term swings are unanticipated, shortens the time-horizon of investors.

That such fluctuations have adverse effects even on trade of industrial countries was brought out in studies in the 1980s by the New York Federal Reserve.

The most damaging effect was found in terms of such exchange rate fluctuations and misalignments triggering protectionism, including measures advocated or introduced under the guise of dealing with bilateral trade deficits, which even currently is a constant US theme.

In terms of recent European experience, other academic studies have brought out the overall negative effects of exchange rate fluctuations and instability resulting in higher interest rates which in turn dampen investments and production and closing the circle in terms of trade.

Focusing on the increasingly higher trade growth rates relative to output growth, the WTO views this positively as reflecting the increasing "globalization" of the world economy.

"To sum up," says the report, surveying the trade/output ratios since the 1950s, and the more consistent patterns of the 1990s, "the rising ratio of world trade to world output is the centrepiece of evidence on the pace of global integration and growing interdependence among nations.

"And by drawing attention to the greater dynamism of international trade -- that is, to the fact that trade has consistently grown faster than output throughout the postwar period - it highlights the central role of international trade in postwar economic growth."

However, an increasingly vocal non-mainstream economists, environmentalists as well as social scientists, view this increasing trade/output ratios as more like a mouse on a tread-mill, involving far higher than necessary use of energy and other such resources in transportation (a major area of green-house gas emission effects).

The WTO secretariat argues that excess of trade growth over output growth over much of the past 45 years, along with the evolution of global integration, suggests a certain natural momentum for globalization.

Postwar global integration, the WTO suggests,, are due to developments in government policies, innovations in communications and transportation and evolving strategies of firms and individual investors.

The latter two factors, the WTO says, impart a natural momentum to global integration and the role of government policies would drop out of the picture "if governments everywhere were permanently committed to complete laissez-faire in domestic and international policies".

"In this case, there would be every reason to believe that global integration would progress under its own natural momentum, propelled by the daily decisions of hundreds of millions of individuals and firms."

But the report appears to bemoan that laissez-faire is not the dominant approach to economic policy, least of all in area of international trade, and says that "government policies with respect to international trade and capital flows can however imperfectly, either speed-up or slow-down - or indeed reverse progress on global integration".

The presence of legally binding "international constraints" on government policy-making can play an important role in bringing about national policies that nourish integration, says the WTO and cites the tariff history of Europe of the 19th century from 1860 to 1914 -- the Anglo-French treaty for free trade on an MFN basis which was embraced by most of Europe.

But other economists and analysts, like M.Panic and Paul Bairoch, in their published studies on the economic history of those times, have brought out that France and Germany which went back on that treaty around the end of the 1870s, industrialized and suffered lesser effects of the Long Depression while England which continued on the laissez-faire path suffered reversal of its dominant position as leader of the industrial revolution to the United States and Europe and did not recover ground.

Panic, in his book 'National Management of the International Economy' has stressed that theories of free trade rest on some fundamentals that trade economists often ignore or forget: full employment; international harmony of interests; equality of opportunity ensured by constant returns to scale and perfect competition (rather than oligopolistic competition that blocks new entrants); an effective international financial system to ensure growth and distribution of international finance to promote improvements in both national and global employment and real incomes. Panic also stresses the important requirement that if a large number of independent sovereign states are to accept free trade, the gains from it will have to be fairly evenly distributed.

Even in England of the 19th century (that the WTO economists have looked backward to so yearningly in advocating laissez faire to ensure a liberal trade order and globalisation), Panic points out 'laissez faire was a political and economic myth.. adherence to the principle of laissez faire does not necessarily imply political neutrality. In conditions in which the balance of economic power is unequally distributed, government inaction can be as beneficial to established vested interest as its intervention may be to an aspiring one... Firms in countries which industrialize earlier may gain important advantages even in those activities in which the countries have no comparative advantage. If they can use their market power to prevent firms from countries in which such advantages exist from entering these activities, free trade can easily lead to a greater misallocation of the world's productive resources than protection!".