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With typical wit and sarcasm, Jagdish Bhagwati comes down on preferential agreements that eat away at free trade

Written by Bibekdebroy |
November 9, 2008 5:58:27 pm

With typical wit and sarcasm, Jagdish Bhagwati comes down on preferential agreements that eat away at free trade
It is a tragedy that this year’s Nobel Prize wasn’t shared by Paul Krugman with his former teacher Jagdish Bhagwati. Krugman’s work on strategic trade theory has sometimes been interpreted as justification for state intervention in free trade flows. In contrast, Bhagwati’s work is for unabashed free trade and against protectionism. How does one ensure free trade and removal of barriers?

There are unilateral (liberalisation, regardless of what trading partners do), regional (quid pro quo liberalisation within a region) and multilateral (through GATT/WTO) trade routes. All three result in welfare gains, since losses to inefficient producers are more than compensated by gains to consumers. Protectionism results in dead-weight losses, the staple fare of trade theory. In addition, unilateral and multilateral routes don’t lead to discrimination between trading partners. Because they create distortions, regional agreements aren’t desirable. They violate the MFN (most favoured nation) principle, one of the building-blocks of the GATT/WTO system. MFN is a most unfortunate turn of phrase, since it suggests some country is being favoured. What MFN actually says is quite the opposite: every trading partner must be offered the treatment given to the country that is the most favoured. That is, there shouldn’t be any discrimination.

When GATT was established in 1947-48, all regional trading agreements (RTAs) should have been prohibited, since they violate MFN. However, there were several of these floating around and, realistically, they couldn’t have been scrapped. They were, therefore, factored into the multilateral system, through Article XXIV and a separate 1979 clause for developing countries. If one includes all RTAs (those implemented, notified and being negotiated), there are almost 400 of them and have led to the world trading system being compared to a spaghetti (an expression that originates with Bhagwati) bowl. There are gradations within RTAs — from classic FTAs (free trade agreements) to customs unions (FTA plus common external tariff), common markets (customs union plus free cross-border capital and labour flows) and economic unions. However, rarely do RTAs transcend the first two categories. These days, for several economists, it is impossible to separate economics from mathematics and with rigor (offshoot of mathematics) has come mortis. Bhagwati is an exception and his prose, with its wit, humour and sarcasm, is a delight, particularly when he produces a popular book, as this one is. Bhagwati uses the expression PTA (preferential trade agreement) rather than RTA, since several agreements are no longer regional.

While the point is valid, it is doubtful if the usage of PTA will ever catch on, since there is a different sense in which the term is used. So let’s stick to RTAs. This is a slim book in four chapters, documenting the literature and Bhagwati’s views on these termites that are eating away at the multilateral trading system. And it’s an extremely good book, almost like a four-lecture series delivered by Bhagwati the teacher. The first two chapters document how deeply ingrained the termites are. The third chapter brings in theory, but without a single Greek letter of algebra brought in. Some more theory is inserted in the appendix, ignoring the oft-neglected question of time-path followed by RTAs, for instance, whether RTAs are a stepping-stone towards (or a retreat from) the eventual goal of multilateral free trade. The fourth chapter brings in the policy question of what one should do about these termites. A glossary, select bibliography and an index add to an extremely good book.

India has figured in several RTAs now. Not long ago, there was nothing beyond the Bangkok agreement to show. Consequently, India has also jumped onto the termite bandwagon, notwithstanding considerable transaction and negotiating costs this imposes on the Commerce Ministry. RTAs interpreted as classic FTAs in manufactured products are irrelevant now. Such duties are low and once Doha revives, they will be reduced further. Most new RTAs are WTO-plus in the sense of including services. RTAs proliferate when multilateralism stagnates, as is the case now. However, in addition, RTAs seek to include issues not covered by WTO. Bhagwati has strong reservations about incorporating WTO-plus elements in labour or environmental standards or intellectual property. In this context, though he doesn’t mention services directly, the argument there too would probably be exactly the same. However, looking beyond the book, what future does WTO have, beyond administering the Uruguay Round agreements? We are stuck in an impossible situation, with 150-odd countries, each with the right to block an agreement through a veto, but with several countries absolved of responsibilities (though they have rights). While this book isn’t meant to address that issue, without that being resolved termites won’t go away. Bhagwati’s book only prescribes part of the medicine. But on the prescription given, there is no better popular book I can think of.

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