Tuesday, April 28, 2009

Free Trade not optimal?

Globalization and free trade has taken great importance within the last 10 years. The seemingly foregone understanding of free-trade is that it increases wealth and reduces poverty while globalization, is the facilitator for this push to produce the best for the cheapest to sell the cheapest for the most value. However, is this really optimal?

The Latin America and the Caribbean (LAC) countries, for all intents and purposes- and even the LAC countries that have been participating in the World Trade Organization’s framework for some time- is still grappling with finding the right mixtures, in regards to best benefits from free trade and harnessing the best practices from the linkages and synergies Globalization creates.

The LAC is also grappling with managing domestic issues and at the same time, maintaining international obligations to standard economic principles, as appreciated by proponents of the current international and macro-economic popular thought.

In order to appreciate the discussion, we need to separate the ideas and work of persons who study the issue.

For starters, it's obvious that Globalization and free trade aren't like terms. The former seeks optimal returns at the firm level and the latter, seeks optimal returns for both the consumers and the most efficient producers. They both are, however, issues that governments can affect the outcomes of. But, both ideals are segregated at their base level, as one is driven by the pull of the strength of the markets (Globalization) and the other is, theoretically, market forces driven by demand (Free Trade).

The general theme of persons pro free-trade, like Professors Jagdish Bhagwati and Razeen Sally of Columbia University and the London School of Economics respectively- the latter I had the pleasure of languishing through a few of his most boringly pedantic lectures cluttered with dry humour- are full throated and un-ashamed free-traders, from a comprehensive and systemic, multi-lateral standpoint. To add to this, their position on Regional Trade Agreements (RTA’s) in relation to the multi-lateral system (MLS) is also fundamentally pro-MLS and is at odds with the trade distorting effects of RTA's.

Their basic premise is that free trade produces optimum benefits for countries, as it sets in play market forces by allowing consumers to choose the best goods and services at best prices, ultimately decided through the basic interaction of supply and demand on the best and most efficiently produced product.

The most notable critics of "unfettered" free-trade on the other hand, is Nobel Laureate Paul Krugman with his prize winning work on economies of scale and the pioneering of the "New Trade Theory". And, slightly to the left of Professor Krugman, Professor Dani Rodrik of Harvard University, makes an additional counter argument that from an industrial policy development perspective, free trade, isn't always the first best option in the long term for weaker producing firms, exposed to international competition, where their domestic consumers depend on returns in regards to industrial policies that seek to create returns, in order to turn those over into other aspects of their economies- a best case scenario of a "beggar thy neighbour" policy ideals of sort.

To be fair, I think it would be hard to argue against the merits and benefits of free-trade, from a purely theoretical standpoint. I also think it would be negligent to suggest that there shouldn't be any form of tariff collection on goods and services, in the form of an optimal tariff, which amasses collective public wealth- for at least one trade partner- for that to be re-allocated into other weaker areas of an economy.

To go even further and to put the issue more realistically, connecting the obviousity Professor Rodrik's view, I think it would be very difficult to set a premise for free trade policy, industrial policy or new trade theoretical policy assumptions, aside from the understanding of rational choice considerations working within the system of public choice realities.

My argument is that free trade cannot be realistically optimized and, further, totally beneficial to the nation state, when we consider comprehensive national welfare and security implications. And, certainly, not achievable if we consider developing nation issues and concerns, in regards to tariff collection for development as a starting basis for which understanding when public choice theoretical considerations becomes a reality.

Moreover, my position on the issue isn't in the argument over the merits of pure free trade. But, within the extent to which welfare distorting tariffs and subsidies, produce sub-optimal results as well as to what extent is the term globalization, totally beneficial to the ideals of the tenets of free-trade, as free trade relates to realities under rational expectations in regards to public choice.

In order to bridge this train of thought, a case study by Robert Wade (2004), divided the "Globalisers", comprising of India and Bangladesh and then the "Non-Globalisers", Honduras and Kenya, on the variable of trade openness as determined by global standards and trade to GDP.

His study- while acknowledging scantily that free trade and globalization are two separate terms- exhibits a paradoxical relationship between the internationally accepted standard of what constitutes differences between a Globaliser and a Non-Globaliser.

In his study, the Globalisers had higher GDP growth performance and at the same time considerably more trade distorting barriers in regards to the global criteria of what constitutes an "open" free-trade country, during their entrance period into the global markets between the 1970's and 1990's. For example, they had stricter capital controls and significant levels of protection. While Non-Globalisers, exhibited opposite patterns while also having double export to GDP percentages over and at the same period of measurement.

The issue is that- barring Wade’s conclusions on population, geography and factors of production differentials- what has been accepted as pro-growth free trade globalization at work, doesn't represent a complete explanation under all circumstances.

This should be fully reconciled as it relates to the LAC as it is clear that the the theoretical benefits of free trade, requires greater qualification.

Jumping back to Professor Krugman's work on economies of scale to date, while it outlines revolutionary new details about perfectly competing developed economies under internationally competing markets, the effect of which that is to be transposed to the development realities of the LAC and devbeloping aggregate, is yet to be fully examined.

Most glaringly, is the reconciliation that the economies examined by Professor Krugman are developed countries, who have already established production differentiation patterns in goods and services to that of above- or equal to- global standards as well as have the access to additional markets to export those goods and services.

In addition, there must be further discussion about the glossing over of the possibilities of lower returns to relative scale and externally driven diversification to development ratio's, within developing countries due to the triad's- the USA, Japan and the EU- concentration of production specialization within their markets. The latter point is what globalization is supposed to address for developing countries.

In a nutshell, the great diffusion of knowledge and technology has not been reconciled as the rapid catalyst under which globalization through the free-trade proxy, supposedly reduces real and relative poverty. It also hasn't adequately taken into account the concentration of the production patterns in that of the triad, for that to be examined to show, unequivocally and regardless, current relative growth in universally dispersed global production patterns of diversification of standard bearing goods and services to the greater benefit of developing countries.

The positions of protectionism, globalization and free-trade, need to be re-examined under free trade assumptions to that of rational expectations under public choice in relation to the developmental nexus of developing economies, under the existing global framework, with flexibilities and valuable linkages within RTA networks, considering present circumstances.
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