Modernizing Trade Rules: A New Way for Opening Markets or Reducing Trade?

Modernizing Trade Rules: A New Way for Opening Markets or Reducing Trade?
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In a recent article in Global Vision, Mr. Derrick Wilkinson suggests that trade rules should be modernized as a new way to open markets. His proposal is to introduce new trade preferences that are driven by rules on methods of production (ROMP) in order to accommodate concerns on climate change, environmental issues, labor rights, and animal welfare within trade agreements. Unfortunately, this approach would more likely to reduce international trade than increase it. We adduce below broad reasons why the ROMP approach will end up working against consumer welfare, trade promotion, competition enhancement, and economic development.

International trade is primarily a way to enhance consumer welfare within trading nations. Trade theory going back to Adam Smith and David Ricardo posits that trade based on comparative advantage of nations enhances consumer welfare as such trade allows specialization and thus economic efficiency. As opportunities for advantageous trade rise, firms in each country seek to compete as effectively and efficiently as possible using the best production methods available to participate in such trade. In turn, these efforts increase trade between nations which lead to higher consumption, saving, and investment that lays the foundations for rising prosperity in all nations involved in trade. Any effort to impede free trade through unnecessary rules and regulations, tariffs and quotas, or preferences and restraints detracts from economic efficiency and consumer welfare.

Let us consider how the introduction of preferences based on ROMP would affect international trade.

In the first place, ROMP based preferences would divert trade away from potentially more efficient, non-ROMP countries to less efficient ROMP-favored countries. Any specification of ROMP for a product implies that the specified method is less efficient than the ones that countries are using. If that ROMP-favored method is the most efficient, then there would be no need to specify and give preference to it as that method would be the one that most countries would use any way. Incidentally, rules of origin (ROO) that Wilkinson invokes in support of ROMP work along similar lines. ROO push countries away from the most efficient supply chain and input sourcing and as such ROO are second best choices in international trade. In other words, ROMP approach goes against the very reasons for international trade, namely economic efficiency and consumer welfare enhancement.

Second, an effort to give trade preferences on the basis of methods of production would distort the competition policies within trading countries. For example, if a particular method based on less use of fossil fuel is favored by ROMP, a country could attempt to subsidize that method, or an alternative, to give companies from that country a leg up in global competition. As such distortion of competition policies spread across the globe, no company would be better off but, in the process, all countries would have distorted their competition policies. This argument only touches on the first order effect. Since any subsidy to one method would also affect other industries and, thus, resource allocation process in those, the distortionary effect would become economywide. In other words, we may end up lowering the global consumer welfare and economic efficiency.

Third, any move to introduce ROMP based preferences would suggest that trade negotiators are open to every kind of market distorting demand that could be justified on some public policy ground just as Wilkinson does while advocating for them based on concerns such as climate change and labor rights. Indeed, even in the four areas – climate change, environment, labor rights, and animal welfare – there are many different sub-areas that different advocacy groups could focus on. For example, in labor rights, what are the factors that should be taken into account before a production method could be given the ROMP label? Different countries may put differing emphasis on different factors. If so, how do we reconcile them while negotiating agreements? In other words, any effort to move in the direction of ROMP based trade agreements would only lead to interminable delays in striking beneficial trade treaties.

Fourth, even if some countries could identify and agree on specific ROMP based preferences, what is the guarantee that a specific method of production would remain the optimal one in the future? Currently trade rules allow flexibility to firms and countries to continue to work on improving their production methods and change them as necessary. Such dynamic efficiency is at the heart of free trade agreements underpinned by market competition and they help the world economy stay on a path of innovation. Any effort to enshrine a method of production in a trade agreement would stifle innovation and economic dynamism.

Fifth, if a country like United Kingdom seeks to push for its preferred methods of production based on its values while seeking to strike a trade agreement, the other country may come to resent such an effort as infringing on its sovereignty. Indeed, it would be ironic if United Kingdom which just went through the wrenching experience of Brexit, partly driven by the need to assert its sovereignty in rule making and regulations vis-à-vis the European Union, were to seek to impose its preferences for rules and regulations in its drive for free trade agreements with other countries.

Finally, any effort to accommodate the demands of climate change, environment, labor rights, and animal welfare in trade deals is nothing but an effort to usurp the roles and responsibilities of several specialized international bodies such as UNEP and ILO. Not only will those international bodies be unhappy about trade negotiators infringing on their bailiwicks, they may actively try to impede any progress in trade negotiations unless their particular ways of looking at issues are taken into account by trade representatives. Surely, this will be a recipe for gridlock and not for forward movement in trade negotiations.

In sum, ROMP based trade preferences are a bad approach to trade negotiations. Such preferences will only delay, dilute, distort, and destroy trade gains. In other words, this move will simply burden international trade with more market distortions at a time when we need to be moving in the opposite direction, that is, reducing market distortions. The United Kingdom, which went through the tough Brexit efforts to rid itself of such distortionary rules imposed by Brussels, will be ill-advised to take up this proposal when it is seeking to negotiate new free trade agreements with countries such as United States.

The post Modernizing Trade Rules: A New Way for Opening Markets or Reducing Trade? appeared first on Global Vision UK.

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