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WTO: What You See Is Not What You Get (December 2010)

Rethinking Bretton Woods | Sat, Dec 18, 2010

By Aldo Caliari

[Download article in pdf format] 

 

With globalization, “What you see is not what you get” is one of the messages of a recently-launched WTO staff paper that, written by Andreas Maurer and Christophe Degain, aims at promoting a debate on the best way to measure trade flows.[1]

“The objective of official merchandise trade statistics is to describe adequately economic phenomena

and provide decision makers with relevant indicators. Yet, the structural changes linked to globalization are challenging the relevance of these traditional trade statistics,” the authors say. The structural changes that they are referring to are the increase in trade on goods for processing (as opposed to goods consumed in the country of destination), increased intra-firm trade of multinationals, and transfer pricing. All of these are interrelated phenomena which are growing with an increasing fragmentation of production chains.

The results are important divergences between trade flows recorded on a “gross basis” and trade flows recording “value added created during the production of goods and services.”

 

The findings and conclusions may bring new momentum to claims that experts and civil society had made for a long time. Trade reforms have oftentimes been promoted on the basis, and their success assessed in terms of, measurements and projections of gross exports or imports. To a great extent, policy-makers tend to give a paramount role to expected volumes of export growth when designing and negotiating trade policy, or evaluating the benefits of investment prospects.

 

In the face of this, civil society groups have argued that, if the purpose of trade reforms is to strengthen development finance or financial resilience, then looking at pure gross trade figures might be misleading. For instance last year, in a document laying out trade-related implications of the global financial crisis, civil society groups argued that:

“The source of woes for many developing countries is the implementation of a model of reforms that gave centrality to a paradigm of export-led growth while not ensuring the financial gains derived from exports ultimately accrue to them. This model of export-led reforms did not take into consideration the importance of ensuring that trade became a means for the stable provision of development finance or the need for its articulation with the domestic economy. … What had been characterized as a boom actually hid meager progress –or even retrogression -- in the export structures of developing countries. Very few countries had been able to use the increased revenue from the boom in commodities to develop diversified and value-added production systems. The application of a model based on productive specialization on low –value added products led to a vicious circle of lower accumulation of capital in the national economy, and lower public revenue. The countries that did manage to increase industrialization are discovering the severe limitations imposed by the global supply-chain model within which such industrialization was undertaken.”[2]

Along these lines, a study of 11 Latin American countries implementing trade liberalization reforms in the period 1980-2002 showed that their exports registered increases of between two and eight times in the period, while GDP remained almost stagnant.[3] That increases in developing countries’ share of manufacturing exports were, surprisingly, accompanied by decreases in their share of value added to manufacturing exports, was noted by UNCTAD in its 2002 Trade and Development Report.

It is, however, doubtful that these are the claims that the WTO had in mind when it decided to produce its recent study. Reports would indicate that the main concern was represented by the high volatility showed by trade flows during the global financial crisis 2008-09. In 2009, world trade fell by 14 percent, the largest fall since the Great Depression, but world trade will almost have recovered this year, with a growth of 13.5 percent.[4] "It makes everything appear more volatile, … that creates a political problem,” the WTO Director General Pascal Lamy is quoted as saying earlier this year, at a conference in Brussels.[5]

The increased elasticity of trade to income-- that is, how much trade varies when income varies -- has been also noted in a paper published this year by the World Bank, as background to its upcoming trade strategy: “A one percent change in real income led to around a two percent change in real trade flows during the 1960s and 1970s; in recent years the change is estimated at over 3.5 percent.”[6]

Mr. Lamy not only hopes perception of trade volatility will be reduced. As he argued in a lecture in Paris, correcting overstated perceptions about what countries import from trading partners will make them less wary of trade competition. [7] The very notion of global imbalances that so much political space has recently taken in G20 discussions might look very different once corrected through the lens of value addition.[8] For instance the WTO staff paper argues that the US bilateral trade deficit with China might go down 21 percentage points.[9]

So the recent WTO paper embodies an exercise aimed at overhauling the way that trade is measured, under the expectation that the case for lowering trade barriers will be strengthened.

It is hard to disagree with the paper’s espoused view that “Comparing trade in value added instead of gross flows in trade may change the analysis of trade.” The real question is: is the WTO ready to live with the consequences of measuring trade in value added terms?

For a first unintended casualty of such revised methodology might be the tendency to overstate how much actually countries benefit from the trade patterns in which they are engaged. For instance, a study in 2007 found that only USD 4 of an iPod that costs USD 150 to produce is made in China, even though the final assembly and export occurs in China.[10]

A second unintended consequence is weakening the case for Export Processing Zones that seems to have made a comeback in recent World Bank thinking.[11] The WTO paper estimates that around a fifth of exports from developing countries are from export processing zones.[12] While it takes quite a positive view of this development, including what it estimates to be a 30-35 percent of value added in the host economies, it is not clear that the paper has made a comparison between this value added and those not made from EPZs. Neither does it seem that tax holidays and other benefits that reduce the financial advantage to the host economy are part of the balance leading to such optimistic assessment.

A third one will be to reveal the amount of transfer pricing that prevents countries from benefitting from trade growth. In a recent study, Global Financial Integrity puts trade revenue losses for developing countries in the range of between USD 98 billion and USD 106 billion annually during the years 2002 through 2006.[13] The WTO paper explores this issue in quite candid terms: “The valuation of intra-firm transactions itself is often mentioned as a particular concern when  measuring international trade flows as they may not reflect full market prices to take advantage of fiscal or tax regulations.” It is equally candid in acknowledging the existing obstacles to reach a solution: “…it is difficult for statisticians to correct these distortions which arise from the companies' shifting assets, income and profits for reducing tax burdens.” Country-by-country reporting, the main proposal that civil society has promoted in order to ensure transnational corporations have to provide data for their purchases and sales in each country, thereby facilitating taxation, has failed to garner enough political support for implementation.

Fourthly, widely utilized measures of debt soundness, like the debt-to-export ratio that is characteristically the most relied-upon benchmark to measure countries’ need for debt relief or sustainability of borrowing may come under question. In the reverse application of this concept, also, debt-financed investments in infrastructure for trade that seemed justified may not longer look so attractive compared to other investments not directly oriented to exports.

Overall, the highest advantage will come from bolstering the argument that reforms in the policies that link financing for development with trade –that is, generally, reforms in the financial system—are far more important to boost the development impact of trade than expanded market access or trade opening.

Not that measuring value –added trade will be an easy thing to do. The WTO paper offers, indeed, also a map of the statistical difficulties to address all these problems. Experts question that it can be done, as there are also important problems in consistency of data gathering, definitional problems about what to consider an intermediate good or service and how to determine the sources of inputs or raw materials that manufacturers sometimes jealously protect as a business secret.

But, at the very least, awareness of how significant the discrepancy between value-added and gross exports and imports can be should act as a pinch of salt with which to take claims that have, for decades now, distorted the role of trade in development.

 

[1] Maurer, Andreas and Christophe Degain 2010. Globalization and trade flows: what you see is not what you get! Staff Working Paper ERSD-2010-12. WTO Economics Research and Statistics Division. June 22.

[2] International Working Group on Trade-Finance Linkages- Steering Committee 2009. Submission  to Commission of Experts of the President of the UN General Assembly on the Reforms of the International Monetary and Financial System (available at http://www.coc.org/node/6349).

[3] Ugarteche, Oscar 2009. Second Presentation in Caliari and Yu (Ed.). Trade and Finance Linkage for Promoting Development, p. 79-80.

[4] WTO 2010. Report on G20 Trade Measures.

[5] Miller John 2010. Some Say Trade Numbers Don't Deliver the Goods, in The Wall Street Journal, March 27.

[6] World Bank 2010. International Trade Strategy Approach Paper: Background to the Strategy and Issues for Discussion. March 30, fn. 21.

[7] Lamy, Pascal 2010. Facts and Fictions in International Trade Economics. Conference on Trade and Inclusive GlobalizationParis School of Economics.12 April 2010.

[8] Ib.

[9] Maurer and Degain 2010, p.2010

[10] Miller, John 2010.

[11] World Bank 2010, p. 8; World Bank 2010. Africa’s Future and the World Bank’s role in it. November, p. 7.

[12] This is the average. The paper brings up the example of China, though, where trade numbers indicate that in 2009 nearly half of its exports came out of an EPZ.

[13] These are just losses related to a narrow category of transfer mispricing, not all losses from transfer mispricing. Hollingshead Ann 2010. The Implied Tax Revenue Loss from Trade Mispricing. Global Financial Integrity. February.