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A myth exposed

Larry Elliott

EXPECT MUCH gnashing of teeth in Hong Kong this week. The chances of securing a comprehensive trade deal are non-existent, with the talks now really about damage limitation and the apportionment of blame.

The development charities will say that the selfish behaviour of the developed world has condemned poor nations to further penury. Washington and Brussels will say the negotiations have been stymied by the obduracy of India and Brazil. Economists will have a field day explaining how the world is turning its back on millions of dollars' worth of extra growth, and that the poor countries will be the ones who will really suffer if the global economy lapses back into a new dark age of protectionism. That is certainly the accepted view. Harvard economist Dani Rodrik is one trade sceptic. Take Mexico and Vietnam, he says. One has a long border with the richest country in the world and has had a free-trade agreement with it. It receives oodles of inward investment and sends its workers across the border in droves. It is fully plugged into the global economy. The other was the subject of a U.S. trade embargo until 1994 and suffered from trade restrictions for years after that. Unlike Mexico, Vietnam is not even a member of the WTO.

So which of the two has the better recent economic record? The question should be a no-brainer if all the free-trade theories are right — Mexico should be streets ahead of Vietnam. In fact, the opposite is true. Since Mexico signed the North American Free Trade Agreement deal with the U.S. and Canada in 1992, its annual per capita growth rate has barely been above 1 per cent. Vietnam has grown by around 5 per cent a year for the past two decades. Poverty in Vietnam has come down dramatically: real wages in Mexico have fallen.

Mr. Rodrik does not buy the argument that the key to development for poor countries is their willingness to liberalise trade. Nor, for that matter, does he think boosting aid makes much difference either. Looking around the world, he looks in vain for the success stories of three decades of neo-liberal orthodoxy: nations that have really made it after taking the advice — willingly or not — of the IMF and the World Bank.

Rather, the countries that have achieved rapid economic take-off in the past 50 years have done so as a result of policies tailored to their own domestic needs. There is little evidence that trade barriers are an impediment to growth for those countries following the right domestic policies.

Mr. Rodrik says: "Since the late 1970s, China also followed a highly unorthodox two-track strategy, violating practically every rule in the guidebook. Conversely, countries that adhered more strictly to the orthodox structural reform agenda — most notably Latin America — have fared less well. Since the mid-1980s, virtually all Latin American countries opened up their economies, privatised their public enterprises, allowed unrestricted access for foreign capital and deregulated their economies. Yet they have grown at a fraction of the pace of the heterodox reformers, while also being buffeted more strongly by macroeconomic instability."

This argument is taken up by Cambridge University economist Ha Joon Chang. In a recent paper, he says that "there is a respectable historical case for tariff protection for industries that are not yet profitable, especially in developing countries. By contrast, free trade works well only in the fantasy theoretical world of perfect competition."

Going to the mid-18th century, Mr. Chang says Pitt the Elder's view was that the American colonists were not to be allowed to manufacture so much as a horseshoe nail. Adam Smith agreed. It would be better all round if the Americans concentrated on agricultural goods and left manufacturing to Britain. Alexander Hamilton, the first U.S. Treasury secretary, dissented from this view. In a package presented to Congress in 1791, he proposed measures to protect America's infant industries. America went with Hamilton rather than Smith. For the next century and a half, the U.S. economy grew behind high tariff walls, with an industrial tariff that tended to be above 40 per cent and rarely slipped below 25 per cent. This level of support is far higher than the U.S. is prepared to tolerate in the trade negotiations now under way.

The lesson is clear, Mr. Chang says. Those countries that did liberalise prematurely under international pressure — Senegal, for example — saw their manufacturing firms wiped out by foreign competition.

—

© Guardian Newspapers Limited 2004

(Larry Elliott is economics editor of the London-based Guardian.)

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