The Hindu Business Line : FTAs — adding to `spaghetti bowl of tariffs'

It is difficult to say whether or not FTAs promote global trade, but surely there are important issues that need to be sorted out in the quest for free trade. From the point of view of developing countries, these issues arise vis-à-visaccess t o the farm market of the developed world. Clearly, the world trading system is very complex and the FTAs may be just adding to the `spaghetti bowl of tariffs'.

IN THE midst of all the hullabaloo of the Budget, some issues have been forgotten. For instance, the recent spate of Free Trade Agreements (FTA) and their relevance to world trade.

The multi-lateral trading system has undergone significant changes, especially with the removal of quotas in trade in textiles from January. Simultaneously, there has been a spurt of FTAs since 1995, with India joining the bandwagon recently. The rules of the multi-lateral trading system are governed by the World Trade Organisation. The FTAs are largely bilateral and seem to undermine the tenets of the WTO. There is a school of thought that such FTAs may not be the ideal way of expanding trade. Is this true?

To start with, the world trading system has seen a gradual transformation from Customs Union to GATT (General Agreement on Trade and Tariffs, the forerunner to the WTO) and, finally, WTO. The cornerstone of the WTO is the most-favoured-nation (MFN) treatment among the member-countries.

In general, MFN means that countries cannot discriminate between their trading partners and so every time a country lowers a trade barrier or opens up a market, it has to do so for the same goods or services from, and for, all its trading partners — whether rich or poor, weak or strong.

Therein lies the paradox. Since Customs Unions predated GATT, an exception to the MFN treatment was made for the Customs Unions without which many countries would not have signed GATT.

Also, countries can set up FTAs in the form of giving developing countries special access, or by raising trade barriers against products that are considered to be traded unfairly from specific countries.

WTO members can form FTAs through Article 24 or through the Enabling Clause of the Tokyo Round, the latter being reserved for developing countries.

There is a problem with Article 24: It does not explicitly state what is meant by "substantially all trade" that should be liberalised and this makes the analysis of the barriers on trade on other countries difficult.

Also, while most analyses focus on the tariff reduction achieved through FTAs, few examine the incidence of non-tariff barriers (NTBs) subsequent to the formation of FTA.

This is in contradiction to the provisions for formation of FTA as laid down in Article 24 of the WTO. However, it must be conceded that it is difficult to quantify NTBs; particularly their quantitative impact.

The other problem is the analysis of Preferential Trade Agreements (PTAs) in services. An examination of the PTAs notified to the WTO indicates the growing importance of these arrangements.

The analysis of FTAs mostly focuses on the trade-creating and - diverting aspects. While the results indicate that in a partial equilibrium framework FTAs create more trade than they divert, the picture is clear only from a general equilibrium analysis that examines the effect of the FTA on the rest of the world.

Analyses have shown that apart from the EU, Nafta and MERCOSUR, other arrangements have not substantially increased trade in the region. The other counter-example is, of course, China. China has increased trade substantially without entering into FTAs.

In 2001, it provided one point (23.8 per cent) to global export growth and 0.8 point (21.1 per cent) to import growth. Most of the FTAs that China has entered into are after its accession into the WTO in 2002. However, the increase in trade volumes for China started from the early 1990s and became really significant from 1995. Thus, it predates China's accession to the WTO.

Interestingly, New Delhi has set up an FTA cell to deal with the grievances of the domestic industry on the adverse impact of FTAs on specific sectors such as the automotive component industry.

In particular, the FTA that India has signed with Thailand may lead to increased imports of automotive components into India.

This is because Thailand has a potential manufacturing cost-advantage compared to India, thereby resulting in the vehicle manufacturers (having bases in both countries) sourcing them from Thailand.

While it is difficult to say whether or not FTAs promote global trade, there are more important issues that need to be sorted out in the quest for free trade.

From the point of view of developing countries, these issues arise vis-à-vis access to the farm market (for example, phyto-sanitary measures prohibit Indian mangoes from being exported) of the developed world

. Clearly, the world trading system is very complex and the FTAs may be just adding to the `spaghetti bowl of tariffs'.

(The authors are with ICRA and TERI School of Advanced Studies respectively. The views are personal.)

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