Questioning Free Trade and Liberalization

Nowadays, pressure is mounting for developing countries to adopt “”good policies”” to foster their economic development. These policies include the liberalization of trade, finance, and investment. These ideas are imposed on developing countries by the developed nations using strong and external bilateral and multilateral pressure. The argument is that these policies are good for developing countries because they are how developed nations became rich.

The nature of economic liberalization has been facilitated by the Structural Adjustment Programs (SAPs) where the International Monetary Fund (IMF) and World Bank play an important role. The World Trade Organization (WTO), a development of the General Agreement on Tariffs and Trade, was set up in order to reduce tariffs in international trade and to eliminate all other measures that prevent free trade.

Contrary to conventional wisdom, history shows that rich countries did not develop on the basis of the policies that they now recommend to, and often force upon, the developing world. According to Ha-Joon Chang, an historian and economist from Cambridge University, almost all of today’s rich countries used tariff protections and subsidies to develop their industries.

Interestingly, Britain and the U.S., the countries at the forefront of promoting free trade were formally the two most aggressively protected and subsidized nations. Britain had used aggression and in certain areas was a pioneer of activist policies intended to promote its industries during the 14th and 15 centuries and from the 18th century onwards. Furthermore, between the American Civil War and World War 2, the U.S. was one of the most heavily protected economies in the world.

Britain and the U.S. may be the most dramatic examples, but almost all of the rest of the developed world today uses tariffs, subsidies and other means to develop their industries in the early stages. Countries like Germany, Japan, Korea and even Sweden, which later came to represent the “”small open economy”” to many economists, have strategically used tariffs, subsidies, cartels, and state support for research and development to develop key industries, especially textiles, steel, and engineering. Lately, developed countries have become interested in free trade but only among themselves.

The history of GATT/WTO shows that this institution is skewed to fulfill the needs of developed countries. Economist C. Fred Bergsten in a 1998 study shows that the initial creation of the European Common Market in the late 1950s was one of the motivations for the American initiative to launch the Kennedy Round. At that time, the U.S. wanted to reduce the newly created discrimination against American exports. Similarly, the expansion of the European Community to include the United Kingdom and other nations was an important reason for America to insist on the Tokyo Round in the 1970s.

Protection was progressively reduced on exports from developed countries, but remained on goods exported intensively by developing countries. It is no surprise that GATT came to cover trade over all goods except agriculture and textiles. These two goods are most often produced by developing countries.

Textiles were covered by the Multifiber Arrangement (MFA), through which developing countries bargained bilaterally to establish quotas on the quantities of exports that they could export to developed countries. However, developed countries did not impose any restrictions on textile imports from other developed countries. Correspondingly, agricultural trade was excluded from the GATT and developed countries still continue to pursue protectionist policies and subsidies.

Writing about developed countries preaching free trade to less-advanced nations, Friedrich List compared it to a person trying to “”kick away the ladder”” that they had used to climb to the top. Economist Dr. Ha-Joon Chang then argues it is no coincidence that economic development has become more difficult during the last two decades when developed countries started putting pressure on developing countries to adopt these so-called “”global standard”” policies and institutions.

Mainstream economists will likely argue that China and India, the two rising giants, have benefited from trade liberalization or free trade. However, one should consider this statement carefully. To be sure China is advantaged by trade liberalization, but trade liberalization certainly did not cause China’s growth.

China began to grow rapidly in the late 1970s, but trade liberalization did not begin until the late 1980s, and only took off in the 1990s after economic growth had increased markedly. The Indian story is similar. Growth there increased in the early 1980s while tariffs were actually going up in some areas and did not begin to come down significantly until the major reforms of 1991-1993.

Reflecting on these facts, the conditions attached to bilateral and multilateral financial assistance to developing countries should be radically changed. It should be accepted that the orthodox recipe is not (always) working. There are no “”best practice”” policies or a panacea that everyone should use. By being allowed to adopt policies and institutions that are more suitable to local conditions, developing countries will change faster. This will also benefit developed countries in the long run, as it will increase their trade and investment opportunities.

Written by Setyo Budiantoro in The Jakarta Post, 29 January 2007

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