TWN Info Service on Free Trade Agreements

10 September 2007


UNCTAD warns of dangers of North-South FTAs

The UN Conference on Trade and Development (UNCTAD) in its latest report warned developing countries to think carefully before negotiating bilateral trade agreements with developed countries as such deals may be more costly than expected.

Its annual Trade and Development Report said such agreements may offer transitory gains in terms of market access and higher foreign direct investment, but they may also limit government action that can play an important role for the medium- and long-term growth of competitive industries.

The report also details a number of non-trade areas in which FTAs with developed countries will particularly hurt developing countries. They include: the opening up of procurement business to foreigners; the liberalization of services; and intellectual property rights.

UNCTAD warned that bilateral and regional deals threaten the coherence of the multilateral trading system and may limit the benefits of existing regional cooperation arrangements among developing countries.

The report counselled that instead of subscribing to North-South FTAs, developing countries should examine other areas of cooperation with partners in the same geographical region and at a similar level of economic development.

This could help strengthen their own strategies for national development and integration into the global economy, building on the advantages of proximity, similarity of interests and economic complementarity, it said.

The article below, which is reproduced with the permission of the South-North Development Monitor (SUNS) Issue#6319 10 September 2007, outlines the findings of the report.


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South-North Development Monitor (SUNS) 6319 Monday 10 September 2007

Trade: UNCTAD warns of dangers of North-South FTAs

Geneva, 5 Sep (Kanaga Raja) -- North-South bilateral and regional free trade agreements (FTAs) could weaken the multilateral trading system, and reduce the scope for national policies that support development and structural change in developing countries, the United Nations Conference on Trade and Development (UNCTAD) warned on Wednesday.

In its Trade and Development Report 2007, UNCTAD noted that as multilateral trade negotiations in the framework of the World Trade Organization (WTO) are slow to advance, there has been a proliferation of regional and bilateral free trade agreements (FTAs) or preferential trade agreements (PTAs), many of them between developed and developing countries.

These deals often present tough choices for the governments of developing countries and countries with economies in transition, and may be more costly than expected, UNCTAD warned.

Such agreements may offer transitory gains in terms of market access and higher foreign direct investment (FDI), but may also limit government action that can play an important role for the medium- and long-term growth of competitive industries.

Officials of developing countries should therefore think carefully before entering into such agreements, the report stressed.

UNCTAD was of the view that the trend towards such agreements, sometimes labelled "new regionalism," is a risky departure from multilateralism.

The report counselled that rather than subscribing to the "new regionalism", developing countries may examine other areas of cooperation with partners in the same geographical region and at a similar level of economic development, in a spirit of a true regionalism (see below).

This could help strengthen their own strategies for national development and integration into the global economy, building on the advantages of proximity, similarity of interests and economic complementarity, it said.

At a media briefing on Tuesday, UNCTAD Secretary-General Dr Supachai Panitchpakdi said that developing countries should be careful in concluding bilateral or regional trade agreements, and should instead seek trade liberalization in a multilateral framework, while pursuing active policy cooperation with developing countries in their own region or in geographical proximity.

He also said that while North-South FTAs can offer some immediate gains in terms of market access and higher FDI inflows, they tend to bind the hands of governments and reduce policy space.

In response to a question, Supachai said that there have been some successful bilateral agreements as well as some unsuccessful ones. It depends on how much countries are tying the FTAs with their own long-term development strategies.

In response to another question, Supachai pointed to the work that UNCTAD was undertaking on South-South economic cooperation. He said that this was driven mainly by the emergence of economies like China. He drew attention to the role that China has played in investment. China is doing more in terms of generating outward investment particularly into other developing countries.

The report said that the number of bilateral and regional trade agreements officially reported to the General Agreement on Tariffs and Trade (GATT)/WTO increased from 20 in 1990 to 86 in 2000 to 159 in 2007. Many of the new pacts have been between developing and developed countries, thus increasing the proportion of treaties between them from 14% of the total number of agreements in 1995 to 27% in 2007.

The United States has been the most energetic in negotiating FTAs, particularly with developing countries. The EU, too, already has bilateral FTAs in various forms with developing countries in all regions, as well as with economies in transition, and it plans to conclude more of them.

The trend towards North-South bilateral or regional trade agreements partly results from a sense of frustration of some governments with the slow progress in multilateral trade negotiations, said the report.

But bilateral and regional deals threaten the coherence of the multilateral trading system, the report warned, and may limit the benefits of existing regional cooperation arrangements among developing countries.

Bilateral North-South FTAs have the potential to provide the developing-country partner with considerable new trading opportunities, as witnessed by the sharp increase in Mexican manufacturing exports after the conclusion of NAFTA. Such FTAs may also attract more FDI to the developing-country partner.

But there can also be potential disadvantages for developing countries, because such FTAs generally demand far-reaching liberalization of foreign investment and government procurement, new rules on certain aspects of competition policy, stricter rules on intellectual property rights, and the incorporation of labour and environmental standards.

Moreover, many FTAs oblige developing countries to undertake much broader and deeper liberalization of trade in goods than that agreed under WTO arrangements.

In addition, said the report, while their commitments in the WTO already reduced the policy space that developing countries had at their disposal to influence the manner of their integration into the global economy and the possibility for developing internationally competitive domestic industries, many of the elements of such FTAs reduce that space even further, in some cases very significantly.

Because they involve reciprocal commitments, FTAs between developed and developing countries eliminate the special and differential treatment that may be granted to developing countries in the context of other agreements.

The reciprocity principle in North-South FTAs places developing countries at a disadvantage vis-a-vis their developed-country partners, as they typically enter into the liberalized trade relationship at a less advanced stage of domestic industrial development, implying lower supply and marketing capacities.

Moreover, the possibilities of developing countries to benefit from the investment provisions of these FTAs are limited. In order to comply with the principle of reciprocity, developing countries are also forced to cut tariffs from significantly higher levels, especially on industrial products.

The benefits that developing countries can obtain in North-South bilateral negotiations are circumscribed by their usually weaker bargaining power and the limited negotiating flexibility of their developed-country partner.

This is due to a combination of strong pressure from domestic lobbies and limitations imposed by existing national legislation, as in the case of the United States, or complex governance and decision-making processes, as in the case of the EU. For example, these factors have made it especially difficult for the major developed countries to accept a reduction or elimination of agricultural subsidies as a negotiable issue in bilateral agreements.

Consequently, said the report, developing-country partners in bilateral trade agreements are deprived of perhaps the most important potential source of increased market access in the major developed countries.

"The gains for developing countries from improved market access are far from guaranteed, whereas the loss of policy space is certain," the report said.

It added that it is "in the interest of developing countries that the multilateral trade negotiations advance, but with a stronger development dimension built into international trade rules."

The report also noted that FTAs or PTAs often include provisions that extend beyond current WTO rules and regulations in areas such as investment, intellectual property rights, competition policy and government procurement. Or they cover areas that have been excluded from the agenda of multilateral trade negotiations.

As a result, many of these provisions reduce the options for developing country policy-makers to carry out proactive policies in support of industrialization and structural change.

One factor limiting market access in an FTA or RTA is the restrictiveness of rules of origin for goods exported by the developing-country partner, which, in the case of NAFTA, have been found to offset the advantage of a preferential tariff.

Market access hopes may be additionally frustrated by developed countries' frequent use of non-tariff barriers, such as safety regulations and anti-dumping measures, that hinder imports from developing countries. On the other hand, under an FTA, a developing country is also expected to grant improved access to its own market for suppliers of the developed country partner through the reduction or elimination of tariffs and often also non-tariff barriers.

The elimination of tariffs and other trade barriers in almost all categories of goods removes important and powerful instruments of industrial and agricultural policy, which, in addition to protecting its infant industries, are often indispensable for improving the developing country's supply capacities in the long run, said the report.

One particular aspect of market access is government procurement, an area covered by the WTO through a plurilateral agreement that is not obligatory, and indeed few developing countries have signed up to it. Yet, many FTAs already include not only transparency of government procurement, but also of market access, and the FTA partners are given national treatment rights to compete for government procurement.

The report noted that bilateral FTAs or RTAs also involve liberalization of services with regard to cross-border trade in services as well as the establishment of foreign service enterprises and their investments. In contrast to the more development-friendly WTO positive list approach, there is a tendency for developed countries, in particular the United States, to convince developing countries to switch to a negative list approach, which may not be to their advantage.

The inclusion of intellectual property rights (IPRs) in North-South bilateral and regional trade agreements has also been viewed critically by many observers, said the report.

Similar to other controversial issues in WTO negotiations, IPRs have become an issue in bilateral and regional North-South agreements, with some major developed countries seeking to pursue objectives that go beyond the WTO TRIPS Agreement.

Thus, many regional and bilateral trade agreements reduce the possibility for governments to set their own criteria for patentability or to use other flexibilities, such as compulsory licensing, as a policy instrument.

For example, many recent FTAs involving the US do not allow governments to issue compulsory licences except during declared states of national emergency, or to prevent anti-competitive practices by the patent holder, or for non-commercial public use. Furthermore, some FTAs tend to extend the term of the patent beyond that contained in the WTO TRIPS Agreement, among other means, by recognizing new patents for "new uses" of an already patented product.

Thus, the developing country partner in bilateral FTAs can be expected to incur additional costs as a result of IPR obligations that go beyond the already onerous ones of the WTO TRIPS Agreement, since most patents, copyright and other forms of intellectual property (IP) are mostly owned by foreigners.

In sum, said the report, bilateral North-South FTAs have the potential to provide the developing-country partner with considerable new trading opportunities. However, preferences negotiated by one developing country with a developed partner may quickly be eroded if the same developed country also concludes FTAs with other developing countries.

Moreover, if future North-South FTAs are modelled on those that have been negotiated so far, it is likely that they will considerably reduce or fully remove policy options and instruments available to a developing country to pursue its development objectives.

In their bid to include chapters on the "Singapore issues", such as investment, competition policy and government procurement, and other areas that have been excluded from the agenda of the multilateral trade negotiations, FTAs are thus a major vehicle for deeper integration.

They lock in orthodox policy reforms that have a fairly modest record in terms of enhancing growth and structural change in developing countries and whose underlying principles have come under increasing criticism, including from within the international financial institutions.

Thus, it would be prudent for developing countries to be cautious and not to rush into North-South bilateral or regional FTAs. When assessing the potential economic and social benefits and costs of entering into such agreements, they should take into account not only the potential impact on exports and imports arising from market opening, and possible increases in FDI, but also the impact of these agreements on their ability to use alternative policy options and instruments in the pursuit of a longer term development strategy.

Rather than subscribing to the "new regionalism", which promotes the extension of TNC activities in the developing world, developing countries may examine other areas of cooperation with partners in the same geographical region, in the spirit of true regionalism.

The report said that active regional cooperation can strengthen development strategies and ease integration into the global economy.

Despite the overall trend towards globalization, regional integration among developing countries can be beneficial for long-term development, and can help these countries develop their economic capabilities and leave them fit to compete on the global stage.

But in order to achieve this, said the report, countries should not only rely on trade liberalization, but that regional cooperation should also include coordinated and joint action in policy areas that strengthen the potential for growth and structural change in developing countries, including macroeconomic, financial, infrastructure and industrial policies.

There appears to be an untapped potential for closer regional cooperation among developing countries in these areas, which could also add policy options to those available at the national level.

Regional cooperation between developing countries to improve transport facilities, provide commercial information, and pool efforts in such areas as energy, water supply, research and development, and knowledge generation can be crucial for the success of development strategies.

Geographical proximity still offers considerable advantages in a time of economic globalization, and regional cooperation among developing countries has the potential to support national development plans and to compensate for some of the gaps in global economic governance.

For many developing countries, a regional orientation involving partners at a similar level of development may be a more viable option than an exclusive focus on the world market, said the report.

The report noted that over the past 20 years, intra-regional trade in all developing regions has expanded faster than extra-regional trade.

Intra-regional trade has expanded the most rapidly among the developing countries of East Asia since the mid-1980s, and today represents almost half of that region's total trade. In Africa, although the share of intra-regional trade in its total trade has also increased, it is still less than 10% of its total trade. Intra-regional trade in Latin America, excluding Mexico, has grown significantly since the late 1980s, to reach close to 30% of its total trade.

According to UNCTAD, it is not only the relative pace of trade expansion that makes regional integration a promising strategy for accelerating economic development. More important is the composition of intra-regional exports. This has a strong influence on long-term growth.

In all regions, the share of manufactures, including those that are relatively skill- and technology-intensive, in intra-regional trade has been considerably higher than the share of such goods in total trade. The clear implication is that heightened regional economic activity supports industrial upgrading and diversification.

The report found that there are apparent "geographical biases" related to trade and economic growth. Formal cooperation schemes are easier to arrange among neighbours; proximity results in lower transport costs; tacit knowledge develops based on repeated interactions; and spillovers of technology and business practice are more likely because of similarities in climate, culture, language, and other factors.

Cooperation should extend into public policy, from improving trade logistics and transport and energy infrastructure to developing closer financial cooperation and coordinated or common approaches in monetary and industrial policy, said the report.

Recognizing that multilateral disciplines could lead to a narrowing of national policy space for developing countries, regional economic cooperation can provide some means to help countries cope better with globalization. From this perspective, regional institutions could fill gaps in global economic governance structures, for example, by providing protection against exchange rate volatility.

But there is no blueprint for such cooperation: "The form that such cooperation takes will depend not only on the specific historical, geographical and political circumstances in a region, but also on the relative weight given to market forces and State intervention".

Promising areas of active regional cooperation can include apparently simple measures, such as trade and transit facilitation and the dissemination of commercial information, said the report.

In addition, the report noted that regional cooperation may help developing countries deal with shortcomings in the international financial system in three areas: provision of regional payment facilities and short-term balance-of-payments financing; provision of long-term development finance; and protection against exchange rate volatility and currency misalignments that can distort trade flows and undermine fruitful trade relations.

Since the financial system at the global level lacks appropriate instruments to reduce the volatility of international financial markets and its impact on developing countries, regional cooperation in monetary and exchange-rate policies has become an important issue in all developing regions, the report observed.