Global Trends by Martin
Monday 8 August 2005
Looming threat to local industries
Blurb: The challenges
faced by Proton in Malaysia and local firms in other developing countries
point to the need for new coherence between trade and industrial policies.
But before that can happen, the current WTO talks threaten to overwhelm
local industries by cutting tariffs across all sectors to very low levels,
even before they can compete.
The debate about the fate of
Proton Saga as it faces stiffer competition from imported vehicles points
to a larger question: the challenges posed by trade agreements to local
industrial firms in Malaysia and throughout the developing world.
In the case of Proton, its
cars are facing competition arising from the Asean trade agreement. Import
tariffs have to be brought down, and vehicles made or assembled in Asean
countries will be able to enter Malaysian markets more easily.
However, very steep reductions
in import duties of manufactured products not only from Asean but all
parts of the world could also be imminent. That’s because of the negotiations
going on at the World Trade Organisation on “non-agricultural market access”
NAMA), which covers industrial products and a few other sub-sectors such
This round of WTO talks are
still targeted to finish at the end of 2006. After the completion point,
implementation will begin to cut the tariffs as committed, and the full
implementation will be within some years, perhaps five.
Thus, in a few years from now,
Malaysia and other developing countries could be asked to brace itself
to face a new flood of cheap imports. That is good news for consumers
who will enjoy more choice and cheaper prices.
But it may spell trouble for
domestic firms that are unable to compete without the shield of tariffs.
Some will close or reduce sales, and retrench staff.
The workers may find it hard
to be re-employed if all the other industries are also affected by tariff
Consumers may benefit from
cheaper and better-quality imports, but those who lose their jobs and
can’t find other equally well-paying jobs will have no or less income
with which to buy the cheaper products.
It has been argued that if
a local industry cannot survive free competition, especially after years
of protection, then it does not deserve to survive.
In a more ideal world, that
may be true. The inefficient industry or firm closes, and its resources
and workers transfer to more efficient industries which can compete without
protection, earning higher income without protection, with gains to the
economy as a whole.
In the real world, it is more
likely that if protection is removed across the board (in all sub-sectors),
suddenly and sharply, then many industries and firms will be hit simultaneously.
This “big bang liberalization”,
as it is sometimes called, would more likely harm than benefit the whole
industrial sector and the economy.
Many African and Latin American
countries have been hit by this kind of “big bang liberalization” when
they were asked by the International Monetary Fund and the World Bank
to cut their industrial tariffs to low levels, as a condition for obtaining
new loans during their debt crises. Up to now the local industries have
Most Asian countries have escaped
this kind of “forced liberalization” as they did not come under IMF-World
Bank control, and they managed their own liberalization process in more
At the WTO, countries have
till now had the right to choose at which levels to maintain their bound
tariffs (that is, the maximum tariff levels above which they commit not
to exceed) in the various products, and at which rates to cut them, if
This freedom of “policy space”
is coming to an end. The WTO negotiations have produced an understanding
that for the first time the developing countries will have to compulsorily
cut their tariffs in all (or almost all) products.
This would be done by subjecting
the tariffs to an aggressive “Swiss formula”, in which the higher tariffs
will be cut by a higher percentage.
The rates of cut are expected
to be drastic, but how drastic will depend on the coefficient in the formula.
The coefficient represents the maximum tariff level, after the reduction
exercise is completed. The lower the coefficient, the greater will be
For example, the United States
has proposed a coefficient of 8. With this, an existing bound tariff
of 60% will be reduced to 7%. All bound tariffs that are now above 60%
will be reduced to between 7 to 8%. Existing tariffs between 23 to 60%
will fall to between 6 to 7%; and existing tariffs between 8 to 23% will
fall to 5 to 6%.
Many countries bind only some
and not all their tariffs, and have till now been free to determine at
what rates to set the applied (or actual) tariffs for these “unbound products.”
Usually the “unbound” tariffs are for sensitive products which are produced
locally and thus require tariff protection.
Malaysia has bound 81% of its
industrial product lines, and thus 19% of the products are not bound,
according to the WTO’s World Trade Report 2005.
However the developed countries
are now proposing that all the unbound tariffs be now bound, and through
a calculation method that would drastically reduce them to very low levels.
Thus the sensitive locally-manufactured industrial products are also targeted
for steep tariff cuts.
In a draft of principles for
tariff reduction adopted by WTO members in July 2004, developing countries
are given some exemptions (from binding the unbound tariffs and from the
full rates of tariff cuts under the formula).
But these are very small, amounting
to only 5-10% of products and limited to 5-10% of the total value of the
country’s imports. The developed countries are proposing to do away with
or reduce further this already small degree of “flexibility”.
If the developed countries’
proposals go through at the WTO, it may spell the end of many local industries
in many developing countries.
True, the foreign industrial
firms may still find it profitable to operate in developing countries.
However, there is limited foreign investment worldwide, and foreign firms
can only employ a minority of the industrial workforce.
Moreover, foreign firms increasingly
prefer to locate in or relocate to countries with low-cost labour, such
as China and Vietnam.
Thus, industrial development
has to rely mainly on local industries and firms. And the history of
the United States, Europe and Japan show that their local industries grew
under high tariff protection which prevented the entry of cheaper imports
that would have ruined their local firms.
It was only when their local
firms became competitive did these countries lower their industrial tariffs.
And these rich countries are still protecting their inefficient local
sectors (textiles, agriculture) under high tariff walls.
Now that they have reached
high industrial status, the rich countries are preaching to the less advanced
nations that they should bring their tariffs down to very low levels,
on the argument that competition will bring about efficiency.
Their pressures on the developing
countries at the WTO are well advanced. And the local captains of industry
of developing countries are hardly aware of the dangers lurking just ahead.
When the talks at the WTO resume
in September, there will be only one last chance for the developing countries
to get their act together, to argue the case for a more realistic schedule
for tariff reduction, instead of the “big-bang liberalization” approach
that can spell doom for many a local firm.
Otherwise the kind of challenge
that is now facing Proton in Malaysia, and many other local firms in other
developing countries, will be only the tip of a large iceberg. The future
of industrial development itself is at stake in these talks, though few
economic planners, let alone political leaders, are aware of it.
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