Monday, June 20, 2005

BBC NEWS | UK | UK Politics | G8 'harming Africa', charity says

Note: Links available through the above BBC article.

I think it would have been more accurate to say 'harming' Africa rather than 'harming Africa' on the sole basis that what they are advocating seems more to be soundbites than sound economic principle. In sum, the theory goes like this. 1st World countries want free trade. Free trade is good for them. They 'force' 3rd World countries into signing free trade agreements or make similar concessions. Hence free trade is bad for the 3rd World.

Stated in this fashion, one can see immediately where the flaw in their 'logic' is. It doesn't matter that you say that liberalisation was ahead of time or that it was not in a nation's developmental interest. How could it not be? Like growth, trade is good. After all we're not talking about liberalisation of capital flows but that of the flow of goods and services. Cheaper goods and services.

I'm not to going to write about the real problem of Africa today (societal, governmental and structural) but simply want to focus on the economic arguments. But here's a parting though. Africa does not lack capital. Every living African has recieved US$6500. There are over 100,000 millionaires on the continent. Debt repayment (and debt) isn't a problem either. the net flows are inward, i.e. more money flows in through aid than out through debt repayment. On average, a nation sees $2 in aid and grant and soft loans inwards for every dollar outward. Mozambique gets $14 for every dollar of debt repayment.

The sway of fair trade (as opposed to free trade) is very strong. In a previous post, I asked what the hell fair trade was and came to the conclusion that it had more to do with feel goodism than any reality based trade. My parting argument was that there really was no difference between aid and trade, if we're willing to give them money, why won't we buy their goods?

But more pertinently, a recent survey conducted in conjunction with the Live 8 concerts and poverty reduction drive asked the same question. The result was that the overwhelming majority of Britons had no idea either. As a result, this catch-all phrase has a remarkable power as its very vagueness allows it to capture the imagination of the public and set itself up as the 'alternative' to free trade.

However, anyone who has taken Econs 101 (or at A levels and its equivalent) and understand what Ricado's example was about, know that free trade is really no different from getting a job, and using the pay that you get to exchange it for goods and services that you otherwise might have to make or get yourself; a terribly inefficient and ineffective means of your time. Similarly, when a country specialises in the short run (note: this is not contrary to diversification which is more of a long term kind of thing), with the same amount of effort (time, labour and capital), it gets mroe because it can exchange the goods on the international market for goods and services at a lower cost.

So a capital intensive country's comparative advantage is in capital intensive goods and vice versa for labour intensive nations. As a result, if they specialise in their comparative advantages, they are producing those goods at a lower opportunity cost. If both (or more) nations do so, the production of goods will be at its most efficient i.e. the highest productive level thereby increasing global wealth. Where trade comes in is the ability of those nations to trade those goods instead of having to produce them themselves at a less productive level. Hence free trade i.e. the free movement of trade in goods in services is important because it does not artificially distort the market through subsidies, quotas and barriers.

But because of the fuzziness of fair trade, there really is no way to pin down what exactly is the alternative policy these groups are advocating. HOWEVER, if one wanted to be charitable, here's how their policy could benefit the world BUT only if they are committed to free trade and stop confusing it with unfree trade (something Christian Aid does with the EU's horrid CAP). Here's how the argument goes.

1. Tied aid is bad.

ActionAid gives a nice theoratical account of why tied aid is bad and untied aid is good. With the exception that they probably give more credibility to the capabilities and capacities of those nations and their governments and institutions, it's still a pretty decent account. I don't think tied aid is bad per se, I think that the real point is what those conditions are. If the conditions are about transparency and accountability, I think by all means go ahead. But if it's only meant to lock in the aidee nation into buying the aidor nation's goods and services, then it's not necessary bad aid but definately unfree trade.

2. The conditions imposed with regards to trade tends to be one way, this is achieved through tied aid which the poorest nations and the most vulnerable have to accept.

You're not going to find any credible economist who says that the trade system as it exists is good. BUT very often the calls for reforms are for MORE free trade ESPECIALLY in agriculture because that is the area which is mostly likely to benefit these nations if trade is free and hurt if its not (as the situation goes).

It's a bit of a simplification to say that most 3rd World nations are simply agricultural economies (not that there's anything wrong with it e.g. NZ) but it is generally true that the poorest developing nations fit this mold. As a result, subsidies and barriers to agriculture in the first world hurt these nations as they artificially deflate the prices they can get as well as create a barrier for them to actually sell something that they have.

So arguably, if liberalisation of trade is one way then the 3rd World nations don't benefit as much as they ought to. The idea is that 1st World nations get to sell their goods more cheaply than the other way round. And what happens is that it locks in the two nations. What makes this particular bad is something called 'declining terms of trade'. Basically the price of primary products persistently and have continually fallen in real terms in contrast to capital goods (machinary, computers etc.) So as a result you need more and more tons of wheat just to get one computer. As time goes on, the 3rd world nations simply gets poorer comparatively.

Just one wrinkle. It doens't happen this way. Firstly, (free) trade really goes both ways. The problem with this original line of argument in part is that these nations actually do benefit in the sense that very often they were the ones with the highest tariffs and quotas. And as a reuslt of the nation reducing them, their citizens end up benefiting from cheaper goods, they get to export more. So it's not for nothing that every statistic correlating growth, economic prosperity and openness to trade has always seen a very strong positive correlation (if not a causal link).

But secondly, while declining terms of trade is a theoratically sound concept, it's a remarkable static version of reality. Nations do realise what's happening. The World Bank and African Bank exists for the very purpose of advocating development and growth. Furthermore, trade is often the very basis for the money and technology needed to achieve 'capital takeoff'.

And if unfair terms in agriculture really is the problem then the solution is more not less free trade!

Furthermore, lest we forget, Africa and Asia were similarly poor in the 1970s but the difference today is staggering. The difference is that we were committed to free trade (importing and exporting) while the African nations were committed to ISI (Import substitution industries) i.e. protect these industries behind a wall of tariffs and instead of importing, let these industries produce instead. Bad idea even in theory. Very often you create inefficient national champions incapable of competing on the global front dependant upon and demanding ever more public support and money.

These two facts: the history of the failure of protectionism and that very often the poorest nations have the highest level of protectionism are the final nail in the ideological coffin that is the carcass of 'managed trade'.

Not to mention that the EU and US does give a lot of preferential treatment to these nations. So much so that many nations grumble that the MFN (most favoured nation) status is now massively undervalued to the unfree (but presumably 'fair') trade terms that these nations have. And this hasn't helped them break out of their poverty cycle yet has it?

So if trade were really so bad, why not suggest to China that they should demand fair trade...=P A point nicely made in this rebutal article.



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