FREE TRADE AND DEVELOPMENT

FREE TRADE AND DEVELOPMENT

SUBMITTED TO: MRS. SHIVANI MOHAN, FACULTY FOR ECONOMICS

SUBMITTED BY: SRIJAN CHAKRAVORTY ROLL- 474 B.A. LL.B (HONS.), 4 TH SEMESTER

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FREE TRADE AND DEVELOPMENT TABLE OF CONTENTS

1. ACKNOWLEDGEMENT.3 2. RESEARCH METHODOLOGY..4 3. INTRODUCTION ........5 4. TRADE POLICY AND DEVELOPMENT: A HISTORICAL

OVERVIEW..6 5. RECENT TRENDS IN TRADE AND DEVELOPMENT IN DEVELOPING

NATIONS10 6. TRADE LIBERALIZATION AND THE MILLENIUM DEVELOPMENT

GOALS..17 7. CONCLUSIONS..24 8. BIBLIOGRAPHY25

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FREE TRADE AND DEVELOPMENT ACKNOWLEDGEMENT

I would like to take this opportunity to express my humble gratitude to the faculty of Economics, M rs. Shivani Mohan for assigning such an interesting topic to me. I would also like to thank my parents for their support in encouraging me to work harder on this assignment. I would further extend my heartiest regards to the authors of the books and articles on the Interne t which I have referred to in my project work as their information provided vital insights in the course of making the project.

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RESEARCH METHODOLOGY
AIMS AND OBJECTIVES: The aim of the project is to present an overview of Free Trade and Development through various writings and articles. The aim has been to identify the relationship between free trade and development and their relevance in the economic growth of a country . SCOPE: Though the study of Economics is an immense project and pag es can be written over the topic but due to certain restrictions and limitations I was not able to deal with the topic in detail. SOURCES OF DATA: The following secondary sources of data have been used in the project 1. 2. Websites Books

METHOD OF WRI TING: The method of writing followed in the course of this research paper is primarily analytical. MODE OF CITATION: The researcher has followed a uniform mode of citation throughout the course of this research paper.

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FREE TRADE AND DEVELOPMENT INTRODUCTION

One of the foremost cha llenges facing the world this century is dealing with the persistent problem of world poverty. A world in which a majority of the globes population lives in impoverished conditions is unacceptable. What Adam Smith , wrote in relation to a country applies to the world at large: No society can be flourishing and happy, of which the far greater part of the members are poor and miserable. 1 In past decades, various schemes have been proposed as the key to promoting population economic control, growth capital and development: and development investment in aid, heavy accumulation

industry, and the like. 2 Each of these schemes has failed to unl ock the door to greater prosperity in the developing world. As a result, the search for a single universal measure that will stimulate economic growth has given way to the less ambitious, but more realistic, search for the combination of policies that ten d to encourage, though not guarantee, economic development. One clear lesson from the past several decades, however, is that countries taking advantage of the tremendous expansion in world trade have also made substantial progress in promoting economic d evelopment and reducing poverty. Experience has shown that there are many different ways in which countries can take advantage of the opportunities provided by trade, but nearly all involve some liberalization of domestic trade policies. While trade libe ralization often poses difficult political challenges to governments, the tangible economic payoff to countries that undertake such reforms makes it imperative that countries seriously consider moving forward with new policies.
1 2

T he W ea lt h o f Th e Na ti o ns (177 6) S e e W ill ia m Ea st e rly , Th e El u si v e Qu es t fo r G ro wth , Ca m b ri dg e: MI T Pr es s, 20 01 .

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This paper reviews this l ink between trade and development. It provides an overview of the recent evidence on the relationship between trade and growth, trade and poverty reduction, and trade and income distribution. The aim is to provide the background context for tackling more specific issues, such as the agenda for trade negotiations in key sectors such as agriculture and services, and the role of the World Trade Organization in fostering the interests of developing countries.

TRADE POLICY AND DEVELOPMENT: A HISTORICAL OVERVIEW

One of the oldest and most important questions in all of economics is the relationship development. between a countrys trade policy and its economic Simple economic analysis informs us that international

trade is not an end unto itself, but a means t o an end, a vehicle for achieving a higher standard of living through the more effective use of national resources. relatively If openness to trade helps improve economic governments should pursue trade conditions in developing countries, then the policy implications are straightforward liberalization as part of a general framework of policies aimed at improving economic performance. Alternatively, if openness poses an obstacle to economic development or if there are important exceptions to free-trade rule, then certain restrictions on trade may prove beneficial and government regulations may be warranted. Economic theory can provide a framework for analyzing the

relationship between trade and development, such as sorting out the various mechanisms by which one can affect the other, but theory does not offer guidance that is decisive when it comes to policy. In part, this is because of a tension between two alternative views of the impact of trade on development. The classical view, often associated with Adam Smith, is that free trade will lead to the most efficient use of a countrys resources
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and therefore yield the highest national income. Openness to trade improve economic performance by increasing competition and by giving domestic firms access to the best foreign technology, which can be adopted to raise domestic productivity. An alternative view, associated with the nineteenth century political economist Friedrich List, suggests that developing countries should protect their infant manufacturi ng industries from foreign competition to foster their growth and allow them to catch up to industrial leaders. assistance to shift would resources promote manufacturing This view suggests that government of primary products and into economic developm ent and prevent out

prolonged specialization in low value -added activities. While economic theory provides a framework for thinking about these issues, the answer to the question of which trade regime best promotes economic development ultimately depends on empirical evidence: what have been the actual country experiences in terms of the impact of liberalization on economic performance? In the past, the answer given has not always been favorable to open trade policies. For example, economic historian Pau l Bairoch and others have argued that Friedrich List was correct in the nineteenth century: countries with relatively low tariffs (such as the Britain) grew relatively slowly while other developing countries (such as the United States, Canada, and Argentina) imposed high tariffs and grew rapidly. 3 For the period 1870 to 1913, high tariffs and economic growth rates are positively correlated. Yet more recent analysis suggests that this simple correlation does not support the conclusion that high tariffs wer e responsible for the rapid growth in those countries. Rather, countries that chose largely for fiscal reasons to impose high tariffs were also those with a high growth
3

H a-J oon C ha ng , K i c ki ng A wa y th e La d d er : D ev elo p m ent S t r a teg y in Hi sto rica l

Pe rsp ect ive , Lo nd on: Ant he m P r es s, 20 02

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potential (i.e., they had high land to labor ratios and were therefore magnets for foreign capital inflows and immigration). 4 The historical record suggests that tariffs were not critical and may have been The United States counterproductive to these countries development.

overtook Britain in per capita income in the 1890s largely bec ause of strong productivity performance in the (non -traded) service sector, not in manufacturing. Argentina and Canada were among the most rapidly Per ca pita income grew more rapidly in growing countries around the turn of the century due in large part to a commodity-based export boom. Malaya than in Japan in the early twentieth century, although Malaya did not industrialize while Japan did. Thus, the historical experience of the late nineteenth century suggests that there was a diversity of country experiences with respect to economic development, and that tariffs on imported manufactures were not the key to success. 5 The tension between the benign and the malign view of free trades impact of economic development persisted into the twentieth century. Yet the most influential thinking on trade and development from the 1930s through policies. the 1960s was characterized by certain observations and assumptions that gave support to protectionist import substitution trade The first assumption was that, because most developing Furthermore, it was assumed countries were producers of primary products, these countries were poor because they produced primary products. that open trade policies would perpetuate the specialization of these countries in primary commodities, trapping them in the production of low value-added goods for which export demand was believed to be stagnant
Prec is el y b eca us e la b or w as n ot de ns ely po pul ate d, t h es e cou ntr i es r el ie d on t ar if fs Do ugl as A . I rw i n , I nte r pr eti ng t he Ta ri f f - G r o wth C o r r ela tio n o f The

as a fi scal d ev ic e t o ra is e re v en ue , as ot h er t ax i nst ru me nts ( lan d taxe s , in co me ta xe s) we re n ot f ea si b le .

5

the La te Ni n et e ent h C ent ur y , A m er ica n Ec o no mi c Re v ie w 91 ( Ma y 2 00 2 ): 16 5 -1 69 . Dou glas A . I r wi n , T a ri ff s a nd G ro wt h in La t e Nin et ee nth Ce nt ur y Am e rica , Wor ld Eco no my 2 4 ( Ja nua ry 2 001 ): 1 5 - 30

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(export pessimism). Observing that developed countries often had much larger manufacturing sectors, developing countries sought to mimic this mix by subsidizing industry and taxing agricultural and primary activities. Thus, industrialization with a stress on capital accumulation and manufacturing was believed to be the key to economic growth and development. substitution Many policymakers therefore concluded that from import import protecting domestic manufacturers

competition would be the best trade and development strategy. As the one-time chief economist for the World Bank, Hollis Chenery, once stated, industrialization consists primarily in the substitution of domestic production of manufactured goods for imports. 6 The ideas behind the inward oriented development approach justified government interference with trade, but did not lay out specific blueprints for policy. And the actual policies pursued in the name of import substitution proved to be less coherent than the theory. In many cases, the degree of protection given to domestic industry was high and idiosyncratic across sectors. industries. discrimination The trade Trade barri ers served to shelter relatively implicitly a result, involved import substantial substitution inefficient industries from competition, not promote the growth of infant restrictions exports. As against

constrained the ability of domestic firms to take advantage of the opportunities presented by the world market and, consequently, the payoff of import substitution policies in terms of economic growth and development was disappointing. 7

see An ne O. K ru e ge r , T ra d e P o lic y a nd E co no m ic D ev elo pm en t : Ho w W e L ea rn . 6 Ia n L it t l e , T i b or S c it ov s ky , Mau r ic e S c ott , In dust r y a n d Tra de in S o me Co u nt ri e s: A C o m pa ra tiv e S tud y , New Yor k , Pub li s hed fo r the

Am er ica n Ec ono m ic R ev i ew 87 ( Ma rc h 1 997 ) , p p . 1 - 2 2 .

7

De velo pi ng

De v elo p me nt C e nt r e o f t he O E C D by O xfo rd Un iv e rs ity Pr ess , 19 70 .

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A major change in the assumptions underlying the import substitution view of the world resulted from the economic success of several East Asian countries, South Korea, Taiwan, and Hong Kong among them, in the 1970s. chose an outward These countries were very poor in the 1950s, but or export -oriented development path. They

demonstrated that developing countries open to trade did not necessarily have to remain primary products producers, but could gain a niche in producing labor-intensive manufactured goods and see their exports grow rapidly. The rapid growth in trade came along with rapid rate of economic growth, with associated reductions in poverty, malnutrition, infant mortality, and other indices of well -being. The achievements of these with countries, in contrast put to new the and

disappointments

associated

import

substitution,

favorable light on the economic benefits accompanying economic reforms and trade liberalization. While there continues to be a debate about the degree to which East Asian countries did or did not impl ement industrial policies, there is no doubt that openness to trade was an important factor behind their economic success. The trade to GDP ratios of these countries rose significantly over this period. These countries may not have all adopted laissez-faire policies with regard to indus try, but they did allow the free world market to dictate to a large degree the success or fa ilure of domestic industries. 8 The East Asian experience undermined the export pessimism of earlier decades and gave rise to a new appreciation for the gains from trade, both importing foreign goods and technology, and the possibilities of exporting a new range of goods. As a result of a changing intellectual climate and the demonstration effect of the East Asian countries, more
S ee Ma rcus Nola nd a nd H o wa rd Pa c k, I ndu stri a l Po lic y i n a n E r a o f G lo ba li za tio n:

Le sso n s F ro m Asi a , Was h in gt on , D . C .: I ns titut e fo r Int e rna ti on al Eco no mi cs , Ma rc h 20 03

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countries began experimenting with trade liberalization and economic openness in the 1970s and 1980s. How have these experiments fared?

RECENT TRENDS IN TRADE AND DEVELOPMENT IN DEVELOPING NATIONS

As the previous section indicated, there are good reasons for believing that openness to trade can help the development process of poor countries. But before countries are advised to undertake significant changes in their trade regime, clear empirical evidence that greater integration with the world economy will pr oduce economic benefits must be presented. The past several decades has been a period of rapid global economic integration in which countries have chosen a variety of different policies. This period provides a testing ground for answering the question posed earlier: under which set of trade policies have countries performed best? How has openness to trade affected economic growth, poverty reduction, income inequality, technological progress, and the like? Over the past decade, dozens of studies have s ifted through the link between trade openness and economic performance evidence. choosing to benefits. The study by Jeffrey Sa chs and Andrew Warner (1995) has been the starting point for many recent studies on trade openness and economic growth. They divided countries into two simple categories, open and closed, based on various indicators of import tariffs, export policy, b lack market exchange rate premia, etc. They found that per capita income in open economies grew, on average, over 2 percentage points more rapidly than in closed economies between 1970 and 1989. This is an astoundingly large figure, and suggests that the gains from more open policies are enormous.
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evidence strongly suggests that more open countries, and countries liberalize their trade policies, reap tangible economic

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However, the Sachs and Warner study has been subjected to several important criticisms. First, Rodriguez and Rodrik (2000) noted that the statistical results came mainly from the black market premium, an indicator of macroeconomic dysfunction, and not the trade policy variables. Furthermore, they found that the results on openness were not robust to the inclusion of other geographic variables, such regional dummy variables and distance from the equator. Second, Wacziarg and Welch (2002) reexamined the Sachs -Warner analysis using data for the more recent period 1990 -1999 and found a much weaker relationship between the openness dummy variable and growth over that period. other words, while the Sachs -Warner dummy variable In effectively

partitioned fast growing countries from slow growing ones in the 1980s, it failed to do so in the 1990s. As Wacziarg and Welch (2002) noted, however, a better way of estimating the effect of openness on growth is to examine the with in-country impact of discrete changes in trade policy openness. They formulated openness indicators based on the date at which individual countries liberalized their import policies. Studying a panel of countries over the period 1950 to 1998, they found that the within -country difference in growth between a liberalized and a non -liberalized regime is +1.5 percentage points, on average, controlling for country and year effects. Because trade reforms sometimes occur during periods of macroeconomic instabil ity, the authors exclude the three years surrounding the reform and found similar results. Broad cross-country empirical studies such as these are useful for highlighting general tendencies and relationships between trade and development over the past se veral decades. Although questions of measurement, statistical specification, and interpretation can be posed of each individual study, the general conclusion is uniform: openness to trade is associated with higher incomes and better economic

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performance. 9 There may be some doubts about the magnitude and the strength of that finding, but the direction of effect is not in doubt. study of recent experience has concluded that closed or No isolated

economies perform better than those integrated into the world economy. The cross-country empirical studies, however, fail to dramatize the importance of policy changes on economic outcomes in specific instances. A complementary approach is to focus on individual cases to see if the results are consistent with the broader dat a analysis. In fact, the recent experiences of the two largest developing countries, China and India, support the findings of the cross -country studies. Each with a population of over 1 billion, these countries sharply changed their trade policies at d ifferent points in time: China abolished the governments monopoly on foreign trade in 1978, while India undertook tentative moves to liberalize imports of capital goods in the mid-1980s and then drastically revised its vast and arcane import licensing process in 1991. sharp and distinct way. For both China and India, the results have been astounding. In both countries, the expansion of trade both exports and imports has been very rapid over the past decade. This rapid growth in trade has been In the twenty accompanied by much faster rates of economic growth. While neither country immediately adopted free trade policies, they did open up their economies to world trade in a

years after 1980, real GDP grew at an average annual rate of 10 percent in China and 6 percent in India. No other country grew as rapidly as China, whereas fewer than ten other countries grew more rapidly than India.9

One stud y t h er ef or e used d oz ens of st at i stic al s p ec if icat io ns t o exa m i ne t h e li n k inc om e, al th ou g h th e

b et we en tra d e p ol icy i nd icat o rs and t he le ve l of p er ca p ita i nco me . Mor e op e n tr ad e pol ic i es ar e i n var ia b ly asso ci at e d w it h h i gh er p er ca p ita ma gn it ude a nd si g n if i canc e of t h e r elat io ns h i p va ri ed co ns id era b ly . Jo ne s (2 00 1) .

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This rapid growth has translated into material improvements in the standard of living of these countries. F or example, higher incomes have meant a sharp reduction in poverty. According to government statistics, the incidence of poverty fell from 28 percent in 1978 to 9 percent in 1998 in China, and from 51 percent in 1977 to 27 percent 1999 in India. 10 The demonstration effect of the Chinese and Indian experience is perhaps even more profound than that of the earlier East Asian experience. Here we have two of the most populous and poorest countries in the world, with completely different political systems (a s ingle party communist state and a multiparty representative democracy), which for decades pursued inward -oriented economic policies, suddenly changing the direction of trade policy. The change in course was followed by As a result, dramatic increases in foreign trade and economic activity.

both countries have succeeded in moving millions of people above the poverty line. These are astounding and monumental achievements. China and India did not follow the same economic policy blueprint, but took advantage of their different attributes to opening to the world market. China has welcomed foreign investment in labor -intensive sectors, while India shares a comparative advantage in labor -intensive manufactures and skill -intensive services, such as the softwar e industry around Bangalore. Unlike the earlier East Asian experience, neither country is known for wise industrial policies that manipulated resource allocation in a way often alleged to be the case elsewhere in Asia. Of course, the tremendous economi c payoff to China and India resulted from their starting far behind the technological frontier with highly distorted trade policies. Countries closer to the frontier with lower trade barriers will not reap as enormous benefits as these countries, but
10

On I nd ia , s ee T . N. S ri n iv asa n an d S ur es h D . T en dul ka r , R ein teg ra ti ng I ndia with

the Wo rld Eco no m y , Was h in gt on , D .C . : I ns titut e f or In te rn ati on a l Eco no m ics , Mar ch 20 03 .

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many millions of people live in countries just as poor and China and India once were. How it is possible that trade liberalization can provide such substantial benefits? Recent studies have isolated two particular channels by which openness is related to higher incomes: one is through greater investment, and the other i s through higher productivity . 11 Empirical research has uncovered an indirect link between trade and growth: the share of investment in GDP is positively correlated with This means that while trade may not be directly correlated growth in per capita income, and trade is positively correlated with investment. with growth, it might stimulate growth indirectly through investment. 12 Over the 1950 to 1998 time period, Wacziarg and Welch (2002) found that within-country capital investment as a percent of GDP is 1.9 percentage points higher in a liberalized regime than in a non -liberalized regime. Trade policies that increase the domestic relative price of imported capital goods are harmful to investment and therefore to growth as well. Tariffs and other trade barriers that raise the domes tic price of capital goods means that each investment dollar buys less capital, reducing the efficiency of investment spending. Empirical evidence tends to support the idea that the free importation of intermediate and capital goods is an effective way of promoting inve stments that increase growth. 13 In addition, trade contributes to productivity growth in at least two ways: it serves as a conduit for the transfer of foreign technologies that
11

Of cour se , t h e t wo ca n b e re lat ed: hi g h er i nv est m ent (i n ca p ital good s , for exa m pl e) L ev i ne a nd R en alt (1 9 92 ) . S e e, fo r e xa m pl e, W a czi ar g (2 00 1) . L ee (1 995 ) fi nds t hat t h e r a tio of i m port ed to

can le ad t o h ig h er pro d uct i v it y .

12 13

dom est ic ally p rod u ce d ca pi t al goo ds is si g ni f ica ntly re lat ed to g ro wth i n p er c a pit a in co me , pa rt icul arl y i n d ev elo p i ng cou nt ri e s, and M azu md ar ( 20 01) r eac h es a s i mi lar concl us io n.

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enhance productivity, industries and to it increases more competition efficient and in a way th at their stimulates become improve

productivity.

The first channel, that trade serves as a conduit for the Impo rted capital goods that embody

transfer of foreign technologies, operates in several ways. One is through the importation of capital goods. technological advances can greatly enhance an economys productivity. To the extent that trade barriers raise the price of imported capital goods, countries are hindering their ability to benefit from technologies th at could raise productivity. 14 The second channel by which trade contributes to productivity is by forcing domestic industries to become more efficient. firm and forcing them to behave more competitively. Trade increases Competition also competition in the domestic market, diminishing the market power of any stimulates firms to improve their efficiency, otherwise they risk going out of business. Over the past decade, study after study has documented this phenomena. After the Cte dIvoire reformed its trade po licies in 1985, overall productivity growth tripled, growing four times more rapidly in industries that became less sheltered from foreign competition. Another study examined industry productivity in Mexico before and after its trade liberalization in 198 5 and found that productivity increased significantly, especially in traded goods sectors.
14

Detailed studies of Indias trade

Prod uct iv it y a d v anc es ar e u sual ly t h e res ult of i nv est m en t i n r es ea rc h an d S o met i me s f ore i gn re se arc h ca n b e i m por ted d ir ect ly .

de vel o pm en t ( R& D ), a nd t h e i m po rtat io n of for e ig n id ea s ca n b e a n i m por tan t sou rce of p rod uct iv it y i m pro ve m ent . For exa m pl e , C h in a h as lo ng b e en st ru g gl in g a ga in st a d e vast ati n g d is eas e kn ow n as ric e b last . Th e d i se as e had d e st r oy ed m ill io ns o f t on s o f r ic e a y e ar , co st in g far m er s b ill io ns of d oll ar s. R ec ent ly , u nd er t he di re ct ion of a n i nt er nat io nal te am o f By t h is s i m pl e tec h ni qu e of b io -d iv e rs ity , sci en ti sts , fa r me rs in Ch i na s Yu nn an p ro vi nc e sta rt ed p la nti n g a m i xtur e of t wo dif fe r ent t yp es of r ic e in t h e sa m e p addy . far m ers n ea rly el im i na t ed r ic e bl ast a nd dou bl ed t h ei r y i eld . F or ei gn R & D e na bl ed t h e C hi n es e fa r me rs t o a b and o n t h e us e of ch e m ical fu n gic id es t h at ha d b ee n u sed to f i g ht th e d is ea se a nd in cr ea se y ield s of a c r iti cal s tap le co m mod ity . Yo o n (2 00 0 ).

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liberalization in 1991 and Koreas trade liberalization in the 1980s reached essentially the same conclusion: trade not only disc iplines domestic firms and forces them to behave more like a competitive industry, but helps increase the productivity of domestic firms. 15 And the higher is an economys productivity level, the higher is that countrys standard of living. Many developing countries fear that trade liberalization will force painful adjustments as a on their of manufacturing openness to sector trade. or even de some industrialize the country. industrialized Yet both China and India have not de While

result

manufacturing f irms will be forced to close or consolidate as a result of import competition, increased trade allows developing countries the opportunity to exploit their strong comparative advantage in producing labor intensive manufactures. Often exports from other ma nufacturing industry depend on access to inexpensive and quality industrial inputs, obtainable on the world market, so that import liberalization can promote exports in other sectors. For example, although New Zealand has a strong comparative advantage in agricultural goods, the reduction in trade barriers in the mid-1980s resulted more in a reallocation of resources between manufacturing plants the shutdown of inefficient plants and the expansion of relatively efficient ones, in a way that served to rai se average industry productivity rather than a reallocation of resources between sectors.

TRADE LIBERALIZATION AND THE MILLENIUM DEVELOPMENT GOALS

The higher income levels or growth rates that accompany trade liberalization are critical to achieving impo rtant development objectives.
15

S ee th e st ud i es by H a rr iso n (1 99 4) . Ty bo ut and We st br oo k (1 995 ). K i m ( 20 00 ) and

Kri s hn a a nd M it r a (19 9 8) .

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The United Nationss Millennium Development Goals, 1990 -2015 include, among other goals, to: eradicate extreme hunger and poverty provide universal primary education reduce child mortality improve material health

All of these goals are promoted by the greater income that results from economic policy reforms.

Poverty and Income Distribution:

Economic growth is essential for poverty reduction. reductions in poverty rates. As Figure 1 shows,

rapidly growing countries such as China and India have seen sharp

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Although this link is clear, many observers worry about the impact of trade liberalization and economic growth on income distribution. In some sense, worries about income distribution miss the point of focusing on the absolute well -being of the poor. If a policy raises income the income of the rich 20 percent but that of the poo r only 10 percent, it does not make sense to forego the policy and do nothing merely because the gains accrue disproportionately to the rich even as it helps lift the poor from dire poverty.

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Evidence suggests, however, that growth is roughly neutral in its effect on the distribution of income within a country. The percentage changes in incomes of the poor are equal on average to percentage changes in average income; in other words, the share of income that accrues to the poor is not systematically associat ed with the growth rate (Dollar and Kray 2001). Other evidence from China points to that cities that experience a greater degree of openness in trade also tend to see a greater decline in urban rural income inequality, i.e., trade may help reduce, rather than increase, the urban-rural income inequality (Wei and Wu 2001). This pattern in the data suggests that inferences based solely on China's national aggregate figures (overall openness and overall inequality) can be misleading. Indeed, data on the dis tribution of income are extremely hazardous to work with because of different concepts of that distribution. Some studies examine inequality between households, others between regions and countries. A frequently mentioned concern is that trade liberaliz ation or an open system of world trade may exacerbate world income inequality. Many observers are disturbed by trends in the world distribution of income. But whether there has been a divergence or convergence of world incomes depends largely upon the ap proach taken by various studies. conceptual approaches have been taken. The first unweighted average of incomes across countries. Three the compares

The second compares The third

the population -weighted average of incomes across countries. the worlds citizens.

ignores national boundaries and examines income inequality between all

Most studies examining average incomes across countries finds that those incomes have diverged. However, in these studies, each country Most constitutes a unique observation, giv ing Trinidad and Tobago (population 1.3 million) the same weight as China (population 1.3 billion). studies examining population -weighted average incomes across countries
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finds that income inequality has been reduced in recent decades. This is primarily because a few, large countries (notably China and India) have been growing more rapidly than other countries. in these countries alone. The final set of studies examines inequality among the world population, ignoring country borders (i.e., individuals rather than countries are the unit of observation). These studies tend to be relatively recent but also tend to suggest no trend toward greater inequalit y. Surjit Bhalla (2002, p. 205) summarizes the issue as follows: While the average poor country may be losing ground (the divergence literature), the average person in a poor country is gaining ground because her income is increasing at a faster rate than the income of the average rich person in a rich country. This is the result of several big, poor countries doing very well the giants, China and India, and also Indonesia and Vietnam. . . . the conclusion that the world is becoming more equal must be accepted if one believes that there are more than 1 billion people in China and that their incomes are rising at a faster rate than the average. One cannot ignore the improvement in absolute and relative well -being of nearly 2 billion people

Child Labor and Schooling

Economic growth also helps reduce child labor. and shows an unmistakable relationship. Figure 2 plots the

relationship between per capita income and the incidence of child labor

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As an example, per capita income in Vietnam grew at an annual rate of nearly 7 percent between 1993 and 1997, after the country adopted economic reforms. During this same period, the incidence of child labor declined 28 percent. Recent studies have shown that 80 percent of the In addition, decline in child labor in households that move from below to above the poverty line is due to increases in the standard of living. liberalization. such increases in the standard of living can be linked specifically to trade After 1993, the relaxation of Vietnams export quota on rice contributed to an increase in the real domestic price of rice of nearly 30 percent. The greater integration of Vietnamese rice farmers with the world market contributed to a rise in domes tic income that allowed those farmers to reduce the use of child labor. 16 Reducing the disincentives on

16

Er ic Ed mo nd s , Wi l l Chi l d La bo r D ecli ne w ith I mp ro ve me nts in L iving S ta nda r d s?

Wor k i ng p a pe r, Da rt m out h Co lle g e , No ve m b er 20 0 2 . E ric Ed mo nd s and N i na Pa vc n i k,

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agricultural exports helps raise rural incomes and helps alleviate poverty, and thereby the employment of child labor.

Health
It has long been recognize d that wealthier is healthier, that the benefits of higher income are strong in terms of reducing infant mortality and raising life expectancy. 17 Higher income households can afford medicines and better health care, better nutrition and diets as well as better housing, all of which benefit health status. Some remarkable recent results point to a negative association between tariff levels and life expectancy and a negative association between tariffs and infant mortality. According to the results, an el even percentage point increase in tariffs (approximately equal to a one standard deviation of the change in tariffs over a five year period) is associated with a decline in life expectancy of 1.3 years and an increase in infant mo rtality of 6 per 1,000 births. 18 This statistical correlation survives even after controlling for per capita income and other factors (such as schooling and number of doctors per capita), suggesting that openness to trade may be beneficial for these outcomes for reasons that go bey ond any indirect effect through raising income. In sum, the payoff of higher income is directly measurable in terms of less poverty, less infant mortality, less malnutrition, less child labor, and longer and better lives. Trade may not directly affect t hese outcomes, but indirectly contributes to these vital development goals by leading to higher income.
Do es Glo ba l i za ti o n I ncr ea s e Chi ld La bo r? Evid enc e f ro m V ie tn a m, N B ER Wor k i ng Pap e r No . X xxx , J anu a ry 1 4 , 20 0 2 .
17

La nt P r it c het t a nd La wr en ce H . S u m me r s, Wea l thi er I s H ea lthie r , Jo ur nal of S ha n g- ji n We i a nd Yi Wu , T he Li fe -a n d - Dea th I m plica ti o ns o f G lo ba li za tio n ,

Hum an R es our ce s 31 ( Fall 19 96 ), p p . 84 1 - 6 8.

18

un pu bl is h ed p a pe r , In t er nat io nal M on eta ry Fund , D ec em b e r 20 0 2 .

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FREE TRADE AND DEVELOPMENT CONCLUSIONS

Economists know more about what can destroy economic growth and activity than what creates it. However, countries that have found a way to take advantage of the rapid growth in world trade have generally found it to be an escalator out of poverty. Yet many developing countries rem ain suspicious of freer trade. 19 In

addition, many politically powerful groups in developing countries have vested interests in the status quo and therefore oppose efforts to liberalize and open up the economy. But as the forme r Director General of the WTO, Mike Moore (p. 173), has noted: More and more, developing countries have come to see protectionism as a self-inflicted wound. It not only punishes consumers, grossly inflating the price they pay for necessities like food or clothing, but it also handicaps exporters and entrepreneurs, who cant hope to compete on world markets without access to world -priced inputs, efficient services and modern technology. The evidence from countries as diverse as South Korea and Chile, C hina and India, Vietnam and Uganda, confirms that protectionism is indeed a self-inflicted wound. The opportunity to take part in the tremendous expansion of world trade is one that leads to tangible economic benefits. Once dire economic conditions in th ose countries are now improving. Trade reform has played an important role in helping millions of people to see a better world.

19

It is so m et im es d i ff i cult fo r so p h ist icat ed e co no mi sts a nd pol it ic ia ns to u nd ers tan d

th e d ee p hi st o ric a nd cult u ral pro b le ms so me cou nt ri es ha ve w i th t h e id ea of f re e trad e . S om e st ill eq u at e it w it h t he ir op p r e ssi on f ro m col on ial d a ys. M i k e Moo r e, A Wo rld With o ut Wa l l s: Fr e edo m, Dev elo pm e nt , F r ee T ra de , a nd Glo b a l Go v er na n ce , Oxfo rd Un i v ers it y P re ss, 20 03 , p . 133 .

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FREE TRADE AND DEVELOPMENT BIBLIOGRAPHY

BOOKS REFERRED: Aksoy, A. and G. Salinas (2006); Growth Before and After Trade Liberalisation. Santos-Paulino, Countries. Das., B.L. (2005), The Current Negotiations in the WTO: Options, Opportunities and Risks for Developing Countries , Zed Books/ TWN Press NEWSPAPERS AND MAGAZINES REFERRED: India Today The Outlook The World Economy The Economic Times The Economist A.O. (2005), Trade Liberalisation and

Economic Performance: Theory and Evidence for Developing

ONLINE JOURNALS: Manupatra Hein Online Westlaw International

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