Thursday, August 6, 2009

When Free Trade Means So Little

The new bilateral free-trade agreement between South Korea and India is not all it's cracked up to be: there are plenty of exceptions and the package will take 10 years to implement. Chung-Ho Kim of South Korean, and I argue here that fully free trade is the best possible way of recovering from the global slump, in this article titled "When free trade means so little", published in the Mint on Aug 6 2009.

India and South Korea are due to sign an agreement on Friday 7 August that they say will cut barriers and boost trade between our two important economies. But behind the political rhetoric, the reality of the Comprehensive Economic Partnership Agreement (CEPA) is in the fine print. By signing a freetrade agreement that does not actually free trade, our governments are denying us the best tools to fight the global recession.

They admit as much by saying it will pave the way for removing more barriers to commerce in the future, even though this agreement has been in the works for at least three years. It is at least a step in the right direction: With the Doha Round in a coma, both governments are right to seek other ways to boost trade.

But both governments are being far too timid in trade agreements that will not boost trade much at all, such as South Korea's recent free-trade agreement with the European Union and the one India is seeking with the Association of Southeast Asian Nations (ASEAN).

Liberating trade between Indians and Koreans would make a lot of sense: India's massive labour force and emerging globally competitive companies, particularly in information management and software, match up well with a relatively capital-intensive South Korea, whose expertise includes information technology, electronics and automobiles. In 2007-08, bilateral trade was about $10 billion--this pact could eventually boost that by one-third, but it does not go far enough.

South Koreans have long understood the value of trade with the rest of the world. In the early 1960s, they suffered living standards similar to those of Ghanaians or Kenyans then. Today, South Korea is at least 30 times more productive per capita than those two successful economies in West Africa and East Africa.

Some 70% of South Korean jobs are now directly related to some form of international trade.
India has taken a lot longer. After a disastrous experiment with self-sufficiency that not even an economy with more than a billion people could sustain, India's liberal reforms, beginning in 1991, have made dramatic improvements. Further liberalization has brought the average import tariff in India down from 32% in 2000 to 15% in 2007, according to the World Trade Organization; in 1991, the average import tariff in India was 115%. India is now the world's 16th largest trading nation overall but sixth largest for trade in services.

In the 1990s, both South Korea and India grew a full 3 percentage points faster than countries that did not open up to trade, according to World Bank economists Aart Kraay and David Dollar.
Trade was the key to growth before the global slump and remains the only sustainable route to recovery.

India's booming automobile sector shows how. After putting up for decades with very few choices in cars--thanks to the government-protected oligopoly, with massive import tariffs on foreign vehicles--keen Indian consumers are buying 9% more cars every year, making India one of the world's fastest-growing markets. Among the many investors that have taken advantage of a more open market is South Korea's Hyundai, now India's second largest car manufacturer.

Through joint ventures with foreign producers and newly gained expertise from trade, Indian manufacturers are becoming globally competitive too.

Despite all this, the flip side to India's booming automobile market is the remaining tariffs on auto components, benefiting a tiny minority who fiercely opposed Cepa and got special protection--at the expense of Indian consumers who pay more for products that could be imported more cheaply or made more cheaply in India with the right investment and with open competition.

The other victim, of course, is the components sector, which will prevent itself from becoming a serious international player.

India has also secured limitations and exceptions in Cepa for other so-called sensitive sectors, such as agriculture and textiles. In other words, India's negotiators are preventing Indians from getting cheaper food, clothes and vehicle parts.

New Delhi continues to insist that coddling India's farmers is the route out of poverty, while constraining their property rights and their freedom to trade even inside India. Opposition to free trade is also deeply rooted among South Korea's rice farmers, who fear competition will erode their 60% grip on their market. Again, it is the consumers who pay higher prices for this favouritism.

Protection for a variety of vested interests means that even the limited terms of this agreement will be implemented slowly, over 10 years. It is great that the two countries have agreed to speed up talks on removing double taxation, on a maritime and aviation agreement, and other stimuli to trade and investment--but why wait to boost two-way trade by (what South Korean negotiators calculate at) $3.3 billion a year?

Both governments will proudly announce CEPA today as an historic achievement, but we should be worrying about the details instead of admiring just another photo opportunity. Let us sign a free-trade agreement that does what it says on the tin: Free trade.

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