Summaries of CIES Discussion Papers

Policy Discussion Paper 95/07
Agricultural and Sustainable Development in the Reforming Indonesian Economy: A CGE Approach
Kym Anderson and Anna Strutt

During the past three decades the Indonesian economy has experienced rapid economic growth and structural adjustment, thanks to progressive reforms of its trade and other economic policies. Those reforms have positioned the economy well to benefit from the implementation of the Uruguay Round of multilateral trade negotiations over the next ten years. Specifically, labour-intensive manufacturing will expand substantially while agriculture's relative decline may accelerate slightly as a result of the Round. However, the extent of that relative decline for agriculture, and of the sharing of new industrial activities between urban and rural locations, will depend to a significant extent on the choice of a range of economic and environmental policies. In turn those outcomes from the policy choices made will affect both the economic efficiency and the environmental consequences of resource use in the country. This paper lays out a framework for analysing the likely effects of some of those policy choices, based on a computable general equilibrium model (CGE) that is being designed to capture environmental as well as economic impacts. A proposed research project based on that CGE approach has three target audiences: Indonesian policy makers, analysts interested in studying similar economic-environmental interactions in other developing countries, and participants in the next round of multilateral trade negotiations who are likely to see trade and the environment as a significant agenda item.

Policy Discussion Paper 95/08
The Multilateral Trading System and Sustainable Development
Kym Anderson

Supporters of free markets and of environmental protection share a common goal: to improve social welfare. The two groups, however, differ in an important respect, which is that supporters of liberal trade have understood its virtues for two centuries and have been active for more than 50 years in building international institutions to help achieve their goal, whereas widespread concerns about the environment are relatively new and supporters of environmental protection have only recently entered as significant players in international policy arenas. This paper is concerned with the considerable risk that certain uses/abuses of trade policy for environmental purposes pose a threat to the liberal multilateral trading system.

Many developing countries perceive the entwining of environmental issues with trade policy as a threat to both their sovereignty and their economies, while significant groups in advanced economies consider it unfair, ecologically unsound, even immoral to trade with countries adopting much lower standards than theirs. The paper examines why these issues are becoming more prominent and to what extent the World Trade Organization is an appropriate forum to discuss them. More specifically, it addresses six questions: first, what are the key concerns of environmental groups that involve trade policy; second, why do those groups wish to use trade policies for environmental purposes; third, why does that worry supporters of a liberal trading order; fourth, would a more liberal trade and investment regime harm the environment; fifth, how are environmental measures impacting on trade; and sixth, what might be done to reduce conflict and boost cooperation between environmentalists and supporters of the multilateral trading system? An effort is made to identify key principles which should govern the design of trade policies and trade-related environmental policies in order to ensure sustainable development.

The paper concludes that (a) the direct effect on welfare in developing economies of entwining trade and environment issues is likely to be small and for some may even be positive through improved terms of trade and/or compensatory transfer payments, but (b) there is an important indirect negative effect on them and other economies, namely, the potential erosion of the rules-based multilateral trading system that would result from an over-use or abuse of trade measures to pursue environmental objectives.That negative effect can be avoided, with simultaneous improvements in the global environment, if more appropriate environmental policies are adopted instead of using trade measures.

Policy Discussion Paper 95/09
APEC and the Lessons of Asian Growth
Richard Pomfret

What are the secrets of East Asian economic growth and can Australia draw any lessons? In this paper I will emphasize openness and investment in physical and human capital as key ingredients of the Asian growth model, and discuss how Australia can learn from the dynamic Asian economies and what are the implications for Australian economic diplomacy in APEC and elsewhere. I also stress that rapid economic change always produces pressures for social change. Economic success requires open and flexible economies, which means that social norms will be strained and individual economic insecurity will increase.

Where does APEC fit into all this? Whether APEC becomes a major institution or not is less important than the fact that in the 1990s Australia has become more actively involved in Asian diplomacy. In this paper I have assumed that Australia will continue along the path of the last dozen years, liberalizing the economy in the pursuit of growth (even though this stutters at times, in contrast to New Zealand). A consequence of the strategy will be Australia's continuing integration into the global, and especially the western Pacific, economy; APEC is the most visible first sign of a more proactive regional economic diplomacy on the part of Australia.

Policy Discussion Paper 95/10
Maximising the South Pacific Forum's Benefits from APEC
Bijit Bora

Since the establishment in 1989 APEC has evolved into a significant institution for regional cooperation and trade liberalisation. The South Pacific Forum has observer status at all APEC meetings and three of its members are also members of APEC. The purpose of this report is to review APEC and South Pacific Regional Organisational activities and make recommendations on how the Forum can best use its observer status on behalf of the 12 Forum Island Countries that are not currenly members of APEC.

The report argues that a key element in maximising the benefits from participating in APEC must be a shift in the Forum's current strategy of behaving as a passive observer to behave as an active observer. It argues that this can be done within the basic transparency and non-discrimination framework that APEC has established for itself.

The report then examines APEC's Working Group and Committee on Trade and Investment activities with a view to prioritising initiatives for the FICs. The criteria used to distinguish between a relevant and irrelevant activity was whether or not a group or activity addressed FIC concerns and was also productive.

A critical component of this report is its assessment of the implications of APEC for trade policy. The report made a strong recommendation to the Forum Secretariat to review APEC's trade policy initiatives from a market access and benchmarking perspective. This recommendation places a burden on the Secretariat to simultaneously inform FICs about the changing rules of market access and advise them of the benefits of implementing APEC initiatives.

Policy Discussion Paper 95/11
Protection and Liberalization in Australia and Abroad
W. Max Corden

The 1995 Fisher lecture given at the University of Adelaide reviews the changes in Australian protection policy that have taken place since 1967, when the author gave his first Fisher lecture on "Australian Tariff Policy". The story is quite complicated. Until 1974 it was unusual by international standards, with a sophisticated Australian protection debate and the remarkable transparency role of the Industries Assistance Commission (originally the Tariff Board) and especially its Chairman, Alf Rattigan. Liberalization since 1988 has been drastic. Australia has followed a gradual but defined program of tariff reduction (and abolition of remaining quantitative restrictions) which will bring most tariffs down to 5% by the year 2000, with 15% for motor vehicles and parts and for textiles, and 25% for clothing. This can be contrasted with very high protection levels in 1967 and quite high levels even in 1987. The lecture compares the motives of Australian trade liberalization in the eighties with similar liberalization in many developing countries.

Policy Discussion Paper 95/12
The Asia Pacific Economic Cooperation Process
Bijit Bora

The Asia Pacific Economic Cooperation (APEC) process has often been described as four adjectives in search of a noun. It is probably more appropriately defined by what it is not, rather than by what it is, since it is unlike any existing trade or integration agreement. In fact, it is not an agreement at all. Rather, it is a group of like-minded economies attempting to facilitate their continued integration into the global economy. Because of this lack of discipline within its structure, APEC has been heavily criticised for promising what it may be unable to deliver. The purpose of this paper is to provide a background of the development of APEC and describe its administrative and policy structure, so that there is a better understanding of APEC's origin and hence, its evaluation.

The paper argues that APEC is the result of an evolutionary process of institutional integration following economic integration. The consequence of successive liberalisation rounds has increased the relative importance of non-border impediments to trade. Following Robert Lawrence, economic integration which hurdles these non-border impediments is defined as deep integration and whereas the reduction of border impediments is defined as shallow integration.

A key component of the paper is a description of APEC's activities and a schematic of APEC's administrative and hierarchical structure. The paper also provides a description of the Osaka Action Plan to implement the Bogor Declaration of free trade and investment in the region by 2020.

On the question of institutional assignment and whether or not APEC should handle the impediments to shallow integration, the paper focuses APEC's activities by defining the price wedge between the world and domestic prices of imports as the sum of policy impediments (tariff and non-tariff barriers) and administrative impediments (standards, procedures). The value of APEC to trade liberalisation is that it focuses on the latter, where there is currently no institutional effort. In order for APEC to tackle border issues it must indicate that it has a comparative advantage over other institutions such as bilateral agreements on the World Trade Organisation.

Policy Discussion paper 96/01
Evolution of Liberalization Policies Affecting Investment Flows in the Asia Pacific
Mari Pangestu and Bijit Bora

This paper is a synthesis of Pacific Economic Cooperation Council (PECC) work on liberalising the investment regime in the Asia Pacific region which began in 1992. A significant part of this paper is drawn from the two studies prepared by PECC for APEC in which both authors participated in their capacity as members of PECC's Trade Policy Forum. The two studies are entitled Impediments to Trade and Investment in the Asia Pacific Region and Milestones in APEC Liberalisation: A Map of Market Opening Measures by APEC Economies.

The paper shows that APEC members have been active in liberalising their investment regimes in response to the changing structure of foreign direct investment in the region. The main modus has been through unilateral liberalisation, although some progress was achieved under the regional and multilateral auspices. The pace and implementation of unilateral liberalisation efforts is obviously a function of the initial levels of the impediments to investment. Little or no progress in some of the APEC economies could simply mean that their investment regimes are already relatively open.

The paper has found that the most effective means of approaching liberalisation of investment measures is through unilateral liberalisation. The main factors behind the process were the need to adjust and restructure their economies, and the increased competition for FDI in the region. However, in the case of some of the APEC economies, the transparency exercise through having to submit a description of their regimes and participating in the process of developing APEC non-binding investment principles can be seen to have facilitated the process of unilateral liberalisation. Facilitation has come in the form of providing the beginnings of a framework that these economies helped to formulate about what is an ideal investment regime, even if it is non-binding. Continued work can and should be done to improve the policy framework in APEC, especially by including a standstill and rollback provision, and to take into account private sector views.

Policy Discussion Paper 96/02
Regionalism in Asia and its Impact on China
Richard Pomfret

This paper addresses issues arising from two phenomena. First, the rise of regionalism in the late 1980s and early 1990s was perceived by many policymakers as a threat to the multilateral trading system. Second, China's application for membership in the World Trading Organization has been stalled for over a decade. What are the prospects for regionalism in mainland Asia and will such tendencies be fuelled by Chinese frustration over its non-admission to the WTO?

The Asian response to the threat of world trade disintegrating into regional trading blocs during the early 1990s was, despite much talk, extremely muted, and the main focus of the market economies in the Asia-Pacific region remained the multilateral forum of GATT/WTO. Asia Pacific Economic Cooperation (APEC) and the East Asian Economic Caucus (EAEC) were formed, but their mandates remain vague. More narrowly regional initiatives were, however taken by three organizations bordering China (ASEAN, SAARC and ECO).

The first three sections of the paper examine regional developments within Asia, emphasizing the distinction between regionalism based on discriminatory trade policies and regionalization of trade. The fourth and fifth sections paint two alternative scenarios for the future Asian trading regime: one based on regionalism and the other on multilateralism. The sixth section addresses the issue of what options will be available to China if a frustrated application for WTO membership leads it to abandon multilateralism. The final section draws some conclusions.

The paper addresses the following questions. What are the implications of recent developments for future trade patterns in East Asia? Will changes at the global level and within Asia lead to regionalism rather than multilateral trade policies? In particular, what will be the role of China? Will China be at the centre of an East Asian economic region or will there be a decentralization process as North-east China becomes part of the North East Asia zone, while Yunnan Province focuses towards ASEAN, Xinjiang Province towards the Economic Cooperation Organization countries of Central Asia, and so forth?

Despite the announcement of preferential trading arrangements by ASEAN, ECO and SAARC in the first half of the 1990s, the prospects for regionalism in Asia are dim. In ECO and SAARC significant political obstacles to close regional integration remain. In all three cases economic forces are likely to undermine preferential trading initiatives. A more plausible scenario is for continued reliance on the GATT-based system which has served the high-performing Asian economies so well in recent decades. The stability of this system will be related to the performance of the World Trade Organization, but commitments to open regionalism at APEC summits could be seen as an Asian statement of intent to maintain multilateralism even if the WTO falters.

China's role in the spread of open non-discriminatory trading regimes in Asia has been rather passive. The Chinese economy has become substantially more open since the 1970s, although its own trade policies remain far from GATT-consistent. MFN treatment has been extended to China

by the major trading nations, so that China has so far benefited from one of the major rights of GATT/WTO members without meeting the obligations. Any tendency towards increased regionalism in world trade could undermine these benefits as China does not fit into any regional grouping other than the broad umbrella of APEC.

The best outcome for China and for the world would be for China's WTO application to be successful, and for China to meet the obligations and enjoy the rights of a WTO member. If the WTO negotiations are unsuccessful, however, will China turn to a strategy of bilateral relations with its neighbours? Such an outcome is improbable, not least because all of China's neighbours are suspicious of closer bilateral ties. The Chinese central government may also be reluctant to encourage border trade to flourish, since it could exacerbate centrifugal tendencies, especially in provinces with minority populations. In sum, China is neither threatened by a resurgent regionalism in Asia, nor likely to be an instigator of bilateral alternatives to the multilateral trading system.

Policy Discussion Paper 96/03
Mining Booms Without Income Growth? The Case of Papua New Guinea
Kym Anderson and Julie Delforce

Despite its abundance of natural resources per capita and two huge mining booms in the 1970s and 1980s, living standards for most people have risen little in Papua New Guinea since its Indepenence in 1975. Why is that? And will income growth during and following the period of the current mining boom be any better? The early 1990s' experience suggested the answer to the second question might be yes. However, in 1994 the economy returned to almost zero economic growth and is not expected to rise in a hurry. That makes an answer to the the first question all the more important, for if it is not well understood why the first two mining booms failed to deliver significant improvements in living standards, the same poor performance might result from the new gold and petroleum export booms of the 1990s.

This paper examines just one aspect of the first question. It explores the way in which public and private investment and consumption activities, and public policies, responded to the first and second mining booms during the two decades to the late 1980s. The analysis focuses on the period up to the end of 1988, five months before the unexpected closure of the Bougainville mine and, coincidently, before income expectations had been altered greatly by announcements suggesting a third mining export boom was likely to begin in the early 1990s.

The paper draws on the relevant economic theory of the dynamics of supply-side export booms, from which a number of hypotheses are drawn. The nature, size and timing of PNG's first two mining shocks and their impact on expectations affecting economic behaviour in the country are explored. PNG's actual adjustments to the shocks during the 1970s and 1980s are then analysed and compared with expectations from theory.

It is clear that the mining enclave created few jobs for nationals directly, especially after the construction phase, and that the contribution to the government's internal revenue (one eighth between 1975 and 1988) was not as huge as might have been expected. But the contributions of mining not just to exports but also to GDP and government revenue nonetheless were substantial. The main reason living standards did not rise much for most people was because of government policies. Had minimum and other award wages not been set for so long at what were clearly excessive levels, there would have been much more employment and output growth, including in the public sector. Had the government spent a smaller, more normal share of its tax revenues and borrowings on consumption and thereby more on investments, non-mineral output growth would have been greater. Specifically, there have been relatively poor education, health and agricultural research outcomes, suggesting gross underinvestment in these high-payoff sources of economic growth. And such investments as there have been in education and health have been strongly biased towards urban groups.

To ensure that the mining boom of the 1990s generates more incomes growth, the labour market reforms begun in 1992 will need to be taken much further, the import protection policy will need to be liberalized, and government spending will need to be redirected away from consumption and towards investments in human capital and public infrastructure. And this will have to be done within the context of having to meet interest and repayments on the government's large foreign debt during a period when (a) the Australian budgetary aid grant is to be phased out, and (b) the Bougainville mine is likely to remain closed. Clearly, the record of the past two decades and the present economic circumstances suggest there is little scope for a spending spree from Papua New Guinea's current mining boom.

Policy Discussion Paper 96/04
Investment Linkages Between the Asia Pacific and the South Pacific
Bijit Bora

A direct consequence of the restructuring of the global economy, as a result of significant growth rates in East Asia is the emergence of that region as a source of capital. The Newly Industrialising Economies of the Taiwan Republic of China, Singapore, Hong Kong and the Republic of Korea are now major investors. This paper reviews recent developments in regional and global flows of foreign direct investment (FDI) and assesses these implications for Pacific Island Countries.

The focus of the paper is on the strength of existing investment linkages between the two regions and policy options to enhance these linkages. Therefore, a key component of the paper is the application of a framework with which to assess the foreign investment regime of different countries.

Despite limited data on FDI inflows into the PICs it appears that the trends for the larger PICs is consistent with the global trends. A rise in flows during the late eighties is followed by a decline and a recovery.

For smaller PICs, foreign investment continues to be 'lumpy' in the sense that they experience infrequent interest in the form of projects. Trends in FDI appear to be of considerably smaller scale.

An overview of investment in PICs found that the bulk of foreign investment continues to be attracted to the primary and tertiary sector. In particular, the focus has been on natural resources such as fish and timber in the primary sector, and tourism in the tertiary sector. Foreign investment in the manufacturing sector was focussed in areas where PICs and foreign firms could capitalise on the investments available through SPATECA. In many cases PICs themselves have sought to ensure the realisations of foreign investments in manufacturing by offering further fiscal incentives.

The impact of FDI appears to be positive, in the sense that some of the projects that have been undertaken have been of a scale beyond that of most PICs. However, in other areas such as tourism related services and linkages to resource processing there is considerable interest from foreign investors.

In terms of Asian investment the study found that although there is not significant investment in the PICs from Asia, there has been a noticeable increase in interest from that region. This interest, although not through realised investment, has come in the form of increased proposals and requests for information.

The study found that investment restrictions within the PICs in the four major categories of investment policy: administrative impediments, market access, incentives and operational restrictions continues to be high. The paper also questioned the wisdom of frequently combining the use of fiscal incentives with operational restrictions such as export requirement and local participation.

East Asia has emerged as an important source of capital. Although the intra-Asian level of investment continues to be high there is scope for further investment and a strengthening of investment linkages in the South Pacific. These developments, however, need to be facilitated and will not arise out of policy complacency on the part of the PICs. The paper encouraged the PICs to liberalise their foreign investment regimes in a non-preferential manner so that investment would increase from both Asian and non-Asian sources.

Policy Discussion Paper 96/05
Agricultural Policy Reform Under the Uruguay Round: Impact on Asian-Pacific Developing Countries
Kym Anderson

Agricultural policies need to be disciplined under the GATT/WTO, because without such discipline, domestic political pressures are such that many countries would eventually adopt policies that increasingly assist and insulate their farmers from foreign competition. Such policies lower the mean and increase the variance of international food prices, thereby encouraging even more countries to adopt similar policies. It has taken until the Uruguay Round for agriculture to be brought under the GATT. This paper first examines the extent to which the Round's Agreement on Agriculture provides the necessary discipline on farm policies, what reform implementation progress has been made to date, and what problems remain for the next Round of negotiations. It notes that the new rules for agriculture are far from ideal, and the extent of reform commitment is quite minor for the rest of this decade, but at least a start has been made. A corollary is that net food-importing developing countries need not fear a GATT-induced increase in the price of their food imports; on the contrary, any food price rise that might occur because of the Round's implementation will be so small as to be indistinguishable amidst the many other economic forces at work in international commodity and foreign exchange markets.

Because of the limited progress made to date in bringing agriculture back under the GATT/WTO umbrella, much remains to be done in the years ahead. Both rule-tightening and further liberalization need attention. On rules, the tolerance of farm export subsidies needs to be re-examined, with the objective of bringing agriculture into line with nonfarm products for which export subsidies are banned under the GATT. The legitimisation of discriminatory tariff quotas under the agricultural market access provisions needs re-visiting also, since it has rejuvenated state trading enterprises whose actions as monopoly traders can virtually nullify the other disciplines on a country's agricultural markets.

On farm trade liberalization, dirty tariffication has ensured most countries, including many developing countries, have very little effective discipline on levels of tariffs during the Round's implementation period (6-10 years). That means agricultural protection levels can still be raised considerably, and can still fluctuate should countries choose to use tariffs to insulate the domestic market from fluctuations in international markets. This means protection may be reduced less for farm than for nonfarm products, lowering expectations about a Round-induced rise in the relative price of farm products in international markets. An objective of the next multilateral negotiations could be to bring those bound tariffs down at least to applied rates. Meanwhile, WTO members need to continually monitor, through the WTO's Committee on Agriculture, the implementation of the modest liberalization commitments already made, so as to minimize backsliding.

A potentially important commitment made in the Uruguay Round that has yet to be given much attention involves providing technical assistance to least-developed countries. Two areas of assistance could have very high payoffs to those countries and the world at large. One is the provision of assistance to agricultural research and infrastructure in poor countries. That could offset current underinvestment by developing countries in these areas. The other is in the provision of trade policy training for developing country negotiating officials and analysts. The complexity of the multilateral trading system increased greatly with the conclusion of the Uruguay Round, but it will increase even more in the coming decade. Even as early as next year, following the Trade Ministers' meeting in Singapore in December 1996, issues such environmental and labour standards, investment, and competition policy could become more significant parts of the WTO's work plan. If views of developing countries are to be heard on these and other issues, much more involvement in the process by them is required. Foreign aid spent on training staff in the trade bureaucracies and in trade policy research institutes of developing countries would be money well spent.

Policy Discussion Paper 96/06
Current Issues in Trade Policy and the Pacific Rim
David Greenaway

Why should the countries of the Asia-Pacific `region' be contemplating closer regional co-operation? What trade policy issues are germane to the trade-offs between more or less regional co-operation? This paper addresses both of these questions. More specifically, it focuses on four sets of issues: multilateralism and minilateralism; trade liberalisation and growth; WTO and the post-Uruguay Round agenda; and regulatory interventions. It begins by reviewing the forces which have driven so many countries to enter into regional trading arrangements of one form or another, and by questioning the objectives behind and prospects for greater co-operation between the Asia-Pacific economies. It then examines the unilateral trade reforms in developing/emerging economies which have been a distinctive feature of the 1980s and 1990s, with particular reference to Asia-Pacific. The WTO and emerging post-Uruguay Round issues are then discussed. Many commentators on WTO matters speak of the `onion skin' phenomenon: peel away one layer and you expose another. In the case of barriers to trade and investment, peel away border measures and you expose the importance of non-border measures. After focusing on these regulations, the paper concludes by evaluating the implications of these issues for the Pacific Rim.

APEC is in many respects a unique phenomenon. It has the appearance of a regional trading arrangement but is not as yet. It embraces a remarkably diverse group of countries, some of which are members of other free trade areas, some of which have bilateral accords, some are economic powerhouses while others are economic minnows, and they range over a wide spectrum of stages of development. APEC has the potential to be a trading arrangement of enormous significance, yet its diversity limits that potential. That diversity means that it is not an obvious `natural' trading bloc and the range of trade policy issues which concern APEC members is probably wider than one would find in any other sub-set of seventeen of the world's economies. Nevertheless, APEC is setting itself free trade objectives for 2010 and 2020. If it is to realise those objectives, the nature of its arrangements will have to change. If they are to change, the following issues will have to be addressed: What exactly is the purpose of APEC? How are the inevitable tensions between unilateral and minilateral liberalisation to be handled? Can APEC contribute to the implementation of the WTO's Uruguay Round agenda? And how will the organisation shape the post-Uruguay Round agenda, in particular the need to focus liberalisation efforts on the competitiveness of markets rather than the narrower issue of just removing border measures?

Policy Discussion Paper 96/08
APEC and the United States
Arvind Panagariya

This paper offers a critical evaluation of the role of the United States in the forum for Asia Pacific Economic Cooperation (APEC). The paper argues that in recent years, specially under the Clinton Administration, the central objective of the U.S. trade policy has been export expansion. Though all instruments, including aggressive unilateralism a la Super 301 and Special 301 have been used to achieve this objective, the instrument which has assumed the central role recently is preferential trading arrangements (PTAs). This approach creates a fundamental conflict within APEC: while the Asian members want to liberalize trade on the Most Favored Nation (MFN) basis, the United States demands reciprocity. In particular, the United States is unwilling to give trade concessions within the APEC framework on an MFN basis lest they become available to the European Union (EU) without any reciprocal concessions. Thus, effectively, the United States will be an active participant in the APEC-liberalization process only if it takes the form of a PTA. The paper argues against turning APEC into an FTA and advocates turning the APEC goal of free trade in all member countries by the year 2020 into the WTO goal of free worldwide trade by that year.

Policy Discussion Paper 96/09
Environmental Standards and International Trade
Kym Anderson

Concerns about natural resource use and the environment on the one hand, and about the trade effects of environmental policies on the other, are becoming ever-more prominent in trade and trade policy discussions, including in the new World Trade Organization. Many developing countries perceive the entwining of environmental and trade issues as a threat to both their sovereignty and their economies, while significant groups in advanced economies consider it unfair, ecologically unsound, even immoral to trade with and invest in countries adopting much lower environmental standards than theirs. This paper examines why these issues are becoming more prominent, whether the WTO is an appropriate forum to discuss them, how they affect developing countries, and what those countries might do about it. The paper concludes that the direct effect on developing economies is likely to be small and for some may even be positive through improved terms of trade and/or compensatory transfer payments. However, great care is needed to avoid the inappropriate uses of trade measures to pursue environmental objectives. Otherwise, there is the considerable risk of an adverse indirect effect on developing and other economies in the form of an erosion of the rules-based multilateral trading system.

Policy Discussion Paper 96/10
Regional and Global Economic Integration: Strategic Issues Affecting Europe and East Asia
Kym Anderson

This paper first examines data on intra- and extra-regional trade and investment to see what they have meant for bilateral trade and investment flows between Western Europe and East Asia. With that as background, the paper then seeks to explore empirically the trade growth prospects of those regions over the next decade, both total and bilateral. The analysis is conducted in the context of regional and global economic growth and Uruguay Round implementation. The latest forward-looking version of the global CGE model, known as GTAP, is used to provide those projections.

The effects of implementing the Uruguay Round by 2005 are shown first without and then with China and Taiwan participating as WTO members, to show just how much difference their accession could make to the world economy. Assuming sanity on that issue prevails and both join the WTO soon, the scenario involving their membership and full implementation of the Round is taken as the modified base case in 2005, and it is compared with several scenarios. These examine the effects of a possible slowdown in industrial growth in China, of slower reform of the Multifibre Arrangement than promised under the Uruguay Round, and of a 50 per cent MFN liberalization of trade in the APEC region (without and with agriculture). All are shown to have substantial effects on trade and welfare not only in Asia but also in Western Europe and elsewhere.

Several conclusions are worth highlighting from those projection exercises. First, both the Uruguay Round and the continuing rapid growth of East Asia's developing economies ensure those economies will continue to increase their shares of Western Europe's trade, with on-going economic growth of the region contributing about as much as the Round itself to that growth in trade shares. East Asia, by contrast, will continue to see the share of its trade with Western Europe fall as East Asia's importance in world trade keeps rising. The fall for Asia's developing economies will be slowed by the implementation of the Uruguay Round though.

Second, trade between Western Europe and East Asia is projected to grow much less should China's productivity growth be slower than expected, particularly if OECD countries do not deliver fully on their commitment to reform the MFA. On the other hand, if the remaining barriers to goods trade in APEC countries following the Uruguay Round's implementation were to be reduced by half by 2005 and on an MFN basis, trade between Europe and APEC would be substantially larger. Such an APEC reform would raise the total trade of Western Europe by 2 per cent and of East Asia by more than 10 per cent.

Three implications from these results are worth stressing. First, the importance of fast-tracking the WTO applications for the former centrally planned economies and especially China is clear. Second, strengthening the multilateral trading system's capacity to facilitate the continuation of rapid economic growth in East Asia and its positive spillover effects to regions such as Europe is also important. And third, the idea of setting target dates to achieve certain degrees of trade reform might be contemplated for the next round of multilateral trade negotiations, as a way of focusing attention on the gains that remain to be exploited from trade liberalization.

Policy Discussion Paper 96/11
Food Security and Sustainable Development in Asia
Randy Stringer

While the past decade brought many Asian countries international praise for impressive economic growth performances, the current decade is bringing international scrutiny over their use of natural resources and environmental services. Throughout the region, the heighten role of food security and environmental linkages is pressuring governments to modify sectoral policies to accommodate new demands for safeguarding the opportunities of future generations by protecting the earth's natural systems.

This paper reviews food production, food access and sustainability linkages in the Asia region. The paper presents the nature and scope of food security concerns in Asia; reviews regional agricultural growth, poverty and environmental linkages; explores food security and sustainable development issues, focusing on both population growth and resource degradation issues; and examines how inappropriate economic and food security policies contribute to resource degradation.

Asia's successful development experiences suggests that significant, complementary improvements in both food security and sustainable development can be made when policy makers: (1) seek policy portfolios suited to broad-based growth and build in flexibility to adjust this portfolio over time in response to new developments; (2) remove unfair market privileges, input subsidies and price incentives which, decrease competition in output, input and credit markets, raise costs to consumers and taxpayers, and encourage overuse and misuse of resources; (3) ensure that equity plays a central role in decisions about appropriate responses to food security and sustainability concerns; (4) focus public sector actions on those rural development services under-provided by the private sector; and (5) revitalize public and private investments in agricultural research to encourage new technologies for sustainable development.

Policy Discussion Paper 96/12
APEC as Seen From the Eyes of a Japanese Economist
Ryutaro Komiya

The Japanese trade policy authorities showed great enthusiasm toward the formation and growth of APEC. Viewed from Japan's perspective, since the second half of the 1980s there have been two worrying developments in the world trade system. First, the Uruguay Round did not progress smoothly, and second, regionalism, which included elements running contrary to globalism, was spreading. The ASEAN countries, Australia, Japan, and South Korea hoped for the maintenance and development of a free, multilateral world trade system, as well as for keeping the EU and North America as open as possible. APEC was also expected to strengthen the negotiating power of the West Pacific countries vis-a-vis the U.S. and the EU.

The APEC countries agreed to liberalize trade and investment by 2010 or 2020, but the meaning is not yet clear. I see difficulties with either of the two approaches to promote the liberalization of trade and investment in APEC: an MFN approach and a reciprocity approach. Most East Asian countries, at least at present, are not in favor of the second approach, which implies the formation of a free trade area. Whereas the U.S. is negative toward an MFN approach, which allows the EU a free ride on the APEC liberalization wagon.

The heat of Japan-U.S. trade friction has declined substantially, and this trend will more or less continue. There is widespread acceptance of the concept that Japan has very high trade barriers, but it is a mistaken view.

Will the Japanese government include agricultural products among the targets for free trade? In Japan, agricultural prefectures are relatively poor and economically stagnant, but politically influential. Japan's protective agricultural policies will more or less continue for the time being. Because the majority of the Japanese people support free trade, however, Japan's trade barriers relating to agricultural products are unlikely to become higher than at present. Japan is now the world's largest importer of foodstuffs, and the value of its food imports doubled in the seven years from 1987 to 1994. Since Japan's agricultural production is expected to stagnate or decrease in the future, its food imports will probably expand steadily in the future.

APEC has so far been a great success. The evaluation of APEC in the next several years will depend on how much progress is made in terms of liberalization and facilitation of trade and investment and economic cooperation among members.

Policy Discussion Paper 96/13
Feeding and Fueling China in the 21^st Century
Kym Anderson and Chao Yang Peng

China has been one of the fastest growing economies in the world for nearly two decades. Accompanying and fostering China's economic growth has been substantial structural change and, in particular, rapid export-oriented industrialization. For a country as densely populated as China, export-oriented industrial development cannot continue in the long term without the country eventually becoming less self sufficient in natural resource-based products. And having such a large population and GDP, any significant change in its trade balance in these products will impact on the rest of the world in non-trivial ways.

This raises a crucial pair of questions for China and the rest of the world. They are: to what extent will China become a significant net importer of food and fuel in the foreseeable future; and what will be the impact on international markets of China's growing import demand for those essential products? The present paper addresses these questions by first summarizing what standard trade and development economics and the experiences of other Asian economies suggest we should expect. Both comparative advantage shifts and policy response patterns are considered. The experience to date in China is then examined, before turning to some forecasts for the next decade or so.

The paper suggests that before too much longer China is going to become a significant net importer of both food and fuels (especially petroleum). This is because to not do so would be too costly in terms of the economic growth that would have to be foregone by this densely populated country. The government may well be tempted to try to remain self sufficient in these basic primary products for a while longer. Certainly there is considerable scope for further supply expansion in China, especially if food and fuel producer prices were allowed to rise -- as they would if set entirely by the market. But the harsh fact remains that this country is endowed with less than one-third as much land and fossil fuel reserves per capita as the rest of the world, and it is already using that land and exploiting those reserves very intensely by world standards. Maintaining self sufficiency in food and fuels without slowing industrial development and economic growth is simply not going to be possible. Even if the government chose to follow earlier industrializers in adopting protectionist measures to raise domestic relative to border prices for these basic products, this is likely only to slow rather than halt the eventual decline in food and fuel self sufficiency, and it will do so at enormous cost in terms of present and especially future income foregone.

The paper concludes with a discussion of the policy options available to China. It suggests that, contrary to Chinese fears, becoming more interdependent with the rest of the world need not be threatening. On the contrary, it may even offer more supply security for China in the long run.
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Policy Discussion Paper 96/14
China's Accession to the WTO: Why, How and When?
Kym Anderson

Why is it that China, a large and rapidly growing participant in world trade, is not a member of the World Trade Organization? Since its exclusion also in practice prevents Taiwan's membership, that makes it all the more puzzling. This paper explores the reasons for and significance of not including China in the WTO. It begins by recalling why the world has a WTO, and what membership involves. Then it examines why China wishes to join. A summary of some recent empirical estimates of the likely orders of magnitude of the economic effects of its accession, both to China and to the rest of the world, highlight the folly of delaying membership. There are as well other less-easily quantified but nonetheless important reasons for having China in rather than out of the WTO. Not the least of these is that it would reduce tensions between China and some of its major trading partners -- a peace dividend that may well overshadow the more-easily quantifiable direct economic benefits. These are discussed before the paper turns to the stumbling blocks that are causing the delay in China's WTO accession.

The stumbling blocks concern whether China should be granted developing country status in the WTO, whether China would be a `fair' competitor given the dominance of state-owned enterprises in that economy still, what the extent and conditions of market access into China would be, and whether China can deliver on its promise of stricter enforcement of intellectual property rights.

The paper then concludes with some suggestions for getting over those stumbling blocks. Actions needed by China include building a stronger and broader domestic consensus based on the net benefits from WTO membership, providing greater trade policy transparency, and working towards a compromise on the issue of China's developing country status in the WTO. But actions are needed also by WTO members. These include a standstill in the 'goal-posts' China should be aiming at to meet the minimum standards required for membership, and perhaps less emphasis on the degree of market access being demanded in the short run.

How soon it will be before accession is allowed is a moot question. Given the non-trivial gap that still remains between China and its WTO member trading partners on desired accession protocols, membership is not likely in the near term unless there is a significant change in political will at the highest levels in at least China and the United States. Certainly it is difficult to envisage accession before 1998. How much later than that it will take remains very much an open question that has much more to do with politics than economics.

Policy Discussion Paper 97/01
Policy Implications of Canada's Trade and Investment, Linkages with the Asia Pacific
Bijit Bora

As one of the world's leading trading nations Canada has been at the forefront of trade policy developments and played an important role in strengthening the world trading system. In the late eighties Canada signed the Canada-US Trade Agreement and in 1994 was part of the North American Free Trade Agreement. These developments have increased Canada's trade sharply, but the end result has been a deepening of Canada's trade and investment linkages with the United States. This bias in Canada's trading relationship seems to have been at the expense of other important regions in the world, most notably East Asia which has had the most dynamic economic growth rates in the past decade. This paper reviews Canada's trade and investment linkages with East Asia and discuss some policy options.

A number of reasons for Canada's weak performance in the East Asia region were canvassed. Many such as the lack of a Canadian presence and the lack of an intellectual human capital base were discussed as credible explanations. Others such as the level of protection in the East Asian region were dismissed since they were non-discriminatory and not focussed on Canada. More importantly, other countries, such as Australia have done very well in the region despite the level of protection.

An analysis of the trade data did revealed a shift in the composition of Canada's trade with East Asia. Predominantly an exporter of primary products Canada has been strengthening its base for exporting high valued added manufacturing products. As a result, the bulk of its imports have been in the low-labour intensive or simply transformed manufactures. The high rates of growth in East Asia, however, are showing signs of increasing demand for Canadian products, especially in the elaborately transformed manufactures.

Various approaches to Canadian trade policy were canvassed and reviewed. The paper made note of the fragmented nature of Canadian trade policy, which amounted to pursuing trade liberalisation in a number of areas. In particular, the paper focussed on the increasing propensity for Canada to use bilateral agreements. These were questioned in light of Canada's commitment to the World Trade Organisation and the deepening divide between Canada's MFN rates and preferential rates in these agreements.

A major thrust of the policy aspects of the paper was on the Asia Pacific Economic Cooperation process, of which Canada is the host for 1997. Given Canada's relatively weak commitment to the region and the difficulty facing APEC as it seeks to achieve its objective of free trade and investment a considerable amount of pessimism surrounds the 1997 Ministerial and Leaders meetings in Vancouver. One suggestion in the paper for Canada to develop some credibility was a consideration to multilateralise some of its NAFTA commitments. The paper also made the point of distinguishing between inputs and outputs. Hosting APEC and its various Ministerials is a huge responsibility and will encourage the development of Asian studies and contacts within Canada. But, in the end, what will count is the output, not the inputs. The final communiqué and result for APEC is what will be graded by trade policy analysts. A failure in November 1997 could arguably be a predicted outcome given Canada's lack of focus on East Asia.

Policy Discussion Paper 97/02
The Environment, Economics and Water Policies
Randy Stringer

Water's unique physical properties, complex economic characteristics, important cultural features, and essential role in supporting all life on earth distinguish it from all other natural resources. These multifaceted characteristics mean that developing effective water policies involves economic, ecological, environmental, legal, and political considerations. In most societies, political considerations dominate water use decisions. Nonetheless, most water policy options are framed and discussed in economic terms.

Water resources have moved to the forefront of international and national policy debates about how to reform policies to meet sustainability objectives. But, society's shifting and sometimes conflicting expectations create difficult policy challenges related to the use of water resources. Water's multiple benefits and services are valued differently by different people and change over time. These multiple benefits and changing roles are challenging traditional concepts and institutions. Today, economic growth and development strategies require policies that integrate water into national economies and balance economic and environmental needs among national, local and international interests.

This papers examines how environmental economics contributes to this policymaking process. It reviews some of the ways in which environmental economics has encouraged and influenced the design and implementation of water policies. The international community's increasing emphasis on sustainability presents today's resource policymakers with a set of new opportunities but also with some policy challenges. This paper attempts to contribute to the sustainability debate by examining how economists have responded to the most recent wave of sustainable development concerns by adapting and expanding the neoclassical framework in ways that provide a compelling view and a practical basis for addressing water-related environmental concerns. It suggests that, whenever possible, incentive-based, market approaches to social goals, including environmental protection, offer the best hope for efficient and sustainable use of water resources.
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Policy Discussion Paper 97/03
International Developments and Sustainable Agriculture in Australia
Randy Stringer and Kym Anderson

Until recently, Australia's agricultural development policies were guided by socioeconomic objectives that seldom included care for the environment, much less the concept of ecologically sustainable agriculture. During the past decade or so, however, increasing international economic integration and heightened environmental concerns abroad, as well as changing attitudes at home, have forced Australian policymakers to rethink agriculture's role in the economy and society. This increasing emphasis on sustainability presents today's farmers and agricultural policymakers with both a set of new opportunities and some new policy and research challenges. The latter include: how to amend appropriate market incentives, institutional structures and regulatory systems so that they not only are compatible with ecologically sustainable agricultural development locally and nationally, but also are able to meet standards agreed to internationally; and how to promote public and private research efforts in ways that encourage the adoption of sustainable technologies and management systems.

The purpose of this paper is contribute to the analysis and debate on sustainable agriculture in Australia by seeking answers to the following questions. First, what would be thefuture size and composition of Australian agriculture in an ever-more integrating global economy under present environmental policies, bearing in mind on-going economic growth, the Uruguay Round and APEC trade policy reform commitments? Second, what impact will recent or prospective international environmental agreements have on Australian agriculture, both directly via Australia's policy compliance and indirectly via changes in international prices of farm products. Third, what additional impact can be anticipated from unilateral changes to environmental policies at home and abroad? Fourth, how might Australian farmers respond to changes in consumer concerns for resource conservation and the environment? And finally, how should Australian agricultural research and development efforts in particular contribute to the Australian farmer response to these domestic and international developments?

The paper suggests that, thanks to the Uruguay Round, Australian agriculture is less likely to continue its relative decline in economic importance over the next decade. Indeed if the APEC region delivers on its promise to achieve free trade by 2010 or 2020 and include agriculture as part of that liberalization (a tall order, but that is what is currently promised), exports of farm products from Australia, particularly to East Asia, could grow very substantially. The slight cloud on that horizon is the possibility that as traditional farm subsidies are phased down, they will be replaced by subsidies aimed ostensibly at making agriculture more environmentally friendly, so dampening net farm import growth in food-importing rich countries. Cairns Group countries will need to be vigilent at the WTO's Committee on Agriculture to ensure this does not become simply a new form of agricultural protectionism.

International environmental agreements, including on sanitary and phytosanitary standards (SPS), are likely to encourage upward harmonization of existing standards. Since Australia already has high standards relative to other agricultural exporters, its competitiveness in international markets could be enhanced by this development as well, as other countries' production costs rise. But note two important qualifications. One is that these standards are not set so high abroad as to deter farm trade expansion; the other is that Australia ensures its own quarantine restrictions do not contravene the WTO's SPS Agreement. The latter is important not just to avoid being challenged at the WTO but also because excessive import restrictions harm Australian consumers and exporters. Our exporters are harmed by excessive restrictions via the standard indirect general equilibrium effects of protectionism at home and via the weakened position of Australia's trade negotiators who would appear hypocritical arguing against excessive barriers to our potential export markets abroad.

Certainly consumer tastes have become `greener' in recent years, but that does not yet warrant wholesale switching to organic farming. Australian farmers use chemicals sparingly compared with those in more land-scarce countries, and they will have even more opportunities in the years ahead to continue to develop and promote their farm products as worthy of price premia because of their low risk of chemical contaminants -- especially if they become more aware of taste differences across cultures, and direct their research investments accordingly.

Policy Discussion Paper 97/04
The Australian Financial System: Evolution, Regulation and Globalisation
Bijit Bora and Mervyn K. Lewis

The Australian economy is experiencing a period of transformation that is unlike any other period in its history. High Levels of protection and heavily regulated industries are giving way to a more liberalised economy complete with phased reduction in tariffs, privatisation and deregulation. A key element of this strategy is the financial system. This paper examines the evolution of the Australian financial system and the sequence of deregulation initiatives that it has experienced. The period that is being examined begins in the early eighties right to late 1996 and prior to the final recommendations of the Wallis Inquiry into the financial system.

A particular emphasis of the paper is the focus on globalisation and the role of foreign competition and foreign capital in the Australian financial system. The paper reviews developments in Australia's foreign investment policy and matches these with developments in the financial system. A key issue which is discussed is the notion of scale and concentration. On the one hand there is pressure to ensure a competitive domestic market, however, when the market is broadly defined as the Asia Pacific there is a question of whether or not Australian banks can achieve a minimum efficient scale to be competitive. Arguments therefore, on adequate competition policy across national boundaries becomes an issue.

The central conclusion of the paper is that the system has responded to these developments by encouraging new policies in the form of deregulation of the industry as well as entry by foreign banks. The net effect of the program of liberalisation, however, has not been unambiguously positive raising questions about the role of the Reserve Bank and the multitude of regulatory authorities.

Policy Discussion Paper 97/05
Funding of Higher Education in Australia: Performance and Diversity
Paul Miller and Jonathan Pincus

This submission concerns the Review's second term of reference, the sources of finance for higher education in Australia. In particular, we address key questions raised in the Review's Theme Four about

• the efficient and effective use of public funds;
• funding mechanisms to encourage diversity and excellence;
• the appropriate balance between public and private funds.

Our proposals for a new funding arrangement, called SuperHECS, also have implications for the financing of different types of courses, for vouchers, for full fees and loans schemes, and for access and equity.

SuperHECS involves a package of measures set out in the Recommendations below, and discussed in the balance of this submission. SuperHECS allows universities to choose their levels of deferred fees, and extends the income-contingent HECS loans scheme to cover those fees. Under SuperHECS, students would be able to claim deferred income-tax deductions for fees paid, as being investments in their "human capital". The public subsidy to operating costs would be set as a proportion of standardised costs of courses: our work indicates that a rate of about fifty percent would be appropriate.

In the Higher Education Budget Statement for 1996-97, Senator Vanstone (1996) suggested that Australian higher education has reached an important crossroad and that a series of fundamental issues needed to be considered if the challenges and opportunities of the next two decades were to be addressed. One of these fundamental issues was funding strategies. In recent years and for the immediate future, the Higher Education sector has been required to make a contribution to the government's deficit reduction task. The challenge for the sector is to reorganise its activities and deliver quality programs with fewer resources, or to seek alternative funding arrangements that might expand the resources available. Although incentives for universities to charge fees for Australian students were expanded in the recent budget, and a less interventionist role for the government was foreshadowed, we are not convinced that these changes go far to resolve the funding issues satisfactorily.

Implementation of our proposals would give institutions considerable autonomy with respect to the price set for specific courses and also the quality of the courses; present students with far greater choice than they currently enjoy; enhance quality in teaching and research; encourage more efficient arrangements within the higher education sector; and be fair to all eligible students who wish to enter university and also be fair to the Australian taxpayer. We argue that a funding strategy based on the set of recommendations in this report is a viable alternative that will lead to greater diversity and enhanced performance in the tertiary sector in Australia.

Policy Discussion Paper 97/06
The Changing International Context of Australian Aid
Kym Anderson

The on-going integration of the world economy, or 'globalization', has important implications for development assistance from OECD countries. In particular, the now much greater supply of foreign capital from private lending sources ensures there is no longer a financial capital constraint facing at least those developing countries whose governments are managing the economy well. None the less, it is in the economic and security interests of high-income countries such as Australia to continue to provide foreign aid. After summarizing key features of the globalization process of the past decade or so, this short paper then draws out some implications for development assistance from Australia to poorer countries. Five points in particular are made. First and foremost, we should continue to liberalize our own markets, thereby making it easier for developing countries to trade their way out of poverty.

Second, Australia should continue to support multilateral aid agencies, where one-quarter of our aid budget currently goes, but focus on a smaller number of agencies.

Third, Australia's bilateral aid could be more effective by focusing it more on Asia and the Southwest Pacific. It should not be restricted only to the well-performing economies in the region, however, even though empirical research shows that aid yields a higher financial return in economies with good policies and strong economic management. This is because there is also the possibility that aid can be used to encourage better policies and overall economic governance where it is currently weak.

The fourth point relates to the question: on what programs and projects should our aid be directed? Again there is scope for sharper focus than at present, and not just in backing the highest-payoff programs. For example, estimated rates of return from rural development projects are often low because the price and trade policy environment is heavily biased against the agricultural sector. As shown in an Appendix, if those anti-rural biases in economic governance are reduced or removed, rural development projects would yield much higher estimated payoffs.

The fifth and final point concerns tied aid. If Australia is seeking to open its economy for its own sake as well as for the sake of its trading partners including developing countries, and if it wants the latter to adopt and maintain open-economy policies too, then it is inconsistent to restrict aid-funded purchases to Australian suppliers.

Policy Discussion Paper 97/07
Rethinking HECS:Its Definition and Fiscal Role
Brian Bentick

The Australian Higher Education Contribution Scheme (HECS) directly subsidizes tuition costs in public higher education in two ways. First, for many courses, students are required to pay less than half the full costs of their tuition. Second, students are permitted to borrow the required tuition charge from the Commonwealth, but they do not have to begin making payments until their income reaches a threshold level. While there is a substantial 25% discount and reward for prompt payment made at the time courses are undertaken, there is no additional real interest rate penalty for those who choose to extend their repayments beyond the time that the income threshold is reached.

On the other hand, the Commonwealth income tax system severely discriminates against that part of personal investment in human capital which requires outlays on tuition costs. This is because tuition costs are not deductible against the higher income deriving from expenditures on higher education. By contrast, other investment expenditures - on financial assets, plant and equipment, and research and development - are deductible against the taxable income which they create. Clearly, there is a tax-based case for some degree of subsidy of tuition fees in public (and private) higher education.

This article calculates the proportion of tuition costs which should be charged at the time the course is undertaken in order to compensate for this lack of deductibility. With an average tax rate of graduate income in the region of 0.25 to 0.3, it follows that the appropriate proportion of full costs which students should be required to pay "up front" is about 70 per cent: this is the proportion of fees which students would effectively pay if their fees were tax deductible, the Commonwealth effectively paying the remainder through granting a tax deduction.

This "tax neutral" HECS contribution is significantly more than students are presently required to pay. Presumably this is because the origins of HECS lie in a desire to encourage higher education on account of its presumed external benefits, and on account of capital market imperfections which make it difficult for poor families to fund it by borrowing on commercial terms. However because tuition costs are a relatively minor proportion of the total social costs of higher education, less than 10 per cent, fee subsidies are an inappropriate method of compensating for these problems.
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Policy Discussion paper 97/08
Can APEC Deliver on Investment
Bijit Bora and Edward M. Graham

In 1994 APEC set itself the ambitious target of achieving free and open trade and investment within the region by 2020. This paper reviews APEC's work on investment and examines whether or not it has made any progress towards fulfilling its goals.

APEC's members that were submitted in 1996 to see if any progress had been made. APEC's challenge will be to illustrate to the world that a process that relies on self help and the goodwill of trading partners, is not naïve but, rather, can be a practical approach to liberalization. Our conclusion is that there is very little to cheer about, except in the area of investment facilitation. Although the stated goal of 2010 for developed economies is only 13 years away, no APEC member has yet to commit itself to a concrete plan of liberalization.

To ensure that the liberalization process will have some momentum, the APEC Investment Experts Group will have to be willing to intensify its work. To date, the group has been content with working on issues such as consultation and dialogue. These efforts have paid dividends, but the extent to which they will ultimately liberalize investment, or enhance the flow of investments, is uncertain. APEC's challenge will be to illustrate to the world that process that relies on self help and the goodwill of trading partners, is not naïve but, rather, can be a practical approach to liberalization.
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Policy Discussion Paper 97/09
Intellectual property Rights, Foreign Direct Investment, and Competition Issues in Developing Countries
Keith E. Maskus and Guifang Yang

This paper provides an overview of theoretical mechanisms by which the strength of an economy's intellectual property rights system could affect inward flows of foreign direct investment and technology licensing. It also reviews briefly the available econometric and survey evidence on these questions and lists new estimates suggesting that the international distribution of US investment in manufacturing is sensitive to variations in patent rights across countries. Intellectual property rights appear to be an important component of broader economic and regulatory policies in terms of attracting direct investment. However, concerns persist that stronger rights will reduce competition and access to information in developing economies as the new global system is phased in. Thus, the paper also discusses issues of competition policy that arise in the context of intellectual property protection.
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Policy Discussion Paper 97/10
Implications of Regional and Multilateral Agreements for Intellectual Property Rights
Keith E. Maskus

Over the last decade there has been a marked rise in international interest in the protection of intellectual property rights (IPRs) in different nations and the impacts of IPRs on competition, innovation, and international technology transfer. This paper focuses on one understudied aspect of the issue. Specifically, it compares the effectiveness of regional trade agreements, most specifically the North American Free Trade Agreement (NAFTA), and the multilateral approach within the World Trade Organisation (WTO) in fostering stronger and more harmonised levels of intellectual property protection. Preferential trade agreements could generate stronger IPRs within regionally integrated markets than in the global trade regime. Accordingly, the paper also considers some implications of regional harmonisation of IPRs for economic welfare and the trading system.

The first task is to compare the WTO and NAFTA agreements on intellectual property in order to illustrate economic issues surrounding the multilateral and regional approaches and the advantages and drawbacks to each. On the multilateral scale, the WTO Agreement on Trade-Related Intellectual Property Rights (TRIPs) is a watershed in global protection of intellectual property. Before its implementation, each country's IPRs regime was largely a matter of choice. However, the inconsistency between the existence of different national IPRs regimes and the need for international exploitation of the gains from innovation through trade and FDI had become well-recognised by the mid-1980s. The TRIPs accord commits all developing countries in the WTO to undertake a significant extension of IPRs protection, albeit with a long phase-in period for the poorest countries, thereby bringing about a substantive convergence in international minimum standards.

Despite some shortcomings in the standards and commitments of the TRIPs agreement, at least from the view of technology and product developers in the United States, it represents a substantial strengthening of global IPRs systems. On its own merits, the TRIPs accord could have negative impacts on many nations, at least in the short run, because of higher prices associated with newly protected products. It is interesting to ask, therefore, why such a comprehensive agreement commanded widespread adherence in the Uruguay Round. The most relevant answer is that the Uruguay Round agreements provided enough collateral benefits to developing countries, particularly in terms of market access for agricultural goods, textiles and apparel, along with greater teeth to dispute settlement, that it was worth accepting the short-term (though uncertain) losses from TRIPs. This ability to trade concessions across disparate interests is a key advantage of the multilateral approach. Further, a multilateral approach based on minimum standards and disciplines is preferable to competition among these countries in terms of IPRs to attract FDI and technology. This last observation provides a further powerful argument on behalf of a multilateral approach.

The NAFTA agreement on IPRs is stronger than TRIPs in some important ways, though there remain significant exclusions. The successful installation in Mexico of strong IPRs, along with changes in Canadian compulsory-licensing practices, points to one important advantage of the regional approach over the multilateral approach. In the former, it is easier to achieve broad consensus over harmonised standards because of greater commonality of interests associated with regional market integration. In the latter, (at least perceived) economic interests continue to diverge widely and it would have been extremely difficult to procure an intellectual property agreement as strong as TRIPs without the broad potential for trading off market and policy concessions across numerous economic activities.

Another salient distinction between NAFTA and TRIPs is that the former agreement provides less leeway to participants in setting national implementation strategies. For example, Mexico would find it more difficult to adopt strong fair-use exemptions and compulsory-licensing procedures under NAFTA than under TRIPs. In this important sense the regional approach generally may be counted on to erect stronger minimum standards for protecting IPRs.

The paper also reviews recent empirical evidence on the importance of IPRs for international commerce. For example, studies have demonstrated that international variations in the strength of patent laws do have an impact on trade flows, with stronger patents associated with rising imports. Extending one methodology to the case of U.S. exports to Mexico, if the result of NAFTA is to improve Mexican patent protection to the American level, we might expect an increase in trade of perhaps $3 billion per year (in 1984 dollars). There is also tentative empirical evidence that foreign direct investment is attracted by strong IPRs. Again, one methodology suggests that if the IPRs agreement in NAFTA raises Mexican patent protection to U.S. levels, FDI would rise from the United States to Mexico on the order of $893 million, or approximately 22% of 1989 assets.

In normative terms, IPRs are inherently second-best policies within each country and it is difficult to specify workable rules that necessarily satisfy conditions for welfare optimality. Rules of thumb, such as providing copyright protection to software but leaving open the possibility of patent protection under particular circumstances, may in some cases be too weak and in other cases too strong. Extended to the international context, these ambiguities are magnified. In terms of economic theory, it is unclear whether TRIPs and NAFTA will be globally pro-competitive or anti-competitive, while questions of international distributional impacts are important.

Finally, the article comments on some important differences in the potential international economic effects of multilateral and regional harmonisation of IPRs. The issues relate to the inherently second-best character of both regional trade preferences and IPRs. For example, the essence of regional trade agreements is to provide preferential treatment in commercial policy. Drawing a page from the economic theory of economic integration, define the concepts of intellectual property creation (IPC) and intellectual property diversion (IPD). The former would exist to the extent that more intellectual property is created and marketed within a regional market, such as NAFTA, strictly due to the expansion of markets and the replacement of inefficient technology developers with more efficient ones. The latter would occur to the extent that less intellectual property owned by non-member firms is exploited within the free trade area. These effects are possible even if the intellectual property standards within a free trade area are non-discriminatory. In a related vein, greater harmonisation of both regional and global IPRs standards does not necessarily represent a movement toward less effective variability in world practices.

A final, and related, observation is that the trend toward stronger IPRs, within both the WTO and certain regional agreements, has sometimes come with insufficient regard for changes in important complementary regulatory policies. Chief among these is competition policy.

This review suggests that, while there are reasons to anticipate net efficiency gains from the new international IPRs systems, the significant differences remaining between TRIPs standards and those emerging under regional trade agreements pose new questions about the role of deep integration in the international regulation of intellectual property use.
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Policy Discussion Paper 97/11
Labour Standards and trade Flows of OECD Countries
Cees van Beers

This study is concerned with the impact of differences in labour standards among OECD countries on intra-OECD trade flows. In theory labour costs in relatively high-labour standards' countries are relatively high and therefore competitiveness of labour-intensive industries will be relatively low. In this study an index representing stringency of labour standards in OECD-countries based on judgements of actual labour regulations has been used in a trade flow equation to investigate the effect of labour standards' strictness on foreign trade flows. It is argued that differences in labour standards among OECD-countries affect both labour- and capital-intensive trade flows if these are produced with relatively more high-skilled labour. The reason is the higher demand elasticity of high-skilled labour compared with low-skilled labour. Higher labour standards result in higher labour costs in industries that use relatively more high-skilled labour. Labour-intensive exports are negatively affected if they are produced with high-skilled labour while no effect can be found if produced with low-skilled labour. Capital-intensive exports produced with high-skilled labour are also negatively affected while that part of these exports produced with low-skilled labour is positively affected. The relatively low demand elasticity of low-skilled labour combined with high substitution possibilities of capital for lowskilled labour provide an explanation for this result. No significant effect on imports can be found.
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Policy Discussion paper 97/12
Potential for Services Liberalization between AFTA and CER
Christopher Findlay and Tony Warren

Some principles are suggested for application in services sector liberalisation initiatives taken by members of regional trading arrangements. These principles are summarised under the phrase of the "open club" approach. A critical component of the open club approach to reform is that the process should involve the establishment of both "endpoints" and "milestones". These should reflect both the principles employed (in particular, that of not seeking to disadvantage others and promoting accession) and a timetable for reform (eg the process of accession to new members, the recording of commitments in the Individual Action Plans sought by APEC, the adoption of a particular strategy by other APEC members as a larger group, etc).

Some architectural issues are examined in the discussion of services sector initiatives, including the value of shifting to a negative list, the importance of regular reviews of progress, and issues in the application of competition policy.

Particular sectors suggested for attention and application of these ideas within a CER-AFTA dialogue include transport, professional services, telecommunications, the finance sector and the delivery of services by the mode of electronic commerce.

It was argued that a link between CER and AFTA members could make a number of contributions including:

• the exchange of experiences in, and the promotion of the research capacity for, the development of a negative list approach to documenting barriers to service trades (generalising from the CER experience)
• implementing an APEC approach to the application of competition policy principles to some key sectors, telecommunications in particular
• working to apply more widely and more rapidly the approach to the liberalisation of trade in professional services recently laid out by the WTO Council for Trade in Services with respect to accountancy
• developing strategies for the provision of institutional strengthening programs which complement APEC commitments to financial sector reform
• building the consensus for further services sector reform - for example, by exchanging views on the benefits of further liberalisation in a variety of service sectors of key interest to all members - which will contribute to the success of the next round of services sector negotiations, expected to be begin in the year 2000
• responding to recent developments in regional air transport markets in a way which increases the likelihood that US initiatives to construct new "open skies" agreements will be truly liberalising
• discussing the Clinton proposals for more liberal trade through the medium of electronic commerce with the goal of contributing the debate on those issues once the new round of services sector negotiations begins.

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Policy Discussion paper 97/13
Potential for Investment Liberalization between AFTA and CER
Bijit Bora

The political will to establish a link between the ASEAN Free Trade Area and the Australia-New Zealand Closer Economic Relations Agreement has generated a number of issues. This paper looks at the scope for a medium term investment linkage. The paper does not canvas the specific issue of formal investment rules within an AFTA-CER agreement, but examines facilitation and cooperation initiatives that can be undertaken.

Incorporating investment in the AFTA-CER dialogue is interesting since investment is not explicitly in either agreement. AFTA members have proposed an ASEAN Investment Area (AIA), but this concept is still in its infancy. Australian reluctance to include investment in the CER has led not only its exclusion, but also no initiatives to bring it within the agreement, to complete the so-called "missing" link. The AFTA-CER investment question also arises against a backdrop of regional and multilateral investment initiatives such as within APEC and the OECD. This means that any initiative should, at the very least, not be duplicative and complement these regional and multilateral efforts.

The paper puts forth specific and practical proposals to initiate an AFTA-CER dialogue. As a start, the paper proposes including Australia and New Zealand as observers in the meetings for the AIA and attending the ASEAN Heads of Investment Meeting. Such a practical step can then be complemented by specific technical assistance programs such as meeting the obligation of many of ASEAN members to eliminate trade-related investment measures (TRIMs) by the year 2000 to technical training programs on the contents and implications for the OECD Multilateral Agreement on Investment.

The paper also takes into account the diversity of ASEAN's membership. Complex issues such as investment will be difficult for their new members, Vietnam, Myannmar and Laos, hence the need to avoid moving directly to negotiating rules . Again, this is an area where Australia and New Zealand expertise can assist to enhance the investment regimes in ASEAN and facilitate further growth in intra-AFTA-CER investment flows.
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Policy Discussion Paper 98/01
The Future of the WTO
Kym Anderson

Despite the huge contribution the GATT has made to the world economy since 1948, substantial scope remains for further contributions from and adaptations by its successor since 1995, the World Trade Organization. After first reviewing why the world needs the WTO, this paper examines the main challenges confronting the organization as we approach the new millennium, and assesses the WTO's potential to address each of these issues. They include completing the integration of agriculture and textiles and clothing into the mainstream of the GATT, and coping with the WTO's much-expanded roles in monitoring compliance and settling disputes. The Uruguay Round certainly did not handle all the key issues confronting the international trading system though, and new challenges have since arisen. Thus, as well as digesting the latest agreements, the WTO needs to address such issues as the calls to use the WTO and its dispute settlement procedures for issues only peripherally related to trade (environment, labour, human rights more generally), the continuing growth of regional trading arrangements, the rapidly expanding importance of foreign investment and competition policy, the surge in applications from (especially former socialist) countries wishing to join the WTO, the changing nature of services trade because of the information revolution, and the recent backlash against globalization. The paper suggests that most of these issues can best be addressed in the context of another comprehensive round of multilateral trade negotiations early next century, particularly given the built-in agenda for reviews of the agriculture, services and TRIPs agreements by 2000. In that case the non-trivial task of building a consensus among WTO members to launch that round needs to begin immediately. The paper concludes with a discussion of what it will take to build that needed consensus, and of the prospects for success.
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Policy Discussion Paper 98/02
Environmental Policy and Australia's Horticulture Sector
Randy Stringer

Horticulture is among the fastest growing agricultural activities in Australia; with production valued at A$3.2 billion in 1995. It is also the second largest agricultural industry, after meat. Yet while Australia's horticultural producers are intensive users of land, water and farm chemicals, few economic research efforts have investigated the environmental problems associated with fruit and vegetable production. Since the early 1990s, Australia's growing focus on sustainable agriculture has led to greater scrutiny of horticultural activities, revealing several important trends and issues. These include: high and growing domestic demand for and consumption of horticultural products; increasingly health and nutrition conscious consumers concerned more and more with the quality and safety of their food; the expanding share of Australia's horticultural exports going to Asia; and growing domestic and international pressure on policymakers to address agriculture-related environmental problems and to devise measures to promote more sustainable practices.

The common outcome of these interrelated trends is further intensification of land use each year as producers convert land to fruit and vegetable farming from other, less valuable production, and as they open up new lands for fruits and vegetables, especially in the tropical north of the country. This expansion on the ground has been accompanied by a corresponding increase in water, fertiliser and chemical use.

Research has identified two broad types of environmental problems linked to Australia's fruit and vegetable production practices: (1) pollution and contamination of soil, water, air and food resulting from the use of farm chemicals; and (2) degradation of natural resources, especially the deterioration in the available quantity and quality of soil and water. More recently, fruit and vegetable production has been indirectly associated with disturbance and reduction of biotopes and wildlife habitats (eg. on the Great Barrier Reef) and with reduction in wildlife species and loss of biological and genetic diversity of plants and animals.

After reviewing these linkages between horticultural production and the environment, this paper examines the types of environmental policies that local, state and national level policymakers are using to address environmental degradation caused by horticultural production. These approaches include persuasion, education, regulation, economic incentives and property rights systems.
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Policy Discussion Paper 98/03
Agriculture and the WTO into the 21st Century
Kym Anderson

One of the great achievements of the Uruguay Round (UR) was to begin to bring agricultural policies into the mainstream of GATT discipline. Non-tariff barriers to agricultural imports were tariffied and bound and are scheduled for phased reductions, and farm production and export subsidies also are to be reduced, mostly between 1995 and 2000. That UR Agreement on Agriculture, together with the SPS Agreement (to limit the use of quarantine import restrictions to cases that can be justified scientifically), the new policy notification and review requirements, and the Dispute Settlement Agreement (which has greatly improved the process of resolving trade conflicts), ensure that agricultural trade will be much less chaotic in future than prior to the formation in 1995 of the new World Trade Organization (WTO).

However, much remains to be done before agricultural trade is as fully disciplined or as free as world trade in manufactures. This mid-way point in the UR implementation period is an appropriate time to examine what has been achieved to date, to evaluate what remains to be tackled when WTO members come back to the negotiating table in 1999, and to decide on the most effective ways of ensuring that the process of reform continues or accelerates as we move into the next millenium.

Action is needed on numerous fronts simultaneously. The first priority is to secure an early commitment to begin a new round of multilateral trade negotiations at the turn of the century, and one that is comprehensive enough to allow inter-sectoral tradeoffs. The second priority is to ensure all possible areas for opening agricultural markets are on the table. In addition to reductions in production and export subsidies and bound tariffs, this includes expanding tariff-rate quotas, de-monopolizing state trading enterprises, and phasing out special safeguard provisions. Agricultural exporting countries also have a clear, if indirect, interest in ensuring a continuation and spreading of rapid industrialization in densely populated Asia and elsewhere, for that will expand those developing countries' net imports of farm products (especially if WTO commitments prevent them from raising food import barriers). That in turn depends heavily on advanced economies honouring and then extending their commitments to liberalize markets for manufactures, especially cars, textiles and clothing. It also depends on socialist economies in transition (most notably China) reforming sufficiently to be welcomed into WTO membership.
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Policy Discussion Paper 98/04
Agricultural Trade Reforms, Research Incentives and the Environment
Kym Anderson

For the first time this century, the world has at last begun reducing distortions to agricultural incentives in significant ways. The long-term growth in agricultural protection in high-income countries has slowed, and the heavy direct and/or indirect taxation of agriculture is being reduced in numerous lower-income countries. Economists have hailed this as a breakthrough that will lead to a more efficient use of global resources. Others, however, have been less positive. Some environmental groups, for example, claim that too little attention is given by economic modellers to the (in their view serious adverse) effects trade liberalization may have on our rural and natural environments, on agriculture's resource base, and on food safety. Another example is the aid community: it is worried that the reduction in government attention to agriculture in high-income countries is contributing to a loss of interest in funding agricultural development assistance programs including international agricultural research. To date, little attention has been paid by comparative static economic modellers to these environmental or R&D effects of reform.

This paper looks at both of these concerns. It begins by exploring the claim that GATT/WTO Uruguay Round agreement to reduce high-income countries' government support for farmers will harm the environment. Economists remain confident that the removal of trade distortions will in almost all situations boost economic welfare. The analysis in this paper suggests that, in the case of agricultural policy reform, it would in many situations also improve the environment on balance. Where it would not, the reason is commonly that governments do not have in place appropriate environmental policies. Having said that, the above discussion also makes clear that the environmental effects of many policy changes can have some negative elements even when the net welfare effect might be judged to be positive. Hence before it will be possible to convince sceptics that trade liberalization is indeed -- as espoused in the Preamble to the agreement establishing the WTO -- a contributor to sustainable global development, more attempts will need to be made to quantify the environmental changes likely to be associated with trade and other economic reforms.

The paper then looks at an important consequence of the opposite type of change in developing countries (that is, the unilateral removal of policies that keep their domestic food prices artificially low) on incentives to invest in agricultural research. At the higher price levels the cost to those countries of not reducing distortions in markets for farm chemicals and irrigation water, in terms of degrading the farm sector's natural resource base, will be greater than when product prices and hence input intensities were lower. Another implication is that the returns to developing countries from investing in agricultural research will be higher in future with those higher prices. The international agricultural research centres too will contribute more from their research. In so far as those countries' reforms involve raising prices not only for farm products but also for chemical inputs and water, the rewards will be especially high from generating environmentally friendlier precision technologies as distinct from those that use heavy doses of chemicals and water.

There will be pressure from environmental groups to have the issue of trade and environment linkages on the agenda of the next WTO Round of talks. It is too early to tell what form that might take, but it is unlikely to result in agreement to do anything as extreme as allow countries to use trade measures against other countries with less-stringent environmental policies. Even calls to have an environmental impact assessment of what is negotiated in the way of further reducing trade restrictions will be seen as impractical, for if any such assessment led to required amendments to the negotiated agreement the whole agreement could unravel. Such calls are less likely, however, the more empirical research that is done in the meantime that demonstrates the absense of significant adverse environmental consequences of trade liberalization.
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Policy Discussion Paper 98/05
Managing the Transition to Free Trade: Vietnamese Trade Policy for the 21st Century
Ari Kokko

During the ten years that have passed since the introduction of comprehensive market-oriented economic reforms during the Communist Party's Sixth Congress in 1986, Vietnam's macroeconomic performance has been remarkable. During the last few years, the Vietnamese economy has achieved annual GDP growth rates of nearly 10 percent, a reduction of the inflation rate from three-digit to single-digit figures, a stable exchange rate, and a substantial expansion and diversification of external trade.

However, this paper has suggested that the potential benefits of past reforms are nearly exhausted, and that further change is needed to sustain macroeconomic stability and a high rate of economic growth. In particular, we have asserted that it may be necessary to reform trade policy more rapidly and more thoroughly than what has been agreed so far. Although Vietnam's exports have grown rapidly during since the late 1980s, import growth has been even faster, resulting in growing trade and current account deficits. A central question raised by these imbalances is whether the deficits are necessary consequences of a sound long term growth strategy or a sign of some fundamental structural problems in the Vietnamese economy. We have argued that the latter alternative is the more accurate, and that the trade deficits are largely generated by import substituting SOEs and foreign multinational companies. The current Vietnamese trade policy is complex and highly restrictive, and promotes investment and production in sheltered import substituting industries.

The trade environment is also characterized by a large degree of uncertainty. The Vietnamese government has repeatedly declared that trade liberalization is a central element of the country's continuing economic reforms, and through its membership in the AFTA, Vietnam has made a commitment to eliminate most tariff and non-tariff barriers vis-à-vis the ASEAN member countries within the next decade. Vietnam has also applied for membership in the World Trade Organization and introduced some unilateral trade reforms with support from the IMF, the World Bank, and other members of the donor community. However, relatively little trade liberalization has taken place to date. For instance, the AFTA commitments will not lead to any significant liberalization before the year 2000, and there is no exact time schedule for the tariff reductions that have been promised.

The uncertainty created by the long adjustment period and the lack of a firm time schedule for tariff reductions provides incentives that are contradictory, inappropriate, and inconsistent. Specifically, while present rules and regulations are still biased in favor of large import substituting SOEs, it is crucially important that the present policy regime should not be the foundation for long-term investment decisions. If this contradiction is not recognized, there is a risk that Vietnam will not be able to fulfill its AFTA commitments. The costs for liberalization will increase with every dollar invested by SOEs and foreign multinationals into import substitution investments that will no longer be competitive when trade barriers are removed. In fact, the costs of trade liberalization - in terms of bankruptcies, lost capital, and unemployment - may grow large enough to force Vietnam to abandon parts of the agreement. Further reforms are therefore needed. Given the existing trade liberalization commitments to AFTA and other multilateral trade organizations, the challenge is to manage the transition from import substitution to a more liberal trade regime.
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Policy Discussion Paper 98/06
Enlargement to Include Formerly Centrally Planned Economies: ASEAN and EU Compared
Richard Pomfret

During the 1990s both ASEAN and the EU have been preparing for enlargement to include formerly centrally planned economies. This paper analyses the economic consequences from a comparative perspective, and concludes with an assessment of the implications of enlargement for ASEAN-EU economic relations.

In both cases the new members are significantly poorer than the pre-existing members, and often with less well established institutional and political regimes. Integration questions are generally more complex for the EU with its more tightly knit economic and political structure, and the budgetary implications of enlargement are substantial. The income gap is not so large in Southeast Asia, and ASEAN is a much looser organization than the EU. Integration considerations are, however, not absent from ASEAN whose tradition of consensus could be threatened by enlargement to include members with differing political histories, institutions and aspirations - a point underlined by the last minute failure of Cambodia to be admitted after the July 1997 coup.

The main parts of the paper focus on two differences between the EU and ASEAN cases. First, East Asian economies in transition from central planning have been more dynamic than East European transition economies and did not suffer the major income losses experienced by East European countries during the first half of the 1990s. After a brief discussion of differences between Asian and European models of transition, the paper analyses the implications of new members being more or less prosperous in terms of both level and recent growth of incomes and more or less advanced on the path to replacing central planning by a more market-oriented economic system.

The second difference to be analysed is the contrast between the East European countries joining their main market and the Indochina countries joining a group of competing producers. Although the East European economies are industrialized they are potentially complementary to the existing EU countries, with the opportunity for them to specialize in agricultural products, textiles and some standardized industrial goods if they become fully integrated into the EU. In contrast, the Indochina countries (and Myanmar) are competitors of the original ASEAN members, supplying food, raw materials and labour-intensive manufactures to markets outside Southeast Asia.

The speed and nature of enlargement of the two regional organizations will be determined by how the above issues are settled. The final section of the paper draws some conclusions, and relates the outcomes to prospects for the future development of ASEAN-EU economic relations. A key issue is the uncertainty about where exactly comparative advantage lies in economies which were characterized by gross resource misallocation until recently. The shift to world prices implied by full membership of the EU or ASEAN could lead to trade surges as demand for previously repressed imports booms or previously unidentified areas of comparative advantage are exploited.

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Policy Discussion Paper 98/07
Resistances to and Options for Reform in International Air Transport
Christopher Findlay, Paul Hopper and Tony Warren

The regulation of international trade in air transport services involves an elaborate structure of bilateral agreements which fix a set of rules that identify the airlines of the contracting economies with the rights to fly on each route, determine the capacity that can be provided by each of those designated airlines limit the capacity that can be offered by airlines from third countries. The system therefore imposes a set of country-specific quotas in each market, where markets are defined in terms of routes between pairs of countries and in terms of the two-way traffic flow. Competition on each route is limited to those suppliers designated by the relevant bilateral air services agreements. When privately owned, nationality requirements are generally imposed upon the share register of the designated carriers.

The regulatory system in air transport clashes with many of the principles of multilateralism. Rights are negotiated on a reciprocal basis with the aim of achieving a 'balance of opportunities' between the two sides. It does not therefore treat all trading partners in a non-discriminatory way. It also discriminates between foreign trading partners and domestic firms in terms of market access. As a result, the current arrangements deny some of the gains from international trade in this service.

Not surprisingly, this system is subject to substantial pressure for reform. These include pressure from the mutlilateral system, from commercial interest of airlines and from administrative issues. There are also important resistances to change. There are for example legitimate concerns about competition policy issues that might arise as a consequence of reform. Indeed, one interpretation of the current regulatory system is that it was an early example of an internationally coordinated competition policy. Arranging the next steps in the reform of the current system requires some appreciation of its origins.

There is now resistances to a "big bang" application of the principles of multilateralism. Paths of reform are likely to involve either reform within the bilateral system or else actions by groups of like minded countries. There are some rules which if applied are more likely to cause these pressures for regional initiatives to lead to a liberalising outcome. Another important question is whether these regional strategies can deal with the competition policy issues. One suggestion is that a commitment be made within regional structures which tackle air transport to refer such issues to an air transport competition policy dispute panel.

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Policy Discussion Paper 98/08
Domestic Agricultural Policy Objectives and Trade Liberalization: Synergies and Trade-offs
Kym Anderson

A major achievement of the Uruguay Round was to begin to bring more rules-based GATT discipline to agricultural trade and trade-related policies. Path-breaking though that achievement was, much remains to be done before international agricultural trade is as fully disciplined or as free as world trade in manufactures. Because of the huge difference that will still remain by 2000 in the rates of protection for agriculture versus manufacturing, it was agreed as part of the Uruguay Round Agreement on Agriculture to return to the multilateral trade negotiating table before the end of 1999.

Preparatory work for those forthcoming negotiations is already well under way. One item that is gathering considerable attention in some OECD countries has to do with the term 'non-trade concerns'. While not spelt out in any detail, the preamble to the URAA defines those concerns to include security of food supplies and protection of the environment. A third concern, the viability of rural areas, also has been mentioned by Norway in the past and was repeated in the Communique of the OECD Agriculture Ministers following their meeting in Paris, 5-6 March 1998. The governments discussing these three items are characterizing them as positive externalities and in some cases public goods that are jointly produced along with food and fibre. Hence their use of the word 'multifunctionality' to describe these features of farm production.

This paper seeks to address two questions raised by these concerns. First, to what extent are the agricultural policy reforms embodied in the URAA consistent with meeting domestic policy objectives such as providing adequate degrees of food security, environmental protection and viability of rural areas (the 'synergies' part of the paper's sub-title)? And second, if and where the URAA reforms are countering those goals, what domestic policy actions and/or WTO rules changes are appropriate (the 'trade-offs' part of the sub-title)?

In the process of addressing these questions, the paper examines the claim that agriculture deserves more price support and import protection than other sectors because of the non-marketed externalities/public goods it produces jointly in the process of producing marketable food and fibre. Do these unrewarded positive externalities exceed the negative externalities from farming by more than the net positive externalities produced by other sectors? If so, to what extent if any are those farmer-produced externalities under-supplied? And where there is under-provision, what are the most efficient ways to boost their production to the socially optimal levels?

The first section of the paper addresses 'non-trade concerns' in general, before attention is turned to each of the three specific concerns mentioned above. The paper finishes with a summary of its conclusions. Throughout, the agricultural reforms being referred to include not just import liberalization but also cutbacks in export subsidies and in various forms of domestic support as in the URAA which, collectively, are lowering government support for farm production in protective OECD countries.

These concerns are not really new, but they are being packaged a little differently than in the past. A key question at stake is: do they require exceptional treatment or are WTO provisions sufficient to cater for them, for example via the URAA's 'green box'? The short answer is that WTO provisions are adequate for dealing with the main cases raised.

Several more-specific conclusions are worth stressing. First, the numerous policy objectives encompassed in the 'non-trade' concerns require not one but numerous policy measures to address them, and agricultural price support programs are not among the set of efficient measures. With respect to food security, the most efficient policy instrument for boosting it above that provided under free markets is probably subsidies to stockholding of staple foods. That is already allowed for in Annex 2 of the URAA. Import restrictions to boost self sufficiency, far from helping, may even diminish food security for vulnerable groups struggling to pay the high price of protected domestic food. Environmental protection has many facets and so requires a range of policy instruments. Reducing farm output price supports, as under the URAA, probably provides the single biggest potential contribution to the rural environment in agricultural-protectionist OECD countries, through lowering the level and intensity of farm production. In so far as agriculture provides positive externalities or public goods, appropriate policies are de-coupled payments for their specific provision to the optimal level in each location -- assuming that optimal level is above the level that would otherwise prevail, bearing in mind the marginal social cost of further provision. Since most of those goods can be provided independent of farming per se, de-coupling is not only possible but also desirable, because non-farmers may be able to provide some of those goods or services at lower cost than farmers. Some provision for such payments is made both in the URAA and in the WTO's Agreement on Subsidies and Countervailing Measures. Ensuring the viability of rural areas also is not going to be achieved efficiently with the blunt instrument of general farm product price supports, particularly since agriculture is not even the dominant source of income in many (particularly near-urban) rural areas. Far more appropriate are WTO-consistent targeted adjustment assistance (including re-training) packages and perhaps subsidies to essential services that would otherwise be withdrawn from strategic left-behind remote areas.

In short, there is plenty of synergy and little need for trade-offs between domestic policy objectives and agricultural protection reform objectives as embodied in WTO rules. However, some re-instrumentation of farm support measures is inevitable and is already appearing as traditional measures are phased down. Inclusion of a measure in the list of 'green box' measures, in order to be excluded when calculating the Aggregate Measure of Support, will be a much sought-after prize by agricultural protectionist forces during the next round of WTO negotiations. Careful scrutiny of the grounds for such inclusions is likely to be a high payoff activity for economic analysts and trade negotiators in the period ahead.

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Policy Discussion Paper 98/09
An Evaluation of the Basic Telecommunications Services Agreement
Mary Marko

This paper is an examination and evaluation of the WTO Agreement on Basic Telecommunications Services. A detailed analysis is conducted on the specific commitments scheduled by the 69 member countries of the Agreement on Basic Telecommunications Services. This paper is a quantitative assessment of the Agreement. To date, there have been no quantitative assessments of commitments made under the Agreement on Basic Telecommunications Services. A frequency measure is calculated for each of the member countries to analyse the commitments made with respect to market access and national treatment for the four modes of supply.

The average frequency measure for the 69 member countries under the full commitments method is 54.15%. Therefore, just over 45% of the basic telecommunications services market is open to free trade. The average frequency measure for the 15 countries under the partial and full commitments method is 41.36%. Therefore, approximately 58% of the basic telecommunications services market has been covered by commitments.

This paper does not find any relationship at all between GNP per capita and the level of commitments made under the Agreement on Basic Telecommunications Services. The average frequency measure for the high income countries is 62.92% with a standard deviation of 9.94. The average frequency measure for the low income countries is 71.97% with a standard deviation of 15.42. Therefore, on average, high income countries did give a higher level of commitments, but not significantly higher.

This paper has assessed the Agreement on Basic Telecommunications Services under two methods. The first method only takes account of full commitments made by member countries. The second method involved constructing a five point weighting system to the partial commitments given by the member countries. The rankings under the two methods are not significantly different however there does appear to be a widening dispersion between member countries when partial commitments are also included. This result may have implications for other studies attempting to evaluate the commitments made under the GATS.

This paper concludes that the Agreement on Basic Telecommunications Services is a success in terms of the commitments undertaken by the member countries. This paper concludes that just over 45% of the basic telecommunications services market is open to free trade. While this result compares well with other service sectors it also illustrates how far member countries are from attaining free trade in basic telecommunications services. Although much remains to be done it needs to be understood that the negotiations did not set out to achieve free trade in basic telecommunications services.

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Policy Discussion Paper 99/01
Globalization, WTO and Development Strategies for Poorer Countries
Kym Anderson

This paper examines the extent and causes of globalization and its consequences for the policy strategies of developing countries. Three technological revolutions have made major contributions: the steam engine and telegraph last century, the internal combustion engine and telephone during this century, and most recently the digital revolution's impact on communication and information costs. Equally important have been the deregulatory policy reforms made by national governments. Those have been partly unilateral or regional, but the GATT/WTO has been crucial during the past half century in encouraging economies to open up more and to commit to staying open to international trade. These three sets of contributions – technological, governmental, and the GATT/WTO institution – have lowered enormously the transactions costs of or barriers to doing business with people of other nations around the world.

Greater openness of and interdependence between national economies provides wonderful opportunities for poorer economies, but it is not without its challenges. Globalization is raising the rewards to economies choosing good economic governance, but is also raising the cost to economies with poor economic governance. Just as financial capital can now flow into a well-managed economy more easily and quickly than ever before, so it can equally quickly be withdrawn if confidence in that economy's governance is shaken – as the East Asian crisis has demonstrated all too clearly during the past two years.

Two aspects of good economic governance in the wake of globalization are a commitment to a liberal international trade and payments regime, and growth-enhancing domestic policies that are not sectorally biased. On the first, it is crucial to commit to a permanently open international trade and payments regime, and to provide secure property rights (intellectual and financial as well as physical). The stability of the commitment to openness is much more important now than even just 15 years ago, because otherwise capital inflows and investments will be only short-term in nature -- and hence will be more susceptible to withdrawal should confidence waver. It is for this reason, and because of the comprehensiveness of the Uruguay Round agreements, that liberal trade policy commitments under the WTO are so important. The main countries yet to join WTO are former socialist economies and the world's least-developed countries. For many of the latter, the cost of WTO accession and of maintaining a mission in Geneva (or even a WTO desk in the national capital) is prohibitive without further expansion in foreign aid.

On the second component to good economic governance, the extent to which trade liberalization at home and abroad boosts a developing country's economic growth depends importantly also on the domestic policy environment. Sound, predictable, stable economic policies policies that are not sectorally biased are essential. Uruguay Round reforms abroad will make agricultural and textile/clothing exports more profitable for developing countries. Trade liberalization at home will tend to reinforce that, because many developing and transition economies have traditionally protected heavy manufacturing industry at the expense of light manufacturing and primary production – a pro-urban industrial bias. Those past policy biases discouraged investment in infrastructure and human capital in rural areas.

Unleashing the productive potential of the rural sector requires major upgrading of essential rural infrastructure, to lower the transactions costs of doing business there, plus it requires investment in the people involved. All the empirical evidence points to the social rates of return from such public investments being very high in developing countries even when price and trade policies discriminate heavily against the rural sector; hence they are likely to be even higher as and when those policies are reformed. If/where those social rates of return are significantly above private rates, a case might be made for government subsidies. The case is especially strong with human capital investments in rural areas. Such investments not only raise farm incomes and so reduce the need for farmers to leave agriculture; they also increase the prospects for those who migrate to non-farm jobs. In both respects, the social tensions that are inevitably associated with rapid economic growth and structural change are lessened.

Efforts to reduce under-investment in rural infrastructure too would benefit not only agricultural production. With better transport and communications infrastructure and better-educated workers, rural areas also would be more attractive to investors in low-skill intensive manufacturing and related service activities. Hence we would see clothing factories and the like becoming more common in rural areas. That would boost off-farm earnings of farm households, allowing a more efficient and fuller use of the rural work force particularly in non-peak seasons. And in addition to its contribution to output, this rural development strategy would slow the growth in urban pollution and congestion, and reduce the incidence of poverty and hunger (since most of the poor are in or have recently migrated from rural areas).

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Policy Discussion Paper 99/02
Developing Country Agriculture and the New Trade Agenda
Bernard Hoekman and Kym Anderson

The conclusion of an agreement on agriculture in the Uruguay Round laid the foundations for reversing the growth in agricultural protection in OECD countries and thereby reducing the international price-depressing effects of those policies. A new round of WTO negotiations on agriculture, services and perhaps some other issues is expected to be launched in late 1999. How can the most be made of this additional opportunity from the viewpoint of farmers in developing countries, who comprise the vast majority of the world's poor? In this paper we seek to make three points.

First we argue that negotiations on market access (in developing as well as OECD countries) should be given priority. This is because the welfare gains to poor-country farmers from further liberalizing agricultural markets in rich countries are still huge, and all the more so that less protected are the manufacturing and service sectors of the developing countries themselves.

But secondly, we also argue that the so-called "new trade agenda" issues - aimed at ensuring that domestic regulatory policies do not discriminate against foreign suppliers - should be included in this next WTO round too. This is because the latter could increase the role of market disciplines in the allocation of resources in the agricultural sector itself, and would ensure non-agricultural groups with interests in the new issues take part in the round to counter-balance forces favouring agricultural protection.

And thirdly, we argue that rule-making efforts to accommodate the new issues should be delinked from the agricultural market access negotiations. This is because virtually all of the new trade issues that may be put on the table are quite general in that they affect all sectors of activity. Rules should therefore apply across that board with those for agriculture being consistent with (ideally the same as) those currently or prospectively applying to non-farm products/sectors.
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Policy Discussion Paper 99/03
Consumer and Import Taxes in the World Wine Market: Australia in International Perspective
Nicholas Berger and Kym Anderson

The Australian Government is in the midst of trying to introduce a goods-and-services tax (GST). In doing so it is proposing to replace the current wholesale sales tax on wine of 41 per cent with a top-up wholesale Wine 'Equalization' Tax (WET) which, together with the GST, would bring in roughly the same tax revenue from domestic wine consumers as currently.

The proposed change in the taxregime raises at least four questions. First, why should wine continue to be seen as a source of additional government revenue when the main thrust of the GST proposal is to move to a broad-based uniform rate of indirect taxation across all products? Second, if revenue raising is no longer the reason to tax wine consumption, what is the evidence that the current rate is optimal in terms of offsetting net negative externalities from consuming alcohol in this form -- given that there is growing evidence of the positive health benefits from moderate wine consumption? Third, in so far as a volumetric tax is a more precise way of taxing alcohol consumption than an ad valorem (percentage) tax, why is an ad valorem tax instrument still being contemplated when most other countries use a volumetric tax? And fourth, if Australia is going to continue to keep wine taxes high by international standards, which means the industry will have to market an ever-rising share of its expanding production abroad, what scope is there for our trading partners to buy more wine through lowering their tariffs on wine imports?

This paper addresses each of these question. It calculates the consumer tax equivalents (CTEs) of the various wine (and beer) taxation measures, including from wine import tariffs/export subsidies, for the main wine-consuming and producing countries of the world, countries which together account for 85 per cent of global wine consumption. The paper compares Australia's recent and proposed rates and means of wine taxation with those adopted by other OECD countries, and draws out implications for the on-going tax reform debate in Australia. It finds that Australia (and New Zealand) have wine CTEs more than three times as high as the OECD average, and six times as high as in Europe's main wine-producing countries. Because Australia is almost unique in using an ad valorem rather than volumetric wine tax measure, the contrast is even starker if attention is focused just on premium wine: the above differences are roughly twice as large. When expressed on a per litre of alcohol basis, among OECD countries it is only in Sweden and Mexico that the CTE for premium wine relative to beer is significantly above that for Australia and New Zealand.

The wine CTE for Australia has gradually risen over the past 15 years from being below the OECD average. The rise in the ad valorem tax rate is only part of the explanation; the other part is due to the trebling in the pre-tax wholesale price of wine (because of wine improvements, the shift in preferences toward premium wines, and rapid growth in export demand. Together these changes caused wine tax revenue to rise sevenfold in nominal value terms since 1986, or threefold as a percentage of total government revenue (from 0.15 to 0.45 per cent). Had the wine tax been volumetric rather than ad valorem even as recently as 1991, and that rate beren frozen since then, Australia's premium wine CTE in ad valorem terms would have halved in aggregate and fallen by four-fifths for premium wine by now. And being in proportion to the amount of alcohol, that form of wine taxation also would have provided a much more efficient form of taxing the negative externality perceived to be associated with excessive drinking.

The final section notes the extent of import taxation of wine in different countries and thus the scope for wine consumption and import growth via trade liberalization. It shows that scope to be especially significant in East Asia.

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Policy Discussion Paper 99/04
Factors Affecting the Installation of New Fixed Telephone Lines in Provincial Areas in Thailand
Nittaya Soonthonsiripong

In 1992 a private company was granted a licence to install new fixed telephone lines in provincial areas in Thailand. Different provincial areas were given different priorities in the installation of new fixed-telephone lines. For example, Chiang Mai Rayong and Ranong were ranked as a top priority, while Chaiyaphum, Maha Sarakham and Phatthalung were given a low priority. The aim of this paper is to investigate the factors that influence these choices.

Consumer demand for fixed telephone lines and economic and social development plan are two major models examined to see which factors are significant in determining the priority of line installation. In investigating these two models five proxies (the length of waiting lists, GDP per capita, the growth rate of GDP, teledensity and the location of industrial or tourism zones) were tested.

This paper concludes that both consumer demand for fixed-telephone lines, indicated by the length of waiting lists and criteria from the economic and social development plan, indicating by the location of industrial or tourism provinces, were significant determinants of the sequence of line installation in provincial areas.

This paper argues that lack of consideration in the growth rate of GDP, GDP per capita and teledensity in ordering the sequence of line installation may lead to several problems, for example insufficient infrastructure, income distribution and economic and social development in provincial areas. These variables are suggested to be included in ranking the priority of line installation when there are new telecommunications investment programs.

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Policy Discussion Paper 99/05
Are Build-Transfer-Operate Regimes Justified?
Nittaya Soonthonsiripong

Recently, build-transfer (BT) regime, which refers to contracts in which governments have allowed private firms to enter into monopoly markets, has been applied as one of the regulatory reforms in the telecommunications sector in many developing countries, for example China, Vietnam and Thailand. Without investigating whether this regime is justified, the Thai Government has applied build-transfer-operate (BTO) regime (this regime refers to contracts by which governments have allowed private firms to build up network but all assets must be transferred to public ownership before operating), which is one type of BT regime, in the telecommunications sector. The aim of this paper is to investigate whether BTO agreements are efficient.

It is found that although BTO regimes lead to an increase in the number of incumbent firms in the telecommunications market, such a market transformation, however, is merely an illusory introduction of competition. This is because the context in the Thai Telecommunications Act (the Telegraph and Telephone Act of 1934 and the Telephone Organisation of Thailand Act of 1954) brings about the failure in the mechanism of competition. That is, the Thai Government has controlled prices, quantities and the number of private firms.

The result from empirical test indicates that there are no economies of scale in terms of level of lines at the local exchange level in the fixed telephone market. This suggests that local telephone exchanges are unlikely to be natural monopolies. The implication of this result is that BTO regimes are not an appropriate approach for Thai Telecommunications. This paper concludes that although the question of whether the total telecommunications market is a natural monopoly cannot finalised here, there do not appear to be economies in capital expenditure at the exchange level, which suggests that overall scale economies may not be important. When diseconomies of scale are present the policy of opening free entry at least at the level of local telephone exchanges should be considered.

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Policy Discussion Paper 99/06
Managing Health Risk in a Market-Liberalizing Environment:
An Economic Approach
Sallie James and Kym Anderson

The conclusion of the Uruguay Round of multilateral trade negotiations heralded a new era for world agricultural trade as the UR agreements on Agriculture and on the Application of Sanitary and Phytosanitary Measures began to be implemented under the new World Trade Organization from 1995. Australia has a strong interest in both those agreements working to reduce the disarray that government interventions has brought to world agricultural markets and thereby to Australian farm export prospects. That interest requires, among other things, that Australia's own agricultural, SPS and other trade-related policies are beyond reproach from a WTO perspective.

At the same time, Australia also is seeking to improve its own economic governance by deregulating and opening up domestic markets to international competition, realizing that the unilateral economic reforms begun in the 1980s have yet to run their course and need to continue, not least to help us weather the current economic downturn in East Asia.

How well does Australia's approach to managing plant (and animal and human) health risk measure up in the light of these multilateral and unilateral reforms? This paper brings an economics perspective to that question. It explains why domestic consumers' interests should not be ignored, even though the Uruguay Round's SPS Agreement does not require governments to take them into account. It also explains why, as an agricultural-exporting country, Australia has to weigh the possible costs of pest importation, that might result from a more liberal quarantine policy, against the costs of less market access abroad for our exports (and diminished standing in the WTO's SPS community) should Australia be perceived as excessively protectionist. In doing so, the paper examines ways in which health risks might be managed more efficiently than at present, consistent with Australia's domestic microeconomic reform agenda as well as its international obligations.

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Policy Discussion Paper  99/10
World Wine Developments in the 1990’s:
an Update on Trade
Pierre Spahni

In the mid-1990s, three critical features characterised world wine trade over the medium term: (1) wine trade would continue to grow in terms of volume in spite of a continuing fall in the quantities consumed world-wide; (2) commitments undertaken by  signatories to the GATT’s Uruguay Round Agreements in Marrakech in 1994 would ensure that trade develops not just within trading blocs but amongst them too, and; (3) New World and Eastern-European exporters would threaten EU dominance of international markets.
This paper suggests that each of these expectations has played an important role. In the 1990s, the decline in alcohol consumption across the developed part of the world was outstripped by a rise in total alcoholic intake in most developing nations, to the extent that total world demand increased by over 10%. Not so for wine consumption which kept falling in the 1990s, as it had done ever since its peak in the late 1970s, at an annual rate of 1.3%. The trade numbers suggest, amongst other things, that the EU share of internal trade is diminishing (from 92% in 1990-92 to 85% in 1995-97, in value terms) along with its share of world exports (current EU15 members would have made up 69% of the reported value of trade in  the early 1990s and only 63% five years later), thereby bringing the proportion of world trade imputable to purely internal EU trade to drop from 63% to 53% (i.e. some 10 percentage points below levels enjoyed at the beginning of the decade, to represent just over half world exchanges in the mid-to-late 1990s). And, the EU is shipping relatively less in just about every market (including its own) except Mercosur and Asia which is on the brink of becoming its second largest export market after North America.
Finally, this paper raises a number of contentious trade issues that are currently effecting world wine markets. These include production- and export subsidies; mutual recognition of oenological practices and agreement on the use of geographical indications; and the EU/US negotiations over the 1983 ‘Wine Accords’.
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   Policy Discussion Paper  99/14
Agriculture and the WTO: Next Steps
Kym Anderson, Bernard Hoekman and Anna Strutt

Great achievements of the Uruguay Round of trade negotiations (1986-93) were the start made to subjecting agricultural policies to multilateral discipline, the establishment of a General Agreement on Trade in Services, and the creation of a World Trade Organization (WTO). The Uruguay Round Agreement on Agriculture has led to the conversion of non-tariff barriers to agricultural imports into bound tariffs. Tariff bindings are scheduled for phased reductions between 1995 and 2000, as are farm production and export subsidies (with developing countries having an extra four or more years).
Much remains to be done before agricultural trade is as fully disciplined or as liberal as world trade in manufactures. Barriers to trade in agricultural products and services are several times as high as barriers to trade in manufactures. Using the global, economy-wide modeling framework of the Global Trade Analysis Project (GTAP) we show that the potential welfare gains from further liberalizing access to agricultural markets in 2005 are still huge, both absolutely and relative to gains from liberalizing textiles trade or other manufacturing. While such analysis is important and useful in motivating continued attempts to reform agricultural policies, the key challenge confronting policymakers is to overcome the resistance of politically powerful agricultural lobbies to liberalization.
A basic feature of the WTO is that negotiations are multidimensional, allowing for tradeoffs and cross-issue linkages. Such linkages are a necessary condition for moving agricultural liberalization forward. A characteristic of agricultural talks in the past—and domestic reform efforts as well—is that the potential for such linkages has not been fully exploited. Future WTO negotiations provide greater scope for the pursuit of such linkage strategies, as the agenda of the WTO is substantially larger than that of the GATT. A new round of WTO negotiations on agriculture, services and perhaps other issues is expected to be launched in late 1999. The challenge for reform-minded policymakers is to identify potential agreements that are most useful in mobilizing the required domestic political support for economic reforms.
This paper argues that the probability of the next WTO round delivering sizeable agricultural protection cuts and benefiting the world’s poor (the vast majority of whom are developing country farmers) will be significantly greater if negotiations include protection cuts for other sectors—especially services—and some of the new issues on the WTO’s agenda. This is not only because this would ensure more non-agricultural groups take part in the round to counter-balance forces favouring agricultural (and other sectoral) protection, but also because services reforms are of direct interest to the agricultural sector.
A major problem confronting reform-minded policymakers is to identify and assess the usefulness of alternative policy options. In this they can be assisted by researchers. Much remains to be done by the latter: the outstanding agenda for policy-relevant research is large. The dearth of analysis that considers the issues from an economy-wide perspective greatly impedes the development of welfare-enhancing negotiating strategies. One of the major elements of the outstanding research agenda as it relates to agricultural reform efforts concerns quantification of the impact of policies towards service sectors on the farming community. Currently information on policies pertaining to the service sector for incorporated into the models used to assess agricultural reform options is far from adequate.
Enhancing competition in services may be of great importance in facilitating reform, as services frequently account for the lion’s share of the value added to food products offered for final consumption. Barriers to entry in key service sectors may lead to high price-cost margins and affect the ability of farmers to confront international competition. This suggests the need for a concerted effort to collect information on prevailing regulatory regimes affecting services entry barriers, margins and market structure, as negotiators may otherwise focus too much on agricultural interventions per se and not enough on removal of those non-farm policies that are impeding the ability of agriculture to be competitive on world markets.

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    Policy Discussion Paper  99/15
A Krugman-Dooley-Sachs Third Generation Model
of the Asian Finanical Crisis
Gregor Irwin and David Vines

This paper presents a multiple-equilibrium model of the Asian financial crisis. The economy has Krugman-style over-investment caused by weak financial regulation and implicit government guarantees. Following Dooley, the government only has a limited capacity or willingness to honour such guarantees. The model has a unique long-run equilibrium, with over-investment. But in the short run, in which the capital stock is fixed, it also has multiple equilibria. If lenders regard lending as low-risk, then it is. But if they regard lending as high-risk and charge a higher interest rate, then the costs of honouring guarantees rises, making the lending high-risk and the risk premium self-justifying. We argue that this model usefully captures the ideas of panic and collapse which have been popularised in Sachs’ discussions of the Asian crisis.

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  Policy Discussion Paper  99/17
Investor Confidence and Trade Policy Transparency:
Dynamic Implications of an Effective Trade Policy Review Mechanism
 Joseph F. Francois

This paper is concerned with the value of the WTO's Trade Policy Review Mechanism, particularly its promotion of transparency, for investor confidence in developing countries. The implications of reduced subjective uncertainty regarding trade policy for investor confidence, and ultimately for the capital stock and the long-run structure of production, are examined in an analytical model where investors are risk averse. Certainty equivalence is employed to assess the general equilibrium effects of reducing subjective policy uncertainty. Reduction in uncertainty boosts risk adjusted returns, leading to an increase in long-run levels of capital.

For a copy of the entire paper please contact Executive Assistant at  cies@adelaide.edu.au

  Policy Discussion Paper  99/18
Productivity Growth and Convergence in Agriculture and Manufacturing
Will Martin and Devashish Mitra

Most economists since Adam Smith seem to have regarded it as axiomatic that productivity grows less rapidly than in the manufacturing sector. This notion has been central to most theories of economic development and structural change, and appears to have had an important impact on policy. In may developing countries, the belief that productivity growth is higher in manufacturing than in agriculture has contributed to strong policy biases against this sector.
Some economists have pointed to the potential for rapid growth in agriculture, and to particular cases of rapid productivity growth. A number of recent studies of sectoral productivity growth in developed countries have also found higher growth rates in agriculture than in other sectors.  Further, the international community has invested heavily in research and development designed to raise rates of technical change and to diffuse technical advances more rapidly between countries. Despite this, there are few comparable recent estimates of technical progress in agriculture and manufacturing in developing countries, and there appear to be no estimates of the rate of productivity convergence for these sectors.
Practical policy makers appear to have recognized the damaging Practical policy makers appear to have recognized the damaging consequences of the policies of agricultural taxation documented by Krueger, Schiff and Valdés. With declining protection to the industrial sector and reductions in agricultural taxation, policies in developing countries appear to have shifted towards sectoral balance.  However, much research still seems to share Matsuyama’s (1991) assumption that the agricultural sector is technologically stagnant so that policies that cause this sector to contract will raise long run growth rates.
In this study, Martin and Mitra use a new multi-country database developed at the World Bank by Don Larson and Yair Mundlak to examine productivity and convergence in these two sectors. To reduce the problems normally encountered in measuring total factor productivity, Martin and Mitra use three different approaches—two involving estimation of production functions, and a conventional growth accounting approach. The estimates of total factor productivity growth are then used to examine the rate of convergence in productivity growth.
The results suggest that productivity growth rates over the period of estimation (1967-1992) have consistently been higher in agriculture than in manufactures, with the difference most frequently in the range from 0.5 percent to 1.5 percent per year. Using Martin and Mitra’s preferred estimation procedure, productivity growth was 1.74 percent per year in manufactures and 2.29 percent in agriculture for the sample of countries with complete data. For the developing country sample, the gap was even larger, with agricultural productivity growing almost one percentage point per year faster.
The convergence results suggest that the gap between the country with the highest initial productivity (the USA) and other countries has been closing more rapidly in agriculture than in manufactures. This appears to reflect success in achieving international transfers of best practice technology.
Martin and Mitra’s results suggest that countries with large agricultural sectors, which are typically the poorest countries, need not fear economic stagnation as a consequence. In fact, having a relatively large agricultural sector may provide an advantage as long as the diffusion of technology is encouraged. Rapid technical change may, as illustrated by Matsuyama, slow down the decline of the agricultural sector in individual countries. However, at the global level, technical progress will reduce the need for inputs to meet world food demand, and free up resources to meet other needs.
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Policy Discussion Paper  99/19
MEASURING IMPEDIMENTS TO TRADE IN SERVICES
Tony Warren and Christopher Findlay

Transparency of the impacts of policy affecting services trade and invesment is critical for successful reform. Barriers to international business in services are not transparent, given the nature of the transactions involved. We show in this paper how available information can be combined into robust assessments of policy which prove to be powerful explanators of market outcomes.
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Policy Discussion Paper  99/24
Australia's Grape and Wine Industry into the 21^st Century
Kym Anderson

 This chapter addresses three questions: how well has Australia's wine industry performed over the past decade; how does that compare with the performance of its competitors abroad; and what are the opportunities and challenges ahead for Australian producers, given that national and global wine consumption per capita has not been growing?
In absolute terms, and relative to other Australian industries, the wine industry has done extremely well since the late 1980s, providing a wonderful example of export-led growth. It is now the world's second largest exporter of wine after the European Union.
 Relative to other New World wine export suppliers, however, Australia's trade performance is not outstanding. Exports from the United States and several other Southern Hemisphere producers also have grown rapidly in quantity and in quality, albeit from smaller bases. As well, Australia has confined its exports mostly to just four English-speaking markets (the UK, the US, Canada and New Zealand).
 Given that competition from other New World suppliers, and the quality upgrading of several large wine regions in Europe (the south of France, La Mancha in Spain, northern Italy, Southeastern Europe), the continued prosperity for the Australian industry requires numerous challenges to be confronted. Five strategies are discussed: lobby for the reduction/removal of the so-called 'wine equalization tax' to be imposed when the GST is introduced in Australia next July; continue to invest in the production and dissemination of new ideas in winegrape and wine production and in wine marketing and distribution; complete the definition of boundaries for the various regions and sub-regions ('geographical indications') so as to increase the payoff to producers from promoting their products on a regional basis; diversify the destinations for Australia's exports, especially of premium red wine to Germany; and use the next round of WTO negotiations, expected to be launched next month, to seek reductions in existing barriers and to reduce the prospect of the introduction of new barriers to wine imports abroad.
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Policy Discussion Paper  99/25
Capital Flows, Credit Transmission and the
Currency Crisis in Southeast Asia
Ramkishen S. Rajan, and Iman Sugema

The capital outflow and accompanying bust in Southeast Asia in 1997 and 1998 was preceded by a prolonged boom period. This boom was fuelled primarily by large scale capital inflows all through the early 1990s, a significant proportion of which was intermediated through the domestic banking sector. Motivated by this observation, along with the recognition of the importance of the credit (bank lending) transmission channel in the crisis-hit Southeast Asian economies, this paper explores the boom and bust cycle of capital inflows to and reversals from these economies
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   Discussion Paper  99/26
Estimating Environmental Effects of Trade Agreements with Global CGE Models: a GTAP Application to Indonesia
Anna Strutt and Kym Anderson

Provided globally optimal environmental and other policies are in place, most-favoured-nation (MFN) trade liberalizations will always improve global economic welfare. But since the proviso is not met in practice, empirical studies of the environmental and resource depletion effects of such reforms are needed to determine whether trade reform is still worthwhile. This paper provides a methodology for doing that, using a modified version of a multi-country economy-wide model. Attention focuses on environmental effects in just Indonesia, a large newly industrializing country that is rich in natural resources and committed to taking part in major multilateral and regional trade liberalizations over the next two decades. A modified version of the global CGE model known as GTAP is used to project the world economy to 2010 and 2020 without and with those reforms. An environmental module is attached to the Indonesian part of that global CGE model so as to measure the effects of changes in economic activity on air and water pollution. The proportional contributions to environmental indicators of changes in the level and composition of output, and changes in production techniques, are identified. A base case projection without trade reform is compared with alternative scenarios involving full global implementation of WTO members' Uruguay Round commitments by 2010, and the additional move to MFN free trade by APEC countries by 2020. The study suggests that, at least with respect to air and water pollution, trade policy reforms slated for the next two decades would in many cases improve the environment and reduce the depletion of natural resources and in the worst cases would add only slightly to environmental degradation -- even without toughening the enforcement of existing environmental regulations or adding new ones.
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   Discussion Paper 99/28
Agriculture, Developing Countries and the WTO Millennium Round
Kym Anderson

 For developing countries, agriculture is perhaps the most important sector to focus on in the next round of multilateral trade negotiations. The welfare cost to them of OECD agricultural policies is estimated to be well above that of textiles and clothing trade barriers. Indeed for the world as a whole, OECD agricultural policies are more harmful to economic welfare than tariffs on all OECD imports of manufactures.

Freeing agricultural markets and thereby raising international food prices will be a net benefit to virtually all developing countries, not just current agricultural exporters. Those close to self sufficient in food may become net exporters following protection cuts abroad, for example. Others may remain net food importers only because they retain strong anti-agricultural policies of their own, so they too would benefit from farm trade liberalization abroad. This is because that would discourage some of their resources from moving to less socially productive employment outside agriculture.

Certainly the densely populated developing countries with a strong comparative disadvantage in agriculture would have to pay more for their food imports, but even they should support agricultural reforms, not least because fewer developing countries would then be competing with them in markets for labour-intensive manufactures such as textiles and clothing. This suggests scope for the food-importing and food-exporting developing countries to band together and negotiate as a single voice calling for barriers to both farm and textile trade to be lowered. That call would be strengthened if the least-developed countries (LDCs) joined them, with all requesting lower MFN tariffs in exchange for preferential ones for a subset of countries and commodities.

In the case of agricultural policies, traditional distortions need to be lowered and the emergence of new ones prevented. Cuts in producer and export subsidies for farmers are needed in addition to reductions in import barriers. The latter involve not just lowering out-of-quota bound tariffs but also expanding tariff rate quotas (TRQs) under which much of farm trade now operates. Those TRQs have given birth effectively to a new MFA: a multilateral food arrangement! Like the one that is being phased out (the multifibre arrangement), this TRQ regime could well leave agricultural trade with quantitative restraints for decades to come unless a concerted effort is made in the next round. Bringing agriculture fully into the WTO would involve a complete phase-out of export subsidies and TRQs, the removal of the ‘blue box’, and a drastic reduction in bound tariffs so as to bring applied rates down towards those for manufacturing. A quid pro quo might be to put less emphasis on disciplining domestic policies that are not directly boosting output and trade, that is, to allow the ‘green box’ to continue.

As traditional distortions to trade are dismantled, the risk increases of new ones emerging. Two in particular of direct significance to agriculture have to do with food safety issues and agriculture’s so-called multifunctionality. As is so often the case with concerns about health or environmental standards, the food safety issue blends a mixture of genuine worries about uncertainties and externalities with traditional protectionists’ desires to reduce import competition. The new biotechnologies that are producing genetically modified organisms (GMOs) are a classic example. Their by-product effects in both production and consumption are  likely to remain uncertain for some time, causing the more risk-averse to call for bans on their production, import and sale in some countries, and for at least compulsory labeling in other countries. Among developing countries there are two other concerns: getting access to the new biotechnologies, and then ensuring that the new GM products can be sold abroad. The effects of GMO technology on developing countries thus could be positive or negative, depending on how those concerns are played out.

The multifunctionality issue has to do with claims in a few food-importing rich countries that agriculture contributes positive externalities and public goods that warrant the continuation of price supports. Even if such positive externalities were not more than offset by negative ones (on soil, air, water, etc.), and were greater than the net positive externalities provided by other sectors, the optimal government interventions would involve targeting directly the provision of those under-supplied by-products, rather than simply providing broad agricultural price supports. ‘Green box’ provisions should be sufficient to meet these needs.

The developing countries’ wish-list for this next round might also include:

• remove tariffs on tropical (including processed) agricultural products,
• replace specific tariffs with ad valorem ones so as to discriminate less against the lower-quality products of developing countries,
• use the Swiss formula approach in making market access commitments, since that will reduce tariff peaks and escalation most,
• seek a firm phase-out date for agricultural TRQs, as was obtained for textiles and clothing in the Uruguay Round, but with limits on the extent to which safeguards can replace the quantitative restrictions at the end of the phase-out period,
• seek firm commitments, preferably written into OECD countries’ schedules, on the extent of economic and technical assistance to cope with adjustment to reforms, especially for least-developed and net food-importing developing countries, and
• support the liberalization of trade in maritime services, given the potential for the cartelized OECD firms that own most of the liners to extract, via higher markups, much of the exporters’ gain from goods trade liberalization.

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Discussion Paper 99/29
Financial and Macroeconomic Cooperation in ASEAN:
Issues and Policy Initiatives
Ramkishen S.Rajan

The focus of this paper is threefold. First, the issue of “regional contagion” is discussed in some detail, particular attention being paid to definitions and the various possible transmission channels. This analytical discussion provides the context within which the scope - if not type - of regional cooperation in the financial and macroeconomic spheres may be discussed. Second, the main policy initiatives in ASEAN in these areas are briefly highlighted and discussed. Third, and finally, a concrete policy initiative for regional cooperation in ASEAN and the larger East Asian region is proposed.
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Discussion Paper 0001
A METHOD FOR IMPROVED INTERNATIONAL AND INTERTEMPORAL COMPARISONS OF U.S. MULTINATIONAL COMPANIES’ OVERSEAS GROSS PRODUCT IN MANUFACTURING
Raymond J Mataloni Jr

Interest in the effects of globalized production on national economies has been heightened in recent years by the rapid growth in direct investment. Research in this area is, however, often limited by the scarcity of relevant data. Even when relevant data exist, comparison of the data across countries and across time is subject to serious measurement error related to different price and exchange-rate conditions. This paper, by Raymond J Matolini Jr, presents a method developed by the United States Bureau of Economic Analysis for removing the valuation effects on measures of the foreign production (or gross product) of US multinational companies. The method adjusts the conventional current-dollar market-exchange-rate-based measure, using host-country deflators and purchasing-power-parity exchange rates.
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Discussion Paper 0002
EXAMINING THE CASE FOR AN ASIAN MONETARY FUND
Ramkishen Rajan

This paper explores the case for an Asian Monetary Fund (AMF) in light of the East Asian crisis. It discusses the role of such a regional facility, and attempts to clarify important issues such as its functional relationship to the IMF.

Available evidence stresses that contagion is largely a regional phenomenon.  It has become legion in the economics literature to separate transmission channels that cause crises to be contagious across countries into two categories. Those that are related to investor sentiment or psychology are termed “pure contagion”. Those that are based on linkages between countries that are measurable/observable pre-crisis, are referred to as “spillovers” or “interdependencies” (these could be due to trade, direct investment or financial linkages).

Both theory and evidence suggest that pure contagion is not necessarily random or arbitrary. Thus, in the case of the East Asian crisis, it is notable that the countries initially and worst-impacted were the ones with the “worst economic fundamentals” to begin with. Stronger, though much more open and regionally integrated economies (such as Singapore), were much less affected. This underscores the need for the primary focus to be placed squarely on the domestic policy arena. In the East Asian context, this broadly involves strengthening the financial systems and corporate and industrial structures. However, given the fact that regional spillovers or interdependencies are fairly high and growing in East Asia, even relatively strong regional economies can be and have been affected by crises in the weaker neighboring economies. These policy externalities suggest the need for some form of regional cooperation in the financial and macroeconomic spheres.

In light of this, there may be merit in considering the creation of some sort of self-standing regional facility in Asia with limited membership (at least initially). The facility should focus primarily on crisis surveillance and prevention at a regional level; while the IMF continues to focus on surveillance at a global level, as well as crisis management and resolution. Any funds dispersed through the regional facility during a crisis period would be done in full consultation with the IMF and in conjunction with the potential recipient pursuing the IMF conditionalities.
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Discussion Paper 0003
MARKET STRUCTURE, TRADE LIBERALIZATION
AND THE GATS
J.F. Francois and I. Wooton

In this paper we consider the impact of improved domestic market access for a foreign service provider. We emphasize the interaction between the different modes of market access commitments in services (cross-border and establishment) market structure, and regulation. We work with a model where the domestic industry is assumed to imperfectly competitive and, as a result of domestic regulation, able to act as a cartel. We also examine the incentives for the domestic firms to accommodate the entry of the foreign firm by inviting it to join the cartel.
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Discussion Paper 0004
TRADE IN INTERNATIONAL TRANSPORT SERVICES:
THE ROLE OF COMPETITION
Joseph Francois  and  Ian Wooton

We are concerned with trade in transport services (not cabotage but rather international shipping, transport, and related logistical services) and the importance of competition and market structure in the sector. We examine implications of liberalization for profits, trade, and national gains from trade. Though past GATS maritime negotiations involved the maritime nations, we also flag interests of consuming nations (particularly poorer developing countries). We further illustrate issues raised in the analytical section through a computational example, to provide a rough sense of orders of magnitude and the importance of the issues raised for basic gains from improved market access.
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Discussion Paper 0005
AN ECONOMIC ANALYSIS OF FOOD SAFETY ISSUES FOLLOWING THE SPS AGREEMENT: LESSONS FROM THE HORMONES DISPUTE
Sallie James

    The signing of the Uruguay Round Agreements of the World Trade Organization (WTO) and the ever-increasing products and people movements between countries will put governments under increasing pressure to maintain effective and scientifically justified quarantine and food safety policies to protect their citizens, animals, plants and natural environments from the importation of pests and disease. But those policies can be abused, with governments at times adopting excessive restrictions so as also to offer domestic industries economic protection from import competition.
    The WTO Agreement on the Application of Sanitary and Phytosanitary Measures (the SPS Agreement) was designed to prevent human, animal and plant health policies from becoming disguised restrictions on international agricultural trade. The Agreement provides clear guidelines as to acceptable bases for SPS restrictions. In general, it is admissible under the terms of the SPS Agreement for a Member to restrict imports to protect human, animal and/or plant life or health, so long as those restrictions are transparent, consistent and based on international standards (where they exist) or a scientific assessment of risks. Through legal and economic analysis of specific cases we can, to some extent, measure the Agreement’s success.
    The long-running feud between the US and the EU about the use of hormonal growth-promotants in beef (the Hormones dispute) was the first to be disputed formally at the WTO. It provides a classic example of how cultural differences with respect to food attributes have the potential to hamper trade and to challenge WTO agreements designed to limit the disruptions, especially when scientific evidence is limited or spurious.
    The paper begins by outlining the legal arguments used by the parties to the Hormones dispute, and a simple analysis of the outcome. The Panel and the Appellate Body, which heard the dispute, found that the EC violated its obligations under the SPS Agreement. Beneath the surface of broad agreement, however, lie some differences in interpretation of WTO rules that could potentially weaken the ability of the SPS Agreement to achieve the objectives for which it was designed.
A simple economic model is used in section 3 to represent the EU beef market and effects of the hormone-treated beef ban and its removal under certain conditions. The model demonstrates that lifting the current prohibition of hormone-treated beef cannot reduce the net economic welfare of the EU. Qualifications, such as how the analysis would change if the market for beef were to segment after the ban was lifted, are discussed in section 4. The implications for the practical implementation of the SPS Agreement, with particular reference to how it might be improved in light of the outcome of the Hormones case and the analysis of its economic effects, are then explored in sections 6 and 7.
    The paper concludes by suggesting that, legal issues notwithstanding, using economic analysis can shed light on the efficiency of SPS policies, and promote the balance between achieving gains from trade reform and protecting human, animal and plant health and the environment.
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Discussion Paper 0006
INTERNATIONAL TRADE IN FINANCIAL SERVICES, COMPETITION,
AND GROWTH PERFORMANCE
Joseph F. Francois and Ludger Schuknecht

In this paper we explore linkages between financial services trade and growth. We offer a formalization of the argument that trade, through the fostering of financial market integration, may yield important long-run effects related to increased competition. The relationships formalized here link long-run economic performance to scale economies and cost structures in the financial services sector, and to market concentration in the sector. We first develop an analytical model. This motivates an econometric exercise. Cross-country growth regressions point to a strong positive relationship between financial sector competition and financial sector openness, and between growth and financial sector competition.
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Discussion Paper 0007
COMMERCIAL POLICY VARIABILITY, BINDINGS, AND MARKET ACCESS
Joseph F. Francois and Will Martin

Protection unconstrained by rules often varies substantially over time. Rules-based disciplines, like OECD industrial tariff bindings negotiated under GATT since 1947 and new Uruguay Round bindings on agricultural and services trade and on developing country industrial tariffs, constrain this variability. We examine the theoretical effects of such constraints on the expected cost of protection and offer a formalization of the concept of “market access,” emphasizing both the first and second moments of the distribution of protection. As an illustration, we provide a stylized examination of Uruguay Round agricultural bindings.
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Discussion Paper 0008
TOWARDS AN APEC FOOD SYSTEM
Kym Anderson

What is an APEC Food System?
Leaders of APEC's 21 member governments are committed to achieving free and open trade and investment and to better trade facilitation and greater economic and technical cooperation within the APEC region. Considerable progress has already been made towards those goals, but least so in the food sector. The latter needs to be addressed urgently, not only because of the wastefulness of current policies but also because the vast majority of the region's poor depend heavily on agriculture for their livelihood.
    With this in mind, the APEC Business Advisory Council (ABAC) proposed in September 1998 that APEC leaders take joint action to develop a so-called APEC Food System to boost the food sector's contribution to the prosperity of APEC's economies. While not doubting the region's capacity to continue to meet its aggregate food needs, the question raised by ABAC is whether demand could be met in a more efficient and environmentally responsible way, and in such a way that people feel more food-secure and the poor are better off.
ABAC recognises the historical sensitivities associated with food, but nonetheless sees new high-payoff opportunities emerging to do much better with respect to the food sector, as regional cooperation and economic interdependence with respect to other sectors progressively deepens. It sees the need for action in three interrelated areas:

• developing more extensive rural infrastructure, in terms of both physical and human capital;
• importing, adapting and adopting new farm and food technologies; and
• reducing impediments to international food trade and investment.

Why is now the time to focus on food?
     There are strong reasons as to why initiatives should begin immediately to foster ABAC's concept of an APEC food system. They can be grouped under the headings of equity, economic efficiency, technological, environmental, and political perspectives.
     In terms of equity, since the vast majority of the region's poor live in rural households and depend on food production for their livelihood, boosting their productive capacity is an essential component to any poverty reduction program. But reducing agricultural protectionism abroad also helps them, through raising the prices of their products in international markets. Cutting agricultural protection has equitable outcomes within the protectionist economies too: it helps poor consumers most because they spend the largest proportion of their household budget on food, and it often hurts small producers least because they usually have off-farm work.
     In terms of economic efficiency, under-investment in rural physical infrastructure means there will be fewer resources employed in rural areas and more in urban areas than is optimal, thereby reducing national economic welfare. The same is true if there is under-investment in human capital in rural areas. These under-investments necessarily lower the level and growth of productivity and incomes of people in rural households, and encourage more of them to migrate to urban areas than would otherwise be the case. In the richer economies that are offering farmers protection from market forces, there is the opposite problem: too many resources are employed in agricultural production. Postponing reform is simply delaying the time when those greater economic gains can begin to be reaped.
     In terms of technology, there is considerable under-investment in agricultural research in APEC developing economies. That degree of under-investment is escalating as new breakthroughs in bio-technology raise the rewards from agricultural research. The nature of those new technologies is such that, much more than in the past, there needs to be legal protection of the intellectual property involved. If developing economies cannot enforce plant variety rights, the technology is much less likely to develop or be transferred there. And even if it is imported for use in export industries, those economies then need to be aware of the restrictions being placed by other countries on imports of products produced in particular ways, such as genetically modified products.
     The current pattern of distortions to agricultural incentives, which encourages farming in protected rich countries and discourages it in poor countries, is also bad for the natural environment. Artificially high food (and hence farmland) prices in rich economies encourage the use of output-expanding/land-saving inputs such as fertilizer and pesticides, which can have adverse environmental effects. Lowering food prices in these economies would encourage more export-oriented production in other economies where, because of their lower food prices and hence lower level of use of pollutive inputs, any extra environmental damage would be less than that saved in the high-price country. A boost to investment in rural infrastructure, together with higher real incomes of rural households from farm activities, will reduce the pull to urban areas and thereby slow the crowding and polluting of mega-cities in developing economies. Since environmental and social problems in those big cities are escalating, the sooner measures that can reduce them are in place the better.
     Finally, now is an ideal time politically to commit to developing the APEC food system, and thereby contributing to meeting APEC's Bogor commitment to free trade by 2010/2020, for two key reasons. One is that four APEC members, all of great importance to APEC food trade, are in the midst of WTO accession negotiations (China, Chinese Taipei, Russia and Vietnam). Since these economies will have to reform their agricultural domestic and trade policies substantially over the next few years to satisfy WTO accession requirements, APEC can smooth the adjustments to those reforms by simultaneously developing its food system. The other political reason is because a new WTO round of multilateral farm trade negotiations is likely to be launched early in the new century. Making commitments in that Round to opening agricultural markets further will benefit food-importing economies in the sense that the quid pro quo will be greater access for their non-farm exports to the markets of other WTO members. Such commitments would be easier to adjust to if APEC's food system were being developed at the same time.

 How would the system affect APEC economies?
     In the absence of policy changes, agriculture is going to decline relatively in all APEC economies as they develop. What is also clear is that even massive increases in agricultural protection – as have been provided in Northeast Asia since the 1960s – have failed to prevent that relative decline, and have also failed to prevent food self-sufficiency from decreasing. It is therefore to be expected that if that protection growth were reversed, it too would not have a very large impact on the rate of relative decline of the sector being reformed.
     Yet such reform would have major positive impacts at home and abroad. Globally, agricultural markets are the most distorted of any goods markets. Model simulation results suggest that almost one-third of the estimated global gains from goods trade liberalization would come from agricultural reform in advanced industrial economies -- even though farmers in those economies contribute only 4 per cent of global GDP and barely any more of global exports. Developing countries have almost as much to gain from that reform as they do from removing their own trade-distortionary policies.
     At home in the reforming country, cutting farm protection would lower food costs for consumers and boost production in and exports from other sectors, raising overall economic welfare.  Abroad, it would enhance earnings for farm households elsewhere in APEC, the vast majority of which are homes to among the region’s poorest people. If coupled with increased investments in rural infrastructure and technology transfers through greater technical cooperation, those developing economies could see their farm sectors making much closer to their optimal contribution to growth and development. That in turn could induce those economies to reduce their own anti-agricultural, anti-rural infrastructure, anti-trade policy biases. Growth in their farm production, incomes and exports would be accelerated, a by-product of which would be expanded opportunities for advanced industrial economies to export non-farm products to those poorer and more agrarian economies.
     APEC trade promotion, as with most trade liberalizations, benefits mostly the economies undertaking the greatest reform. But because of relative proximity and cultural affinities, and because there are strong complementarities between APEC’s resource-rich and resource-poor economies (about 70 per cent of both food and non-food trade of APEC economies is intra-regional), and because much of the remaining protectionism restricts the exploitation of those complementarities, it turns out that the gains from APEC regional liberalization are heavily concentrated within the region. This is true even if APEC is assumed to liberalize its trade on a non-discriminatory MFN basis. Indeed in the case of agricultural reform, virtually all of the gains from APEC liberalization remain in the APEC region. That is, there is no significant 'free riding' by non-APEC economies in the case of unconditional MFN food trade reform in APEC.
     A marketable surplus of food and the emergence of cash cropping in developing economies depend crucially on the provision of rural roads, radio, post and telecommunication infrastructure to lower the cost of transport, information and communication. Constructing and maintaining those infrastructures, and rural electrification, provide off-farm work for farm households; but, more importantly, those infrastructures spawn additional new service-sector jobs in rural areas and elsewhere for transporting, grading, processing, packing, and distributing the marketed farm products. The opening up or extending of rural roads and communications, and investments in irrigation, also expand the effective demand for purchased farm inputs such as improved seed varieties, chemical fertilizers, pesticides, farm machinery, and fuel, and make rural industrialization more profitable for unskilled labour-intensive industries not connected to primary sectors. Manufacturing activities that have the flexibility to close temporarily during peak seeding/transplanting and harvesting periods would be especially likely to be attracted to rural areas. The new jobs created by those off-farm activities have been shown to contribute substantially not only to economic growth but also to reducing absolute poverty and rural-income inequality in many modernising agrarian economies. Since they also slow the growth of urban pollution and congestion, all this suggests a high social rate of return to investments in rural infrastructure.
     Despite very high social rates of return, real levels of public funding for agricultural research in developing economies has been virtually stagnant for more than a decade. Moreover, the extent of under-investment in this activity is growing because new breakthroughs in bio-technology are boosting returns from such research. However, the nature of those new technologies is such that there needs to be legal protection of the intellectual property involved. If developing economies cannot provide that, the technology is much less likely to be transferred there or to develop domestically. Technical cooperation may well be able to reduce the risk of the technology gap between rich and poor economies widening.

 What about food security?
     Sometimes it is presumed that food security is the same thing as food self-sufficiency. That is not so. Rather, food security refers to a country’s capacity to ensure that everyone always has access to the minimum supply of basic food necessary for survival. A certain level of income per capita plus a well-functioning market for staple foods, including from abroad, can therefore ensure that a person, household or nation is food-secure.
     However, if a society would feel too food-insecure under laissez faire, what needs to be determined is a sense of (a) its willingness to pay for more security by various means, and (b) the costs of those insurance measures. One such measure involves encouraging the holding of food stocks above those that would be commercially viable. Even if greater domestic production capability was considered by society to be one of the desirable means of boosting food security, there are far less costly ways of achieving that than farm product price supports and import protection. In particular, there are the first two components of the ABAC proposal for an APEC food system: boosting rural infrastructure and the use of new farm technologies. Technical cooperation and subsidies to agricultural research and extension are likely to be very high payoff alternatives to propping up producer prices artificially. This is especially so if import restrictions rather than direct payments are the means by which prices are currently being supported (since import restrictions not only support producer prices but also raise consumer prices).

 What actions are needed to develop the System?
     Both food-exporting and food-importing APEC economies have reasons to actively support the launch of a new WTO round at the WTO Trade Ministerial as early as possible in the new century: the former to ensure agriculture is high on the agenda of that new negotiating round, the latter to ensure manufacturing as well as services are also on the agenda, so there are enough possibilities for inter-sectoral trades in market access. Given the high propensity of APEC economies to trade intra-regionally, the trade growth generated within the APEC region by such WTO negotiations will be similar to that which would result from regional negotiations. But there are two additional advantages of doing this through the WTO process: it encourages non-APEC economies to reform as well, and it leads to legal bindings on reform commitments.
     Both groups of economies would benefit if the accession negotiations for the four remaining APEC economies not yet members of the WTO were accelerated. This is especially true of China. Intensified pressure to speed China’s remaining negotiations should be an immediate priority for all APEC members, not least to lock that economy in to low bound tariffs on food. The latter is crucial at this early stage of China's industrialization so as to prevent it following the costly path of agricultural protection growth that its neighbours have followed during recent decades.
     For those food-importing economies having to forego the continued use of protection growth to slow the relative decline of their farm sectors and the fall in food self-sufficiency, other more-efficient policy options are available to meet the political pressures they confront. For example:

• much more effective than price supports for boosting farmers' incomes are targeted direct income supports, including re-training grants to boost farmers’ prospects of securing a better-paying non-farm job;
• boosting food self-sufficiency through import protection is a very high-cost way of trying to achieve food security, compared with investing more in domestic agricultural research to boost farm productivity, encouraging more buffer stock-holding, and signing long-term contracts with a diversified group of food exporters to reduce the risk of supply cutoffs when some have a poor season; and
• food quality and safety can be secured just as much via imported products as via locally produced ones, for example through clear labelling requirements, and likewise for managing health risks to plants and animals.

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Discussion Paper 0009
INDIVIDUAL AND COLLECTIVE REPUTATION INDICATORS OF WINE QUALITY
Günter Schamel

A model of hedonic pricing is estimated using U.S. data for premium wines from North America (Napa Valley, Sonoma Valley/County, Oregon, Washington State), Australia, South Africa and Chile. Implicit prices for quality attributes including variety, sensory quality ratings, as well as individual and collective reputation indicators are identified. We focus on the value of wine quality to consumers and how quality indicators influence the willingness to pay for premium wine. A information model, where consumers are assumed to fully rely on sensory quality ratings is compared to a reputation model where collective indicators for wine growing areas and individual indicators for specific wine attributes provide additional information about quality to the consumer. Highly significant estimators for sensory wine quality as well as individual and collective reputation indicators explain price differences of premium wines.
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Discussion Paper 0010
ENVIRONMENTAL AND HEALTH-RELATED STANDARDS
INFLUENCING AGRICULTURE IN AUSTRALIA
Randy Stringer and Kym Anderson

This report is part of a five-country study focusing on how environmental and human health related standards apply to the agricultural sector. The overall study is coordinated by the Agricultural Economics Research Institute (LEI) in the Netherlands. The five countries include Australia, Canada, the European Union, New Zealand and the USA. Each country study provides an overview of its agricultural sector; explains government policy objectives; outlines public sector approaches to the various environmental and health-related issues confronting agriculture; details a comprehensive inventory of environmental and health-related regulations; and draws out key economic implications of complying with both current and prospective environmental and health-related policies, particularly as they impact on the international competitiveness.

Until recently, Australia’s farmers have been largely insulated from the demands of environmental groups and from government restrictions on their activities. Now, however, various local, national and international pressures are forcing policymakers to address agricultural environmental and health-related issues and to examine ways to promote more sustainable farming practices. Australian policy recognises that environmental and ecologically sustainable development issues must be dealt with at all levels of government if the resource base is to be used optimally.

Australia has begun responding to this environmental challenge by committing to a process of adapting sustainable development concepts, programs, and policies to suit domestic socioeconomic conditions, including prevailing agricultural production, consumption and trade patterns. It also has been a keen participant in international agencies such as Codex Alimentarius, WTO, IOE and IPPC, whose foci are on global food safety and plant and animal health issues.

Environmental and food safety management involves a mix of government regulations and voluntary approaches. Voluntary measures and agreements between governments, industry and community groups play a key role, with an increasing emphasis on economic (ie. price-based) instruments. For example, the current water reform agenda that is gradually being accepted across the country includes moves towards full cost pricing of water delivery and tradeable water rights.

The Commonwealth Government is currently undertaking a comprehensive reform of the country’s environmental law regime. The objective of this process is to deliver better environmental outcomes in a manner that promotes greater certainty for all stakeholders and minimises the potential for delay and intergovernmental duplication (DE, 1998). Fundamental to the reform package is the integration of environmental, economic and social considerations through the implementation of the principles of ecologically sustainable development. The precautionary principle and the principle of intergenerational equity are expressly recognised. Two other guiding principles of the reform process are the need to maintain and enhance international competitiveness in an environmentally sound manner and the adoption of cost-effective and flexible measures.
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Discussion Paper 0011
FOOD SECURITY IN DEVELOPING COUNTRIES
Randy Stringer

Food security and hunger are age-old problems that endure today. More than 820 million people are chronically undernourished because they are unable to obtain sufficient food by any means. Chronic malnutrition results from a continuously inadequate diet, reducing physical capacity, lowering productivity, stunting growth, and inhibiting learning. Over time, chronic malnutrition kills, blinds, and debilitates. Yet, enough food is produced worldwide to provide adequate food for all. The current global population of some 6 billion people have 15 percent more food available per capita than had the world’s 3 billion people some four decades ago. After fifty years of substantial economic growth, steady progress in agricultural productivity, remarkable increases in per capita food availability, and numerous international and national efforts to address hunger, food security remains a formidable global problem.

Food security implies an individual has access at all times to enough food for an active and healthy life. Food security has numerous interrelated dimensions. Availability of food and access to food are the two most common defining characteristics of food security. Availability and access to food are affected by population growth, demographic trends, economic development, government policies, income levels, health, nutrition, gender, environmental degradation, natural disasters, refugees, migration, disease, and concentrated resource ownership. Nations increasingly understand that many of these problems cannot be resolved by one country or group; they transcend national borders, spreading starvation, instability and environmental degradation throughout the region and around the world.

During the early 1990s, food security issues pushed their way back onto a crowded international agenda. Not since the “world food crisis” of the early 1970s had the international community focused so much attention on the seemingly never ending race between food production and population growth.  Record-low levels of global food reserves in the mid 1990s, weather-related crop failures, financial and economic crisis, policy-induced declines in food production, and doubts about the long-term sustainability of the Earth’s resource base to meet future global demands focused increasing attention on food security. In addition, many of yesterday’s issues are back on today’s agenda because of renewed concerns over declining growth rates for cereal yields, falling investment levels in agricultural research, and the persistence of large numbers of malnourished people throughout the developing world.

Moreover, economic liberalisation, privatisation efforts, government spending reductions and the globilisation of investment and manufacturing began raising new concerns about agriculture’s ability to compete for resources. Stabilisation policies, structural adjustment programmes and transitions from socialist to market-oriented economies influence sectoral and regional growth patterns, modify incentive structures, shift relative factor prices and reshape economic and social institutions. These far reaching national-level reforms in economic, financial and political systems alter agriculture’s capacity to attract or retain land, water, labour and investment.

Regional and multilateral trade agreements as well as international conventions on biological diversity, forestry, wetlands, fisheries and climate change have important implications for food production, consumption and trade, further complicating food security policy choices. Because food security is fundamental to national security and economic growth, agriculture gradually began to play a more dominant role in the policy debates about how to restructure domestic economies, reorganise public sector activities, and expand regional and global trade and environmental agreements.

This chapter reviews food security issues in developing countries. The following section explores the evolving nature, characteristics and conceptual issues associated with food security, focusing on the various policy approaches used to address hunger and how those policies have changed over time. Section III discusses how food security is measured, providing and overview of regional experiences. Section IV examines the relationship between food security, economic development and poverty. Section V assesses the topical issue of environmental sustainability. Section VI attempts to explain why the too often ignored relationship between gender and food security is so crucial to a successful reduction in food insecurity. The final section provides some concluding remarks.
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Discussion Paper 0012
RESOLVING THE INTEREST RATE PREMIUM PUZZLE: CAPITAL INFLOWS AND BANK INTERMEDIATION IN EMERGING ECONOMIES
Graham Bird and Ramkishen Rajan

 Increasing capital inflows and sustained interest rate spreads were important features in East Asia prior to the crisis of 1997-98. But why did capital inflows fail to eliminate interest rate differentials? Why were inflows associated with rising domestic interest rates that then perpetuated the inflows and made the bust that much more severe when it occurred? It is these questions that are analyzed in this paper. Standard macroeconomic theory has, by and large, either ignored the role of banks in the intermediation process or implicitly assumed it to be smoothly functioning. Neither alternative is satisfactory, particularly with regard to emerging economies in East Asia, as it is through financially weak banks that a large part of capital inflows has been intermediated. The paper develops a simple bank-based analytical framework to explain why and how capital inflow surges and lending booms could lead to higher real interest rates in the domestic economy, even after adjusting for country/currency risk premia and exchange rate changes. An important policy conclusion that stems for the analysis is that the internationalization of banks should be encouraged in the advance of capital account deregulation.
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Discussion Paper 0013
MORE ON WELFARE EFFECTS OF DISTORTIONS VIA ENVIRONMENTAL AND TRADE POLICY
Günter Schamel and Harry de Gorter

Issues relating to the interaction of trade and the environment are a major international policy concern.  They are likely to be a focal point during the next round of trade negotiations within the WTO.  Free trade advocates contend that trade liberalization makes countries richer and as a result they adopt tougher environmental standards.  Many environmentalists, by contrast fear that freer trade leads to lower environmental standards and thus more pollution. Polluting producers in high-income, high-standards countries fear competitors from abroad facing lower environmental standards. Yet, the WTO calls for environmental policies that have a minimal trade-distorting impact.

In this paper, we look at pollution problems related to the production of goods. Pollution is contained within countries but affected by policies and trade. We link the literature on optimal environmental policies and terms of trade shifts in response to domestic and trade policies.  We distinguish output reductions from abatement and pollution prevention activities as separate but interrelated components of pollution reduction.  In contrast to output reduction, which results in a profit loss, abatement and/or pollution prevention activities are cleaner production methods that involve input substitution at a direct cost to producers. In addition to private curtailment costs, pollution incurs the social costs of environmental damages when released. Furthermore, we distinguish environmental policies that primarily reduce output from policies that primarily induce abatement and/or pollution prevention activity. This is crucial because a government may for political reasons favor cleaner production methods rather than output reduction for political reasons.  This setup allows us to address three general issues related to trade and environment: What are the environmental and welfare impacts of opening trade? How will environmental policy distort trade?  What constitutes an environmentally friendly green trade tax?

Opening trade induces relative price changes.  The resulting welfare impact depends on the efficiency of existing environmental policies and the environmental impact of production.  Input substitution effects between home production and abatement activity and the initial output mix determine the environmental impact.  Small countries gain from opening trade to import polluting goods unless the environmental impact of home production is negative.  Then, the net savings through lower import prices may not outweigh increased environmental damages.  Small countries gain from opening trade to export polluting goods when net export earnings outweigh the environmental damage effect of increased production of exportables.

Large countries implementing trade-reducing environmental policies not only alter their resource allocations but also affect world market prices which may concurrently improve domestic welfare and harm other countries. This could be viewed as a trade-distorting abuse of market power. From a global welfare perspective, large countries should therefore minimize the terms of trade welfare effects of domestic environmental policy on world market prices.  From a domestic welfare perspective however, large countries should maximize the terms of trade welfare effects of domestic environmental policy on world market prices.

Large exporters that do not restrict their own exports may be better off taxing polluting production above and subsidizing abatement below their respective marginal impacts.  When tariffs are bound at low levels, large importers may be better off to tax polluting production below and to subsidize abatement above their respective marginal impacts.  It is then possible that production subsidies for importers may improve domestic welfare when the welfare effect of higher world market prices exceeds the environmental impact of home production on social welfare.  Consequently, large importers may partly offset the welfare losses of their domestic producers due to tariff reductions with production and abatement subsidies (especially when environmental damages are small).  Large agricultural importers may do this through production subsidies and/or generous incentives for a cleaner production after committing to tariff reductions.

Without concurrent environmental regulations, trade taxes are green in the sense that they can reduce pollution.  For importers, optimal green tariffs may be at low levels when marginal damages are large relative to their induced effect on world market prices. Then, lower tariffs would lead to a relatively large improvement for the domestic environment, with only minor effects on world markets.  For WTO negotiations this implies that large importers lowering tariffs but have lax environmental policies in place may only improve their domestic welfare and still distort trade. What they really should do is to significantly raise environmental standards. Therefore, rules about enforcing environmental policy may be as important as rules about reducing tariffs in order to improve world welfare. However, environmental regulations are not part of the WTO mandate policy and questions about greening the WTO arise once again.
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Discussion Paper 0014
RESTRAINING INTERNATIONAL CAPITAL MOVEMENTS: WHAT DOES IT MEAN?
Graham Bird and Ramkishen Rajan

The 1990s have witnessed three broad periods of severe turbulence in international financial markets. The turmoil in Brazil, East Asia (Indonesia, Malaysia, South Korea, Thailand and the Philippines) and Russia in 1997-99 was preceded by the Mexican-Tequila crisis in 1994-95 and the virtual collapse of the European Exchange Rate Mechanism (ERM) in 1992-93. Each time a crisis has occurred, there have been calls for some kind of curbs on “speculative” foreign currency transactions and global capital movements. Though there has been much general debate recently about the pros and cons of restraining global capital movements, there remains substantial confusion and uncertainty about what exactly is entailed by the term. Popular discussion around this has typically been long on rhetoric and loose generalizations and acutely short on specifics. The principal aim of this paper is to help clarify thinking on the notion of restraints on capital account transactions, rather than provide a detailed analysis of their economic rationale (which is conventional wisdom by now). To this end, a categorization of capital restraints is provided to assist in the evaluation of various proposals for and against capital restraints. It is noted that restraints on capital movements may be divided into controls on capital account transactions per se (capital controls) and controls on foreign currency transactions (exchange controls). It is emphasized that when analyzing curbs on capital movements, the four key features to keep in mind are whether they are comprehensive or selective; whether they are meant to be temporary or permanent; whether they are imposed on outflows or inflows; and whether they are direct/administrative or price-based. Two specific country experiences with restraining capital movements, viz. Chile and Malaysia are highlighted and discussed.
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Discussion Paper 0015
DOES TRADE LIBERALIZATION HARM THE ENVIRONMENT? A NEW TEST
Judith M. Dean

Recent events such as the NAFTA and the completion of the Uruguay Round have raised concern over the impact of trade liberalization on the environment.  In particular, it is believed that less stringent environmental standards in developing countries will give them a comparative advantage in pollution-intensive goods.  Using single equation models, existing empirical studies have found either no relationship between environment and trade flows, or a positive relationship between trade liberalization and the environment.  This paper develops a simultaneous-equations model to estimate this relationship, directly incorporating the effects of openness on growth of income, and of income growth on environmental damage.  A two-good trade model with endogenous factor supply is estimated using pooled provincial data on Chinese water pollution from 1987-1995.  Estimation of this model reveals that trade liberalization directly aggravates environmental damage via its influence on the terms of trade, but indirectly mitigates it via its effect on income growth. Simulations suggest that trade reform during the period may have had a net beneficial impact on emissions growth.
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Discussion Paper 0016
AGRICULTURE AND NON-AGRICULTURAL LIBERALIZATION IN THE MILLENNIUM ROUND
Thomas W. Hertel, Kym Anderson, Joseph F. Francois, and Will Martin

  Until the Uruguay Round, agricultural trade policies were subject to few multilateral disciplines. In this situation, the interplay of special-interest pressures has resulted in this sector becoming heavily distorted. In 1995, the average rate of protection faced by developing countries on their exports of agricultural products was 16.4 percent, more than twice the average rate of protection they faced on their exports of manufactures. On their exports to industrial countries, the average tariff they faced was 15.1 percent, close to five times as high as the tariff on their exports of manufactures to these countries.

Through the eight rounds of multilateral liberalization since 1947, the average tariff rates imposed on industrial products in the high income countries have fallen from over 40 percent to around 1.5 percent. By contrast, until the Uruguay Round, there were no effective international rules to discipline agricultural protection, and rates of protection, if anything, increased. Even after the Uruguay Round, agricultural support policies remain loosely disciplined—according to the OECD, the average rate of agricultural protection on bulk agricultural commodities in the OECD countries rose from 32 percent to 37 percent between 1997 and 1998.

In part because of the barriers to market access that they face, developing countries have been reducing their reliance on agricultural exports. The share of agriculture in developing country merchandise exports has fallen from close to a half in 1965 to just over 10 percent in 1995, and is projected to fall further by 2005. (Part of the reason for this projected decline is the absence of substantial cuts in applied protection by the OECD countries under the Uruguay Round.) Within these agricultural exports, developing countries remain much more reliant on exports of bulk commodities than do the industrial countries. In 1995, developing countries accounted for 44 percent of global exports of bulk agricultural commodities, but only 23 percent of non-bulk agricultural commodity exports. This reliance on exports of bulk commodity exports locks developing countries into a declining share of world markets for agricultural commodities. Since 1965, the share of bulk commodities in world agricultural trade has fallen from 70 percent to around 45 percent.

Agriculture remains much more important in the economies of developing countries than it does in the high-income countries. Developing countries remain small net exporters of agricultural commodities. Further, consumers in developing countries spend over 30 percent of their incomes on food—almost three times the share in industrial countries—making them much more vulnerable to shocks. Agriculture’s contribution to GDP in developing countries, at 16 percent, is also around three times as high as its share in industrial countries.

Before performing the analysis of potential trade liberalization, we project the changes in the structure of the world economy from the initial database period, 1995, to 2005, by which time all of the Uruguay Round liberalization will have been phased in. Over this period, the share of manufactures exports from developing countries is projected to rise further, as the tariff cuts agreed in the Uruguay Round are phased in, while the openness of the agricultural sector tends to decline.

A 40 percent reduction in agricultural tariffs, export and production subsidies results in global welfare gains of around $70 billion per year. The largest dollar amounts of gain, and the largest gains as a share of agricultural value added accrue to developed countries. However, the gains relative to GDP are largest in developing country regions such as (non-India) South Asia and (non-Indonesia) Southeast Asia. Impacts of this liberalization on agricultural trade volumes are mixed—while reducing tariffs tends to increase import volumes, reductions in production and export subsidies tend to reduce volumes. If production subsidies are excluded from the cuts, the global gains decline to $60 billion per year, but trade volumes grow relatively more, and net food importers in regions such as the Middle East and North Africa, South Asia and China are relatively better off.

The gains from a 40 percent liberalization of manufactures trade are about the same order of magnitude as those from agricultural liberalization, despite the fact that agriculture is a much smaller percentage of global output than manufactures. The developing countries receive the lion’s share of the manufacturing liberalization gains because they face higher rates of protection on manufactures exports, and because liberalization lowers the efficiency costs imposed by their own protection.

Liberalization of trade in manufactures and services has powerful impacts on agricultural trade through economy-wide linkages in each economy. Reductions in countries’ own-protection to these non-agricultural sectors will affect agricultural exports through four major channels: (1) it lowers the cost of intermediate inputs in food production, (2) it tends to increase the availability of labor and capital for food production, (3) it encourages consumers to substitute away from agricultural products towards now-cheaper manufacturing and services goods, and (4) in the absence of increased net capital inflows, it gives rise to a real depreciation in the liberalization region. All of these forces tend to lead to an improvement in the food trade balance, and this is predicted to be the dominant force in the high-income countries.

Of course, increases in a country’s market access to other countries’ markets for industrial products and services will tend to work in the opposite direction, leading to higher-priced intermediates, more costly labor and capital, consumer substitution towards food products and a real appreciation. Thus we observe that multilateral liberalization leads to deterioration in the food trade balance in the developing countries of East and Southeast Asia, including China.

Overall, the combined effect of multilateral trade liberalization of agriculture and non-agricultural trade in 2005 is projected to lead to an increase in the food trade balances for most developing country regions, with the notable exceptions of India, China and the Middle East/North Africa region. The heavily protected markets of Western Europe and Japan experience the largest deterioration in their food trade balance under this WTO2000 scenario.

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Discussion Paper 0017
COLLECTIVE ACTION AND PROTECTION
Richard Damania and Per G Fredriksson

Empirically collusive industries are known to be highly effective lobbyists. The reasons for this unclear and poorly understood.  This paper provides a new explanation for the formation of protectionistic lobby groups. The level of collusion is shown to be a crucial determinant of the ability of firms to sustain lobbying. It is demonstrated that a critical determinant of the degree of protection obtained depends upon the cross price elasticity of demand between the domestic good and the foreign import.  We thus provide an explanation for the mixed empirical evidence on the effect of industry concentration on protection. Finally, the equilibrium tariff rate in imperfectly competitive sectors is determined, which yields new insights into the determination of tariffs.
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Discussion Paper 0018
FDI AND THE STRUCTURE OF HOME COUNTRY PRODUCTION
Ari Kokko

This paper provides a selective survey of the literature on home country effects of FDI, and points to some new questions regarding the impact of outward FDI on economic structure in the home country. Much of the existing literature on production interactions between the domestic and foreign operations of MNCs has examined what happens to home country exports and employment as a result of outward FDI. Although the results of earlier studies vary somewhat, there appears to be a consensus that the quantitative effects are not dramatic. The reduced exports of finished products from the home country to independent foreign customers are balanced by increases in exports of intermediate products to the foreign affiliates. However, the structural changes – the transformation that occurs when the parent company becomes increasingly specialised in the production of intermediate goods – have not been discussed in great detail. Drawing heavily on the example of Sweden, we outline some of the changes that have occurred as a result of the increasing globalisation of Swedish industry, and discuss some possible consequences for the Swedish economy. Our discussion suggests that the home country operations of Swedish MNCs focused increasingly on activities with relatively high raw material content and low value added during the period between the early 1980s and mid-1990s. In addition, much of R&D was concentrated to Sweden. While the high investments in R&D are probably beneficial for the home country, it is possible that the specialisation in raw material intensive operations may have some negative effects. In particular, we discuss the possible growth effects of a more concentrated industry structure. However, due to the lack of detailed data on production structure, factor intensities and other production characteristics, the discussion is largely speculative, and the paper points to the need for more data and more research in this area.
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Discussion Paper 0019
FOREIGN DIRECT INVESTMENT
James Markusen

   Recent efforts by international trade economics have led to the integration of the theory of the multinational enterprise into the theory of international trade.  This is both an exciting and an important development.  Prior to the last decade or so, analysis of the MNE was largely distinct from trade theory.  The former was partial equilibrium in nature, while trade theory maintained the assumptions of constant returns to scale and perfect competition, which generally precluded any discussion of multinational firms by definition.  Beginning about 1980, the industrial-organization approach to trade began developing general-equilibrium models with increasing returns to scale and imperfect competition.  Yet the multinational firm was generally missing, in spite of having precisely these characteristics.
   The purpose of this paper is to review recent work which builds on the industrial-organization approach to trade by incorporating the MNE into formal general-equilibrium models.  Although empirical work is still limited, results to date are extremely encouraging in that they give strong support to the empirical predictions of the theory.
   A typical point of departure for theory has been the logical premise that firms incur significant costs of doing business abroad relative to domestic firms in those countries.  Therefore, for a firm to become a multinational, it must have offsetting advantages.  A limited but very useful organizing framework for inquiring into the nature of these advantages was proposed by John Dunning . Dunning proposed that there are three conditions needed for firms to have a strong incentive to undertake direct foreign investments.
       Ownership Advantage: the firm must have a product or a production process such that the firm enjoys some market power advantage in foreign markets.
       Location Advantage: the firm must have a reason to want to locate production abroad rather than concentrate it in the home country, especially if there are scale economies at the plant level.
       Internalization Advantage: the firm must have a reason to want to exploit its ownership advantage internally, rather than license or sell its product/process to a foreign firm.
   An important task of theory is to connect these ideas with the firm and country characteristics in a consistent way.  I refer to this as the "knowledge-capital" model, although I note that this is not a widely used term.  The paper outlines the assumptions required to make the model operational.  The principal conclusions of the analysis can be summarized as follows.

1. Countries will tend to interact by direct investment when (A) they are relatively similar in size and in relative endowments (horizontal investment), or (B) when one country is smaller but skilled-labor abundant (vertical investment).

2. Investment liberalization can reverse the direction of trade when one country is small and skilled-labor abundant.  Such a country substitutes the export of services for the export of X.

3. Investment liberalization can decrease the volume of trade in X if trade barriers are relatively high and countries are similar (horizontal investment), but can increase the volume of trade if trade barriers are low and the countries differ in relative endowments (vertical investment).

4. Trade liberalization (in the presence of relatively liberal investment) will tend to reduce investment for relatively similar countries (horizontal investment) but ten to increase investment for relatively dissimilar countries (vertical investments).

5. Investment liberalization has a skilled-labor bias for source countries, but may also have a skilled-labor bias for host countries.  The latter occurs when branch plants of foreign multinationals draw factors from less skilled-labor intensive sectors rather than from competing, skilled-labor intensive local firms.

These results have received strong formal support from empirical papers, in particular direct testing of the model.  Hence, these insights are robust and could help policy makers better understand the linkage between cross-border ownership and international trade
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Discussion Paper 0021
GMOS, TRADE POLICY, AND WELFARE IN RICH AND POOR COUNTRIES
Chantal Nielsen and Kym Anderson

The new agricultural biotechnologies that are generating genetically modified organisms (GMOs) are seen as exciting and valuable developments by many people who recognise the improvements in production efficiency that they offer. Others, however, are objecting strongly to their use. Both environmental and food safety concerns have been raised by opponents of GM crops. In response to these concerns, and to the general scientific uncertainty associated with the use of these new techniques, national regulations specifically addressing GMOs are being introduced or at least considered in many countries around the world.  A majority of people want at least to have labels on products that may contain GMOs, while the most extreme opponents (particularly in Western Europe) want to see GM crops totally excluded from production and consumption in their country.

The right for a country to set its own environmental and food safety regulations at the national level is provided for in Article XX of the GATT. But members of the WTO have trade obligations under other GATT Articles (MFN, national treatment, customs transparency), and under other WTO agreements (most notably the SPS and TBT Agreements) that restrict the extent to which trade measures can be used against GMOs without risking a case coming before the WTO's Dispute Settlement Understanding (DSU).

This paper first examines the ways in which the emergence of GMOs could generate policy reactions, the most extreme of which may well lead to trade disputes in the WTO. It then uses an empirical model of the global economy (the GTAP model) to quantify the effects on national production and trade patterns and on national and global economic welfare of just North America, and then also some developing countries, adopting the new GMO technology. These estimates assume consumers are indifferent to whether crops contain GMOs. They are then compared with two other scenarios: one in which Western Europe bans the importation of products from countries adopting GMO technology, and another in which there is a partial switch by European consumers away from imports that 'may contain GMOs'. To be specific, the effects of an assumed degree of productivity growth in the maize and soybean sectors in selected countries are explored, and those results are then compared with what they would be if (a) Western Europe chose to ban imports of those products from countries adopting GM technology or (b) some of its consumers switched preferences away from imports.

Comparing the welfare effects of the latter alternative market-based approach with the regulatory approach of banning production and imports of GM products highlights the importance of developing countries gaining access to productivity-enhancing technologies and the impact of Western European consumers’ response to GMO labelling. In the scenarios presented, those developing countries that are net-exporters of GM-potential products and fortunate enough to benefit from this new technology in their domestic production, are clearly better off when consumers in Europe are left to make up their own minds about whether to avoid GMOs than when the government adopts a blanket ban. The results also suggest, however, that developing countries that do not gain access to GM technology may lose in terms of economic welfare if they cannot guarantee that their exports entering the Western European markets are GMO-free.

The final section of the paper discusses areas where future analytical work of this sort might focus, including examining the effects of a segregation of agricultural markets into GMO-inclusive and GMO-free lines.

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Discussion Paper 0022
INTELLECTUAL PROPERTY RIGHTS AND FOREIGN DIRECT INVESTMENT
Keith E Maskus

The global system of intellectual property rights (IPRs) is changing profoundly.  Many developing countries have undertaken significant strengthening of their IPRs regimes.  Several regional trading arrangements now address questions of regulatory convergence, particularly in IPRs.  Most significant is the introduction of the agreement on trade-related intellectual property rights, or TRIPs, within the World Trade Organization (WTO).  Under TRIPs, WTO members must adopt and enforce strong and non-discriminatory minimum standards of protection for intellectual property.  Many developed countries are extending strong protection to controversial areas, including biotechnology and electronic databases.

The movement toward much stronger global IPRs is consistent with processes of economic globalization, or the successively closer integration of national and regional markets through the reduction of barriers to trade, investment, and technology flows.  In this world, knowledge creation and its adaptation to product designs and production techniques are increasingly essential for competitiveness and growth.  This situation takes on political importance because the international mobility of capital and technology have risen markedly relative to that of most types of labor.  In turn, globalization pays its largest rewards to creative and skilled workers and places its largest pressures on lower-skilled workers.

The means by which IPRs influence FDI are complex and subtle.  Furthermore, strong IPRs alone are not sufficient incentives for firms to invest in a country.  If they were, recent FDI flows to developing economies would have gone mainly to sub-Saharan Africa and Eastern Europe.  In contrast, China, Brazil, and other high-growth, large-market developing economies with weak protection would not have attracted nearly as much FDI.  And as noted above, IPRs are an important component of the regulatory system, including taxes, investment regulations, production incentives, trade policies, and competition rules.  Thus, from a policy perspective, it is the existence of a pro-competitive business environment that matters overall for FDI.

This analysis points out that, in theory, investment and technology transfer do not necessarily expand with stronger intellectual property rights, but there is emerging evidence in favor of that view.  It is increasingly assumed around the globe that FDI and licensing are beneficial for the recipient country and there is a strong presumption in this direction but it is not a necessary outcome in all situations.  Rather, it is important that such flows result in stronger competition on local markets, which tends to promote long-run gains.

In terms of policy options, freer market access, together with sensible competition rules and related regulatory systems, promise to promote the greatest net benefits from incoming investment.  Thus, economies that wish to increase their attractiveness to foreign investors would be advised first to undertake significant market liberalization.  While the Uruguay Round committed most countries to cutting trade barriers, further reduction of tariffs and removal of NTBs on a credible schedule would provide an important signal to foreign investors.  Regional trade integration, particularly with developed economies that could be the source of additional FDI, could assist in this process.  However, such agreements also bear potential for trade and investment diversion and should be considered carefully in each instance.

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Discussion Paper 0023
INTEGRATING LOCAL, REGIONAL AND GLOBAL ASSESSMENT IN CHINA'S AIR POLLUTION CONTROL POLICY
Chao Yang Peng

China has been one of the fastest growing economies in the world for over two decades since the launch of economic reforms in 1978. Accompanying and fostering China's economic growth are its energy demand increases reflecting industrialization, urbanization, and increased residential energy use to sustain a higher standard of living. The increase of energy consumption, particularly the dominance of coal in China's fossil fuels has resulted in severe air pollution. Ambient concentrations of small particulates and sulfur dioxide – both are byproducts of coal consumption – are among the world's highest. Such highn concentrations of ground-level air pollutants impose grave dangers to human health for million of urban residents. While the health risks are borne by local residents, the environmental impact of China's air pollution goes beyond its borders. Sulfur emissions from the combustion of coal cause acid rain, which may be carried by wind to fall in neighboring countries such as Japan and Korean, damaging crops, forests and fisheries, harming the ecosystems in the East Asian region. At the global level, emissions of carbon dioxide by China from the burning of fossil fuels enhance the greenhouse effect and contribute to global warming.

This study integrates the local, regional, and global assessment of China's air pollution control policy in a consistent analytical framework. Spatial models are used to evaluate the impact of air pollution on human health, ecological damage and global climate change. Alternative abatement scenarios are explored to identify optimal control strategies that are based on overall cost-benefit analysis of emission abatement at multiple levels. Abatement of urban air pollution, for example, given its adverse health impact, should primarily be given priority in China. But locally motivated air quality programs such as one that only promotes the use of electrostatic precipitators, while effective in reducing particulate emissions, will have limited benefits in terms of reducing acid rain and protecting the global climate; whereas measures targeting the sources of pollution, such as improving energy efficiency to reduce the use of fossil fuels, can achieve synergy in reducing emissions of particulates as well as sulfur dioxide and carbon dioxide from fossil fuels.

The starting point of this inquiry is the analysis of China's acid rain abatement scenarios in the World Bank's recent China 2020 study. The aim is to extend the acid rain scenarios which focused on regional abatement strategies to considering both local and global implications. Three types of air pollution are jointly assessed: ambient concentration of small particulates (PM2.5) in urban areas, sulfur emissions (SO2) which result in regional acid deposition, and carbon dioxide emissions (CO2) which contribute to global warming. Modeling projections in this study show that, in the absence of abatement actions, ambient concentration of particulates and annual emissions of sulfur and carbon will more than double between 1990 and 2020.

A clear conclusion of the analysis in this paper is that the largest source of damage by air pollution in China is human mortality and morbidity associated with ambient concentrations of fine particulates and sulfur dioxide. Adoption of abatement measures to improve urban air quality will have large benefits. The analysis also indicates that there is considerable synergy between local, regional and global abatement. The sources of emissions for the three pollutants - particulate, sulfur dioxide and carbon dioxide - are all by-products of fossil fuels, especially coal. Control policies that target the sources of these air pollutants will not only benefit the health of Chinese residents, but also reduce acid rain in East Asia and address the global warming problem.

Among the abatement scenarios examined, improving energy efficiency, especially increasing the efficiency of coal use appears to be the most cost effective. This is extremely attractive as coal is the main source of air pollution at the local, regional and global level, and China will only gradually reduce its reliance on coal. By increasing efficiency and reducing energy consumption, the intensive energy efficiency scenario targets at the source of the pollutants emitted by fossil fuels.

Economy-wide analysis indicates that improving energy efficiency also entails substantial indirect benefits flowing on to the rest of the economy through increased productivity in energy end-user sectors. In addition to technical improvement, increasing energy efficiency must emphasize removing distortions and breaking down market barriers. Welfare decomposition reveals that the benefits of an energy input-augmenting technical change can be significantly offset by policy distortions such as export subsidies or import tariffs.

Despite China's achievement in reducing energy intensity at a rate 5% annually in the past two decades, there appears to be scope for further improvement given the gap in energy intensity between China and other countries. China's current energy intensity more than doubles that of other Asian developing countries. Many projects that would save substantial energy and yield sound returns remain to be implemented, particularly in setting up information systems and strengthening energy management institutions. Internalizing the externalities of environmental pollution by increasing prices of fossil fuels to reflect their true social costs is critical in accelerating efficiency improvement.

Improving energy efficiency by itself will be insufficient to prevent further large increase in China's emissions. A more complete strategy will have to involve larger emission reductions, particularly through targeting small emission sources and critical areas. Adopting abatement measures such as coal-washing, fluidized bed combustion, and sulfur scrubbing are effective in supplementing energy efficiency improvement to reduce emissions. Also, transporting higher quality coal from the surplus producing northern region to the southwest and eastern coastal regions where local coal is high in sulfur can be an attractive option. The challenge is to transport coal over long distances, which adds to the already great pressures on the transport system. Reforming the transport sector to use market to determine the prices of transport services, and investing in transport infrastructure are integral elements of China’s long term energy strategy.

The scope of fuel substitution into natural gas and renewable energy (including hydroelectric power) appears to be limited, and the costs involved in building these energy infrastructures are high. The key challenge will be to develop a sound government regulatory framework to encourage greater private sector participation and attract investment from international lending organizations to mitigate the risks.

The findings in this study suggest that an optimal air pollution control strategy needs to integrate all the abatement measures at the local, regional and global level, and also to take into account of feedback from the economy. While single-purpose economic instruments can be an appropriate response for one pollutant, more complex policy packages targeting pollution abatement at multiple levels and including measures such as open trade policy will provide a better outcome than any individual action.

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Discussion Paper 0024
Research Issues in Japanese Foreign Direct Investment
Roger Farrell

Since the mid-1980s Japan has been one of the world’s leading sources of foreign direct investment (FDI) reflecting the continuing internationalisation of Japanese corporations. This paper provides a broad survey of trends in Japanese FDI in the postwar period and considers its motivations and determinants in the economic literature. One problem that emerges is that the underlying statistical database often limits an explanation of the industrial and geographical distribution of Japanese FDI.

While the Ministry of Finance statistical series on Japanese FDI is the most commonly used data source, detailed information on investment by industry and country has not been easily available for long time periods or even particular years. The author has assembled a broad ranging collection of MOF statistics on FDI and examines the potential for using this resource to better understand the reasons for Japanese investment. A case study of Japanese real estate FDI is used to illustrate the research possibilities opened up by this approach.

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Discussion Paper 0025
Lessons for Other Industries from Australia's Booming Wine Industry
Kym Anderson

Opportunities for export-led growth by Australia's rural industries are improving as East Asia returns to growth, agricultural protectionist barriers start to be lowered abroad, deregulation of domestic markets continue, and the costs of international transportation and communications drop. Taking advantage of those opportunities requires a concerted effort, however. It therefore makes sense for rural industries seeking to export their way to greater prosperity to look to lessons that can be drawn from other successful industries.

There is no more spectacular success story in Australia than the wine industry during the past decade. The industry's dramatic growth over the past dozen years was initially stimulated by a 30 per cent decline in the Australian dollar’s real exchange rate in the first half of the 1980s. In the mid-1980s virtually all segments of the industry were domestically focussed, whereas exports now account for 30 per cent of all wine production. Increased export demand explains much of the industry’s growth over the 1990s. This has come about through an increasing emphasis on quality in the industry, sustained generic and brand marketing efforts that have greatly boosted Australia’s image as a producer of good value-for-money wines overseas, the development of more-effective distribution systems in key markets abroad, and an autonomous switch by consumers both in Australia and elsewhere towards premium wine (driven in part by health considerations, especially for reds). That success has been achieved despite export growth by other New World wine producers and an environment where global wine consumption is declining. That has been possible because the demand for premium wine has been growing rapidly, at the expense of non-premium wine, and Australia's production is being increasingly oriented towards higher-quality products.

The clearest implication for other industries is that dramatic export-led expansion is possible but not without substantial hard work and large synergistic investments of time, effort and money in all three stages of the production process (primary production, processing, and marketing/ distribution). More specifically, as the illustrations discussed in the paper for the olive and dairy industries show:

• market niches have to be precisely identified at home and abroad;
• a long-term vision for sustainable growth, based on sound and detailed statistics, is needed to help attract/retain investment funds;
• training courses and research need to accompany or preferably precede investments in primary production, processing plants and promotion; and
• where vertical integration is not complete, good relations between primary producers and processors/ marketers need to be developed

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Discussion Paper 0026
Beggar-thy-Neighbor Advertising: Theory and Application to Generic Commodity Promotion Programs
Julian M. Alston, John W. Freebairn, and Jennifer S. James

Mandated generic commodity promotion programs funded by commodity taxes, called check-offs, are important and controversial. Previous studies of benefits, and legislated requirements for evaluation, have focused on the own-producer effects of promotion. They have disregarded the costs or benefits experienced by producers of commodities not covered by the program but affected by it either directly or because of induced price changes.

In this paper, theoretical models are developed for a case where two producer groups each promote their own commodity, and the two commodities are closely related in consumption. In the likely case, promotion of each commodity has a positive own-commodity producer welfare effect and a negative cross-commodity producer welfare effect, and each producer group will spend less on promotion if they take effects on other producers into account than if they consider only the within-group welfare effects; accordingly, from a broader social perspective, commodity programs are likely to overspend on promotion.

An application uses 1994 data on prices, consumption, and advertising expenditures on U.S. beef and pork to illustrate the effects of generic advertising of beef and pork, taking account of cross-commodity effects of advertising and price changes. We quantify the beggar-thy-neighbour non-cooperative outcome and the joint optimum, and discuss the policy implications of the comparison.
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Discussion Paper 0027
Horizontal Aspects of Vertical Fragmentation
Ronald W. Jones and Henryk Kierzkowski

In current discussions of globalization, considerable emphasis has been placed on the increased freedom of international trade in goods and services, as well as greater mobility of financial assets. However, recent patterns of globalization have brought into focus the role of technological advances and lower service costs in fostering a fragmentation of previously vertically integrated production processes into separate segments that may enter international trade. For example, automobile manufacturers increasingly source components externally from specialised component suppliers rather than make them in-house. Thus, tyres are sourced from French or Italian producers, injection systems are obtained from German suppliers, computer chips are purchased in Malaysia, with software developed in the United States.

Declining real costs of international telecommunications and rapid advances in global communications and Internet technologies have allowed the previously vertically- integrated production processes to be segmented and dispersed around the world fostering the new division of labour that encourages global outsourcing and specialisation. With the death of distance, to borrow the title of Frances Cairncross's book, production processes as well as trade have becone truly global.

Technical progress in the service sector is arguably the most obvious cause of the fragmentation of production. International efforts to remove barriers to trade in services should also encourage further fragmentation of economic activity. Both in the United States and in Europe, fears have often been expressed with regard to the unsettling impact of globalization on wages and unemployment. However Professor Kierzkowski argues the effect of activity fragmentation need not have an adverse impact on labour markets of countries currently experiencing the fragmentation of economic activity.

Over the past few years Professor Kierzkowski has led an international research project on the impact of industry fragmentation on wages, employment and trade. He summarises the empirical evidence collected for the United States, Europe and Southeast Asia.
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Discussion Paper 0028
Currency Basket Regimes for Southeast Asia: the Worst System with the Exception of All Others
Ramkishen S. Rajan

Following the recent financial crises in Southeast Asia and elsewhere, the perennial issue of the exchange rate policy options for small and open developing countries has resurfaced. There seems to be an emerging consensus that the frequency with which “soft pegs” have been susceptible to speculative attacks in this era of escalating global capital flows, has increased pressure for developing countries to adopt corner solutions to exchange rates arrangements. This paper takes issue with this popular - "one-size-fits-all" - prescription of exchange rate arrangements for developing countries and explores exchange rate policy options for Southeast Asia.
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Discussion Paper 0030
(Ir)Relevance of Currency Crisis Theory to the Devaluation and Collapse of the Thai Baht
Ramkishen S. Rajan

This paper provides a detailed study of the crisis in Thailand with the goal of determining the usefulness of existing currency crisis theory to the breakdown of the baht’s de facto dollar peg in 1997-98. We do not attempt to provide a comprehensive survey of the currency crisis literature; nor do we add directly to the empirical and theoretical literatures on currency crises. Rather, our goal in this paper is to examine, through the lens of the existing currency crisis literature, the sequence of events culminating with the devaluation of the Thai baht in July 2, 1997 and the financial and economic collapse thereafter. But why do we concentrate on Thailand in particular? First, the devaluation of the baht is widely acknowledged as the dawn of the East Asian crisis. Second, and in relation to this, given that Thailand was the first domino to fall, there seems to be greater debate/disagreement as to whether the Thai crisis was “fundamentals-based” or due to “self-fulfilling expectations”. Given our emphasis on Thailand, we do not address the issue of the reasons for the widening and deepening of the crisis from Thailand to the rest of East Asia and beyond (i.e. “contagion”).
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Discussion Paper 0031
The Vanishing Intermediate Regime and the Tale of Two Cities: Hong Kong versus Singapore
Ramkishen S. Rajan and Reza Siregar

Following the East Asian crisis, some prominent economists have advocated that small and open economies in Asia adopt an irrevocably fixed regime. Such a hard peg, it is argued, signals greater commitment to rule out arbitrary exchange rate adjustments as well as the authorities™ willingness to subordinate domestic policy objectives such as output and employment growth to the maintenance of the pegged exchange rate. But is this a reasonable position to adopt? In order to answer this question, we consider and contrast the experiences of Hong Kong and Singapore. While both of these economies share a number of similarities, the former operates a US dollar-linked currency board regime and the latter maintains an adjustable peg in the form of a monitoring band arrangement with the central parity based on a trade-weighted currency basket.
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Discussion Paper 0032
Global Market Effects of Alternative European Responses to GMOs
 Chantal Pohl Nielsen and Kym Anderson

Current debates about genetically modified organisms (GMOs) in agriculture reveal substantial differences in perception of the associated risks and benefits. Genetically modified crop varieties allegedly provide farmers with various agronomic benefits, but serious environmental, health and ethical concerns also are being raised. A majority of people in numerous countries want at least to have labels on products that may contain GMOs, while the most extreme opponents (particularly in Western Europe) want to see GM products totally excluded from production and consumption in their country. This paper first discusses the ways in which the emergence of GMOs is generating policy reactions, which could lead to trade disputes between Western Europe and the United States. It then uses an empirical model of the global economy to quantify the effects on production, prices, trade patterns and national economic welfare of certain (non-European) countries adopting GM crops. Those results are compared with what they would be if Western Europe banned imports of those products from countries adopting GM technology. An alternative market-based approach also is considered, whereby a shift in consumer preferences in Europe is investigated.
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Discussion Paper 0033
Foreign Exchange Market Efficiency, Speculators, Arbitrageurs and International Capital Flows
Tin Nguyen

The foreign exchange market efficiency hypothesis is the proposition that prices fully reflect information available to market participants, i.e. hedged interest-arbitrageurs and speculators, and there are no opportunities for the hedgers or the speculators to make super-normal profits, ie. both speculative efficiency and arbitraging efficiency exist. Numerous previous studies have tested for speculative efficiency and arbitraging efficiency by testing the following two hypotheses respectively: (i) the forward discount is a good predictor of the change in the future spot rate (implying covered interest parity (CIP), uncovered interest parity and rational expectations - all hold) and (ii) the forward discount tends to be equal to the interest differential (implying that CIP holds). It will be shown in this study that the hypotheses (i) and (ii) are valid null hypotheses for speculative efficiency and arbitraging efficiency respectively only if the following two set of assumptions hold: (a) there is no risk premium and no transaction costs and (b) that expectations are unbiased and efficient, firmly held and identical across agents. Thus, underlying the hypotheses (i) and (ii) above is the joint hypothesis that both set of assumptions hold. The rejection of UIP or CIP would simply mean the rejection of this joint hypothesis and not market efficiency.

This study also provides a simple rationale for Stein (1965) model in which the fulfilment of covered and uncovered interest parities is unnecessary for foreign exchange market efficiency, even without transaction costs, provided that economic agents hold different expectations concerning exchange and political risks. Using the data on the interest rates and the spot and forward exchange rates for six OECD countries, for the period January 1982-June 1996, this study shows that the forward discount is a very poor predictor of the rate of currency depreciation and that covered interest differential (interest differential minus forward discount) tends to have an opposite sign to and vary inversely with interest differential. These results are inconsistent not only with both the hypotheses of speculative efficiency (based on UIP) and arbitraging efficiency (based on CIP) but also with the Mundell-Flemming proposition concerning capital movements.

However, once the role of un-hedged arbitrageurs is recognized, the above results would be perfectly consistent with the Mundell-Flemming proposition. The un-hedged arbitrageurs are speculators who happen to find that they derive greater profit from un-hedged investment in a country of which the interest differential is in favour than from selling that country’s currency forward and the condition for the existence of these un-hedged arbitrageurs is that they individually face different transaction costs in their forward exchange dealings.

Three reasons for the unexpected relationship between covered and uncovered interest differential are given. The first involves the over-reaction by the government to inflation in fixing the forward discount. The second involves the over-reaction by the speculators to the interest differential in predicting currency depreciation. The third involves the failure of the government to prevent interest rate differential from failing to keep pace with inflation differential. It is argued that the third reason is the most plausible.

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Discussion Paper 0034
GMOs, Food Safety and the Environment: What Role for Trade Policy and the WTO?
 Kym Anderson and Chantal Pohl Nielsen

Current debates about genetically modified organisms (GMOs) in agriculture reveal substantial differences in perception of the associated risks and benefits. Genetically modified crop varieties promise benefits to both farmers and consumers, and can lower damage to the natural environment, for example by reducing pesticide use. But some other environmental issues, together with food safety and ethical concerns with the production and use of GMOs, are being raised as potential negative aspects of GMOs. Hence the recent Biosafety Protocol with its endorsement of the use of the precautionary principle. However, if that Protocol were to encourage discriminatory trade barriers or import bans, or even just long delays in approving the use of imported GM seeds, it may be at odds with countries’ obligations under the World Trade Organization. The first part of this paper provides a brief overview of the trade policy issues at stake here. The distributional consequences of adopting GMO technology in agriculture within and between countries, and of proposed trade-related policy responses, cannot be determined a priori. Hence the need for empirical modelling of the economic effects of GMO adoption. The second part of the paper illustrates how such policy or consumer responses can alter significantly the potential size of the global GMO dividend and its distribution. This is done using a well-received empirical model of the global economy (GTAP) to quantify the effects on production, prices, trade patterns and national economic welfare of certain countries’ farmers adopting GM maize and soybean crops without and with trade policy or consumer responses in Western Europe (where opposition to GMOs is most vocal).

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Discussion Paper 0035
Estimating the Economic Effects of  GMOs:
the Importance of Policy Choices and Preferences
 Kym Anderson, Chantal Pohl Nielsen and Sherman Robinson

The new agricultural biotechnologies that are generating transgenic or genetically modified organisms (GMOs) are attracting an exceptionally large degree of opposition to their production and trade. Both environmental and food safety concerns have been raised by opponents to the development of transgenic crops. The vast majority of opponents want at least to have labels on products that may contain GMOs, while the most extreme of them (particularly in Western Europe) want to see GM crops totally excluded from production and consumption in their country. This extreme view contrasts with the more relaxed attitude towards the use of GMOs in pharmaceuticals, and swamps discussions of the positive attributes of the new technology. Also associated with that view is the idea that we should not try to measure the economic and other effects of GMOs because there is too much uncertainty surrounding the technology. We beg to differ with the latter sentiment, believing that without attempts to quantify the economic effects of GMOs, opinion formation and policy making would be even less well informed because it would have to depend even more on guesswork.

To illustrate the usefulness of quantitative models for informing GMO debates, the present paper draws on three recent studies by the authors that use existing empirical models of the global economy to examine what the effects of widespread adoption of genetically modified crop varieties in some (non-European) countries might be in light of different policy and consumer preference responses. Specifically, the effects of an assumed degree of GMO-induced productivity growth in selected countries for cotton, rice, and maize plus soybean are explored. In the latter case those results are compared with what they would be if (a) Western Europe chose to ban consumption and hence imports of those products from countries adopting GM technology or (b) some Western European consumers and intermediate users responded by boycotting imported GM crops. Then another global CGE model is introduced which distinguishes GM-inclusive from GM-free maize and soybean. It is used to explore the impact of increased preferences for GM-free food. The final section discusses areas where future empirical work of this sort might focus.
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Discussion Paper 0037
US Trade Sanctions and Global Outsourcing to China
 Shunli Yao

In his 1995 paper for the twenty-fifth anniversary of the Brookings Papers on Economic Activity, Krugman identifies several new aspects of modern world trade.  One of them is the ability of producers to “slice up the value chain,” breaking the production process into many geographically separated steps.  This phenomenon is commonly known as “foreign outsourcing” and it is the outcome of globalization of the world economy in the last two decades.

This paper develops a general equilibrium model that features the North’s outsourcing to the South, with 3 countries (2 in the North and 1 in the South) and three goods (labor intensive good, intermediates and capital intensive good).  The North-South trade patterns are characterized by the North’s export of capital intensive good to the South and its import of intermediates and labor consumer good from the South.  The intermediates enter the production of the capital-intensive good.

The policy issue that motivated this study is the debate on China’s MFN (“most favored nations” and now called normal trade relations) in the US in the past 10 years.  While the US threats to revoke MFN, its competitors, namely, EU, Japan and NICs (EJN) do not.  These countries compete in the world high-tech marketplace and at the same time outsource heavily to China.  This paper applies the above model to analyze the price, output and welfare effects of tariffs on Chinese imports to the US.

The first part of the paper sets up a perfect competition benchmark framework.  It gives the conventional results of the tariffs.  As a large country, the US tariffs on import from China change the terms of trade to its favor and its welfare improvement comes solely from its terms of trade gains.  The same is true for EJN.  China suffers a welfare loss due to the worsening of its terms of trade.  It also shows that the tariffs contribute to the further integration between the EJN and China in production of the capital-intensive good, with more EJN outsourcing to China.  The opposite happens to the US and China.  As a result, EJN takes more comparative advantage of China and its own and therefore has a bigger market share in the world market place for the capital-intensive good.

The second part of the paper extends the analysis to the imperfect competition in the capital-intensive good production.  By so doing, some of the results obtained in the PC case are altered and others are not.  Like in PC case, the tariffs improve the terms of trade for the US and EJN.  It also reduces the US market share and increases the EJN market share in the capital-intensive good sector.  For China, it allocates more resource from labor-intensive good sector to intermediates sector, and exports more intermediates to the EJN but less to the US.  It also reduces the US real profit and increases the ENJ’s real profit in capital-intensive good sector.  The real profit term is equivalent to an efficiency term and it makes ambiguous.  This leaves open the possibility of a welfare loss for the US.  The world economy as a whole, however, suffers an unambiguous welfare loss.
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Discussion Paper 0038
US Permanent Normal Trade Relations with China: What is at Stake?
- A Global CGE Analysis
 Shunli Yao

The China-US trade relationship has been plagued by the threat of MFN revocation in the past 10 years.  The US recent legislation on China’s WTO entry paves the way for eventually granting China the Normal Trade Relations (NTR, formerly MFN) status on a permanent basis.  As a result, the annual review of China’s trading status in the US mandated by the 1974 Jackson-Vanik legislation will come to an end.  However, as the ideological and political hostility between the two countries which has motivated the MFN debate still exists, the bilateral trade relation will continued to be haunted by similar threats, though may in different semantics and under different legal justifications.

Using GTAP, this paper tries to assess the stakes of the US permanent NTR with China by simulating the MFN removal.  Given the fact that 75% of US-China trade is handled by the Hong Kong traders, and textile and clothing accounts for a large portion of China and Hong Kong export to the US, this study focuses on how the Hong Kong’s re-export trade and the Multi-fibre Arrangement (MFA) will complicate the assessment.

The US trade sanctions against China will seriously disrupt the bilateral trade and both countries will suffer substantial welfare loss.  The trade sanctions will also devastate Hong Kong’s economy, as it serves as a middleman in the US-China trade and will be caught in crossfire.  The trade conflict between the US and China will make the countries involved (US, China and Hong Kong) less integrated with rest of the world and others more integrated with the rest of the world.  Thus, while the US, China and Hong Kong all suffer welfare losses, other countries all have welfare gains.

The assessment of the impact of MFN removal on Hong Kong is made possible by the inclusion of the author’s work on Hong Kong’s re-export margins into GTAP database.  Based on this work and the US tariff schedules, the author is able to estimate the effective tariff on Hong Kong’s services export to the US induced by the US trade sanctions against China.  A scenario that does not consider the role of Hong Kong’s re-export in US-China trade will over-estimate the damage done to the US, as it ignores the expansion of Hong Kong’s exports of non-services sectors, which will lower the cost of the US import replacement.

The US welfare loss is conditional on the existence of MFA.  If the US unilaterally relaxes the MFA quota, it will reverse the welfare loss to welfare gain.  This is in part because the MFA keeps the prices of the textile and clothing high and this gives the high potential of welfare gain from removing MFA on the US part alone.  But if the MFN and the worldwide MFA are removed simultaneously, the US will suffer a welfare loss.  In fact, the MFA is going to be phased out in 2005 under the Uruguay round agreement.  Without MFA, this paper shows that the US sanctions against China will cause the US $2.9 billion loss.  This will be the only outcome and the US will not have any options to buffer the damage.  Thus, it is a wise move for the US to grant China the permanent NTR.
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Discussion Paper 0039
Private Capital Flows in East Asia: Boom, Bust and Beyond
Ramkishen S. Rajan and Reza Siregar

The third generation genre of currency crises models that have been popularized following the recent crises in emerging economies give prominence to the capital account. Hence, they are also commonly referred to as “capital crisis models”. These models provide the theoretical rationale and motivation for examining the capital account transactions of the five crisis-hit economies in East Asia. Relying on data on international capital flows from a fairly diverse set of multilateral sources (i.e. IMF, BIS and IIF), this paper reviews and analyzes the nature and dynamics of international capital flows in the crisis hit East Asian economies in general during the pre-crisis boom period (between 1990 and 1996), as well as the bust and eventual recovery that followed (1997 to early 2000). The data indicate that the recent rebound in regional growth rates, surges in equity prices and stabilization of exchange rates have been accompanied primarily by a resurgence in portfolio capital inflows. Motivated by these facts and guided by a specific informational frictions model of portfolio flows, an array of simple but indicative statistical tests (correlation and causality) are conducted on available time series data to explore the determinants of private portfolio capital flows to the regional economies.
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Discussion Paper 0042
Hong Kong, Singapore and the East Asian Crisis: How Important were Trade Spillovers?
Ramkishen S. Rajan and Rahul Sen

The literature on the East Asian crisis has concentrated almost exclusively on the five crisis-hit economies of Indonesia, Korea, Malaysia, Thailand and the Philippines (Asia-5). Relatively scant attention has been paid to Hong Kong and Singapore, both of which also suffered from contagious fallout from the crisis despite being well acknowledged as having relatively sound financial and economic fundamentals. This paper examines the extent to which trade spillovers, both direct and indirect, have been important in transmitting the regional downturn from the Asia-5 economies to Hong Kong and Singapore.
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Discussion Paper 0043
Recovery or Recession? Post-Devaluation Output Performance: The Thai Experience
Graham Bird and Ramkishen S. Rajan

Most analyses of the East Asian financial crisis have focused on its causes and the links between currency and banking crises. However a related question is what happens in the aftermath of a crisis? What factors determine the path of an economy in the post-devaluation phase? Does it swiftly bounce back, with the crisis being followed by a period of economic recovery, or does it face a lengthy period of economic recession? An important element in answering these questions is to consider the response to devaluation, since this constitutes an almost invariant component of economic stabilisation. This paper examines these questions using Thailand as a case study.
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Discussion Paper 0044
Financial Crises and the Composition of International Capital Flows: Does FDI Guarantee Stability?
Ramkishen S. Rajan and Graham Bird

The conventional wisdom is that crises are largely due to swings in short-term capital (mainly bank loans in the case of East Asia). Hence economies that finance their current account deficits mainly via foreign direct investment (FDI) are seen as being less susceptible to a crisis. The spate of financial crises in emerging economies in the 1990s, coinciding as they have with increased cross-border flows of capital, motivates our interest in examining the nexus between crises and the composition of capital flows. Does reliance on FDI guarantee stability? The analysis in this paper challenges the casual presumption that the switch towards FDI alone will automatically imply that extreme capital instability will become a thing of the past.
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Discussion Paper 0045
Misalignment of the Baht, Trade Imbalances and the Crisis in Thailand
Rajan, Ramkishen S., Rahul Sen and Reza Siregar

This paper examines Thailand’s exchange rate policy, focusing on the degree of the country’s real exchange rate misalignment pre-crisis, and their consequent effects on Thailand’s trade balance with its two large trading partners, the US and Japan. We estimate misalignment as the difference between actual and “equilibrium” exchange rates. We use three key “equilibrium” exchange rates of the Thai baht, viz. the real effective equilibrium exchange rate of the Thai baht against its twenty two major trading partners; the bilateral real equilibrium exchange rates of the baht against the US dollar; and the bilateral real equilibrium exchange rate of the baht against the Japanese yen. Our sample period spans two decades (Q1: 1981 to Q3: 1999).
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Discussion Paper 0046
Trade and the Political Economy of Renewable Resource Management
 Richard Damania

A growing body of literature suggests that political factors are one of the major causes of environmental damage in developing countries endowed with a relative abundance of renewable resources. This has prompted calls for the use of trade sanctions to encourage sustainable resource management practices in these countries. This paper develops a model to assess the interaction between political lobbying, trade and the incentives to extract a renewable resource. It is demonstrated that in a political equilibrium trade sanctions may have effects that have not been previously identified in the literature. It is shown that if the government is predisposed to the demands of special interest lobby groups, then trade sanctions may fail to induce better resource management practices. There are circumstances where sanctions lead to greater harvesting of the renewable resource and worsen environmental outcomes.
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Discussion Paper 0047
Trade Liberalization, Corruption and Environmental Policy Formation: Theory and Evidence
Richard Damania, Per G. Fredriksson and John A. List

This study explores the linkages between trade policy, corruption, and environmental policy. We begin by presenting a theoretical model that produces several testable predictions: i) trade liberalization raises the stringency of environmental policy; ii) corruption reduces environmental policy stringency; and iii) the effect of trade liberalization (corruption) on environmental policy is conditional on the level of corruption (trade openness).  Using panel data from a mix of 30 developed and developing countries from 1982-1992, these predictions are broadly supported.
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Discussion Paper 0048
Common Knowledge and the Value of Defending a Fixed Exchange Rate
Louise Allsopp

Based on a framework originally developed by Morris and Shin (1995), this model shows how a currency crisis may be triggered by a lack of common knowledge regarding government type. Speculators receive noisy differential information concerning the value a government places on maintaining an exchange rate parity. When this value falls in a particular region, the government will abandon the peg if a sufficient number of speculators sell their currency. However, it will maintain the peg if no attack is launched. This paper shows that, in this region, it is always optimal for the speculators to attack the currency thereby forcing a devaluation.
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Discussion Paper 0050
A Model to Explain the Duration of a Currency Crisis
Louise Allsopp

There has been a vast literature which debates on the causes of the collapse of the ERM in 1992. The arguments have been put forward by Eichengreen and Wyplosz (1993). However, the literature does not explain the duration of a crisis.

The duration of a currency crisis and the subsequent collapse of a currency may be explained using a `war of attrition' model such as that described by Alesina and Drazen (1991) in the context of a fiscal stabilisation. This implies that if there is a burden to be borne by one of the parties in question, then each party will attempt to shift the burden onto the other. This leads to a `war of attrition' in which each group attempts to hold out in the hope that the other will concede first and bear the larger share of the burden. In the Alesina and Drazen case, the initial shock reduces the available tax revenues to pay off a budget deficit and each party tries to shift the resulting tax incidence onto the other.

My model applies this approach to a currency crisis. The parties in question are the governments of two countries. A speculative attack is launched on the currency of one of the two countries which has the effect of imposing a cost on each of the member governments. This generates a mounting pre stabilisation loss which can only be restored if one of the governments undertakes a fundamental change in policy to halt an attack on the currency and resolve the crisis. The government carrying out the change in policy is deemed the losing country and bears a utility loss in excess of the winning country.

The crucial feature of this model is that the governments differ in terms of their welfare loss and that neither government knows the welfare loss of its opponent. As time passes, each government can only make deductions about the relative strength of its opponent. Given this setup, it is possible to calculate the optimal time for concession for a government and hence the timing of the collapse of an exchange rate regime.
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