A second-best choice

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Sep 4th 2008
From The Economist print edition

India’s new trade deal is a good example of why bilateral trade deals are less useful than multilateral ones

JUST over a month ago, India dealt the multilateral trading system a blow by saying “no”. Kamal Nath, India’s trade minister, helped kibosh a breakthrough in the Doha round of global trade talks by refusing to compromise over demands for safeguard tariffs to protect more than 200m Indian farmers. To be fair, Mr Nath did not bear sole responsibility. China joined him. And America chose to put the interest of its farmers (who account for less than 1% of its GDP) above those of the liberal trading system it helped to create.

Now Mr Nath has said “yes”. On August 28th India agreed a free-trade agreement with the ten fast-growing countries in the Association of South-East Asian Nations. ASEAN also announced a second big regional deal, with Australia and New Zealand. Coming so soon after Doha’s collapse, the two agreements sent a powerful message. The global trade talks may have stumbled, but regional pacts are pushing ahead, particularly in the fastest-growing part of the world economy. According to the World Trade Organisation (WTO), over 200 regional and bilateral agreements are in place with many more under negotiation. More than 100 came into force during Doha’s seven exasperating years.

That is disturbing. Every trade deal should be measured on its own merits. But, for all their political appeal, bilateral and regional deals are never a substitute for progress at the WTO. Multilateral trade rounds are the foundation of the trading system because they are based on the “most favoured nation” principle—that any tariff cuts offered to one country must be offered to them all. Regional and bilateral deals are based on discrimination. They lower tariff barriers between their signatories, but not everyone else. Discrimination means that, although regional deals create new trade among their members, they may also divert it from lower-cost outsiders.

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To keep outsiders at bay, regional trade deals have complicated rules about the origin of goods that qualify for lower tariffs. Central American trousers do not win preferential access to America’s markets, for instance, if they are cut from cloth made in China. Because the growing patchwork of these deals have widely different rules, the simplicity and predictability of a single global trading system is being superseded by what Jagdish Bhagwati, an economist and a long-standing foe of regionalism, has called the “spaghetti bowl” of preferential deals. Not all such deals are equally bad. Some, including ASEAN’s own internal trade agreement, have liberal rules of origin. Nonetheless, it makes no sense to endorse regionalism at the expense of a better multilateral system.

Building blocks or stumbling blocks
The big question is whether that is a false choice. Regionalism’s critics contend that preferential trade deals are not just inferior to multilateral trade, but that they also undermine its foundations. In a new book Mr Bhagwati calls them “termites in the trading system”. He argues that regional deals make countries less likely to agree to global tariff cuts, since freer global trade would erode the narrow gains they have won. His opponents argue that regional deals can strengthen exporters’ political clout, so raising the odds of freer global trade.

In fact, the evidence is mixed. One study argues that America cut multilateral tariffs more slowly on goods to which it had extended preferential access. A new analysis reaches the opposite conclusion for Latin America. The history of the past two decades suggests the two can coexist. Multilateralism has hardly been moribund as regional deals have mushroomed. The Uruguay round of global trade talks ended, the WTO came into being and the Doha round began.

The hitch with this reasoning is that with Doha floundering and preferential deals proliferating, regionalism now has the upper hand; the two are no longer marching in tandem. India’s new deal, for instance, opens markets for its exporters (reducing their incentive to fight for Doha) but protects its farmers. Everyone with a stake in the global trading system has a part in reversing that trend. Rather than pursuing this sort of deal, India should start by saying yes to Doha—and soon.