TRADE LIBERALIZATION, NEW REGIONALISM AND

POVERTY REDUCTION IN THE ASIA-PACIFIC

by

Ramkishen S. Rajan*

Paper prepared for the UNESCAP’s Experts Group Meeting on RTAs in the Asia-Pacific region (Bangkok,
January 2003)

January 2003

------------------------------

* School of Economics, University of Adelaide, Australia. E-mail: ramkishen.rajan@adelaide.edu.au

This paper benefited significantly from inputs from Rahul Sen and Harish Iyer. The usual disclaimer
applies.
 1

Executive Summary

This paper first examines the nexus between trade liberalization, growth and poverty in general.
The general conclusion is that for trade liberalization to translate into de facto openness and
growth, it is imperative that it be accompanied by a constellation of other complimentary
domestic policies and institutions. These include, but are not limited to labour market flexibility,
macroeconomic stability, reasonable infrastructure and good governance. These policies in turn
do not surface automatically with trade liberalization; they need to be consciously developed and
nurtured. While trade openness (as opposed to just trade liberalization) is a precondition for
raising “all boats” over time, the link between trade openness and poverty is much less clear in
the short run. For instance, if a growth strategy based on trade openness leads to a significant
worsening of income inequality of households at the bottom of the income strata, it may not
make any discernible in-roads in alleviating poverty. In the final analysis, the case for or against
openness per se must be judged mainly in terms of how effective it is in garnering the
necessary resources (i.e. raising the overall pie) for the society to tackle the goal of poverty
alleviation directly via compensatory mechanisms. Virtually all developing countries - certainly in
the Asia-Pacific region - have committed themselves to increased trade openness, though the
timing, pace and modalities at which they actually integrate with the global trading system have
varied.

One of the ways these countries have chosen to intensify their degree of openness to
international trade is by negotiating regional trade agreements (RTAs). While RTAs have been a
mainstay of the Asia-Pacific region for a number of decades, the East Asian crisis of 1997-98 -
which impacted all regional economies but to different degrees - along with concerns about the
slow pace of liberalization at the multilateral level post Seattle, have led to a new sense of
urgency to construct RTAs. What are the implications of such trade pacts, particularly as they
relate to growth and poverty reduction in the Asia-Pacific region? This question is explored in the
second part of the paper.

It is necessary to emphasize that the focus of the second half of the paper is on the series of
new bilateral and minilateral RTAs (“new regionalism”) that have recently proliferated, as
opposed to the existing ones. What is different about the new RTAs or “new regionalism”? Apart
from the fact that the term “regional” is a misnomer (as some of the trade agreements are
transpacific in scope), Ethier (2001) suggests that some of the stylized facts of the “new
regionalism” are as follows: (a) the new regionalism typically involves one or more small
countries linking up with a big country; (b) the degree of liberalization is usually modest and not
dramatic move to free trade between members; (c) the liberalization is due to concessions by
the small countries; the agreements are asymmetric; and (d) RTAs often involve “deep”
integration, involving economic policies over and above tariff and other frontier barriers.

While neither theory nor empirics is able to offer definitive insight into whether there are any net
benefits from a country being a member of RTAs, it is almost certain that a country that is not a
participant in any of the new RTAs will be adversely impacted due to trade and investment
diversion and reduction in their terms of trade. While all RTAs appear, in principle, to be open to
new members, terms of accession for new members are unclear. In many cases it is likely that
the new or potential member must be prepared to join the existing RTAs at the prevailing terms,
implying a de facto loss of policy autonomy at best, complete inaccessibility at worst. In other
words, there is a strong case for joining RTAs for “defensive reasons”.
 2

1. Introduction

What is the link between trade liberalization and poverty? Consider the following

illustrative quotes:

Nearly three billion people who are trying to survive on less than $2 a day
deserve the chance for a better future. Poverty is not just the greatest challenge
to peace and stability in the 21st Century, but our greatest moral challenge as
well…Trade liberalization is the best form of…self-help…(IMF Managing
Director, Horst Kohler, 2002).

Trade expansion is a key component of globalization, but only a few countries

have so far benefited…If it is well structured and sequenced, trade liberalization
can be an engine of development and poverty reduction. Export opportunities
and import competition, and the doors liberalization opens for productive
domestic-foreign partnerships, create positive incentives. Incentives to reduce
prices to consumers, raise producers’ productivity, and increase the stock of
knowledge on which successful economic expansion and poverty reduction
increasingly depend..(World Bank President, James Wolfensohn, 2000).

(O)peness to trade helps developing countries catch up with the rich ones,
and…the poor generally benefit from the faster growth that trade liberalization
brings.. (Former WTO Director General, Mike Moore in the Financial Times,
June 19, 2000).

The preceding comments suggest that there exists a direct and positive link between

trade liberalization and poverty reduction. But is this link all that straightforward?

This paper first examines the nexus between trade liberalization, growth and poverty in

general. An important dynamic of trade liberalization in the Asia-Pacific region has been a

newfound enthusiasm by many regional countries to actively seek out “regional trade

agreements” (RTAs) with one another as well as cross-regionally. What are the implications of

such trade pacts, particularly as they relate to growth and poverty reduction in the Asia-Pacific

region? This question is explored in the second part of the paper.

It is necessary to emphasize that the focus of the second half of the paper is on the

series of new bilateral and minilateral RTAs (“new regionalism”) that have recently proliferated,

as opposed to the existing ones such as the ASEAN Free Trade Agreement (AFTA) which

appear to have diminished in relative importance since the East Asian crisis of 1997-98. Others
 3

such as the South Asian Preferential Agreement (SAPTA), the Economic Cooperation

Organization (ECO), South Pacific Regional Trade and Economic Cooperation Agreement

(SPARTECA) and the Bangkok Agreement (BA) never really got off the ground to begin with

(more will be said about the BA in Section 6). Indeed, among the older regional alliances in the

Asia-Pacific region (i.e. those created pre 1995), only the Closer Economic Relations

Agreement (CER) between Australia and New Zealand has proven to “have teeth”, and has, not

surprisingly, been used as a role model in the case of some newer RTAs. Table 1 summarizes

the existing RTAs in the Asia-Pacific. Table 2 highlights the recently established RTAs as well

as those currently being negotiated or proposed1.

What is different about the new RTAs or “new regionalism”? Apart from the fact that the

term “regional” is a misnomer (as some of the trade agreements are transpacific in scope)2,

Ethier (2001) suggests that some of the stylized facts of the “new regionalism” are as follows:

(a) the new regionalism typically involves one or more small countries linking up with a big

country; (b) the degree of liberalization is usually modest and not dramatic move to free trade

between members; (c) the liberalization is due to concessions by the small countries; the

agreements are asymmetric; and (d) RTAs often involve “deep” integration, involving economic

policies over and above tariff and other frontier barriers.

The remainder of this paper is organized around four main sections. Recognizing that

growth is a necessary condition for a sustained reduction in poverty, the next section discusses

the analytical and empirical links between trade liberalization and growth. Certainly, growth is

not a sufficient condition for poverty reduction. Therefore, section 3 focuses on the issue of

trade, income distribution and poverty. Section 4 offers an overview on some of the “new” RTAs

currently underway in the Asia-Pacific as well the economic reasons for their increasing

1
The ADB (2002, Part 3) discusses these existing regional alliances.
 4

popularity. Section 5 examines some of the drawbacks of such RTAs. The final section

concludes with a summary and a few remarks on whether and how best RTAs might be used

to further the important goal of poverty reduction in the Asia-Pacific region as well as the nexus

between regionalism and multilateralism. Are the two antagonistic or are there inherent

synergies between them?

2. Trade Liberalization and Income Growth3

Trade liberalization ought to provide the usual Harberger Triangle welfare gains by

reducing, if not entirely eliminating, the wedge between domestic and foreign prices. Assuming

demand elasticity = ε and tariff rate or tariff equivalent = t, the size of the welfare loss, in a

partial equilibrium analysis, i.e. the Harberger Triangle, is simply tε 2/2. So if the tariff equivalent

is ten per cent and the elasticity of demand is one, the welfare loss is just half of one per cent

(of consumer expenditure). Most empirical studies measuring these welfare losses do find them

to be about this level (Baldwin, 1992). Does this imply that trade protectionism is not

“significantly” harmful? The answer is no for at least three reasons.

One, Tullock (1967) has noted that even in a static setting, the welfare costs of

protectionism may actually be a much larger “Rectangle” once the costs of monopoly power,

tariffs, rent-seeking activities or other pre-existing distortions are all taken into account. Thus,

removal of such distortions could significantly boost income. Two, once again in a static sense,

Romer (1994) has argued strongly that the non-rivalry of many goods which enter as inputs (like

blueprints) implies that if such goods (characterized by large fixed costs and constant marginal

costs) are impeded, there could be potentially large losses to the economy (as much 10-12

percent of GDP). Three, there could be a host of other dynamic gains to be had from trade and

2
A more appropriate term may be “preferential trade agreements” (PTAs), though most policymakers and
the popular media prefer the term ”free trade agreement” (FTAs). See ADO (2002, p.160).
3
This section partly draws on Rajan (2003).
 5

the introduction of competition in terms of scale economies, technological innovations, learning-

by-doing effects, etc. which in turn lead to sustained rates of growth (not just one-off increases

in income levels) (Grossman and Helpman, 1991 and Srinivasan, 2002).

However, there are also endogenous growth models that suggest trade may be growth-

stunting (Grossman and Helpman, 1991 and Srinivasan, 2002). This may occur if the forces of

dynamic comparative advantage push an economy away from the direction of activities that

stimulate long run growth. Thus, as Rodriguez and Rodrik (2000) note:

there should be no theoretical presumption in favor of finding [an] unambiguous

negative relationship between trade barriers and growth rates in the types of
cross-national data typically analyzed”.

Accordingly, as with most things, the nexus between trade and growth can only be settled

empirically.

It is fair to say that the bulk of the empirical literature using cross-country data has found

international trade in goods to be growth inducing. Recent studies that have found a positive

association between openness to trade and growth include Coe et al. (1997), Dollar (1992),

Edwards (1993, 1998) and Sachs and Warner (1995), and most recently, Morrissey et al.

(2002) and Dollar and Kraay (2001). There are, however, two important problems with most

existing studies.

First, while the studies have unearthed a positive association between trade and growth,

most are unable to conclude anything about causality per se. Does openness lead to growth;

does growth lead to openness (for instance, the richer country gets the more likely it is to

dismantle trade barriers); or are both caused by a third factor (i.e. are trade and income both

endogenous)? Rodrik (2000b) for one holds the view that both are caused by the quality of

institutions as illustrated by Figure 1. Harrison (1996) concludes that the results of previous

studies on the direction of causality between openness and growth are “mixed”, with causality

being bi-directional.
 6

In an important study, Frankel and Romer (1999) attempt to decipher the causation

between trade and growth. The authors undertake a cross-section of 100 countries during the

period since 1960. They deal with the potential endogeneity problem of the trade variable by

instrumenting it with a set of variables usually used in the estimation of the gravity model for

trade flows. While results vary on the basis of the specific data set and equations used, they

generally suggest that openness does have a statistically and economically significant effect on

growth4.

Second, even if the causality from trade to growth is accepted, the Frankel-Romer

study, like all others, is subject to an important criticism in that they link growth to trade outcome

measures (export, imports) rather than trade policy measures (like tariffs and nontariff barriers).

This point was first clearly made by Moon (1997) but more recently and forcefully by Dani Rodrik

(for instance, see Rodriguez and Rodrik, 2000 and Rodrik, 2000b). As Rodrik (2000b) notes:

Saying that participation in world trade is good for a country is as meaningful as

saying that upgrading technological capabilities is good for growth…The tools at
the disposal of governments are tariff and non-tariff barriers, not imports or
exports…(T)ariff measures are a reasonable proxy for trade restrictions…(T)he
relevant question for policy makers is not whether trade per se is good or bad -
countries that do well also increase their trade/GDP ratios as a by-product - but
what the correct sequencing of policies is and how much priority deep trade
liberalization should receive early in the reform process..(pp.1 - 3).

In other words, while there does exist a link between trade openness and growth, we

cannot say for sure that there is a nexus between trade liberalization and growth, as a host of

factors such as the macroeconomic environment, external environment and such have not

been properly controlled for. It is extremely difficult to sort out the effects of trade liberalization

from other domestic policy options, particularly as countries that undergo trade reforms

generally do so as part of an overall growth-enhancing policy package. Increased openness

may be result of trade liberalization per se or because of other nontrade policy actions or some

4
Dollar and Kraay (2001) also make an attempt to control for reverse causation from income growth to
changes in trade shares.
 7

combination of the two5. Thus, even in the widely cited study Dollar and Kraay (2001), the

authors appropriately make the following important caveat.

It would be naïve to assert that all of this improvement in growth should be

attributed to the greater openness of these globalizing economies: all of them
have been engaged in wide-ranging economic reforms…China, Hungary, India,
and Vietnam…strengthened property rights and carried out other
reforms…Virtually all of the Latin American countries included in the grouping
stabilized high inflation and adjusted fiscally (pp.9 - 10)6.

In similar vein, the recent World Bank (2002b) report on “Globalization, Growth and

Poverty”, which attempts to offer evidence of the benefits of being a “globalizer”, implicitly

recognizes that there may not be a direct link between trade policy measures and outcomes. As

the report states:

We label the top third “more globalized”..(countries)..without any sense implying

that they adopted pro-trade policies. The rise in trade may have been due to
other policies or even to pure chance…(In fact)…(w)hether there is a casual
connection from opening up trade to faster growth is not the issue (pp.34 - 36).

What does all of this imply for policy? The link between growth and trade openness per

se as opposed to growth and trade liberalization, suggests (a) that governments should

certainly aim to enhance their effective degree of trade integration with the rest of the world; and

(b) trade liberalization per may not be sufficient to achieve this. “Opening doors” (in a well-

sequenced manner) and “getting the prices right” are clearly necessary but insufficient to

ensure an outward oriented policy is successful in terms of promoting export-led growth. At the

least, for trade liberalization to translate into de facto openness and growth, it is imperative that

appropriate macroeconomic and exchange rate policies also be in place. In other words, to be

successful, trade reforms must be part of a logically consistent package of macroeconomic

reforms.

5
Rodriguez and Rodrik (2000) go on to assert, “the search for such a relationship is futile”.

6
Ironically, the Dollar and Kraay (2001) study is somewhat less subject to the caveat/criticism as they try
to control for the effects of other contemporaneous changes in policies and institutions that may impact
growth by including measures of monetary policy stability, financial development, and political instability.
 8

Beyond disciplined macroeconomic policies, most developing countries that have been

successful global exporters have also found it necessary to encourage the inflow of export-

oriented FDI which is able to exploit the country’s comparative advantage. As McMillan et al.

(1999) note, “FDI is viewed as an important companion strategy to market liberalization, a way

of jump-starting labour-intensive, export-oriented economic activity”. FDI, particularly when it

involves multinationals, brings in capital, technical know-how, organizational, managerial and

marketing practices and global production networks, helping accelerate the process of

economic development in host countries. Not surprisingly, there is broad agreement that in a

relatively non-distorted domestic policy environment FDI fosters growth by promoting greater

competition and trade and facilitates a country’s overall integration with the global marketplace

(Lim, 2001 and Stiglitz, 1998)7.

3. Trade Liberalization and Poverty

Even if trade liberalization leads to more rapid growth, this does not necessarily imply

that it is an effective instrument in reducing poverty. For instance, if a growth strategy based on

trade openness leads to a significant worsening of income inequality of households at the

bottom of the income strata, it may not make any discernible in-roads in alleviating poverty. In

such circumstances it would be necessary for outward orientation to promote growth at a

“sufficiently rapid” pace for the poor to have any chance of benefiting via “trickle down” effects.

However, the political sustainability of such inequitable growth is doubtful; the distributional

character of economic growth matters as much as the rate of growth. But does outward

orientation lead to “equitable” growth?

7
Two caveats are in order. One, in a distorted trade and investment environment, capital inflows may be
“immiserizing” or growth reducing. Two, as with the case of trade and growth/poverty, the empirical
literature between FDI and growth/poverty is inconclusive. For instance, even if there is a positive link
 9

3.1 Trade Theories

3.1.1 Stolper-Samuelson (SS) model

What does theory tell us about the functional distribution of outward-oriented growth?

Starting with the workhouse 2x2x2 (two-factor, two-goods and two-countries) Stolper-

Samuelson (SS) model, theory suggests that international trade will lead to a rise in the relative

returns of the abundant factor; unskilled labor in the case of developing countries (assuming no

market distortions; discussed below). Thus, according to conventional theory, the poor

(unskilled labor) will be the largest beneficiaries of trade liberalization, i.e. openness in

developing countries ought to be “pro-poor” in addition to being “pro-growth”. Similarly, in the

age-old Arthur Lewis (1954) dualistic paradigm with surplus labor reserves (elastic labor

supply), trade and growth ought to be employment-intensive, thus benefiting the poor. Findlay

(1995) has combined the insights from the conventional SS model with the Lewis framework to

show how trade in a labor surplus economy can lead to a virtuous cycle of employment, capital

accumulation and growth. This seems consistent with the East Asian experiences in the 1970s

to mid 1990s 8.

3.1.2 Specific Factors Model

An important assumption of the SS model is that all factors are freely mobile between

sectors within a country. This is, however, a heroic assumption in anything but the long run.

between FDI and growth, what is the direction of causation; it is possible that a dynamic and growing
domestic market may stimulate FDI inflows.
8
More to the point, East Asia has long been characterized as having followed a “flying geese pattern”
(FGP) of production and trade. The FGP, due to Japanese economist Akamatsu Kaname (1962), has been
used to describe the shifting pattern or spatial reorganization of international production and comparative
advantage across East Asian countries. The FGP pattern has been largely investment-driven (Rajan and
Sen, 2003a).
 10

Consider the simplest case of two factors (Labour and Capital) and two industries

(“Export industry” and “Import industry”). Assume the country in question is relatively labour

abundant and the Export Industry is labour intensive.

In the short run, assume all factors are immobile. Free trade leads to a rise (fall) in the

price of the labour intensive Export (Import) industry. Thus, the real returns to labour and capital

in the Export industry rise, while they fall in the case of the Import industry.

In the medium run, assume labour is mobile across sectors but capital remains

immobile. Labour moves from the Import to the Export industry such that wages are equalized

across sectors. Whether labour ends up benefiting in real terms depends on its consumption

basket. Returns to capital in the Export industry unambiguously improve and those to the Im port

industry unambiguously worsen.

In the long run, real wages rise and real returns to capital decline a la Stolper-

Sameulson (see Table 3).

This said, in cases where there are labour market distortions that bias domestic relative

factor prices against unskilled and semi-skilled labour inputs, trade liberalization may not

necessarily be labour intensive even in the long run9.

3.1.3 Summing Up

What does the preceding discussion imply? One, there is every possibility that unskilled

labour in some sectors may experience a worsening of income distribution in the immediate to

short run. Two, even in the long run, when all factors are fully mobile, the simple SS model does

not offer definitive conclusions if one of more assumptions are relaxed (see Table 4 and Davis,

1996). This is especially so, if as noted, there are significant labour market distortions leading to

an ex-ante bias towards the capital and skill-intensive sectors. Similarly, in the case of the
 11

Lewis model, if the reserve army of labour is delinked from the growth enclaves (e.g. rural

versus urban segmentation for instance), growth might bypass one segment of the poor10.

Three, the growth effects of trade openness are not instantaneous; they take time to eventuate.

For instance, controlling for other factors, Greenaway et al. (2002) find a “J-curve” association

between per capita income and various measures of trade liberalization. In other words, while

trade liberalization may be growth- stimulating in the medium and long run, it may initially retard

per capita growth as in the short run import competing industries contract while it may take time

for the exportables sector to react to the positive stimulus.

All these suggest that while trade openness is important in raising “all boats” over time,

the link between trade openness and poverty is much less clear in the short run.

3.2 Agglomeration and Fragmentation in the Global Economy

3.2.1 Agglomeration

While the simple SS model (with incomplete specialization) is intuitively appealing, it is

unable to capture an important dynamic of the global economy, viz. the tendency for

agglomeration or the geographical concentration of industries in particular countries and

particular regions within a country – “cores” (Anderson, 2003). This phenomenon of “firm-

congestion” or bunching together spatially helps explain why regions with similar underlying

features sometimes turn out to be very different, i.e. “history matters for economic geography”.

The new economic geographers and old school development economists have stressed the

existence of scale economies (or market size effects and linkages), thick labor markets and

pure external economies as reasons for this cumulative causation and specific spatial

9
This appears to have been a problem especially pertinent to India. See Rajan (2003) and Rajan and
Marwah (1998).
10
More specifically, with such segmented labor markets, adjustment will be reflected in increases in real
wages and not employment. One can identify four sectors of the labor market in developing countries:
formal urban, formal rural, informal urban, and informal rural.
 12

clustering of economic activities (Hanson, 2000 offers a recent literature review) - so-called

“centripetal forces” or “agglomeration effects”.

The foregoing literature has largely been silent on the specifics of dispersion of

economic activity. If anything, the dynamics described previously - whereby there will come a

time when the centrifugal forces, which disperse economic activity, offset centripetal forces -

suggests that the longer run shift of production from the core to the peripheries will be a zero-

sum game, with the latter gaining at the expense of the former (Hanson, 2000). To quote

Krugman and Venables (1995):

(B)oth concerns about uneven development and worries about maintaining First
World living standards in the face of Third World competition have some
justification. In particular, they seem to correspond to different stages in the
process of globalisation....an early stage of growing world inequality...As
transport costs continue to fall...there eventually comes a second stage of
convergence in real incomes, in which the peripheral nations definitely gain and
the core may well lose (p.859).

Given this perception, in the face of possible “hollowing out” or de-industrialization due to

escalating costs and concomitant diminishing attractiveness, might there not be a plausible

case for the erection/escalation tariffs and other trade barriers so as to decelerate the

“centrifugal” forces (i.e. forces causing dispersion from the core)?11 However, this policy

conclusion runs counter to conventional wisdom regarding the benefits of free trade and the

general presumption that factor intensities of goods and factor endowments of countries play a

significant role in international trade.

3.2.2 Fragmentation

The implicit assumption in the agglomeration literature is the inability to unbundle

products into its parts, components and accessories (PCAs). With major improvements in

11
The aim here would be to diminish the feasibility of moving to the outlying regions and servicing the core
through trade.
 13

transportation, coordination and communication technologies, globalization provides vastly

increased opportunities for the fragmentation of previously integrated goods and activities into

their constituent PCAs. This in turn may be dispersed across countries on the basis of

comparative advantage. International trade is in fact increasingly characterized by “intra-product

specialization”, which has been facilitated greatly by - though is not necessarily dependent on -

the expansion of the global operations of multinationals (Arndt, 2003 and Kohler, 2001). The

intricate division of labor in the electronics and auto industries developed by Japanese

multinationals since the Plaza Accord of August 1985, and the consequent intensification of

intra-regional trade in East Asia, are good instances of this form of trade (Ng and Yeats, 1999).

The importance of intra-product specialization lies in the fact that globalization, by expanding

opportunities for international specialization and trade, will be beneficial to all parties involved

(i.e. the “cores” as well as the “peripheries”). Thus, in the longer-term, economic globalization

and free trade will be an unambiguously positive-sum game12. The spread of industry to

peripheries need not lead to deindustralization of the cores.

This agglomeration-cum-fragmentation literature does, however, reveal that a country in

the “early” stages of integrating with the world could experience a worsening of inequalities. For

instance, in the case of China, twelve coastal provinces (especially Guangdong) attracted

around 90 percent of total FDI between 1989-92 (Broadman and Sun, 1997). A similar pattern is

apparent in India (Ahulwalia, 2000, Datt and Ravallion, 2002 and Deaton and Dreze, 2002).

While it would be a mistake to attribute all or even most of the increase in inequities to

openness to trade, the existence of agglomeration effects can be expected to exacerbate

regional disparities at least in the short and medium run. But, as the literature further suggests,

12
Needless to say that this statement presupposes that the necessary institutional structures are in place
to allow a country to exploit the opportunities that are available in the global market place.
 14

there ought to be a dispersal of various PCAs of the product across various regions over time

benefiting most regions (that are easily accessible).

3.4 Agricultural and the Service Sectors

3.4.1 Agriculture

The discussion of agglomeration-cum-fragmentation above is admittedly more relevant

to trade in manufactures (and services) than to agricultural goods and other primary

commodities. However, Radelet (1999) concludes:

During the last thirty years, success in manufactured exports has been nearly
synonymous with rapid economic development. With only a few exceptions, the
countries that have achieved the most rapid gains in income per capita have also
recorded the fastest growth in manufactured exports...There is widespread
consensus that manufactured exports accelerate economic growth and
technological progress by fostering closer connections with international firms
using leading-edge technologies, encouraging economic specialization,
promoting high rates of investment into profitable economic activities, and
providing foreign exchange to finance imports of capital goods which cannot be
produced locally.

This notwithstanding, a large proportion of the populace in developing countries is still

closely tied to the agricultural sector, and this is where the bulk of the poverty is concentrated.

Accordingly, this sector cannot be ignored if significant inroads are to be made in reducing

poverty and raising living standards in developing countries. Ravallion and Datt (2001) have

found that direct targeting of rural poverty in India will generate benefits to the urban poor, though

not vice versa (this could be because of the capital intensive bias of the urban sector, thus its

expansion in the presence of existing distortions provides little benefit to rural poor). These

authors further suggest that growth in the rural sector has an equalizing income effect in the

urban sector, while expansion of the urban sector actually exacerbates overall income

inequalities (also see Datt and Ravallion, 2002).

Concerted action needs to be taken to ensure sustained and robust growth in the

agricultural sector. Particularly, actions are needed to ameliorate basic services such as
 15

irrigation, power and drainage systems, so as to reduce the elasticity of agricultural production

to weather conditions. Various regulations which hinder productivity improvements such as

price controls, licensing requirements and trade restrictions must be revoked. Innovative

methods of providing rural credit finance (micro finance) are also of importance. It is instructive

to note that the pro-poor effects of East Asian growth pre-1997 were due to an astute

combination of outward orientation along with complementary policies in agriculture (including

land reforms) and widespread basic education (Birdsall, et al., 1995)13.

There is a complex nexus between illiteracy, openness and agriculture14. Specifically,

while the simple two factor SS model non-agricultural commodities may well benefit low skill

urban labor, it may do little to benefit the “completely” unskilled labor and thus the most poor in

society in the rural areas. While this suggests the need to improve basic literacy rates and

enhance the extent of inter-regional labor mobility, the importance of working towards liberalizing

trade in agriculture is critical.

In relation to this, industrial country protectionism and market access impediments in the

agriculture sector are extremely detrimental to developing countries. The World Bank President

James Wolfensohn (2000) is exactly correct when he notes the following of industrial countries

and leaders:

If we care about the poorest developing countries, a special focus is needed on

agricultural trade liberalization. They depend far more heavily than the better-off
developing countries on agriculture for their GDP and exports….It makes no
sense to exhort poor countries to compete and pay their way in the world while
we simultaneously deny them the means to do so, by restricting their market
access in areas such as agriculture where they have a comparative advantage,"
he said. "We must work flexibly and creatively towards a world trading system

13
Indeed, Cornia and Court (2001) refer to land concentration, urban bias and inequality in education as
“traditional causes” of inequality. While stressing the importance of land reforms, Cornia and Court (2001)
note:
Many land reform efforts in the past have been badly planned and implemented without
paying much attention to the incentives of all actors involved and to the functioning of the
input and credit markets (p.27).

14
An “adequate” level of education of the populace and “reasonable” infrastructure are also required if a
country is to fully benefit from FDI (Borenzstein et al., 1998).
 16

that really makes a difference for developing countries..In order to have a

balanced and inclusive world trade system, we need to pay special attention to
developing countries’ current problems with the design and implementation of the
rules of the game in international trade.

3.4.2 Services

One area where trade liberalization is obviously beneficial is in services. Infrastructural

services such as transportation, insurance, and finance are vital in facilitating the production

process and bringing manufactured and agricultural goods to the market (Rajan, 2003, Chapter

8). Other types of services are directly embodied in goods (e.g. design, software, repair work

and other technical expertise). Thus, restrictions on the movement of service providers across

borders create additional costs and barriers to non-service trade. Moreover, the fragmentation

of the production of goods noted previously is highly service-dependent and is therefore

facilitated by liberalization of service transactions (Deardorff, 2001). The World Bank (2002a)

has in fact proclaimed that “(i)n virtually every country, the performance of the service sectors

can make the difference between rapid and sluggish growth” (p.69).

A number of developing countries have a comparative advantage and niche export

opportunities in certain service activities, particularly professional and business ones (such as

computer and office services), tourism, health, construction and transport. They consequently

have a substantial stake in an orderly liberalization of global service markets. Further welfare

gains could accrue to consumers from the availability of broader product variety of specialized

producer services as well as enhanced product quality (World Bank, 2002a)15.

Nonetheless, it is crucial to keep in mind that the benefits from services liberalization are

far from automatic. If deregulation and internationalization in services takes place prematurely,

i.e. in a weak or ineffective regulatory and supervisory environment, there may be severe

15
The issue of industrial country protectionism or lack of market access is once again very pertinent here -
poor countries stand to gain the most if the key area of the “movement of natural persons” is liberalized.
 17

negative consequences (Rajan, 2003, Chapter 8). As is increasingly recognized, the issue is

not one of whether to open up and integrate with the global economy in a market-consistent

manner, but when and how to do so. Nowhere is this more pertinent than in the case of the

service sector16.

4. RTAs in the Asia-Pacific: Trends and Rationale 17

Lest there be any doubts, it warrants repeating that trade and openness remain engines

of growth and important instruments of development. Inward looking, statist development

strategies are not sensible policy options. It is a fact that countries that have experienced rapid

growth and have managed to make significant inroads into alleviating poverty have been those

that have integrated with the global economy in a market-consistent manner. This is the

experience shared by many Asian economies, particularly those in East Asia.

It should come as no surprise then that many East Asian developing economies have

been among the most vocal proponents of global trade liberalization and the free flow of goods

and services across international borders. Nonetheless, recognizing that they have limited

influence in the multilateral arena, where recent progress on many important economic issues

relating to trade and investment liberalization is perceived to have been disappointingly slow and

negotiations protracted and cumbersome (Sager, 1997), many East Asian economies have

concomitantly pursued a second track to liberalization via the regional route. Regionalism has

historically involved both the Southeast Asian region via the ten-member ASEAN grouping

(AFTA) and the larger Asia and Pacific region via the twenty-one members APEC grouping18.

16
This said, what is meant by “effective regulation” will vary based on the sector under consideration. For
instance, effective regulation in the case of the telecommunications sector refers to pro-competitive
regulation, while in the financial service sector it refers to prudential regulation (Mattoo et al., 2001).

17
Sections 4 and 5 draw on and update the discussion in Rajan and Sen (2003b,c) and Rajan et al. (2001).
 18

However, the recent financial crisis of 1997-98 has held up the pace if not commitment

by some of the ASEAN members to trade liberalization and appears to have depleted its

collective economic strength (Kraft, 2000 and Ruland, 2000)19; while APEC has become large

and unwieldy and appears ill-equipped to handle substantive trade and investment liberalization

issues effectively20. Accordingly, many Asian economies have underscored the need to

consciously and aggressively explore alternative liberalization paths or “fallback positions”. This

is where the “new regionalism” or new RTAs come into relevance (see Table 2).

RTAs appear to be increasingly regarded by policymakers as effective and expeditious

instruments for achieving trade liberalization among “like minded” trading partners (Schiff et al.,

2000). The ADB (2002) recently noted:

The operational question now facing policymakers is how to achieve fuller

benefits of increased openness to trade. Although [R]TAs involve a measure of
controversy - particularly within the economics profession - they are, at the
moment, a popular means of liberalization in the face of domestic and
international constraints. There has been a substantial increase in the formation
of regional [R]TAs in the past decade (p.161).

Formation of bilateral RTAs among such partners is seen as a way to overcome the so-

called “convoy problem”, whereby the pace of trade integration is held back by the “least willing

member” -- or, as it is sometimes said, “those who can run faster should run faster and ought

not to not be held back by those who choose not to run or do so at a snail’s pace”. While the

18
ASEAN refers to the Association of Southeast Asian Nations and APEC refers to Asia Pacific Economic
Cooperation. Chang and Rajan (1999) highlight the responses of ASEAN and APEC to crisis-hit member
economies.
19
Panagariya (1998) argues persuasively against AFTA, calling it a “wrong turn” as the gains are very
unevenly distributed. Singapore and Malaysia benefit the most as they have relatively low tariffs and cannot
offer much by way of reciprocal concessions to tariff reductions by Thailand, Indonesia and the Philippines.
As he notes, it is therefore not surprising that Indonesia and the Philippines have hitherto preferred to
liberalize on an MFN basis than via AFTA. However, from an investment perspective, Athukorala and Menon
(1997) have argued that AFTA could be beneficial to the labor intensive, less developed regional economies
as they attract FDI intensive in the use of their abundant resource. The authors emphasize the benefits of
AFTA in terms of creating a regional vertically integrated production network.

20
Thus, Fred Bergsten (2000), an ardent supporter of APEC, has noted:
 19

argument that negotiating regional trade pacts are easier to conclude and can be done at a

faster pace than global negotiations may not hold true as a general rule (Baldwin, 1997 and

Bhagwati, 1995), it does seem appropriate in the case of some Asian countries like Singapore

and Korea which try and set strict deadlines for completion of discussions.

Trade accords nowadays go well beyond just merchandise trade liberalization and also

encompass liberalization of services trade and other trade facilitation measures which lead to

“deep integration” among partners (Lawrence, 1999). These measures include investment

protection and liberalization, harmonization and mutual recognition of standards and

certification, protection of intellectual property rights, opening of government procurement

markets, streamlining and harmonization of customs procedures, and development of dispute

settlement procedures. These RTAs are therefore more appropriately referred to as Trade and

Investment Facilitation Agreements (TIFAs).

The surge of recent RTA initiatives in the Asia-Pacific may also be a means of building

political momentum for other ASEAN/APEC member economies to hasten the process of

regional and unilateral liberalization21. Simultaneously, to the extent that contracting parties to a

RTA agree to move beyond their respective WTO commitments, there may be a demonstration

effect that motivates future rounds of broader multilateral negotiations under the auspices of the

WTO. Thus, one hears policy makers in the region often refer to their proposed RTAs as being

“state of the art”, “trail-blazing” or “WTO-Plus”.

Another “first-mover advantage” in forming RTAs with a large number of different

countries early on takes the shape of a “hub” of overlapping arrangements (Wonnacott and

Lutz, 1989). Producers in the hub have cost advantages vis-à-vis producers in the “spokes”,

we have to candidly observe now that APEC has indeed been eroding. In the last 3 or 4
years, the leaders' meetings have been unable to continue the pace of active liberalization
on the trade front and to deal with the big issues in the region like the financial crisis.

21
Referred to as “competitive liberalization” whereby modest liberalization induces broader liberalization
(Bergsten, 1998, 2000).
 20

being able to obtain more of their intermediate goods at lower prices. Further, since exports

originating from the hub are granted preferential access to a number of other markets, this may

encourage the transshipment of goods via hubs, hence fortifying its already dominant role as an

entrepot point. Of course, it is for this very reason that RTAs have special provisions or rules of

origin (ROOs) which are meant to prevent goods being re-exported from the lower tariff country

to the higher tariff country one (i.e. trade deflection). However, this in turn may lead to a shift of

export platforms from other regional developing economies to the hub in order to benefit from

duty-free market access; though care must be taken to ensure that ROOs are not manipulated

in such a way that partners gain de facto protection for their goods in the hub market22.

In the Shanghai summit of the APEC Leaders in 2001, an agreement was reached to

take a “pathfinder” approach in advancing the free trade goals by allowing members which are

able to proceed faster to do so, with others joining in at a later time. Thus, the APEC leaders

effectively endorsed the sub-regional or bilateral RTA strategies underway in the region.

5. The Asia-Pacific and the “New Regionalism”: Areas of Concern

What are some potential concerns of this new regionalism?

Abstracting from the perennial concern about trade diversion (which may be of particular

concern in the service based activities where behind the border restrictions are critical), the

proliferation of a number of overlapping RTAs also raises many technical problems with respect

to the implementation of rules of origin (ROOs). Krueger (1997b) has warned:

It is difficult to imagine that a series of overlapping..(RTAs)…with different ROOs

attendant for different countries’ access, the need for individual producers to
know and keep records for a variety of ROO requirements, and the
complications associated with negotiations for accession of additional members,
will lead to the WTO-plus world…The problems of proliferating

22
Even if ROOs are in place, there could be “indirect trade deflection” as low-tariff member could meet its
requirements for a product from the non-members, and export a corresponding amount of its own
production to the members of the trade alliance (Robson, 1998).
 21

overlapping…RTAs…deserve considerably more critical attention than they have

so far received (p.22).

Even with a single RTA, a concern is that ROOs with a particular country -- say

Singapore vis-à-vis the US -- may be sufficiently prohibitive so as to induce Singapore exporters

to source their inputs from US than some other developing country in Asia (such as Korea, for

instance). In other words, the US exports its external tariffs to Singapore. This appears to have

been the case with NAFTA, where the US negotiated a ROO on Mexican assemblers of

automobiles 23. ROOs also give rise to significant costs due to the need for administrative

surveillance and implementation24. In practice, ROOs are particularly complex - they are almost

two hundred pages in case of NAFTA and eighty pages of small print in the case of the EU’s

agreement with Poland (Schiff et al., 2000) - as they have to take into account tariffs on

imported intermediate goods used in products produced within the RTA. The bookkeeping and

related costs rise sharply as production gets more integrated internationally, especially as there

may not be uniformity in the computation of regional content requirements.

Bhagwati (1995) stresses the preceding point when he notes:

Such sphagetti-bowl proliferation of preferential trading arrangements clutters up

trade with discrimination depending on the “nationality” of a good, with inevitable
costs that trade experts have long noted…(I)t is increasingly arbitrary and
nonsensical to operate trade policy of all kinds on the assumption that one can
identify which product is whose. With the phenomenal globalization of

23
See Krueger (1995, 1997a,b), Lloyd (1993), Schiff et al. (2000) and Wonnacott (1996a,b) and Wonnacott
and Wonnacott (1996). Accordingly, Krueger strongly favours a Customs Union or CU (with members have
common external tariffs) over RTAs. Note that absent ROOs, an RTA is a de facto CU with a common
external tariff (CET) equivalent to that of the lowest tariff prevailing in any of the member countries fI
unconstrained, this reduces the effective tariff of every member to that of the lowest plus the transportation
cost involved in indirect importing (real resource cost). With prohibitive ROOs, an RTA becomes a CU
where an external tariff is the highest that prevails among members. A major disadvantage of CUs is that
they require greater degree of policy coordination and collective decision-making and budgetary
mechanisms to distribute the tariff revenue between members. Schiff et al. (2000), who argue that a “central
issue for countries planning to integrate their trade is whether to choose and RTA or CU” discuss the
issues in some detail. Wonnacott and Wonnacott (1996) have suggested a hybrid scheme, i.e. an RTA but
without ROOs in two sets of products: one where the members agree upon CETs, and the other where all
members have low tariffs. Schiff et al. (2000) discuss these and other proposals.

24
Herin (1986) estimated these costs to be between 3 and 5 percent of f.o.b. prices for European FTA
(EFTA) - European Community trade.
 22

investment and production, a Who’s Whose in defining trade policy is an

increasing anomaly; it ties up trade policy in knots and absurdities and facilitates
protectionist capture…Indeed, as the world economy increasingly muddies up
the idealized picture of Japanese, American, British, Indian, and Mexican goods
that drives much of trade policy, including particularly the pursuit of free trade
areas, the more we trade economists can see the wisdom of the great trade
theorists of the past…who were strongly wedded to nondiscrimination and hence
to most-favored-nation status and multilateralism (pp.3-4).

Apart from the issue of ROOs, cross-membership of a country in multiple RTAs may

leave investors confused as to which rules, obligations and incentives correspond to which

partner. This is in contradiction to one of the main aims of RTAs, viz. to enhance transparency

and reduce transactions costs so as to facilitate cross-border business activities. Worse still,

there is the possibility that membership in multiple trade pacts may create “obligations made in

one that contradict those made by others” (Schiff et al., 2000). Bergsten (2000) highlights this

point in the context of compatibility of subregional agreements with the APEC’s goals of region

wide trade liberalization (i.e. the Bogor declaration of free and open trade by 2010/2020). As he

notes of the blueprint on the Singapore-Japan proposed trade pact:

it states that Japan is unwilling to liberalize agricultural trade, even in a deal with
Singapore where there is no agricultural trade. In other words, they do not accept
the principle. They can argue, as this blueprint does, that it is perfectly
compatible with the WTO. The WTO says you must substantially cover all trade.
If there is no agricultural trade, you do not have to include it to meet the WTO
test. But the APEC test, which was hammered out after much debate in both
Bogor and Osaka, states that trade liberalization must be comprehensive - no
sectors can be excluded. APEC was consciously being WTO+ and the Japan-
Singapore agreement, if that study result becomes the actual outcome, would
violate its precepts…Moreover, the report says nothing about completion by
2010. That deadline is a commitment for countries in the APEC context…Japan
and Singapore should be asked how their new agreement is compatible with
APEC (p.5).

Time and efforts spent on negotiating and implementing a web of bilateral and trilateral

RTAs may divert scarce resources from the multilateral rounds. Potentially more important than

the direct impact of this “scarce negotiator resources argument” is the fact that by being

involved in a number of RTAs, the country must accept at least partial responsibility for diverting

attention of trade partners away from multilateral negotiations. For instance, the US Trade
 23

Representative (USTR) paying more attention to a number of bilateral RTAs will mean that

much less attention at the margin being paid to the WTO or APEC.

As noted, small Asian countries like Singapore appear to be willing and able to negotiate

RTAs fairly quickly. However, this rapid pace apparently hinges on their readiness to accept a

number of conditions in the context of the bilateral pacts set forth by the larger partners (as

noted by Ethier’s stylized characterization of RTAs noted previously). For instance, Singapore’s

bilateral pact with Japan appears fairly weak when it comes to the agricultural sector, while the

proposed US-Singapore RTA may include nontrade issues such as those pertaining to capital

account liberalization25. While acceptance of these conditions may not be problematic in the

case of Singapore (given negligible agricultural sector and strong financial institutions), the

presence of such linkages could imply that Singapore-based RTAs may be an altogether

inappropriate model for future trade arrangements and could make the Singapore-based RTAs

de facto exclusionary to other ASEAN members. This is despite repeated “assurances” by

policy makers that their RTAs are not exclusive and are open to accession by any country which

agrees to the terms of the agreement. Indeed, referring to the US-Singapore trade agreement,

Singapore’s Minister of Trade and Industry, George Yeo, reportedly remarked:

We have set high standards..I’m doubtful other countries can come up with
these standards, because their economies are not as advanced as ours, but in
any case, it should be something they should strive to achieve” (quoted in Lien,
2002b).

This is a key point. The initial spate of activity pertaining to RTAs has tended to involve

many middle and high-income countries; most lower income countries have been left out in the

cold. Thus, the current trend towards RTA among “like-minded” countries could exacerbate the

differences between the richer and less well off countries and also lead to trade and investment

25
See Perroni and Whalley (1994) who formally show how large countries have dominated negotiations with
RTAs with smaller countries (i.e. the former has the bargaining power in RTAs).
 24

diversion away from the latter, thus being inconsistent with the goal of reducing regional poverty.

We revisit this issue in the final section26.

6. Concluding Remarks

The link between trade liberalization via regional trade arrangements (RTAs) and poverty

reduction is far from straightforward. There are at least two inter-related sub issues that need to

be examined in detail: (a) the nexus between trade liberalization in general and poverty

reduction; and (b) the effectiveness of RTAs in enhancing trade linkages.

The first part of this paper focused on the nexus between trade liberalization and

poverty. The general conclusion is that while there may be a causal link between trade

openness and growth, little, if anything can be said about trade liberalization in and of itself and

poverty. In other words, it is far from clear that a more liberal trade environment per se is

sufficient to enhance overall openness and a dynamic environment which are needed for

sustained growth (which in turn is a precondition for sustained reduction in poverty). Trade

liberalization must be accompanied by a constellation of other complimentary domestic policies

and institutions. These include, but are not limited to labour market flexibility, macroeconomic

stability, reasonable infrastructure and good governance. These policies in turn do not surface

automatically with trade liberalization; they need to be consciously developed and nurtured.

Even if a link between trade liberalization and growth is accepted, it is still far from clear

that it will make direct inroads into poverty. It may well do so if trade openness promotes labour-

intensive specialization and labour markets are flexible. In the final analysis, the case for or

against openness per se must be judged mainly in terms of how effective it is in garnering the

26
For instance, McCleery (1993) has argued that investment rather than trade diversion has been the most
important adverse impact of NAFTA on Asia. Anecdotal evidence of investment diversion from East Asia to
Mexico abounds (for instance, see Financial Times, UK, March 31, 1999). FDI to Mexico doubled in the
year following the launch of NAFTA, as Japan and other countries redirected investments into the country
(Schiff et al., 2000). Also see ADB (2002, p.176).
 25

necessary resources (i.e. raising the overall pie) for the society to tackle the goal of poverty

alleviation directly via compensatory mechanisms27.

Three broad types of social safety nets are needed: (a) mechanisms to compensate

“losers” from trade policy reforms; (b) provide opportunities for the less well off to develop basic

skills needed to exploit the new opportunities brought about by integrating with the global

economy and (c) recognize and protect the most vulnerable in society in the event of economic

downswings. As noted by Rodrik (1997):

(I)t is not whether you globalize.., it is how you globalize. The world market is a
source of disruption and upheaval as much as it an opportunity for profit and
economic growth…It has now become commonplace to point out that market-
oriented reforms require social safety nets to prevent people from falling through
the cracks…(T)he provision of social insurance is an important component of
market reforms – it cushions the blow on those most severely affected…and it
avoids a backlash against the distributional and social consequences of
globalization (p.11, 13 & 14).

Needless to say, while the need for well-designed social safety nets to mitigate the

possible harmful effects - at least in the “short-term” - on the poor is particularly relevant, it is

important to ensure that these social policies do not hinder or delay the process of reforms.

These safety nets are meant to supplement and not supplant growth-oriented structural

reforms. It is also important that the budgetary costs of these programs be quantified and well

targeted (as there is always the danger that these programs are captured by vested

interests)28.

27
Exact types of compensatory mechanisms and the primary goals of such policies are beyond the scope
of this paper. See Ravallion (1999, 2000).

28
The issue of budgetary costs and need for prioritization of policies is not only relevant to social programs.
For instance, Finger and Schuler (2001) recognize that trade liberalization is no longer just an issue of
reducing trade barriers. The comprehensiveness of the WTO regime requires significant strengthening of
institutional and administrative capacities in developing countries and can be extremely costly to
implement. The authors estimate that it costs a typical developing country US$ 150 million to enforce
behind the border requirements like customs valuation, sanitary and photosanitary measures (SPS) and
intellectual property rights (TRIPS). This amount exceeds the typical budgets of most many poor countries.
The budgetary impact of trade liberalization in terms of tariff reductions must also be kept in mind. Rodrik
(2000a) goes so far as to suggest that these fiscal costs of deeper integration may not be worthwhile in
 26

Virtually all developing countries - certainly in the Asia-Pacific region - have committed

themselves to increased trade openness, though the timing, pace and modalities at which they

actually integrate with the global trading system have varied.

One of the ways these countries have chosen to intensify their degree of openness to

international trade is by negotiating regional trade agreements (RTAs). This was the focus of the

second part of the paper. While RTAs have been a mainstay of the Asia-Pacific region for a

number of decades, the East Asian crisis of 1997-98 - which impacted all regional economies

but to different degrees - along with concerns about the slow pace of liberalization at the

multilateral level post Seattle, have led to a new sense of urgency to construct RTAs.

As noted previously, the new RTAs have two important features. One, they are far

deeper in scope in terms of issue coverage and degree of integration of members (involving so

called behind the border issues and not just a traditional tariff-cutting exercise). Two, they may

not be restricted to just the immediate regions. Because of the depth of issue coverage, the

new RTAs tend to be far smaller in initial membership (i.e. bilateral, trilateral or minilateral)

compared to the older/existing RTAs which had a preference for shallowness or narrowness in

issue coverage but broadness in terms of membership29.

Given that there is a limit to which lower-income, developing countries are willing or able

to go beyond the negotiation of frontier issues and seek deeper integration pertaining to

harmonization of investment and unification of intellectual property rights and regulatory

regimes, this has inevitably meant that the new RTAs in the Asia-Pacific have been dominated

by middle and upper income countries (Singapore, Australia, New Zealand, Japan, Korea, etc).

view of the development alternatives that exist (such as improved education for girls, improvements in basic
infrastructure, overcoming other institutional deficiencies and investments in health and nutrition).

29
This is not to suggest that the older RTAs were in any way completely open to newer members. For
instance, APEC, while not an RTA, set a moratorium on membership and showed no inclination to include
other Asian countries such as Sri Lanka or India despite both countries having expressed interest in
joining.
 27

While neither theory nor empirics is able to offer definitive insight into whether there are

any net benefits from a country being a member of RTAs, it is almost certain that a country that

is not a participant in any of the new RTAs will be adversely impacted due to trade and

investment diversion and reduction in their terms of trade. While all RTAs appear, in principle, to

be open to new members, terms of accession for new members are unclear. In many cases it

is likely that the new or potential member must be prepared to join the existing RTAs at the

prevailing terms, implying a de facto loss of policy autonomy at best, complete inaccessibility at

worst. In other words, there is a strong case for joining RTAs for “defensive reasons” (Whalley,

1996). -- “RTAs are like street gangs: you may not like them, but if they are in your

neighbourhood, it is safer to be in one” (quoted in Crawford and Laird, 2001, p.201)30.

Certainly, the lower income developing countries could always consider establishing a

series of South-South RTAs. However, a recent World Bank report on trade blocs argued

persuasively for the “superiority” of North-South RTAs to South-South ones for the following

reasons (Schiff et al., 2000, pp.901)31:

a) South-South RTAs are more likely to generate trade diversion.

b) North-South RTAs are more likely to generate useful transfers of technology.

c) North-South RTAs are more likely to provide lock-in mechanisms in the area of politics

(such as democracy) and economics (in terms of policy credibility).

d) Given the industrial partner’s superior institutions, a North-South RTA may provide more

benefits from “deep integration” than a South-South RTA.

30
In addition, countries looking to maintain a first mover advantage by remaining a “hub” may in turn be
stimulated to seek out newer RTAs. Wonnacott (1996) cautions that while spokes are certainly worse off in
a hub-and-spoke regime compared to a “full” or complete RTA, it is unclear as to whether hubs are better or
worse off. This is so, as the collective income of a hub-and-spoke arrangement tends to be smaller (given
the inefficiencies caused by overlapping RTAs), the share of benefits accruing to the hub is larger than a full
RTA. As is often said, hubs and spokes arrangements “combine regional integration with the hub and
disintegration among spokes”. This “domino effect” will further proliferate the creation of RTAs. Note that
Baldwin (1995) used the term “domino regionalism” to refer to a phenomenon whereby the incentives to join
an RTA rise as it gets larger.
 28

e) Given a larger endowment difference between member countries in a North-South RTA

than in a South-South one, a developing country may be able to better exploit its

comparative advantage in a North-South RTA.

It is therefore imperative that developing countries that are hitherto not part of the new

regionalism, such as India, look to consciously establish such linkages with other high-income

countries. For such liberalizing countries, RTAs with higher income liberal trade partners may

strengthen the hand of exporters and other pro-trade forces and thus the political support for

further liberalization..

Another important area of concern with regard to regionalism involving North-South

alliances is that the agenda - for deeper integration - is inevitably going to be determined by the

larger, more industrialized economies, not by their smaller less-industrialized partners (though

this may be advantageous in some instance; see point d above). This power asymmetry in turn

emphasizes the need for developing countries to continue to pay attention to and cultivate

alliances with other like-minded (i.e. reform minded) developing countries so as to enhance

overall bargaining power as well as learn from one another’s experiences in negotiating with

developed countries. This suggests the need for and continued importance of an alliance like

the Bangkok Agreement (BA) which has been given a fillip with the induction of China (India

being a founding member). With the two largest developing countries as members, as well as

the fact that membership cuts across both South and North Asia, the BA appears to be ideally

placed to become an important pan-Asian institution that promotes dialogue and cooperation (if

not trade liberalization per se) and it should therefore be further nurtured by regional policy

makers and regional and multilateral institutions.

In the case of Southeast Asia, while Singapore’s new commercial trade strategy was

initially greeted with much skepticism and even irritation by some of its Southeast Asian

31
Also see Fernandez and Portes (1998).
 29

neighbours, their view seems to have softened significantly. Indeed, countries such as Thailand

and the Philippines are now looking to emulate the Singapore strategy. In addition, a case might

be made that Singapore’s go-it-alone approach helped push ASEAN to seriously explore the

possibility of an ASEAN-China RTA and even one with Japan and India (Lee, 2002). In addition,

US President, George W. Bush, launched the Enterprise for ASEAN Initiative (EAI) during the

APEC Summit in October 2002 to strengthen bilateral trade linkages with ASEAN. While details

of the EAI remain unclear, the proposal essentially offers ASEAN countries the opportunity to

sign bilateral trade pacts with the US, provided that they are members of the WTO and that they

are signatories to TIFAs with the US (implying that Malaysia, and the non-WTO ASEAN

members, i.e. Cambodia, Laos and Vietnam remain ineligible for the time being). While the EAI

is viewed as a means of eventually networking Southeast Asia with the US seamlessly, the

initiative appears to have less to do with economics than it does with symbolism regarding the

commitment of the US to the Southeast Asian region at a time of global security and political

tensions (Lien, 2002a).

A final note on the “dynamic time path” of RTAs. Do they facilitate or hinder multilateral

trade liberalization? This is an issue that has fascinated academics and economists for a long

time. The analytical literature is inconclusive (Winters, 1999), and the empirical literature far too

unreliable to make any definitive judgments. RTAs may be a stumbling block if preferential

access gained by some reduces the motivation or incentive to liberalize multilaterally13. Related

to this, countries that are members of RTAs may take the view “(i)f we do not get what we want

in the..multilateral..negotiating agenda, why should be worry? We have our own RTA. That is

where the action is!” (Crawford and Laird, 2001, p.207). Such an attitude would undoubtedly

weaken the multilateral trading system and may even pose an outright threat to multilateralism.

13
The WTO recently warned in its Annual Report (2001) that the cumulative impacts of all the various RTAs
that have proliferated worldwide “posed a systemic risk to the rules-based multilateral trading system” (also
see de Jonquieres and Williams, 2001).
 30

On the other hand, the fact that the new regionalism tends to involve multiple

membership in various RTAs and have been driven by some of the more open economies in

the Asia-Pacific (Singapore, Australia, New Zealand, etc.), offers hope that regionalism will not

be a stumbling block to multilateral liberalization. This is probably among the key differences

between the new regionalism and older RTAs involving developing countries which had tended

to have a strong protectionist bias and were thus not conducive to promoting overall growth, let

alone poverty reduction.

One way to minimize contradictions between the web of bilateral, subregional and

transnational RTAs (which overlap in membership), while also ensuring that such preferential

arrangements facilitate rather than impede multilateralism, is for them to be accompanied by a

sunset clause which would require, over time, signatories to the agreement to offer bilateral or

regional concessions to all non-members on the basis of Most Favoured Nation (MFN) status. In

other words, concessions offered by one country to another WTO one should be offered to all

within a pre-specified timeframe. As Panagariya (1999) notes, this would be the “best dynamic

time path to bring..(RTAs)..up to multilateral free trade” (also see Srinivasan, 1998). While this

is something that ought ideally to be written into the WTO Article of Agreements, countries in the

Asia-Pacific could take the lead in this regard and insist it as an inclusion in trade accords which

it is a signatory to. Regional countries ought also to stand firm on requiring their RTAs be

comprehensive in coverage, not allowing omission of sectors even if these may not be of

economic significance to the city state (agriculture being a case in point). Exclusion of specific

sectors in RTAs only perpetuates the problems that exist with multilateral trade liberalisation.
 31

Table 1
“Older” RTAs in the Asia-Pacific

Date of Average Average % Average %

PTA Member Countries Entry into Per Capita Trade Exports/GDP of
Force GDP (US$) within RTA Members

Brunei Darussalam, Cambodia,

Indonesia, Lao PDR, Malaysia,
AFTA 1992 1,975 24.5 52.3
Myanmar, Philippines, Singapore,
Thailand, Vietnam

Australia; Canada; Chile, China,

People’s Rep. of; Hong Kong, China;
Indonesia; Japan; Korea, Rep. of;
APEC Malaysia; Mexico; New Zealand; Papua
1989 7,408 75.2 47.8
New Guinea; Peru; Philippines; Russian
Federation; Singapore; Thailand; United
States; Vietnam

Bangkok Bangladesh, China India, Lao PDR,

1975 N.A. N.A. N.A.
Agreement Republic of Korea, Sri Lankaa,b

CER Australia, New Zealand 1983

19,283 9.2 20.8

Afghanistan, Azerbaijan, Iran,

Kazakhstan, Kyrgyz Republic,
ECO
Pakistan, Tajikistan, Turkey, 1991 1,220 6.6 36.3
Turkmenistan, Uzbekistan.

Bangladesh, Bhutan, India, Maldives,

SAPTA 1995 461 4.8 25.7
Nepal, Pakistan, Sri Lanka.

Australia, New Zealand, Cook Islands,

Fiji Islands, Kirbati, Marshall Islands,
SPARTECA Micronesia, Nauru, Niue, Papua New
1981 15,195 12.3 33.5
Guinea, Solomon Islands, Tonga,
Tuvalu, Vanuatu, Western Samoa

Notes: a) Thailand signed the Bangkok Agreement but did not ratify it.
b) Bangladesh, India, Thailand along with Myanmar and Sri Lanka recently created a new regional agreement
called BIMST-EC in June 1997. Cambodia, Thailand, Myanmar, Lao PDR along with Cambodia and the
Yunan Province of China established the Greater Mekong Sub region (GMS) in 1992.
 32

Source: ADB (2002, Part 3) and ESCAP (2002a)

 33

Table 2
Recently Established or Proposed RTAs in the Asia-Pacific, 1999-2002

RTA Member Countries Status

Singapore-New Zealand
Singapore, New Zealand
(ANZSCEP) In force in 2001

Singapore-New Zealand
Chile, New Zealand, Singapore
-Chile
Proposed

Singapore-US Singapore, US Negotiations

completed

Singapore-Japan In force in 2003

Singapore, Japan
(JSEPA)

Singapore-Australia Singapore, Australia Negotiations

completed

Singapore-EFTA Singapore, Norway, Switzerland, Iceland, Leichenstein In force in 2003

Singapore-Canada Singapore, Canada

Negotiations
Ongoing

Singapore-Mexico Singapore, Mexico Negotiations

Ongoing

Singapore-Korea Singapore, Korea Proposed

Proposed
P-5 Australia, Chile, New Zealand, Singapore and US

Brunei Darussalam, Cambodia, Indonesia, Lao PDR, Malaysia, Myanmar,

ASEAN-China Framework
Philippines, Singapore, Thailand, Vietnam and China
proposed
 34

Table 2 (contd.)

RTA Member Countries Status

Brunei Darussalam, Cambodia, Indonesia, Lao PDR, Malaysia, Myanmar, Framework

ASEAN-Japan
Philippines, Singapore, Thailand, Vietnam and Japan proposed

Brunei Darussalam, Cambodia, Indonesia, Lao PDR, Malaysia, Myanmar, Proposed

ASEAN-Korea
Philippines, Singapore, Thailand, Vietnam and Korea

Brunei Darussalam, Cambodia, Indonesia, Lao PDR, Malaysia, Myanmar, Proposed

ASEAN-India
Philippines, Singapore, Thailand, Vietnam and India

Brunei Darussalam, Cambodia, Indonesia, Lao PDR, Malaysia, Myanmar, Proposed

AFTA-CER
Philippines, Singapore, Thailand, Vietnam, Australia and New Zealand

Japan-Korea Japan and Korea Proposed

Proposed
Japan-Chile Japan and Chile

Negotiations
Korea-Chile Korea and Chile
ongoing

Proposed
Northeast Asia Initiative China, Japan and Korea

In force 2001
India-Sri Lanka India, Sri Lanka

Proposed
Thailand-Australia Thailand, Australia

Proposed
Thailand-Japan Thailand, Japan

Source: Lloyd (2002), ESCAP (2002b) and WTO website (www.wto.org/english/tratop_e/region_e/region_e.htm )

 35

Table 3
Functional Income Distribution of Trade Liberalization Over Time

Short run (Immobile Factors)

Export Import
Industry Industry

Workers Gain Lose

Capitalist- Gain Lose

owners

Medium run (Only Capital Immobile)

Export Import
Industry Industry

Workers ? ?

Capitalist- Gain Lose

owners

Long run (all Factors Mobile)

Export Import
Industry Industry

Workers Gain Gain

Capitalist- Lose Lose

owners
 36

Source: Author

Table 4
Why the SS Theorem may be Limited Help for Analyzing Poverty

The functional distribution of income is not the same as the personal distribution of income. The
income of a given household is only indirectly linked to the returns to various factors of production. It
depends on their ownership of the various factors, which is usually very difficult to ascertain empirically.

Dimensionality. The very powerful SS result holds only in a model with 2 factors and 2 goods. Once we
move beyond this the results are much weaker. In an n x n model each factor has an “enemy” - a good
whose price increases definitely hurt the factor - but not necessarily a 'friend'. In non-square models, with
different numbers of factors and goods, unambiguous results are even scarcer.

Mobility of labor. Independently of the number of different classes of labor distinguished, each is required
to be perfectly mobile between all sectors and regions of the economy—i.e. there are perfect labor markets
at the national level. If this is violated—i.e. labor markets are segmented—similar laborers in different
markets must be treated as being different factors, and will fare differently from each other.

Diversified equilibrium. To be sure of SS effects, the country must be producing all goods, both before
and after the price change in question. If we distinguish many different goods at different levels of
sophistication, this is unlikely. If countries do not produce all goods, the basic mechanism can break down
and perverse results are possible.

Differentiated goods. SS is based on a model in which goods are homogeneous across foreign and
domestic suppliers. Many argue that goods are better thought of as differentiated, in which case the critical
issue is how closely domestic varieties are substitutable for the foreign varieties whose prices have changed.
If the answer is 'rather little', the prices of domestic varieties will be only slightly affected by trade shocks but
there will be little quantity response to the price increase for the imported variety, so the terms of trade
losses from the price increase will be correspondingly unmitigated.

Constant returns to scale and smooth substitution between factors. If industries are subject to
economies of scale, their responses to price shocks will tend to be larger than a CRS approach suggests.
Also, under such circumstances it is possible for all factors to gain or lose together, which weakens the
inter-factor rivalry aspect of SS. Similarly, if technology is endogenous or if labor can be substituted for other
factors only in discreet steps, there may be discontinuities in the way factor prices respond to shocks.

Perfectly competitive goods and factor markets. These are required for the direct and simple
transmission of goods price shocks into factor price effects. Once there are economic rents in the system,
transmission becomes more complex and difficult to predict.

Non-traded goods. If some goods are non-traded, their prices are no longer determined by world prices plus
tariffs, but by the need to clear the domestic market. They will accommodate shocks through both price and
quantity responses, rather than just the latter as for traded goods in a small country. This will tend to
attenuate the rate at which tradable goods price shocks are translated into changes in the relative demands
for different factors.

Reference set of relative factor abundance: Davis (1996) shows that countries that may be labor-
abundant in a global sense may yet experience a worsening of income if it is capital-abundant in a regional
or local sense.
 37

Source: Adoption and extension of Winters (2001)

Figure 1

Trade Policy

Trade Volume

Geography Economic
Growth

Quality of
institutions

Source: Reproduced from Rodrik (2000b)

 38

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