WTO in international trade

International Business Environment:

Topic: Role of World Trade Organization in international business and the argument that whether WTO is helpful or a hindrance to international trade.

The World Trade Organization is an intergovernmental organization that assists the nations in regulating trade in manufactured goods, services (including banking, insurance, tourism and telecommunications), intellectual property, textiles and clothing and agricultural products (Richard Schaffer, 1996). The World Trade Organization (WTO) is a replacement for GATT (General Agreement on Tariffs and Trade ) as the world’s global trading body in 1995, and the current set of governing rules resulted from the Uruguay Round of GATT negotiations, which took place throughout 1986-1994. While WTO is relatively young organization the multilateral trading system was originally set up under GATT about 50 years ago. The GATT preamble (1947) states that “trade and economic endeavour should be conducted with a view to raising standards of living, ensuring full employment and a large and steadily growing volume of real income.” These basic objectives were reinforced in the Marrakech Agreement, which established the WTO.

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The WTO’s overriding objective is to help trade flow smoothly, freely, fairly and predictably (www.wto.org), its central principle is the dispute settlement mechanism, a system that underscores the rule of law and is based on clearly defined rules and timetables for settling disputes. WTO members agree that they will use the multilateral system to settle their trade disputes instead of taking unilateral action. Reducing the scope for unilateral action is an important guarantee of fair trade for less powerful countries (Yin and McGee, 2001). WTO aims to achieve its goals by,

* Administering trade agreements

* Acting as a forum for trade negotiations

* Settling trade disputes

* Reviewing national trade policies

* Assisting developing countries in trade policy issues, through technical assistance and training programmes

* Cooperating with other international organizations

The role of WTO is to facilitate international cooperation to open markets, provide a forum for future trade negotiations between members, and provide a forum for the settlement of trade disputes. The WTO has a stature equal to that of the International Monetary Fund or World Bank and will cooperate with those agencies on economic matters. The WTO’s membership includes those countries that previously belonged to GATT and is now open to other countries, if their membership is accepted by two-thirds majority votes of the members. The WTO has 153 members representing 95% of the total world trade and the observers are seeking membership. WTO’s operating system is the best in settling disputes. Trade disputes are brought before the WTO at approximately three times the rate that had been handled by the GATT typically all throughout its existence. Recently, the United States has been the greatest proponent of this system. Many cases have been brought by the United States seeking fulfilment with trade agreements and market access. The United States has had a good deal of success in this forum, winning majority of its cases. U.S. trade advocates have achieved market access in areas ranging from agriculture to information technologies. In contrast, the WTO’s predecessor, the GATT, often disdained as the ‘‘Gentleman’s Agreement to Talk and Talk,” failed to resolve many disputes and lacked credibility as a mechanism for resolving trade disputes. Parties to a GATT dispute could simply reject and block acceptance of the panel report. The case could be reargued numerous times until the parties tired of it and an agreement was reached.

The WTO is built on the GATT principles of open trades which include trade without discrimination, gradual transition through negotiations, predictability through transparency and binding agreements, promotion of fair competition and encouraging development and economic reform. The GATT reduces the propensity of national governments to put tariffs on physical goods to protect domestic companies, and other institutions are furthering this opening process. Thus, the Uruguay trade agreement was reached by 68 countries committing themselves to liberalising markets in telecommunications. The WTO is negotiating for the removal of tariffs on other barriers on wide range of goods and services. It is also seeking a world agreement on rules governing foreign investment – both to encourage it and, where thought necessary, to control it.

Regional groupings have grown in economic importance in recent years like the EU, NAFTA, ASEAN being examples. An alternative to seeking trade liberalisation through the WTO is for countries to enter into trade agreements within the regional grouping. However, regional trade groupings must be notified to the WTO. Trade agreements within regional groupings are by nature discriminatory. Countries may decide to make reciprocal tariff reductions in their trade with each other, with these concessions not necessarily being extended through other countries. In this context regional groupings can be classified as Free Trade Area, Custom Unions, Common Market, Economic Union and Political Union. It should also be noted that regional groupings are strengthening relations with each other (e.g. ASEAN & Latin American) and are signing inter-regional cooperation agreements. Thus, although the WTO has its goal of liberalising trade between all nations, today the majority of trade agreements are bi-lateral.

WTO claims that its predecessor GATT and the WTO itself have helped to create a strong and prosperous trading system contributing to unprecedented growth. According to WTO data, the world trade has experienced an exceptional growth during the past 50 years. Merchandise exports grew on average by 6% annually and total trade in 2000 was 22-times the level of 1950. Nevertheless, while the WTO role in world trade is obviously important, its contribution to world trade growth might be questioned. Particularly there is enormous controversy over the effectiveness and side effects of WTO regulations. Firstly, since the establishment of the WTO in 1995 the average annual number of international trade disputes has raised by more than 700 percent (Yin and McGee, 2001). Secondly, there is growing evidence that WTO has a limited ability to deal with rising conflict with developing economies and offer effective solutions to these disagreements. For example Kwa (2001) and Mattoo & Subramanian (2003) provide an extensive discussion of this issue. Finally, Rose (2003) undertook a comprehensive empirical study employing gravity models and came to conclusion that there is no strong empirical evidence that GATT/WTO has systematically played a strong role in encouraging trade. The next section discusses the mentioned above issues in detail.

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It seems that majority of economists recognize GATT’s/WTO’s contribution to liberalization and promotion of trade between countries. For instance, Bagwell and Staiger (1999) noted that the central role played by the GATT in shaping postwar trade policy is widely accepted. Krueger (1998) writes: “…the growth and liberalization of the international trading system has been the most prominent success of the postwar period … the great liberalization of tariffs and trade in the post-war period was achieved under the auspices of the GATT …” Furthermore, according to Bagwell and Staiger (1999) GATT has strong theoretical underpinnings for success in promotion of trade. Bagwell and Staiger (1999) employed general equilibrium trade model and came to conclusion that GATT’s principle of reciprocity can be viewed as an effective mechanism for promoting trade.

One of the underlying principles of WTO policy is agreement that WTO members will use the multilateral system to settle their trade disputes instead of taking unilateral action. Multilateral negotiations reduce the scope for unilateral action, which is an important guarantee of fair trade for less powerful countries. Nevertheless, Bagwell and Staiger (1999) stress that countries can implement efficient trade agreements only if they also abide the principle of non-discrimination.

The recent developments show that there is growing number of disputes between the countries; majority of them directly concerned with polices that considered to give advantage to one country at the expense of the others. Yin and McGee (2001) notes that during the 47-year existence of the GATT, there were altogether 236 dispute cases reported to GATT – an average of 5 cases per year. In contrast, there were 220 cases filed during the first six years of the WTO – seven times the annual average reported to GATT. It is reasonably to expect, that growing number of conflicts will eventually result in decrease of WTO operation efficiency, since it becomes increasingly more difficult to find a solution that meets requirements of all parties. Therefore, the surge in trade disputes raises concerns about the WTO’s ability to police world trade and to settle down conflicts. Nevertheless, Yin and Mc Gee (2001) argue that trade volumes, trade imbalances, trade dependence, and tariffs and non-tariff barriers are the main factors in disputes. In addition, countries with large trade volume, large trade imbalances, high trade dependence, or that have more measures protecting their market are more likely to be embattled in trade disputes than other countries. Consequently, growing conflicts between the countries might be naturally related to increase in trade activities.

While USA is accounted to be involved into majority of conflicts, role of the developing countered in WTO becomes increasingly important. According to Mattoo and Subramanian (2004) there are several challenges in accommodating developing countries in WTO. First small countries do not have much to offer to as trading partners; their opportunities to benefit from engagement into WTO the operations are quite limited. Second, the interests of these countries are only imperfectly aligned with liberalization of the multilateral trading system. Since, developing preferential access to the markets of the industrial countries, further liberalization of the trade and reduction of tariffs and barriers does not necessary increase access to these markets. The developing countries disputes are complicated by several factors. First of all, it is very difficult to measure effects the trade policies. Rose (2002) employed over sixty measures of trade policy and has been unable to find convincing evidence that membership in the multilateral trade system is associated with more liberal trade policy. While he acknowledges that that members of the system usually enjoy slightly more economic freedom using the Heritage Foundation’s index. Secondly, there is ongoing debate among academics on the effect of free trade on economy growth. Easterly (2002) provides an extensive overview of this topic, he presents theoretical argumentations on both sides of free trade debate. According to Easterly(2002), those opposed to free trade argue that since the price of primary commodities tends to decrease over the long run, countries should put up barriers to manufactured imports and thus stimulate the development of their own industries. Free trade opponents believe in the “infant industry” argumentation, which stresses that there is a learning curve to developing industry and allowing manufactured imports would decrease chances of domestic industry to compete fairly. Supporters of free trade believe that economies should focus on the specialization of their production. It allows countries to export products, which can produce more efficiently and import other products they are not good at producing. Finally, trade barriers distort prices which lead to inefficient allocation of the resources. While there are several empirical studies that support the link between openness and economic growth, a comprehensive study by Rodriguez and Rodrik (2000) discredits majority of them. Rodriguez and Rodrik (2000) show that “the indicators of ‘openness’ used by researchers are poor measures of trade barriers or are highly correlated with other sources of bad economic performance” and often, “the methods used to ascertain the link between trade policy and growth have serious shortcomings.” Furthermore Rodriguez et al (2000) argued that authors in this literature have used inappropriate indicators of trade policy, the selection of indicators was biased, and therefore the results tent to show statistically significant relationship between trade liberalization and growth. Another controversial argument is historical evidence. Rosenberg (2002) notes that United States, Germany, France, and Japan all became wealthy and powerful nations behind the barriers of protectionism, while South Korea and other East Asian countries successfully used trade barriers to create export industries and built local know-how. Furthermore, Weisbrot, Naiman, and Kim (2000) show that “eighty-nine countries experienced decrease in per capita rate of growth by at least five percentage points from the period 1960-1980 to the period 1980-2000, the latter period is widely referred as the area of globalization. For example, Dollar and Kraay (2002), argue that globalization which started in 1980 has helped to promote economic equality and reduced poverty. Considering complexity of the problem, it is reasonable to conclude that free trade does not necessary lead to economical growth and countries are not likely to benefit equally from reduction of the trade barriers. Supporters of more liberal world trade argue that it brings access to markets and cheaper goods and services. The growth in trade that follows benefits both consumers and workers by encouraging innovation and investment. Others take much more critical view, pointing out that move towards liberalization through bodies such as WTO is driven by rich countries. They believe the agreements reached serve the interest of multinational businesses and richer economies rather than indigenous producers in local economies. Therefore, further globalization of trade is likely to bring up new conflicts, as the trade volumes grow regulation of disputes becomes increasingly complicated, which is reflected in the collapse of the negotiations in Cancun 2003 and tense negotiations in Hong Kong 2005.

Finally, one of the most important questions is whether WTO is actually somehow related to the increase in the world trade. Rose (2003) stressed that GATT/WTO is not associated with substantially enhanced trade, once standard factors have been taken into account. Rose (2003) conclusion is based on analysis of gravity model, which is recognized by many practitioners as a useful tool for analysis of international trade. Rose (2003) give two possible explanations for GATT/WTO failure to promote trade. First is that GATT/WTO has not typically forced most countries to lower trade barriers, especially developing countries that have received “special and differential treatment. The second reason is that members of the WTO seem to extend most favored nation status unilaterally to countries outside the system, even though they did not have formal rights to do it. At the same time, Rose (2003) acknowledges that his analysis is based on assessment of GATT policies, and since WTO has more wide-reaching framework to resolve disputes about trade in goods, services, and intellectual property its impact on trade will be more substantial. Nevertheless, the recent research on the topic by Subramanian and Wei (2003) brings up new perspective on the subjects, according to their findings Rose (2003) analysis is incomplete and can be misread seriously. This conclusion was based on two grounds first of all Subramanian and Wei (2003) stress that econometric methodology should be refined to incorporate the country fixed effects identified by Anderson and Wincoop (2003). Secondly the non tariff barriers such as quantitative restrictions for the balance of payments should be taken into the account. Subramanian and Wei (2003) conclude that GATT/WTO has done a splendid job of promoting trade; membership in GATT/WTO is associated with 40% increase in imports for industrial countries. Nevertheless it is obvious that developing countries benefited to the far less extend.

Developing countries in the context of trade are at the bottom of the value chain. Perhaps an exception being the recent developments in service industries – particularly concerning I.T. In general they export low-value, primary products (e.g. metals, agricultural produce), whilst the developed economies trade in high-value products. Although, the WTO promotes the ideal of a level playing field in trade, developing countries make the case that the world trade system is stacked against them. They make the point that GATT barely touched barriers to developed countries’ markets in textiles and agricultural products, and challenge the WTO on protectionism. Developing countries make up more than 75% of the WTO membership, but the real muscle, as evident in many WTO adjudications, is exerted by the main trading nations/groupings (U.S., E.U., Japan).

Discussion made above in context to issues with WTO is of prime importance but there could be few more issues in this context which cannot be neglected. Such as the issue of labor standards is one of the most controversial issues. The WTO is accused of casting blind eye exploitation of labor and of undermining efforts to protect the health and safety of the workers. Human Rights group and International Labor Organization (ILO) are pressing for action in form of multilateral agreements on labor standards. The debate at WTO is whether WTO is the right vehicle for enforcing labor standards, and what effect such action would have on the competitive advantage of labor-intensive industries. The WTO is now in discussions with ILO on enforcing the core labor standards.

Another contentious issue for the WTO is that of environmental protection and trade policy. Several high profile cases on import bans for environmental reasons have been lost recently. The view held by many countries is that the WTO is not sufficiently sympathetic to the environmental issues. Those in favor of trade liberalization argue that environmental issues should be dealt with by proper labeling giving consumer the choice.

As it follows from the above discussion, GATT/WTO played an important role in the world trade. Nevertheless, it is very difficult to evaluate the contribution of GATT/WTO to promotion of free trade in real numbers. Furthermore, it is important to stress that free trade does not ultimately leads to economical growth or creates value itself. Therefore, WTO attempts to manage highly sensitive issue, since countries are likely to promote free trade when they can somehow benefit from it and negotiate on tariffs and barriers whenever they aim to protect their own markets. Finding the right balance while accommodating WTO member’s requests becomes increasingly difficult as the number of disputes continues to grow. Therefore, WTO success will largely depend on the ability to offer a flexible framework, which would be able to consider positions of different parties involved into negotiations.