Do free trade zones undermine capitalism?

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Article Highlights

  • Problems with FTZs can discredit free trade and regulatory reform by equating the free-for-all of cowboy capitalism with free markets.

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  • Panama’s Colón Free Trade Zone is one of the busiest FTZs in the world and is a beehive of illicit activity.

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  • Colombian cartels use FTZs to funnel cocaine revenues to Hezbollah in exchange for protected access to Middle East drug consumers.

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Global free trade negotiations have been stalled for two decades. Most political effort has been on more limited unilateral fixes – notably the creation of free trade zones (FTZ) to smooth the multi-stage, multi-country supply chains that have come to dominate commerce in industrial goods. There are 3,500 free trade zones worldwide, the majority in emerging economies, where most national regulation is suspended. Policymakers typically promote them as a means of job creation, but the real purpose is to liberalise markets hindered by interest group conflict, local government corruption or ideological rigidity. Zones are often established in the poorest parts of countries that would otherwise languish for lack of home to multinational manufacturers producing goods such as clothing or consumer electronics, or to firms repackaging products such as cigarettes and pharmaceuticals for re-export. Thus FTZs may speed local development, as well as signaling the advantages of free markets to other localities within the country: think of the “special economic zones” in which Deng Xiaoping introduced capitalism to post-Maoist China.

The downside

FTZs sometimes make it possible for autocratic regimes to perpetuate illiberal societies – for example, North Korea – by using them to generate desperately needed foreign exchange. More commonly, FTZs can become havens for smugglers, money launderers and terrorists in search of hard currency. And these problems can discredit free trade and regulatory reform by equating the free-for-all of cowboy capitalism with free markets. A few zones in rich countries, such as the St Regis-Mohawk Reservation in New York State that serves as a major transit point for smuggled cigarettes, illustrate the downside. But for the most part, highly industrialised countries manage to maintain civil institutions and the rule of law without undermining their attraction to investors. The same cannot be said for developing countries, particularly those with weak political institutions. Panama’s Colón Free Trade Zone, with close proximity to the Panama Canal, is one of the busiest FTZs in the world and is a beehive of illicit activity. The Panamanian military has been known to collude with importers seeking to evade regulation, getting a cut of the savings on goods otherwise subject to stiff tariffs. More ominously, it has co-operated with smugglers to transport weapons and illicit goods to private militias across South America that mix radical politics with crime. Colombian cartels and Paraguayan criminals use multiple FTZs to funnel cocaine revenues to Hezbollah in exchange for protected access to Middle East drug consumers. Perhaps not surprisingly, organised crime often fills the power vacuum left by the absence of regulation. Aruba became a haven for the Sicilian-based Caruana-Cuntrera family, which controlled 60 per cent of all property on the island in the early 1990s. It was an ideal waypoint in the American-European narcotics trade. By the mid-1990s, Aruba’s reputation had also made it a no-go zone for legitimate foreign investors wishing to avoid guilt by association. Under pressure from multinational corporations (and foreign governments) the Aruban government finally had the backbone to overhaul its laws. The Jebel Ali FTZ in Dubai is one of Europe’s largest sources of counterfeit goods. In 2008, the year I visited the zone to investigate the fake pharmaceutical supply chain, 15 percent of cases of seized counterfeits at EU borders were in transit from the United Arab Emirates. FTZs also facilitate the packaging and rebranding of pharmaceuticals not licensed by the patent holder, leading to uncertain provenance and hence concerns about quality. Zones in China are also regularly implicated as transit points for bogus drugs traded over the internet.

It doesn’t have to be this way

As noted above, Aruba eventually stood up to entrenched interests, implementing comprehensive background checks, tightening oversight of incoming and outgoing shipments and maintaining better inventory controls. In fact, as Aruba’s FTZ became legitimate, it also became more prosperous; it is now the preferred venue for Venezuelan investors seeking relief from their country’s corrupt, regulation-bound government. Aruba still has problems with inventory management, but the turnaround shows that developing country FTZs are not beyond the influence of western interests, authorities and multinational corporations.

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