Do Free Trade Agreements Promote a Free Trade Agenda?

WASHINGTON, JULY 1, 2008--Jagdish Bhagwati's newest book, Termites in the Trading System: How Preferential Agreements Undermine Free Trade, argues that the proliferation of preferential trade agreements (PTAs) has been "a pox on the world trading system." He identifies any trade agreement that "reduced trade barriers for members of the trade agreement but not for non-members" as a PTA, and he includes free trade areas (FTAs), customs unions, and other "partial preferential reductions of trade barriers" in this classification. 

Bhagwati sets out to correct the widely held impression that "one should liberalize in any way whatsoever." In a presentation at the American Enterprise Institute on June 26, Bhagwati--a professor at Columbia University and an adjunct scholar at AEI--discussed the role of PTAs in the world trading system and painted a dark picture of the future of the world trading system if the international trend towards PTAs is not curbed.

Rather than promoting freer trade practices, Bhagwati said, PTAs undermine the free trade agenda in a number of ways:

• Trade Diversion. By lowering trade barriers for member nations, PTAs create a bias toward importing goods from those nations over nonmembers that could more efficiently produce the goods. As such, "world welfare" is decreased.
• Trade-Unrelated Issues. The proliferation of PTAs is self-reinforcing, as nations that are not included fear having their goods locked out, particularly by large trading partners like the United States and the European Union. These asymmetric trade negotiations tend to lead the "hegemonic" nation to force the weaker nation into concessions in trade-unrelated areas, such as labor and environmental standards. These issues are frequently poorly disguised protectionist measures and are included in order to pacify domestic special interests. As these large powers know that they can extract these concessions in bilateral negotiations--but not multilateral negotiations--there is strong political pressure to circumvent the World Trade Organization (WTO) and the multilateral trade regime in favor of PTAs.
• Systemic Chaos. With each PTA comes a new addition to a long list of different tariff rates and trade regulations for each trading partner. According to Hong Kong businessman Victor Fung, "In each new bilateral agreement, considerations related to ‘rules of origin' multiply and become more complex. . . . While larger companies have a hard time keeping track, for small groups it is impossible. Bilateral agreements cause the business community to work below its potential."

Brian Hindley of the European Centre for International Political Economy argued that Bhagwati severely underestimated the importance of politics in trade issues. In response to Bhagwati's claim that "free trade agreements" give politicians the erroneous impression that they are pursuing a politically desirable free trade agenda, he said, "I see virtually no evidence that politicians in the world wish to pursue a free trade agenda." He offered a number of other motives for entering into free trade agreements, including peace promotion and geopolitical balance. Hindley pointed to preferential trade agreements in Central Asia and the Arab world as examples of PTAs passed for purely political motives, as the minuscule trade levels between Middle Eastern and Central Asian countries mean that these agreements have little actual economic effect.

AEI resident scholar Philip I. Levy disagreed with some of Bhagwati's conclusions as well. He took issue with Bhagwati's implication that PTAs are either "foolish or venal." Levy discussed a number of motivations for nations to enter into preferential trade agreements. "Free trade agreements [are] a means of locking in economic reforms," Levy said, "and signaling to the world that you would like to attract investment and you're worthy of investment."

Levy also argued that, given the intimate link between trade and investment policy, an important reason for the proliferation of PTAs has been the failure of the WTO to address these issues on a multilateral stage. As such, Levy commented that some of those issues--including investment, health and safety, and services trade--that Bhagwati seems ready to dismiss as "trade-unrelated" are not peripheral to trade negotiations. AEI resident scholar Claude Barfield agreed: "Many of the trade [fights] are not about tariffs . . . but the real place of negotiation is inside the border, it's domestic regulatory [issues]. . . . Nations are willing to experiment on bilateral level in ways that they are not willing to do if they take on the entire apparatus of the WTO. . . . They are not willing to take on the whole world."

All of the speakers, however, agreed that all trade liberalization is not created equal. Any reduction in of trade barriers is not as good as any other. The economic and political impact of PTAs deserves careful consideration, and Termites in the Trading System may provide historical context and theoretical depth to the growing debate among politicians and economists over PTAs.

--SCOTT GANZ

For video, audio, and more information about this event, visit www.aei.org/event1747/. For information about Bhagwati's book, visit www.aei.org/book936/.

For more information about AEI scholars' work on international trade, visit www.aei.org/trade/.

For media inquiries, contact Véronique Rodman at 202.862.4870 or vrodman@aei.org.

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