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posted on 16 May 2017

Trading Progress For Equality In The Global Economy

from STRATFOR

-- this post authored by Mark Fleming-Williams

The nature of global trade is shifting once again. For two decades, the World Trade Organization (WTO) has been locked in a stalemate between the wealthy north and the poor south as countries on either side of the global divide fail to find room for compromise. But now that seems to be changing, and new alliances are being made across age-old battle lines. Unfortunately for free trade advocates, this doesn't necessarily signal forward motion in global trade talks. Instead it will likely slow negotiations even further as two factions are replaced by many, giving rise to an increasingly multipolar world in which multilateral trade deals are even harder to come by.

The change underway was on full display last week during a meeting of the WTO's General Council. At the May 10 event, India caused an international uproar by blocking discussion of the meeting's agenda after charging that the "investment facilitation" items several countries had submitted were outside the organization's remit. That the move caused consternation, or that it came from India, was not unusual. But the players facing off against one another in the debate were. On one side, the developing nations that had proposed the items - China, Brazil and Russia - lined up next to their developed counterparts, Japan and the European Union. On the other, India likewise had the support of members from different economic circumstances, South Africa and the United States. Should countries continue to cross the historical divide between the developed and developing worlds, it could dramatically reshape global trade as we know it - and not necessarily for the better.

The Phases of Global Trade

To understand the new phase of global trade that lies ahead, it's important to first understand those that came before. The history of the WTO and its predecessor, the General Agreement on Tariffs and Trade (GATT), can broadly be broken into two. The first phase, running from the GATT's creation in 1947 to its culmination in 1994, was a period of achievement and progress in which successive rounds of talks brought steep reductions in tariffs among the world's biggest economies. By contrast the second phase, which began when the WTO was founded in 1995, has been characterized by disharmony and dysfunction. In fact, the only notable achievement to be made in global trade over the past 22 years has been the fairly minor Trade Facilitation in Goods Agreement, which entered into force in February.

This binary history of success and failure in trade negotiations largely has to do with the major economies involved in them.

Fifty years of progress under the GATT was made by a handful of key decision-makers: The world's largest developed economies got together and settled tariff cuts before announcing them to the rest of the world. At the time, the global economy was split among the First World (Western industrialized economies led by the United States and the still-integrating European Union), the Second World (the Soviet sphere of influence that stood apart from the rest) and the Third World (nations battling poverty). The First World liberalized trade, using capitalism as a weapon against the Second World, while the Third World reaped the benefits of greater market access that its GATT membership afforded, despite being mostly exempt from the tariff-slashing itself. In the words of former WTO Director-General Pascal Lamy, "In the old days, getting a new round launched and indeed agreed was simply a question of aligning EU and U.S. objectives, sidestepping the odd row about agriculture, signing up the rest of the world, and catching the next plane home."

By 1994, however, things had begun to change. The Soviet Union had collapsed three years prior and developing countries like China had seen rapid growth for over a decade, redrawing the map of global trade. Richard Baldwin explains the reason for this shift in The Great Convergence, arguing that just as the Industrial Revolution fueled the G7's rise, the Information Revolution drove the developing world's resurgence. He notes that in the 19th century, technological advances in steam power tore down barriers to transportation, allowing fantastically wealthy production clusters to spring up in Europe, North America and later Japan. These clusters formed because barriers to the movement of information and people were still in place, which meant that proximity to innovative ideas - and the individuals having them - was the critical advantage enabling the G7 to easily outcompete the rest of the world.

One of those barriers began to come down in the 1980s as the Information Revolution unfolded. Technological advances in fields like computing and telecommunications erased the obstacles left to the movement of information, allowing production to take place far from sites of innovation. Manufacturing networks shifted to locations where inputs, such as labor, were the cheapest. The distribution of wealth shifted in kind: Between 1820 and 1990, the G7's share of global income rose from 20 percent to nearly 67 percent, but that figure has fallen ever since, now dipping below 50 percent.

The Dawn of a New Era?

When it comes to global trade negotiations, money is power, so this transfer of wealth automatically gave the nouveau riches a better seat at the table. At the same time, the G7 began to expect more from its former charity cases in the developing world. The net result was the coining of a new label for the globe's fastest-growing economies - "BRICS" - and the launch of a new round of WTO negotiations intended to engage with the developing countries previously exempted from them.

But the 2001 "Doha Round" got off to a rocky start as countries like India, which had seen strong growth but were still very poor compared with their Western counterparts in terms of GDP per capita, proved unwilling to negotiate. When WTO members reconvened in Cancun two years later, the Old Order led by the United States and Europe clashed with the New as the conglomeration of emerging economies, led by Brazil and India, demanded greater access to developed markets without offering the same access in return. A stalemate emerged between the two, and it endured for more than a decade.

The WTO never really managed to move past the Cancun dispute. One of its biggest hang-ups centered on the "Singapore Issues," named for their emergence during the organization's first ministerial meeting in Singapore in 1996. These issues indicated four areas that the European Union particularly wanted to liberalize among its developing peers to encourage more open markets. Two of them would ultimately come to play major roles in multilateral trade talks: Investment Facilitation, which was meant to remove some of the regulatory barriers to multinational companies' investment in developing markets, and Trade Facilitation for Goods, which would cut through customs red tape and increase efficiency in trade.

The first was a non-starter at the time, since it was widely perceived as a constraint on the policy options of countries that received foreign direct investment. (By definition, governments would be constrained by having to make room for the rights of foreign investors, rather than only their own interests.) Trade Facilitation for Goods, however, was considered a public good and an idea everyone could get behind. Yet in the end, both proposals - along with the remaining Singapore Issues, the agricultural sector, and attempts to drop tariffs on manufactured goods - were stalled by the surly stare-downs that continued to plague the WTO.

In 2013, a ministerial meeting in Bali brought a glimmer of hope. A new director-general who saw the need for an easy win managed to break the WTO stalemate long enough to push through a deal on the fourth and least controversial Singapore Issue: Trade Facilitation for Goods. The agreement wasn't much, but it was a step in the right direction, and the first clear achievement the institution had made since its founding.

China: The Champion of Investment

The Bali success was supposed to herald a new era of cooperation in trade. And the baton was picked up by a player many may find surprising: China, the heaviest of heavyweights among developing nations. Beijing chose to use its G20 presidency to re-energize trade negotiations, focusing on the most controversial of the Singapore Issues: Investment Facilitation. The turnaround, in which a developing country took charge of global liberalization efforts, was a product of China's persistent growth at the leading edge of Baldwin's wealth convergence wave. Decades of rising goods exports (and their accompanying capital imports) have yielded a capital-heavy country that now seeks outlets abroad for investment, much like the European Union and United States did 15 years ago.

Since 2001, China's foreign direct investment has jumped from $7 billion to $146 billion, making it the second-biggest source of such investment in the world. And it isn't alone in its ascent. While foreign direct investment flows from the developed world have doubled over the same period, funds from emerging markets have nearly quadrupled. But developed countries have not always been willing to receive investment from China and its cash-flashing peers, and many have blocked transactions or thrown up new barriers to foreign funds citing national security concerns over the past decade. Thus, it came as little surprise in July 2016 when G20 members signed a document promising a clear commitment to pursuing Investment Facilitation. If Germany keeps this momentum going under its current presidency, the approaching WTO ministerial meeting in December could see signs of real progress on the matter.

At least, that was China's hope. But like so many best-laid plans, it has gone awry. Germany has played its role as expected, and it has tried to discuss the issue in the G20 trade and investment working groups preparing for the major summit in Hamburg in July. The country's attempts, however, have been repeatedly shut down - not only by the usual suspects, India and South Africa, but also by the United States.

Washington's views on accepting foreign direct investment have darkened in recent years. As new sources of funding abroad have sprung up, so too have fears for national security reminiscent of the 1980s, when Japanese investments caused consternation among the American public. In 2005, the U.S. government stepped in when a Chinese oil company tried to acquire an American competitor. Two years later, the Foreign Investment and National Security Act then restricted foreign investments in the United States, and in 2012, a presidential veto - the first of its kind in 22 years - halted a Chinese windmill project in Oregon.

Meanwhile, U.S. administrations hoping to widen their tax bases have viewed foreign direct investment with mounting suspicion. It isn't uncommon for U.S. companies trying to escape corporate income taxes to arrange takeovers by firms located in more favorable tax climates, such as Ireland. The new administration of President Donald Trump, moreover, has shown a clear aversion to multilateral trade negotiations, believing bilateralism to be sure path toward outcomes more favorable to the United States. Taken together, these sentiments have given Washington more and more reason to block the Investment Facilitation initiatives of China and its peers.

The Next Phase, Worse Than the Last?

Whatever the reasons, the result is the same: The WTO now has many loud stakeholders clamoring for different agendas. And in this new world, friendships don't seem to last long. A month before the United States and India joined forces against Investment Facilitation, the two had a public row over agriculture that prompted New Delhi to accuse the American delegate of using unparliamentary language. Meanwhile, India's own plan for Services Facilitation has been welcomed by developed actors like the European Union and Canada, but sharply criticized by its longtime allies, South Africa and Uganda. Europe, for its part, along with Japan is trying to draw attention to new issues such as e-commerce and the digital economy to keep the WTO up to date on the latest economic developments. But they, too, are encountering pushback from least-developed countries that prioritize agricultural subsidies above all else. On every issue, then, the same voices seem to have different opinions as the global web of competing interests becomes ever more tangled.

None of this bodes well for the future of trade negotiations. If Phase One saw the G7 paternalistically settling deals and handing them down to junior partners, and Phase Two saw those junior partners reach a level of maturity and coordination that allowed them to push back, then Phase Three may offer even more opportunity for dysfunction. The ongoing development of former Second and Third World countries is evening the playing field at the top, further eroding the structures and customs that once held the system together. Groupings like the BRICS, which emerged in solidarity against the world's wealthy north, are now split on issues that have forced its members to ally with their one-time adversaries in the developed world against one another. What was once a two-sided battlefield now has many fronts, and alliances can be rapidly made and broken as each party looks to simultaneously serve its own interests on several issues.

Under these circumstances, it's hard to see how consensus-based organizations like the WTO and GATT can make any further progress.

Of course, a world without multilateral deals doesn't mean the end of trade. Instead the lattice of smaller trade agreements will keep expanding as each nation strikes deals that meet its needs and avoids those that do not. This environment will be less favorable for smaller players, which stand to gain from the more open markets that multilateralism encourages. It also won't do much for trade efficiency in general, as different agreements and trade regimes make it harder for goods and services to cross borders. So, while the negotiating table may be becoming more egalitarian, as history has shown it sometimes takes hierarchy to get things done.

"Trading Progress for Equality in the Global Economy" is republished with permission of Stratfor.

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