International Trade as Engine of Growth

1. International Trade as Engine of Growth Uri Dadush Director, International Trade Department The World Bank June 13, 2003

2. Outline • Trade and foreign direct investment (FDI) are important for Madagascar • Global trends in trade and FDI, and how Madagascar compares • Policies and institutions important for trade and FDI—lessons from Integrated Framework • Way forward for Madagascar

3. Why is trade important for Madagascar? • Tap into global markets • Madagascar is a small player in a large and increasingly globalized world (world economy is almost 7000 times the Madagascar economy, and almost 100 times all of SSA together) • Doha agenda • “Development” now given center stage in multilateral trade talks • Technical assistance provided by developed countries (under the Integrated Framework)

4. The role of foreign direct investment (FDI) in trade • Key role in trade in services • Key role in setting up supply chains across countries—an increasingly important feature in global trade • Madagascar needs much more FDI to sustain exports and growth; this requires reforms identified in IF

5. Trade has become more important in all regions Trade (exports plus imports) as share of GDP (real)

6. Developing countries as a group have increased their share of the global market... Share of developing countries Percent

7. ..gaining share essentially in manufacturing.. Percent US$ millions Share of developing countries (lhs)

8. ...but the poorest countries have fared badly Increase in world market share, percentage points, 1991-99 Exports of non-energy goods

9. Poorest countries have failed to gain world market shares.. • Continued dependency on agriculture and labor-intensive manufactures, exports of which have not kept pace with world trade growth because of: • High tariffs in developed countries • Tariff escalation in developed and developing countries • Distorted global agricultural trade including high levels of domestic support to agriculture • Restrictions on textile and clothing exports • Domestic supply constraints • Border and “behind-the-border” barriers

10. Why does it matter? Integration with global markets is associated with faster growth Average annual per capita growth, 1980-99 Decreasing export share in GDP Increasing export share in GDP

11. FDI to developing countries(US$ billions) FDI to developing countries Global FDI Source: GDF 2002

12. FDI is increasingly important in developing country economies FDI as a share of GDP, in percent

13. Significant trade liberalization over the last decade Average unweighted tariffs, in percent

14. Trade liberalization is not enough..(1) • Requires supporting environment and institutions: • Sound governance • Macroeconomic stability • sound fiscal framework • stable and competitive real exchange rates

15. Trade liberalization is not enough..(2) • Some governance issues in Madagascar: • low capacity of the legal system to guarantee contracts and effectively impose sanctions in the event of litigation, constraining private sector access to finance, inhibiting investments and exports • Excessive use of discretionary measures resulting in unstable and unpredictable rules, overlapping and contradictory legislation, all of which discourage investment and trade

16. Remaining trade reform agenda • Issues and lessons emerging from the diagnostic studies under the Integrated Framework: • Unfinished trade liberalization • Regionalism • Institutional capacity • Behind-the-border (customs, transport, other infrastructure, supply chain logistics) • Trade and poverty

17. Unfinished liberalization (1) • Cascading tariffs resulting in high effective protection • Madagascar needs to reduce tariff dispersion; most imports come in either at 5 percent or 30 percent (the minimum and maximum tariffs) • Higher protection in agriculture and labor-intensive manufacturing (in developed and developing countries)

18. Unfinished liberalization (2) • Incomplete services liberalization • Trade in services becoming much more important for developing countries • Madagascar has high potential in trade in information technology (data processing) and tourism

19. Services liberalization Services liberalization index Financial services Telecoms Greater competitiveness

20. Rising Regionalism (1) • Proliferation of bilateral, regional and preferential trading arrangements (RTAs) • Generally inferior to multilateral free trade although there could be benefits: • Larger markets than otherwise • Can help accelerate trade and investment reforms (especially North-South arrangements)

21. Rising Regionalism (2) • Benefits from preferential trade agreements have sofar been limited (e.g. AGOA, EBA, Cotonou) • Often only small shares of LDC export baskets eligible for preferences • Complicated and administratively-burdensome rules of origin requirements

22. Rising Regionalism (3) • Madagascar—AGOA has complicated customs services: • nearly one-fourth of customs resources are devoted to checking conformity of transactions to the AGOA rules • Special service employed by customs is counterproductive, penalizing regular operators and benefiting semi-illegal operators • Physical inspection approaching 100 percent and supplemented by “audits” of manufacturers’ facilities to review export/import documentation

23. Weak institutional capacity • Policy-making capacity • Public-private dialogue • Governments need to work with industry associations and producer groups • Export support institutions (export promotion agencies, duty drawback schemes, business development services, etc.)

24. Key “behind-the-border” agenda (1) • Customs • Lengthy clearance times and weak risk assessment capacities • Informal fees • In Madagascar • recent improvements—adopting ASYCUDA and expected adoption of preshipment inspection • Serious problems remain—low use of information technology; abuse of physical inspection, excessive delays in customs clearance

25. Key “behind-the-border” agenda (2) • High transport costs need to be addressed: • Increasing domestic competition • Revisiting airfreight policy and landing rights • Dealing with intra-country corridor arrangements • Infrastructure investments • For Madagascar • transport costs for children’s clothes exported to Paris are one-third higher than those from Sri Lanka • reducing connection costs for information technology sector would allow sector to boom

26. Trade and Poverty (1) • Agricultural trade important for poverty reduction • 77 percent of rural households live below $1 a day in Madagascar • External constraints to agricultural exports • high protection and support of farmers in rich countries reduce world prices • Domestic constraints to agricultural exports • Transportation • Post-harvest marketing infrastructure • Water control infrastructure • Quality and standards • In Madagascar, government control of sugar and cotton industries resulting in subsidies have negatively affected the agro-food sector

27. Trade and Poverty (2) • Poor domestic market integration reduces benefits of global integration to the poor • Transportation bottlenecks • Informal fees and internal check points • Studies and experience of Malagasy companies show that investments in basic infrastructure increases economic output

28. Trade and Poverty (3) • Need to strengthen social safety net • Madagascar needs to restructure public expenditures towards pro-poor expenditures—social sectors and infrastructure

29. Way forward for Madagascar • Anchor FDI in Export Processing Zone • Particularly urgent in light of abolition of MFA in 2004 that reduces value of preferential schemes and hence attractiveness of Madagascar as production base • Requires customs reforms • Restructure public expenditures towards pro-poor expenditures (social sectors and infrastructure) • Streamline legal and regulatory framework for firms