Managing Global Integration and Interdependence

1. Jörg Mayer Division on Globalisation and Development Strategies UNCTAD UNCTAD Training Course on Key Issues on the International Economic Agenda Topic 1: Managing Global Integration and Interdependence Geneva, 26 February 2007 Balancing national policy space and multilateral disciplines

2. Outline of the presentation • Why is “national policy space” an issue? • The concept of national policy space • The rationale for multilateral disciplines • Current multilateral disciplines, systemic coherence and asymmetries • International monetary and financial disciplines • WTO-related disciplines • Conclusions

3. The international community recognized through the Sao Paulo Consensus (UNCTAD XI in 2004) and the World Summit (2005) that: “The increasing interdependence of national economies in a globalizing world and the emergence of rule-based regimes for international economic relations have meant that the space for national economic policy … is now often framed by international disciplines, commitments and global market considerations. It is for each Government to evaluate the trade-off between the benefits of accepting international rules and commitments and the constraints posed by the loss of policy space.” 1. Why is national policy space an issue?

4. The tension between international integration and national policy flexibilities is hardly new • Richard Cooper (1968): “The central problem of international economic cooperation … is how to keep the manifold benefits of extensive international economic intercourse free of crippling restrictions while at the same time preserving a maximum degree of freedom for each nation to pursue its legitimate economic objectives.” • Key issue is the balance between national policy space and multilateral disciplines.

5. The tension between international commitments and national policy flexibilities has intensified • Progressive liberalization of capital, financial and trade flows and increasing role of transnational firms have weakened impact of national policies; • Spread of democracy – citizens of democracies more easily oppose ceding authority to unelected international bodies; democratic governments hold greater moral sway with international community; • Economic reform agenda implying limited role for national authorities has not accelerated economic development – desire for more proactive policies; • Scope of multilateral disciplines has become larger, particularly through ‘trade-related’ UR agreements.

6. 2. The concept of national policy space • Instruments-targets approach (theory of economic policy): • there need to be at least as many effective instruments as there are independent policy targets in order to have full control over national economic development (Tinbergen). • National policy space is the interface between national policy autonomy and sovereignty: • sovereignty is the formal ability of states to make own decisions; • policy autonomy is the effectiveness of domestic policy instruments in achieving national targets. • The attainment of policy targets can be obviated by a reduction in the • number of available instruments (reduced sovereignty); • effectiveness of the instruments (reduced autonomy).

7. International integration andnational policy space • Economic openness implies a de facto weakening of policy autonomy (though virtually never perfect), i.e. effectiveness of instruments in achieving targets; • International rules and commitments reduce the de juresovereign control over policy instruments; • International integration improves policy effectiveness: • De facto: e.g. access to foreign technology improves effectiveness of policy aimed at building supply capacity, and export performance requirements improve effectiveness of industrial policy; • De jure: e.g. multilateral surveillance over exchange rates improves monetary policy independence.

8. International integration affects national policy space through several forces that pull in opposite directions

9. “Optimum” degree of integration is country specific • Depends on strategy for international integration: • Rapid and broad; • Gradual and selective; • Depends on nature of international disciplines; • Optimum differs across countries (size, production pattern, institutional maturity, etc) and across areas (financial integration after trade integration, etc) • Attaining optimum depends on bargaining power: • Countries with less economic weight often experience greater net reduction of sovereignty, particularly in bilateral agreements with developed countries.

10. 3. The rationale for multilateral disciplines • Multilateral rules imply voluntary reduction in sovereignty in expectation of net benefit; • Meant to manage interface between different national systems, rather than harmonization. • Countries that feel disadvantaged can stay out and conduct international relations on bilateral basis, but this is not advisable for weak countries. • Principles of reciprocity and non-discrimination of multilateral rules give weak countries better protection than bilateral agreements.

11. Global interdependence is the main rationalefor multilateral disciplines aimed at • Minimizing global public ‘bads’: • Adverse spillover effects: financial contagion; • Negative externalities: beggar-thy-neighbour policies; • Regulatory arbitrage: excessively liberal financial standards or tax policies may cause business migration. • Maximizing global public goods: • Collective trade liberalisation secures reciprocal market access, while unilateral liberalisation may cause balance-of-payments problems; • Multilateral stabilization of capital flows and exchange rates improves stability of international financial flows.

12. 4. Current multilateral disciplines, systemic coherence and asymmetries • There is no quantifiable single balance between multilateral disciplines and national policy autonomy; • Current system of global economic governance suffers from two asymmetries: • Multilateral arrangements for international trade but not for monetary and financial relations; • Legally equal constraints may be economically more constraining for developing countries. • In qualitative terms and from development perspective: • Need for tighter disciplines in money and finance; • Reconciling disciplines with policy flexibilities in trade.

13. 4a. International monetary and financial disciplines • No multilateral disciplines on exchange rates; • IMF can discipline exchange rate policies only in countries borrowing from IMF; • Surveillance has little impact on non-borrowers; • Borrowers subject to conditionality affecting macroeconomic and structural policies; • IMF has no leverage over short-term capital flows that often cause exchange-rate misalignments and global imbalances; • Need for disciplines on short-term capital flows: multi-lateral exchange-rate management and/or controls.

14. 4b. WTO-related disciplines • Widespread belief that trading rules reduce policy space required by developing countries to pursue the most effective development policies; • Often focus on ‘trade-related’ Uruguay Round agreements that aim at regulatory harmonization; • A key question is whether legally equally binding rules impose in economic terms more binding rules on developing countries; • Bilateral and regional agreements with US or EU often include additional steps towards regulatory harmonization (e.g. TRIPs-plus agreements).

15. An illustrative list of WTO rules (1) • Trade-related investment measures (TRIMS): • Prohibits performance requirements applied differentially to domestic and foreign producers; performance requirements on foreign investors can foster linkages and technology transfer particularly in international production networks; • Allows granting licenses to foreign investors contingent on technology transfer, establishment of intermediate input production, etc – but key question is leverage over foreign investors.

16. An illustrative list of WTO rules (2) • Trade-related aspects of intellectual property rights (TRIPS): • Restricts reverse engineering and other forms of imitative innovation; • Asymmetry because IP governed by binding rules, while commitments to technology transfer are phrased in terms of ‘best endeavour’; • Allows granting narrow patents (enabling ‘minor’ innovations) and compulsory licenses (non-voluntary licensing of patented inventions).

17. An illustrative list of WTO-rules (3) • Agreement on Subsidies and Countervailing Measures: • Prohibits specific subsidies, e.g. those conditional on export performance or use of domestically produced goods. They played an important role in East Asia’s catching up including as a reciprocal control mechanism; • Does not prohibit (but in 1999 made actionable) subsidies for research, regional or environmental objectives (and does not affect subsidies in agriculture); • Hence, categorisation of subsidies favours pushing out technology frontier rather than catching up; • Moreover, budgetary constraints limit subsidization; • Possible way forward: aggregate limits to subsidies but flexibility in allocation among firms and economic sectors.

18. An illustrative list of WTO rules (4) • Industrial tariffs: • WTO-disciplines on industrial tariffs do not impose major constraints on commercial policies as UR-agreements left substantial flexibilities: • Reduction agreements regarded averages, but left freedom to choose product lines to be bound and extent of tariff reduction for each product line; • Current negotiations on NAMA aim at low and uniform tariffs with full binding coverage, but this pays little attention to impact of tariff policy on investment and technological upgrading.

19. Reduced flexibility to use other instruments has increased relative importance of tariffs • Tariffs are not the best tool to promote investment and technological upgrading, but: • were widely used in past development experiences; • are an important source of fiscal revenue for many low-income countries. • Need for flexible tariff policy: • maintaining bound tariffs at relatively high levels; • modulating applied tariffs on particular sectors around relatively lower levels; • requires tariff reduction obligations to extend only to average tariffs, rather than to individual tariff lines.

20. 5. Conclusions • The tension between international integration and national policy flexibility is affected by several forces that pull in opposite directions; • Current system suffers from lack of coherence and asymmetries biased against developing countries; • Multilateral disciplines in trade constrain use of some traditional support policies – this makes flexible tariff policy relatively more important; • Developing country governments must use remaining degrees of freedom and prevent further limitations of their national policy space.

21. Some developing countries’ tariff regimes allow modulating applied tariffs Applied tariffs, bound tariffs, binding coverage, most recent year, per cent

22. Stylized representation of open-economy support polices