Transaction Costs and Trade Facilitation in South Asia

1. Transaction Costs and Trade Facilitation in South Asia Upali Wickramasinghe Professor, Department of Economics, University of Sri Jayewardenepura Prepared for the Expert Meeting on the Regional Integration in Asia on Fostering Trade Through Private-Public Dialogue, New Delhi, India, 28-29 2007, organized by the International Trade Centre, Geneva and ICRIER – New Delhi

2. Outline • Framework of analysis • Transaction costs (TC) • Trade facilitation (TF) • Minimizing TC through TF • South Asia’s current situation

3. Transaction Cost & Trade Facilitation Pb B TC A B Ps Trade Facilitation, Market Efficiency

4. Major components • TC = Pb – Ps – A • A = Necessary costs • B = Unnecessary costs • Our target: unnecessary costs, arising from various market inefficiencies • Understanding these sources is critical for policy reforms

5. Learning from the Literature • Coase (1937): Theory of the firm • Firms are there to minimize transaction costs of the market mechanism • What are transaction costs of the market mechanism? • discovering relevant prices (this could be reduced but not eliminated) • costs of negotiating and writing enforceable contracts for each exchange transaction, which can be large if there is uncertainty • Renegotiation of contracts from time to time because of inherent uncertainty of the future

6. Elements of TC • Obtaining information about foreign trading partners and regulations • Verifying the credibility of new trading partners • Negotiating and screening of potential buyers / sellers • Coordinating and monitoring contractual arrangements

7. Elements of TC • Ensuring against ‘sovereign risk’, since property rights cannot be easily enforced in the international arena • cost of customs procedures • cost of corruption

8. Individual-Specific TCs • Some TCs vary by individuals due to differences in: • Available information set; Search; Capacity to take risks; Access to networks • Results: • Individuals attempt to min. TC, resulting in the emergence of various institutional mechanisms including the emergence of firms in handling TCs, bribery and corruption (Coase, 1937; Alchian and Demsetz, 1972; Hoff and Stiglitz, 1990; North, 1990) • Reductions in TCs also affect the structure and performance of organizations • Heterogeneous market behavior (Bardhan,1989; Sadoulet and de Janvry, 1995

9. Product-Specific TCs • Examples: TCs for cars and vegetables are not the same • Vegetables: • Meet phytosanitary procedures, such as treatment, inspection, or storage costs during quarantine • Food safety • Environmental regulations • Cars: • Information • Risk • Financial constraints • Environmental regulations

10. Why do TCs arise? • Information: • Space and time • Information asymmetries • Risk and Uncertainty • Coordination of economic activities • Differences in legal systems, which makes it difficult to enforce contracts • Regulatory regimes • ‘Trust’ among importers and exporters

11. Transaction cost in a broader perspective

12. Transport • Transport costs + Transport cost incidence (share of international shipping costs in the value of trade) outweigh tariff in many developing countries (World Bank, 2001) • Transports costs are particularly high for low-value products, which are produced by developing countries, and land-locked countries • Sea freight for cargo loaded in Asia have not fallen but loaded in the west have

13. Transport • South Asia is well endowed with ports numbering 250, and 25 of them ports are in operation (RSI, 2005) • The efficiency of the ports measured in the speed of handling cargo in South Asia is still low in comparison to East Asia • Areas that need improvement in South Asia: • Maritime cargo handling • storage facilities • fuelling and watering • repair facilities • Transport problems of land-locked countries are severe – need attention to multi-model transport facilitation

14. ICT • Internet penetration for business: • South Asia 28.6% • India 35.9% • Bangladesh 31% • Sri Lanka 29% • Pakistan (18%) but improved much faster in the last year or so • East Asia & the Pacific 27% • OECD 80% • Other key factors (2006 enterprise survey):

15. Trade Procedures and Documentation

16. India-Bangladesh Bilateral Trade and Potential Free Trade Agreement Bangladesh Development Series Paper No: 13 December 2006 World Bank

17. Transport and Customs Clearance

18. Trade Procedures and Documentation • Benefits of improvements in customs procedures or removal of unnecessary: • Efficiency gain for both the exporter and the importer • Increase in government revenue for the importing country • Reduction in corruption is critical for a country (in many countries corruption begins at the customs) • We all understand the benefits and the standards procedures that can be adopted in streamlining customs procedures, but the mechanics are problematic for several reasons

19. Trade Procedures and Documentation • Traders invent ‘institutions’ (rules of the game) to minimize TCs • ‘Rent seeking behavior’ and ‘corruption’ in many cases are the results of their attempt to min. TCs • Once established, these ‘institutions’ become so strong, and reforms become difficult • Strong political will or external pressure are needed in many cases; therefore, there is a strong case for regional or multilateral approach for resolving the impasse • May be public-private dialogues can help, but separating genuine private & public representatives from corrupt ones is not easy

20. Trade Procedures and Documentation • Three critical achievements in customs reforms: • Transparency: low-cost access to relevant trade and procedural information • Predictability: requires the provision of clear customs regulations that are made available in advance, and uniformly and effectively enforced; that will help exporters / importers plan and make decisions on import, marketing, and investment decisions • Participation: of the private sector is essential to obtain reliable information and to serve as a reality check and watchdog for government action; provide feedback necessary for monitoring access to and quality of the services

21. Attempts for trade facilitation in South Asia • Each country has made some attempt to comply with GATT requirements, but in general import/export procedures are cumbersome and inefficient, and have high TCs

22. GATT Article V: Freedom of Transit

23. GATT Article VIII: Fees and Formalities connected with Imports and Exports

24. GATT Article X: Publication and administration of trade regulations

25. Further Avenues • SAFTA (Article 8 additional measures) adopted trade facilitation measures to complement the regional trade liberalization • Sub-regional arrangements are at an advanced stage

26. Issues, priorities and strategies • Trade facilitation, although important, is not a burning issue for South Asia given the urgency of many other issues • People seem to have got accustomed to the ‘status quo’ and there is no strong pressure to change • Governments are concerned over the heavy upfront investment on trade facilitation, of which benefits are not well known, because earlier reforms have not produced much results • Regional arrangements can play a major role, given resistance to include trade facilitation under the WTO under binding constraints