Saturday, May 2, 2009

The Big Drop: Trade and the Great Recession

Recent trends in trade have invited a mix of consternation and hyperbole in the business and economics press and blogosphere alike. Discussion has ranged from worries about export credit shortfalls to resurgent import protection. The focus has been on finding the cause, and the assumption has been that the collapse in trade is unprecedented, inconsistent with the general level of economic downturn, and indicative of a trade-related set of problems calling for trade-specific solutions. There are indeed important public policy questions here. Is this recession being confounded by a set of trade-specific problems and issues? If so, how big, and should we be worried?

In confronting these questions, we need to be careful when comparing real and nominal changes in trade. The last 12 months have seen a dramatic drop in commodity prices, so that real and nominal trade data can tell a very different story. In addition, because the importance of various sectors in trade varies from their importance in GDP, and also varies considerably across countries, we also need to pay close attention to how we deflate trade flows to control for falling prices across a range of commodities. We also need to examine what is happening to domestic production (specific elements of GDP) before deciding we have a mismatch between trade and GDP trends.  

Global trade plummeted in the last months of 2008. Indeed, world trade volumes fell 13.7% from December 2008 to February 2009. (This is somewhat better than than the November-January drop of 17.5%, reflecting a 0.8% rise in February.)  In the three months ending in February, Japanese exports were down 29.1%. EU15 exports were up 0.3% in February over January levels, after falling 2.3 percent in December and 5.3 percent in January.  (CPB World trade monitor from April 21, 2009). The projections for the entire year 2009 offer little comfort. The WTO has forecast a 9% decline in global export volumes for 2009. 

When digesting this information, the arcane question of appropriate price deflators is important. Real trade figures can vary substantially according to the underlying prices used for deflating the data. The recent, highly cited WTO-figures rely on world GDP prices. There are problems with this approach. GDP includes a high share of non-traded components. Trade prices have fallen considerably, not least due to the large decline in oil prices. According to the CPB, energy prices were down 51.1% in the 4th quarter, compared to the 3rd.  Consequently a smaller real drop is to be expected when deflating the value of trade flows with trade prices. The CPB figures quoted above are based on world trade price developments. In a modelling exercise by the French Centre d’Études Prospectives et d’Informations Internationales (Bénassy-Quéré et al. 2009) these differences are illustrated very clearly with trade falling – under identical scenarios concerning world GDP growth – by 8.9% when deflated by the GDP deflator and only by 1.7% when using constant trade prices. Thus, a large part of the story hinges on global price developments. Nominal EU-27 exports grew by 3.1% in 2008, while in real terms they had already fallen by 0.9% over the year due to the oil-price hike and subsequent fall that ran through 2008. Interestingly this comes from falling real intra-EU exports (-2.3%), while extra-EU exports still grew in real terms (by 3.6%) in 2008. In the US, nominal exports grew by as much as 12.4% in 2008, but with 6.4% only half as much in real terms.  

What is striking is the rapid drop in trade in the second half of 2008. This is shown in the figure below. Through August 2008, U.S. exports were still 20% above corresponding August 2007 levels in nominal terms. However, the trade tides have turned quickly, and by January 2009 exports at current prices were 21.5 percent below January 2008 levels, very much noticed by the general public. Similar trends can be seen in European data. But even in real terms, the drop was huge. Real year-on-year growth rates in the US exceeded 10% up until August 2008, followed by a stagnation of real exports and real declines starting to be seen in November and amounting to as much as 19.9% in February 2009. This explains the alarm bells. 

Figure 1. Growth Rates for US Trade, Jan. ’08 – Feb. ‘09

The trade data are certainly disturbing. The fact that GDP contractions have been relatively minor compared to trade (5 or 6 percent in some countries in the last quarter of 2008, but nowhere near 20% as witnessed in early 2009 for trade) is the reason alarm bells have woken up trade policy makers. Before we roll out the trade policy guns, however, we need to identify the underlying forces at work. If we break down recent trends in U.S. trade, and control for the broad mix of price and sector changes driving the overall result, the trade changes look relatively consistent with the general pattern of this recession. The problem is not trade finance, but rather “finance” finance. This recession has been characterized by a massive collapse of credit mechanisms that has hit the capital goods and vehicle sectors particularly hard. It turns out that motor vehicles are also the driver of much of the recent trend in OECD trade data. We focus here on the U.S., but a similar story can be told with German data as well. 

The figure below presents a break down in the change in U.S. trade flows for the 12 months ending February 2009. We present both nominal flows, and also real flows. For real changes, we use BEA price deflators for traded goods by broad Census categories, as reported by the BEA. We have used these to express all real flows in 2007 dollars.

Figure 2. Change in US Exports, Feb. ’08 – Feb. ’09.

From the figure above, it is clear that roughly half of the drop in imports over the 12 months ending in February 2009 was due to a drop in raw materials like oil (“industrial supplies” in the figure). However, much of this was due to the collapse in commodity prices. Once we control for this, 55.7 percent of the “real” drop in exports is in motor vehicles and capital goods. Raw materials represent another 24 percent of the drop. Motor vehicles and capital goods represent 61.9% of the real drop in exports. The drop in motor vehicle trade actually lags the corresponding drop in U.S. production. According to BEA, domestic production of cars was down 60% from February 2008 to February 2009 – from 342.8 thousand units to 138.7 thousand. Over the same period, real exports fell “only” 45%, which is slightly better than the 47% drop from January 2008 to January 2009.

The table below presents the trade situation for a broader set of countries. For some countries, the decline in real terms was greater than in nominal terms, implying an underlying fall in export prices. For other countries real changes are lower than nominal changes, i.e. prices in 2008 were still rising, even if moderating.

Table 1. Year-on-Year Growth Rates of Monthly Exports, Jan. ’08 – Feb. ’09.

Source: Eurostat COMEXT, and BEA.

We have clearly been witnessing a dramatic drop in world trade. For policy purposes though, an important question is whether the decline is out of line with the global shock to GDP and the underlying credit crisis. At the moment, trade seems to be a victim, but one reflecting non-trade weaknesses in credit and demand. The countries with the greatest trade shocks are also more exposed to sectors hit hard by the recession. They are also victims, so far, of the general pattern of recession rather than of systemic protection. This does not mean we should let down our guard against protection. Rather, while maintaining a rearguard action on the import protection front, the cure for the symptoms lies in curing the underlying illness -- recession linked to a deep credit crisis.


Bénassy-Quéré, A., Y. Decreux , L. Fontagné, D. Khoudour-Castéras (2009), “Explaining the steep drop in international trade with mirage”, presentation at the informal workshop on ‘The Impact of the Economic Crisis on Trade’, April 9 2009, hosted by the OECD, Paris.

Bureau of Economic Analysis, US trade data downloaded on 20 April 2009 from:

CPB Netherlands Bureau for Economic Policy Analysis (2009), “CPB Memo: World Trade Monitor”, downloaded on 21 April 2009 from:

Eurostat, Common External Trade Database, download on 20 April 2009 from:

This post is written jointly with Julia Woerz, and is also published on VoxEU here:

You can download a pdf version here.

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Friday, March 6, 2009

Trade is Falling, but Credit is not Due to Protectionism (yet)

Alarm bells are ringing. Trade is falling, and so we have rounded up the usual suspect -- import protection. Yet we really have not seen a sustained wave of protection so far, only a wave of anxiety. What we have seen is a real collapse in trade volumes, caused by a mix of falling demand, buyer uncertainty, and an apparent lack of export credits. It is striking that in recent revisions to U.S. GDP statistics for the end of 2008, it now appears that U.S. real exports fell 23.6 percent in the last quarter of 2008, while real imports fell 16.0 percent.

The drop in world trade is very real. The jury is out on the cause. How deep is the collapse? According to Wharton, the Baltic Dsy Index for shipping prices is down 90% from its May 2008 peak. In addition, there is evidence that perhaps half the global shipping fleet is idle. This is the mirror to falling domestic economic activity across the globe. Import protection certainly will not help. However, we need to devote energy to a better understanding of what has driven the collapse so far if we want to address the issue. Credit may be a big part of the picture. Apparently, carmakers in Japan are unable to get loans for their American customers, while exporters in a range of industries complain that lack of credit makes international shipments almost impossible.

Countries Stepping in to Finance Export Trade, New York Times, 3 March 2009.
Trade Wars: Will Protectionism Win out over Recovery?, Wharton Knowledge, 18 February 2009.

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Wednesday, February 4, 2009

The New Protectionism and Negative Engineering

Dynamic markets produce innovation. Financial markets have innovated around regulation, internet content providers innovate around censorship, and now we are seeing the political marketplace drive innovations to get around constraints on protectionism. Following the global experience of the 1930s, the post-War multilateral system has been surprisingly successful at driving a process of collective tariff reductions and restrictions on backsliding through treaty-bound bindings on tariff increases. Political safety valves (antidumping, countervailing duties, etc) greased the wheels that keep this negotiating machinery moving forward.     Adam Smith would not have been surprised by the result: falling trade costs and generally rising trade, innovation, and prosperity.

Figure 1b: Trade cost indices, 1921-1939 (1921=100) [1]

While the system has targeted tariffs, it has been less successful at limiting export subsidies, procurement preferences, exchange rate manipulation, and production and R&D subsidies. With the rise of multinationals and the globalization of service firms, which rely on mobility of information and workers, the global market for goods and services has also moved into regions largely unregulated by the multilateral system.

Not surprisingly, in the current economic crisis, the political market place is innovating, selling protection through channels not tightly regulated by the global and regional bindings on import tariffs that are at the core of the NAFTA, WTO, and European Economic Area. Instead of tariffs, governments are moving to provide tax breaks, subsidies, procurement preferences, and the like. They are also under pressure to limit the ability of global firms to operate on the global labor market, in the belief that this will weaken the bargaining position of business vis-a-vis local workers. We are witnessing a new protectionism: less transparent, couched in resurgent xenophobic rhetoric, and outside the mechanisms regulated by international treaties.

Some musings on what have we seen in the past weeks:

  • Strikes in Britain over foreign workers: Technically, the United Kingdom is a member of the European Union. This means that British goods and services have free access to European markets, and vice-versa. This also means British workers must compete with European workers, but are also allowed to compete on the broader European labor market. This past week British labor unions have called strikes to protest Italian workers in Britain. This is where the political class should be cold and clinical, and try to calm emotions with facts. According to estimates published by the OECD (2008), there are roughly 28 thousand British workers in Italy, and 57 thousand Italian born workers in Britain. The bigger picture though is one of millions of Brits working abroad, and millions of OECD-born workers in Britain. On net, from these same data, there are roughly 100,000 more British born workers elsewhere in the OECD than there are OECD-born workers in Britain: 2.66 million workers from the OECD in Britain; and 2.76 British workers in other OECD countries. Segmenting labor markets geographically is not the answer to the crisis. Otherwise, perhaps the English should be banned from working in Scotland, workers in Glasgow should be prohibited from working in Belfast, and the 3 millions Brits working overseas in the OECD should be sent home? This would be a sad day for British pubs abroad, but a great one for the competing Irish pubs. Hopefully, obligations in various treaties governing the European Union will preclude truly stupid actions by leaders tempted to act irresponsibly. [2,3]

  • Buy America: After years of pressing foreign governments to give improved access conditions to U.S. suppliers (reflected in The plurilateral Agreement on Government Procurement (GPA) in the WTO), the U.S. Congress is now turning a general economic stimulus package into a vehicle for subsidies through "Buy America" provisions, where contracts involving U.S. funds would be forced to buy from U.S. suppliers. Of course, what's good for the goose if good for the gander, and such a move will quickly lock U.S. multinationals out of foreign contracts as there will be no moral high ground left for the U.S. Trade Representative to stand on. If the U.S. wants a level playing field when selling Caterpillar equipment, Boeing planes, and engineering expertise on foreign projects, this is a really bad idea. [4]

  • Agricultural export subsidies: OECD Members have spent over a decade on negotiations and economic research (through the OECD Secretariat) to move towards a rational set of farm policies that benefits tax payers and does not punish low income producers. So what are they now doing? The EU has resumed farm export subsidy payments. Operationally, they are exporting the impact of low prices onto the rest of the world. This means they are moving back to policies that cost the tax payer money and punish producers in low income countries. [5]

  • This is the time for responsible political dialog on managing a global crisis. Cutting the world economy into pieces does not seem a logical step in this direction. We risk building what Bastiat called a negative railroad.  Extending this metaphor, we should call the builders of the new protectionism what they are: negative engineers, building new systems to destroy jobs and prosperity. [6]


    [1] The figure is from "Globalisation and the costs of international trade from 1870 to the present," David Jacks, Christopher M. Meissner, and Dennis Novy, VoxEU, 16 August 2008.

    [2] Foreign labour row deal rejected, BBC news, Wednesday, 4 February 2009.

    [3] Database on Immigrants in OECD countries (DIOC), OECD 2008.

    [4] Will US stimulus trigger a trade war?, BBC news, Wednesday, 4 February 2009.

    [5] EU Dairy Export Subsidy Measures Requires U.S. Response, Cattle network 1/16/2009 9:11:00 AM .

    [6] The Negative Railroad

    M. Simiot raises the following question:

    "Should there be a break in the tracks at Bordeaux on the railroad from Paris to Spain?"

    He answers the question in the affirmative and offers a number of reasons, of which I propose to examine only this:

    "There should be a break in the railroad from Paris to Bayonne at Bordeaux; for, if goods and passengers are forced to stop at that city, this will be profitable for boatmen, porters, owners of hotels, etc."

    Here again we see clearly how the interests of those who perform services are given priority over the interests of the consumers.

    But if Bordeaux has a right to profit from a break in the tracks, and if this profit is consistent with the public interest, then Angoulême, Poitiers, Tours, Orléans, and, in fact, all the intermediate points, including Ruffec, Châtellerault, etc., etc., ought also to demand breaks in the tracks, on the ground of the general interest—in the interest, that is, of domestic industry—for the more there are of these breaks in the line, the greater will be the amount paid for storage, porters, and cartage at every point along the way. By this means, we shall end by having a railroad composed of a whole series of breaks in the tracks, i.e., a negative railroad.

    Whatever the protectionists may say, it is no less certain that the basic principle of restriction is the same as the basic principle of breaks in the tracks: the sacrifice of the consumer to the producer, of the end to the means.

    Frédéric Bastiat
    Economic Sophisms: First Series, Chapter 17
    A Negative Railroad

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    Sunday, February 1, 2009

    The Undiscovered Country -- overhauling public finance in America

    "Cutting taxes" has been the political snake oil, the magic elixir, sold to the American people by a generation of politicians as a way to promote everything from prosperity to family values. Sadly, tax cuts are being argued even in the current crisis. Yet, recent tax cuts have been saved rather than spent, and recent research suggests that despite past tax cuts the average tax burden is not lower than elsewhere in the OECD, given the services taxes pay for (or fail to). [1] On net, the combined state, local, and federal system is also more regressive than we like to believe. In the real world of politics, lobbying, and the rhetoric of class conflict, income tax-based systems, even if progressively structured in theory, tend toward regressive structures in fact once set adrift on the sea of lobbying, exemptions, and special interest. This appears to be a stylized political fact in representative systems -- perhaps even a law of political economy. The 30-year focus on tax cuts has served as a deliberate distraction from hard choices and uncomfortable debate. At the same time, the "cut taxes" mantra at the state and local level, where government and public services are closer to the people, has led to an increasingly regressive public system -- held together by a combination of duct tape, the municipal bond market, a wobbly property tax base, and a tax on hope (also known as the lottery) -- to fund schools, local police, and other essential services. (My sister maintains that the lottery is a tax on people who cannot do math. Either way, given the state of American education, a bad math tax and a hope tax both hit the poor disproportionately hard). [2] Once we admit to the effective use of Federal trust fund money (social security, gasoline excise taxes, etc...) to offset the otherwise even bleaker Federal budget picture, the system is also drifting markedly toward regressive features at the Federal level.

    The American voter has been a ready mark in this game, willing to believe many things: that public services are free or otherwise unnecessary; roads were created and are apparently maintained by our divine creator; bridges and tunnels last forever without maintenance; an innovative economy does not hinge on broad merit-based access to a world class science and education system; markets do not need regulators; and a functional representative democracy does not need to invest in the basic education of its voters. Apparently, it is also morally OK to borrow heavily against the incomes of our grandchildren at unsustainable rates, even if we are not quite sure how the money is being used.

    Public finance in the United States needs to be overhauled. This is a critical housecleaning issue if America is to move ahead. It took Nixon -- a conservative Republican -- to normalize relations with Communist China, and it may take Obama -- a liberal Democrat -- to overhaul taxes and forge a pro-growth, pro-business system suitable for the post-Crisis 21st Century. [3] Unless this is done, whatever the rhetoric from the ascendant political class in Washington, the scope for substantive initiatives in the present crisis will remain greatly hindered. As it stands, the current system is complicated, multi-layered, and opaque, with features (like the alternative minimum tax) the middle class does not understand and temporary tax cuts that cannot politically be allowed to expire. Altogether, this set of features makes members of the general public feel the system treats them unfairly. It has even caught appointees who, like the middle class they aim to represent, made good faith efforts to pay taxes yet stillwere tripped up by the system. While the situation has provided a convenient whipping boy at election time, it has also fostered a sense of fiscal persecution and injustice in entrepreneurs and middle class alike, eroding the collective sense of being vested in what is supposed to be a system of self-governance. Taxes need to be defanged as a political stalking tool. Since the system in America actually does rest on its citizens, the result is that America's innate tenacity in the face of tough issues -- public health, care for our elderly parents, global responsibility, managing foreign threats, responding to natural disasters at home -- is also eroded. Also important, the system needs to be made transparent and simple, to both ensure that the snake oil salesmen still lurking about do not again distract from real economic policy debate, and to ensure that the people feel vested in the policy decisions to be made. To be blunt, America needs a relatively (politically) neutral mechanism to raise revenue. If Obamam wants to focus on positive programs, he has to take the class-conflict and otherwise distracting debates over tax cuts off the table. This is best done if taxes are made neutral and transparent. Public works programs, income support, health care initiatives, national defense, education programs, national highways, and the like represent alternative uses for the national treasure. This is how the choices should be framed for discussion. "How do we invest what resources we have?" is an appropriate approach to the challenges ahead, not "how do we avoid paying for what is necessary?"

    How did we get here ? The inflation of the 1970s escalated middle income Americans into punitive high income tax brackets. This led to high growth in the tax dodging and tax planning industry. In the voter revolt that followed, Ronald Reagan was elected with a mandate to simplify the system. At the Federal level, the system was indeed streamlined. However, because the system relies on personal and corporate income tax, lobbying by those same persons and corporations has led again to an increasingly complex system of exemptions, diversions into debate over capital gains taxation, and the making of "Joe the Plumber" as a household name during the 2008 election. Adding to the Rube Goldberg nature of public finance in America is the problem of global taxation of income. America's major trading partners rely, to a great extent, on value added taxes that tax economic activity targeting the domestic market (including U.S. companies selling in those markets) while not taxing economic activity destined for foreign markets. U.S. companies do not get this same treatment, and so are at a disadvantage in foreign markets. The extension of income tax abroad also makes multinationals reluctant to rely on American scientists, engineers, and management overseas, further eroding the competitiveness of American firms abroad and the scope for export of high value-added services. The result is a politically poisonous mix: a suspicion about off-shoring of U.S. activity; a reality of U.S. firms keeping their income abroad; a perceived loss of competitiveness; a relatively soft market for U.S. expertise; and a complicated system of corporate tax credits that repeatedly violates U.S. treaty obligations and further erodes the sustainability of current public finance structures.[4] Given the last point, there is also the risk that, at some point, U.S. trade partners will respond to the current U.S. corporate tax "offsets" with punitive tariffs on American exports. (This is sometimes known as the "nuclear option" in trade policy circles.)

    Just as a lark, imagine that American voters had the collective brass kahunas needed to demand that their elected leaders dump the system of personal and corporate taxes -- duct tape and all -- and engineer a shift to a straightforward and fully transparent value added system. Such a move has the potential to broaden the tax base substantially, exorcise failed mantras from the policy debate, make possible a deep, full, and permanent income tax cut for all households, level the playing field for U.S. goods and services sold abroad and competing at home, and provide scope for a big short-run injection of capital into the U.S. economy. The left and right could still fight -- over how much to raise in tax and how to spend it, not how to raise it operationally. In practice, this means income and related capital taxes could be eliminated at the household level. They could also be eliminated for firms, replaced by the VAT system. (VAT requirements could also be relaxed for small businesses and the self-employed.) With such a switch, the risk of off-shoring to escape taxes is also cut out, as the full value of foreign labor used by American firms abroad to produce goods and services at home would be taxed. In addition, like European nations, the United States would then impose VAT on goods and services entering and sold in the U.S., while exempting goods and services produced in the U.S. for export. This has the potential to broaden the tax base in an un-distorting way (the same tax rate would apply to domestic and foreign goods and services sold in the United States). Debate over equity polices could focus on how money is spent -- education, health care, job creation, community revitalization, science and energy research programs, infrastructure, defense -- rather than on how it is raised. Subsidy schemes might even be somewhat more transparent. (Admittedly, any system can be gamed). In addition, when Washington mandates programs to be provided at the state and local level, VAT collected centrally could be shifted (or even required to be shifted) to the sub-Federal (i.e. State) level. With the system already operationally in place nationally, it could also help wean the other half of the public finance system -- the non-Federal one -- off of regressive funding structures and put state and local governments on a more stable fiscal foundation. There is even scope for a short-run bonus in the current crisis. According to rumor, corporate America has money parked abroad because of the current system. By some accounts, they have quite a lot of it. This may or may not be the case. There is one way to find out, though. With the logic of the current system suspended, they could be invited to bring it back without penalty, but with the stipulation that perhaps half be invested for 15 years in Federal or municipal debt obligations, helping ease short-run public policy constraints. As a bonus, the incentive is gone for them to keep such funds abroad in the future. In contrast, "the current U.S. tax system appears to discourage companies from returning foreign earnings to the United States." [5]

    Of course, such musings are highly unrealistic. On the political economy front, huge rents (meaning money taken indirectly from the public in general and given to a more narrow set of recipients from across the political spectrum) rest on the current system. Short of a mix of outright bribery and thuggery, it may be well nigh impossible to overcome the influence these rents buy. My academic colleagues are also right to point out that value added systems can also be distorting and regressive (though certainly in more subtle and gentler ways than what we have now[6]). There is also a myth in the United States that somehow, like the metric system, value added tax systems are a foreign idea not to be trusted. Yet America is itself a synthesis of brilliantly re-spun "foreign" culture and ideas. President Eisenhower built a modern Federal highway system based on the "foreign" autobahn system (actually the Nazi-built system, for goodness sake) he saw in Germany, Benjamin Franklin and party built the constitution in Philadelphia around ideas born of the Enlightenment in France and England, and it was a Prussian who whipped Washington's troops into shape over the bleak winter at Valley Forge. The information technology revolution was also fueled by fresh immigrants with bright ideas from Europe and Asia. Americans are a practical people. They see problems, they adopt solutions, and when necessary they change their minds and listen to the ideas of others. If the country is to emerge from the current economic crisis with a stronger and more robust economic foundation, the one horse shay that is the current public finance system needs a complete overhaul. [7] More duct tape is not going to do it.


    [1] "Did Reagan Rule In Vain? A Closer Look at True Expenditure Levels in the United States and Europe."
          Jacob Funk Kirkegaard, Peterson Institute for International Economics, POLICY BRIEF 09-1, 2009.

    [2] Many state/local tax systems are regressive, and this is important to keep in mind when contemplating potential regressive bias in a VA system. See "Washington State Has Low Average Taxes... But Also the Most Regressive Tax Structure in America," The Tax Justice Digest 2007,, and also "Florida Tax System is Nation’s Second Most Regressive," Institute on Taxation and Economic Policy (2003) Also see "STATE TAX SYSTEMS ARE BECOMING INCREASINGLY INEQUITABLE," Senate on Budget and Policy Priorities (2002),

    [3] After World War II, the conservative stream of American politics forged an identity around the twin poles of fighting communism and assigning blame for those who "lost China." This identity provided ideological underpinnings for a political witch-hunt in the 1950s, and framed the culture wars that echoed from the 1960s until the election of 2002, finally crashing on the rocks of generational shift in the 2008 election. During this period, as it became obvious that America had to normalize relations with China, it proved necessary for Richard Nixon, a leader with impeccable anti-Communist credentials,to be the one to sit down with the Communists. To quote Spock in the movie The Undiscovered Country, "We have a saying on Vulcan: Only Nixon can go to China." See Wikipedia, "The phrase "Nixon going to China" is thus an analogy that refers to the unique ability that hardline politicians have to challenge political taboos and third-rail issues. Only a proven hardline right-wing politician can succeed in challenging a conservative sacred cow and vice versa for left-wingers."

    [4] "United States — Tax Treatment for 'Foreign Sales Corporations',” WTO (as of May 2008),, "US-FTC," DS 108,

    [5] "Is it Always a Good Time for a Holiday?" by Rosanne Altshuler on Mon 12 Jan 2009 02:29 PM EST

    [6] See "Value Added Tax," Also see "Is A Value Added Tax Progressive? Annual Versus Lifetime Incidence Measures," E. Caspersen and G. Metcal, National Bureau of Economic Research, working paper 4387, The latter states "Using two different measures of lifetime income, we find that a VAT in the United States would be proportional to slightly progressive over the lifetime."

    [7] Oliver Wendell Holmes (1809-1894), " The Deacon's Masterpiece or, the Wonderful "One-hoss Shay": A Logica.

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    Wednesday, January 28, 2009

    It is time for me to disagree with myself -- we need both Doha and a trade standstill agreement

    In other fora, here and on VoxEU, I have argued that we need to stop focusing on the Doha Round, and move on to real dangers -- like rising protectionism outside the bounds we have placed on MFN tariffs. Times have changed. It is still true that the substance of the Doha Round will not impact the current crisis. A successful agreement would take years to implement, and it does not address the discretionary protection now threatening trade. However, in the present climate, it could serve as a potent symbol of commitment. So, for its value as a symbol, we should conclude it now, even if in a truncated form. To silence the darker voices urging our leaders to shift shared burdens onto others -- the EU has now reintroduced dairy export subsidies for example -- concluding Doha would be a sign that we choose to ignore those dark voices. Even this is not enough. There should be more. The OECD should collectively declare a temporary standstill (24 months?) on discretionary protection. This would mean no antidumping, countervailing, or safeguard actions involving partners (including non-OECD partners) that also adhere to the standstill agreement, as well as a suspension of reintroduced export subsidies, until calmer heads and markets again prevail.

    In the absence of a Trade Standstill Agreement, or something of the sort, things will get nasty. Indeed, they already are, judging from headlines just this week. The EU has started to introduce export subsidies, which means they are forcing other countries (including poor producers) to carry their share of the burden linked to depressed agricultural prices. At the same time, the United States Congress is gunning for a weakened China for maintaining an undervalued currency, even though China's exports are falling and the Chinese are needed to buy U.S. bonds and so fund Obama's new initiatives. Antidumping actions will undoubtably surge as the global economy grows worse, as evidenced by India's recent antidumping assault on China. The U.S. Congress is also trying to redirect subsidies linked to antidumping duties back to firms, even though they have been found to violate U.S. treaties. Exporters know this is a losing game. They need to press for a collective cool down period.

    Ignore the dark voices. We are in this together. Just say no....

    Further reading:

    "Producers brace for tariff pain," AUSTRALIAN dairy farmers are under attack after the European Commission launched a barrage of export subsidies on to the world market...., Weekly Times Now, 28 January 2008.

    "China slams EU anti-dumping move, threatens WTO action," China Wednesday blasted an EU decision to slap hefty anti-dumping duties on Chinese-made screws and bolts and said it may take the issue to the World Trade Organisation..., AFP 29 January 2009.

    "ECONOMIC STIMULUS INCLUDES ANTI-DUMPING RELIEF FOR DOMESTIC LUMBER, STEEL & CEMENT FIRMS," Domestic lumber, steel and cement firms now required to pay back anti-dumping funds they received earlier this decade could seek their bills covered under a provision senators have included in the Finance Committee’s $455 billion economic stimulus measure...,Rotor News 27 January 2009.

    "Beware trade wars," The threat to world trade comes from the Omnibus Trade and Competitiveness Act of 1988. Should the Treasury officially determine China to be a currency manipulator, itcould unleash a range of remedies, including antidumping measures, countervailing duties and safeguards..., Willem Buiter FT blog, Published: January 27 2009.

    "India begins anti-subsidy probe against China," After setting off an avalanche of anti-dumping probes into a diverse range of manufactured products against China by responding to the domestic industry’s concerns in recent months, the Commerce Ministry has for the first time begun an anti-subsidy probe into imported sodium nitrite from China..., Business Line 29 January 2009.

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    Thursday, December 18, 2008

    Prizes for Everyone [1]

    The motor vehicle industry is playing an interesting game. General Motors produces in Europe under various names (Opel, Vauxhall) [2], produces as Holden in Australia, and has plants scattered elsewhere across the globe as well. As the economic downturn forces rationalization of the global capacity glut in motor vehicles, this places GM in a position to play off local governments against each other. GM announced plans to reduce production in Thailand, [3,4] while holding this as an example in extracting subsidies from the Australian government. GM is not the only one playing this game. Indeed, U.S. automakers (GM and Ford), together with Toyota, have already extracted 4.3 billion US dollars in subsidies (to be stretched out over the next decade) [4], even as they lobby Washington for more assistance. [5] In the U.S., we have the same mix of players lobbying against each other rather than cooperating, as Japanese MNEs (multinational enterprises) in the Southern United States try to block assistance to their U.S. based competitors. Not surprisingly, this is also shaping up as an inter-state game within the Federal system to support various local producers across the United States.

    There have been worries surfacing in the policy research community about the death of the Doha Round, and the risk of rising protectionism. Narrowly read, the dominant risk is not really old fashioned protectionism -- higher import tariffs (see my VoxEU column on this. [6] ) Yes, we are seeing some of this (so far at the margins). Far more interseting is tax competition, seen through a lens darkly. There has been an emerging literature on competition between jurisdications to attract MNEs. [7,8,10,11,13,14] Emphasis is on new plants, and the tendency for firms to extract extra tax payer largesse by locating in multiple locations. Much of this literature is theoretical, though the empirical evidence already shows that global firms make local taxation difficult. We are learning much more as the current economic crisis causes a game of industrial musical chairs. Everyone is circling, and when the music stops, not all motor vehicle MNEs will be sitting comfortably. [2,3] As some go, some local jurisdictions will see their factories close as well. This reveals more elements to the tax competition game. Multiple plants mean more degrees of flexibility for extracting rents (i.e. Blackmailing) local tax payers. In addition, the game can be run in reverse. Open plants (creating a local constituency of suppliers and labor and government), threaten to close some, and demand compensation. In such a game, it may even make sense to build far too much capacity, if the losses from excess plants are covered by an increased expected taxpayer financed subsidy.

    There is another important element to this game as well. In the U.S. for example, the rhetoric has become predictably nationalistic.[5] U.S. firms vs. European firms vs. Japanese firms. Yet, if we look closely at the set of automakers, where they operate, and who owns them, the national labels make less and less sense. European pension funds own American firms, Japanese firms are listed on the American stock exchanges, and American firms lobby in Europe as European producers and ask Australia for R&D subsidies. Capital markets are global, ownership of the corporate world is global, and the challenges posed are therefore global as well. U.S. subsidies to GM will be a subsidy for European pension funds, and the Australians are hoping the American taxpayer will subsidize their industry as well.

    The European Union has taken steps to limit tax competition [9] -- hence the intervention the the European Commission against the GM subsidy game in Europe. The OECD has also flagged this as a problem issue. It may be time to take this global. [12] In a world with global firms and local tax authorities, WTO discussions limiting public assistance would help level the paying field for local taxpayers against blackmail by global firms.


    [1] Lewis Carroll (1865), Alice in Wonderland, "Everybody has won, and all must have prizes," in CHAPTER III: A Caucus-Race and a Long Tale

    [2] "EU warns against car subsidy race," BBC 21 November 2008.

    [3] "Isuzu aims to avoid Thai layoffs," Bankok Post, 18 December 2008.

    [4] "Car sales crash in Australia," The Earth Times, Thu, 04 Dec 2008.

    [5] "Tax Fairness for U.S. Auto Makers," editorial letter, Wall Street Journal, 16 December 2008. (from Stephen Collins, President, Automotive Trade Policy Council Washington.

    [6] "The economic crisis, Doha completion, and protectionist pressure," 17 December 2008 VoxEU column.

    [7] Baldwin, R.E. and P. Krugman (2004), "Agglomeration, integration and tax harmonisation," European Economic Review, Volume 48, Issue 1, February 2004, Pages 1-23.

    [8] Davies, R.B. (2005), "State tax competition for foreign direct investment: a winnable war?," Journal of International Economics, Elsevier, vol. 67(2), pages 498-512, December.

    [9] European Commission, "Harmful tax competition," Europe website.

    [10] Hauflera, A. and I. Wooton (1999), "Country size and tax competition for foreign direct investment, Journal of Public Economics," Volume 71, Issue 1, 1 January 1999, Pages 121-139.

    [11] King,I., R.P. McAfee & L. Welling, (1993), "Industrial Blackmail: Dynamic Tax Competition and Public Investment," Canadian Journal of Economics, Canadian Economics Association, vol. 26(3), pages 590-608, August.

    [12] OECD, "Harmful Tax Competition: An Emerging Global Issue," 1998.

    [13] Ottavianoa, G.I.P and T. van Ypersel (2005) "Market size and tax competition," Journal of International Economics, Volume 67, Issue 1, September: Pages 25-46.

    [14] Winner, H. (2005) "Has Tax Competition Emerged in OECD Countries? Evidence from Panel Data," International Tax and Public Finance, Volume 12, Number 5/September.

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    Monday, October 20, 2008

    The GATT (aka the WTO) works

    There has been a dispute in the academic literature about the impact of the GATT on trade liberalization. The first shot was a set of papers by Andrew Rose. [1]. His papers have since been savaged by follow-up literature. [2]

    The ongoing financial crisis has rendered this literature, quite literally, academic. What I mean is that, basically, the real test is what has just (not) happened. As Doug Irwin noted in his review of the GATT and its transition to the WTO, the first part of the 20th Century -- World War I and the early years of the Great Depression -- were characterized by savagely competitive tariff wars. [3] The framers of the Bretton Woods system had this firmly in mind when they set up the post-War system. [4] We may wonder at times exactly what the IMF and World Bank are doing at the moment. We no longer have to wonder about the GATT (aka the WTO). It is a systemic safeguard, and it seems to be working. Notice the deafening sounds of silence along Smoot-Hawley lines. Indeed, we have calls for further trade liberalization in the WTO. Recent events may also shed a new light on regionalism. In the academic literature, regional agreements have been seen as potential stumbling blocks to the multilateral system. Yet, as safeguards against protectionism in a big global crisis, the EU and NAFTA appear to be complementary safeguards. We have been focused, in much of the literature on the GATT and on regional trade negotiations, on the process of marginal concessions and terms-of-trade manipulation. Aside from all this academic analysis, in the real world the multilateral trading system is doing what it was actually meant to. There will be rising protectionist responses as we sink further into recession. However, as long as the system holds, this will not be broad based.

    [1] A.K. Rose (2003), "Do WTO members have more liberal trade policy?" Journal of International Economics Volume 63, Issue 2, July 2004, Pages 209-235.

    [2] A. Subramaniana and S-J Wei, "The WTO promotes trade, strongly but unevenly," Journal of International Economics, Volume 72, Issue 1, May 2007, Pages 151-175.

    [3] D. Irwin (1995), "The GATT in Historical Perspective," The American Economic Review, Vol. 85, No. 2, pp. 323-328.

    [4] J. Toye and R. Toye (2005), "From Multilateralism to Modernisation," Forum for Development Studies, No. 1, pp. 127-150.

    [5] K. Bagwell and R. Staiger (1999), "An Economic Theory of the GATT," The American Economic Review, Vol. 89, No. 1, pp. 215-248.

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