Gold standard trade deal is fraught with pitfalls
In 1983 Australia and New Zealand signed a trade agreement. Australia-New Zealand Closer Economic Relations Trade Agreement 24 pages. Additional annexes have arrived at 47 pages. Fast forward to 2004, and Australia signed a trade agreement with the United States which came into effect at 271 pages. I leave it to the interested reader to count the annexes, but Annex 2-B, for the United States only, comes to 560 pages. You got the idea.
Right now, negotiators are sweating over another tome: the Trans-Pacific partnership. It is an agreement which covers 12 countries, 28 trillion dollars of gross domestic product and 800 million people (China is notably absent from the agreement). It seems to continue the trend towards complexity. The United States takes 80 specialists to each negotiation, Japan 120 and Australia 22.
Obviously, somewhere along the way, we decided that the bigger the better. The Trans-Pacific Partnership has been touted as a “benchmark” trade agreement. Apparently it’s going to include provisions on intellectual property, investor protection, as well as … well, a lot of things, I guess. Nothing has yet been made public. Nothing will be until it is signed. We will not know, for example, whether there will be provisions on currency manipulation.
All of this represents quite a change for Australian trade policy. Once upon a time, it was all about trade. Negotiations on intellectual property and other changes were not even considered. And during the negotiation, it was about reaching a global agreement. It’s time to get back to those roots.
Let’s start with the shift to bilateralism and regionalism. During the heyday of the 1980s, we were told that tariffs were generally bad and free trade was good. So it would appear that any deal that lowers tariffs, whether multilateral or not, would be progress. It is not quite fair.
Suppose we import cars from USA and China, and each is subject to 50% tariff. Now suppose we reduce the tariff on cars from China. There is a chance that Chinese cars will crowd out American cars, but not actually lead to a substantial drop in prices. If this happens, cars in Australia don’t get much cheaper to buy and the government loses tariff revenue. This is a well-known problem of trade liberalization that is not multilateral. Economists call this trade diversion.
Trade diversion may, in part, explain why we do not appear to have made significant gains from trade agreements already negotiated. In fact, the political process can tip the scales towards trade diversion agreements. This was the conclusion of Elhanan Helpman of Harvard University and Gene Grossman of Princeton University in a document they published in the world’s largest economics journal, the American Economic Review. They concluded “trade diversion [of an agreement] will improve [its] political sustainability while contributing to an inefficient allocation of resources in the two partner countries ”.
Even more troubling is the move towards non-trade issues. The benefits of free trade in goods and services rest on solid theoretical foundations. There is a theorem, called the “First Fundamental Theorem of Welfare Economics,” which defines the general conditions under which free trade is effective. Sounds important, doesn’t it? He is.
Unfortunately for proponents of expanding the scope of trade agreements, there is no such theoretically sound reason why, for example, intellectual property rules need to be harmonized. In fact, it is the opposite. In a document written almost 10 years ago, again in the American Economic Review, Grossman and Edwin Lai, Hong Kong University of Science and Technology, concluded that “harmonization of patent policies is neither necessary nor sufficient for global effectiveness”. Harmonization only transfers the gains from users of intellectual property to producers.