3.- ANALYSING THE EFFECTS FROM TRADE


In the last 50 years: trade policy has been liberalised; trade has grown; output has grown. But many other policies have changed; attitudes to policy and to intervention in economies have changed; technology has changed; the non-trade, non-economic contacts among countries have changed. It is not difficult to find simple correlations among all these variables, but before attempting to identifying causation, it is necessary to analyse what type of effects could be explained by generally accepted economic relationships. Without this, it is difficult to distinguish directions of causation (expansion in output may lead to expansion in output of tradable goods and therefore in trade) or to discard correlations which merely reflect variables which have both moved because of an omitted variable, for which trade or some measure of openness may be acting as a proxy.

Econometric techniques can supplement theory in identifying relationships, and can draw attention to potential relationships, but they should not be used without theory. Cross-country and time series analysis have different advantages for this, and both are used.

What are the direct effects from trade which may affect development?. It can improve the allocation of domestic resources, increase the efficiency with which these are used, bring new technology, bring knowledge of markets and marketing techniques, increase stability of income, and increase investment.

The first effect, allocation efficiency, is that trade raises a country's potential income (or welfare) by permitting it to change the composition of its output to a more efficient structure, that is, permitting it to specialise according to comparative advantage. A country which is producing efficiently in a closed economy can move to a higher level in the open (or at least less closed) situation, although there is no change in the macroeconomic balance. The increase is only potential, however, not inevitable. If it is not producing efficiently at the initial stage, then whatever prevents it from doing so may also prevent it from benefiting, in full or indeed at all, from the new opportunity. If the problem in the initial situation is unemployment of some resource, for example labour, which cannot be transferred from one type of production to another, and opening to trade allows the country instead to export more of that good, importing the alternative, then the gain from trade may be even greater than the static efficiency gain. But if the failure arises from more structural reasons: lack of sufficient incentive in the market to improve efficiency (see below), deliberate (or unintentional) distortion of prices because of other policies, or lack of information or infrastructure linkages which permit efficient transmission of price and demand information to producers, as in Malawi, this may prevent any response to trade. Under this effect, therefore, trade may raise total income by more than or by less than the allocation effect; it will not lower it, although it may have no effect; the direct effect is one-off.

The allocation effect may not work, because it depends on the response to impulses and assumes that sectors and firms are operating efficiently in their own terms within the closed economy. It is this efficiency which allows them then to respond efficiently to the new signals, and obtain the allocative gains. If they cannot respond efficiently to market incentives, they will not be able to respond to the new trade environment.

The X-efficiency effect of trade appears if what is holding output below potential output before trade is opened is lack of sufficient stimulus to adopt new methods or technologies because of lack of competition and if trade provides that stimulus. How does competition work? If losses are weighted more heavily than (equal) gains, the incentive from the risk of losing profits (to competitors) is greater than that from potentially gaining more. (This can be contradicted by the equally prevalent view that encouraging policies works better than punishment; does the cold north wind or the mild south wind make you remove your coat?)

Two reasons can impede the effect from competition. If market prices do not reach producers: if the infrastructure makes mobility among sectors or regions difficult or failures in credit markets impede investment, then the country is at its current potential output. To raise this, it requires appropriate investment in physical and perhaps social infrastructure. If the response to stimuli seems weak, it is difficult to know whether economic or policy changes can tackle it: does it need appropriate education, or training, or stronger stimuli? Or necessary infrastructure? The lack of understanding of this is reflected in old concepts like 'take off' or new ones like openness or readiness.

As well as stimulating its application, trading is one way of obtaining access to technology, and to familiarity with world markets; through observing traded goods, through the stimulus to efficiency (increasing the application of, not the access to technology), or even simply through greater contact between economies. Through technology, trade can raise income, and, in a relatively technology-poor country, this can be a continuing stimulus.

Stability has attracted attention for developing countries since the analysis of the effects of commodity price fluctuations. Concern has been intensified by the apparent increase in the frequency and intensity of financial crises. Although the steps in the argument that stability improves income or growth are uncertain theoretically and empirically, if there is an effect, then any impact from trade to stability becomes important. Liberalising increases the number of potential shocks that could affect an economy, but a large number itself ensures some offsetting effects, including on the shocks that come from within the economy (trade plus capital movements allow 'transfer' of production from one year to another). If, however, a country has become more specialised because of trade, and if trade is a high share of total output, the whole economy may be more concentrated and therefore more exposed to specific risks. Trade may increase or reduce instability, and we still do not know which would help or harm growth. Malawi’s dependence on a single export to very limited markets makes trade more likely to concentrate shocks than to spread them.

Any increase in income may stimulate increased investment, so that all these initially 'one-off' effects can have second round effects, and if a country is very closed and pursues a policy of continuous opening, then the observed growth rate will increase, although it could be decomposed into the same trend plus a series of shocks. Therefore under any of these effects if they do increase income, trade may lead to a continuing higher growth over an adjustment period.

Protection by developed trading partners is now concentrated on labour- or labour- and land- intensive sectors (clothing, other light manufactures, agriculture), so that the reductions in these distortions may improve the advantage of labour intensive sectors in developing countries.


4.- Hypotheses about trade and development