Trade policy commitments and contingency measures

Roberta Piermartini, VOX, 26 de Julio 2009

Global trade is collapsing faster during the current crisis than it did during the Great Depression (Eichengreen and O’Rourke 2009), but we have not seen any protectionist outbreak resembling the disastrous policies of the 1930s (Eichengreen and Irwin 2009). Economists and international institutions have worked to monitor protectionist lapses and warn against the perils of trade-restricting policies, whether explicit or murky (Gamberoni and Newfarmer 2009; Baldwin and Evenett 2009). The trade-restricting measures that have been deployed by governments thus far have largely been WTO-compliant.

An important question is whether these WTO-legal measures that restrict trade are evidence that the organisation has come up short in liberalising trade or evidence that the rules-based global trading system is operating as it should. The most recent edition of The World Trade Report, an annual publication authored by the economists of the Economic Research and Statistics Division of the WTO, examines the range of measures in trade agreements that governments may call upon when facing economic crisis and their role. Commonly referred to as contingency measures or “safety valves”, these measures allow governments a certain degree of flexibility within their trade commitments and can be used to address circumstances that could not be foreseen at the time when the agreement was signed.

Trade growth will be strongly negative this year, reflecting the sharp contraction of the global economy that began in the second half of 2008 and accelerated into the first quarter of 2009. Although this contraction appears to be slowing down, the economic situation remains fragile, and because of the continuing downside risks, the WTO Secretariat has revised its forecast of world merchandise trade in 2009 from a 9% decline in volume to a 10% decline. The response of governments around the world will play a big part in determining the magnitude of this decline and how long-lasting it might be.

Through an economic, legal, and political economy analysis of some measures of contingency, the report explores the reasons why countries introduce contingency provisions in trade agreements, why they may exercise them, and their impact on that economy and the global trading system.

The report adopts a broad definition of contingency measures, which can take many forms. These include anything that modifies or reverses a commitment under a trade agreement. They can also include actions that take advantage of a gap between commitments and policies actually applied, or simply involve measures not covered by an agreement but which have trade implications. In particular, the report focuses primarily on safeguards, anti-dumping and countervailing duties, renegotiation of tariff commitments, increases in tariffs up to their legal maximum ceiling, and the use of export taxes.

The costs and benefits of contingency measures

Introducing flexibilities that allow governments to modify commitments and define them so as to allow for a margin of manoeuvre in trade policy is attractive because such flexibilities serve as a safety valve or insurance policy that allows a government to hedge against certain economic risks facing its firms or consumers. Contingency measures can be seen as:

- Instruments of adjustment policy, which allow the government to provide domestic firms with temporary relief from import competition so they have time to make necessary adjustments,

- Instruments of deterrence, which may discipline the behaviour of trading partners,

- Means of transforming what would otherwise be arbitrary protectionist actions into prescribed and predictable policy measures that help maintain the rule of law in international trade, or

- Necessary outcomes of the fact that the future is uncertain and it is either too costly or impossible to foresee all possible set of circumstances when to regulate governments' behaviours.

The introduction of contingency measures in a trade agreement is instrumental to the achievement of deep commitments. Governments may be more willing to accept deeper commitments when they are packaged with contingency measures, because the latter reduce the political and economic costs of signing a trade agreement. In addition, contingency measures preserve the credibility of an agreement. An agreement that foresees the possibility to use certain measures to manage unforeseen circumstances of economic or non-economic difficulties has a better chance of remaining robust than an agreement that results in regular non-compliance.

Trade policy flexibilities are not costless. The report highlights the importance of distinguishing between the initial motivations for introducing flexibilities in a trade agreement and the consequences of using such flexibilities. The fact that trade contingency measures are necessary to ensure further liberalisation and stability of a trade agreement does not mean that their use does not entail costs. First of all, in the absence of market failures, trade restrictions will cause losses in economic welfare. Second, flexibilities may be used to backslide on previous commitments.

Designing contingency measures

The challenge in designing disciplines for the use of contingency measure is to strike a balance between flexibility and commitments. Too much flexibility may undermine the value of commitments, but too little may render the rules unsustainable. It is for this reason that the design of contingency measures is frequently a central element of negotiations. The delicate debate in the Doha Round of negotiations over the design of anti-dumping provisions or the special safeguards measure on agriculture is an effort to align views on the question of balance.

The analysis of the economic effects of the use of contingent measures reviewed in the World Trade Report suggests two main conclusions. First, the design of such measures should limit the circumstances when they can be used as protectionist devices. Second, the design of contingency measures should not undermine the role of trade agreements. Contingency measures should not upset the balance of concessions to which parties in a trade agreement, and they should not be so flexible as to undermine the government's objective of making a binding commitment to the private sector.

The report also analyses whether WTO provisions provide a balance between giving governments the necessary flexibility to face difficult economic situations and limiting the use of these measures for protectionist purposes. In this respect, the report highlights that some features of the multilateral rules that apply to trade contingency measures have an important bearing on how the balance between flexibility and commitments is struck. These features include the standards for testing injury to domestic industry and causality, whether compensation is required, and whether a measure is temporary. Despite some differences, the legal provisions on safeguards, anti-dumping actions, and countervailing duties ensure that these measures can be used when domestic industry is injured. However, as noted in the report, economists have questioned the lack of consideration of the overall welfare effects of contingency measures and the risk of escalation of contingency measures among many countries in times of crisis.

Contingency measures during crises

Existing empirical literature does not help much in shedding light on the net effects of contingency measures. It is hard to establish empirically that flexibility allows for deeper commitments. Contingency measures are estimated overall to have negative effects, but there is disagreement on the magnitude of these costs. However, there is evidence that contingency measures are responsive to economic downturns (Figure 1).

Figure 1. Anti-dumping measures and business cycle

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In conclusion, the overall message of the report is that trade agreements need contingency measures, but reliance on flexibility provisions may not be costless. The design of rules is crucial to minimising the risk of protectionist capture of contingency measures. The report’s analysis of the legal provisions and economic logic of contingency measures shows that the margin of flexibility provided under contingency measures is considerable – especially when contingency is broadly defined.

In times of economic crisis, governments face pressure to adopt measures that restrict trade and can foster protectionism. The rules-based system shields the world economy from unbridled protection, but flexibilities challenge governments to show restraint. Evidence to date shows a certain increase in the use of measures that restrict trade in 2008 relative to 2007, but so far against a background of general restraint. The WTO Secretariat reported that in 2008, there was a 28% increase in anti-dumping investigations compared with 2007, but the number of new investigations remains well below that of 2001. However, significant risks of protectionism remain and call for vigilance. Transparency and effective monitoring may make a decisive contribution to helping manage trade policy, especially in adverse economic circumstances. Free-flowing information on policies affecting trade is essential for cooperation among countries seeking to manage the crisis. Comprehensive and timely notification of trade contingency measures to the relevant WTO bodies is needed to ensure proper monitoring.

References

Baldwin, Richard, and Simon Evenett (2009). The collapse of global trade, murky protectionism, and the crisis: Recommendations for the G20, VoxEU.org, 5 March.

Eichengreen, Barry, and Kevin O'Rourke (2009). "A tale of two depressions", VoxEU.org, 4 June.

Eichengreen, Barry, and Douglas Irwin (2009). "The protectionist temptation: Lessons from the Great Depression for today", VoxEU.org, 17 March.

Gamberoni, Elisa, and Richard Newfarmer (2009). "Trade protection: Incipient but worrisome trends", VoxEU.org, 4 March.