November 21, 2012 2:50PM

A Cautionary Tale on Negotiated vs. Unilateral Trade Liberalization

Many economists, including myself, take some convincing when it comes to the benefits of bilateral and regional trade agreements. I'm not as skeptical as the likes of, say, Rep. Ron Paul, who often votes against preferential and piecemeal trade liberalization legislation on the basis of it being "managed trade"  (his latest protest vote on that score was a "nay" on granting Russia permanent normal trade relations status).  But since the 1950s, when the work of Jacob Viner showed that when trade agreements cause the importing country to favor less-efficient producers (a phenomenon known as trade diversion), trade theory has pretty-much consistently shown a hierarchy of mechanisms for increasing commerce across borders: unilateral trade liberalization is best, followed by multilateral trade liberalization (although the current WTO round of trade negotiations is dead), and then regional or bilateral agreements. Most economists more-or-less subscribe to this hierarchy on the basis of pure economics, although we disagree on the extent to which political and practical concerns should trump the economic theory in order to harvest at least some benefits for consumers and taxpayers, who have had their wallets picked for decades if not centuries in the name of "leveling the playing field." (In the interests of preserving appetites in anticipation of Thanksgiving, I will spare the readers further details on the esoteric and internecine squabbles between trade economists on this topic.)

In the early to mid-2000s, the Bush administration (followed by others) tried to turn this thinking on its head, arguing that bilateral negotiations can aid trade liberalization by (a) forcing the hand of foot-draggers, by scaring them into joining the fray and (b) setting up a series of trade blocs that subsequently could be joined together like a jigsaw puzzle (a process known as "competitive liberalization", a term coined by Fred Bergsten at the Peterson Institute of International Economics). Die-hard unilateralists like Jagdish Bhagwati (a member of the Herbert A. Stiefel Center for Trade Policy Studies Advisory Board), instead cautioned of a "spaghetti bowl" of trade agreements. Preferential deals would cause extra burdens for customs authorities, they said, for example by giving rise to complicated and in some cases conflicting rules about deciding where a good comes from for the purposes of assigning tariff rates.

Economists and free trade advocates also worry about the effect that preferential deals have on multilateral trade negotiations. I saw this first-hand when I worked on the Doha Round in 2005-06. Many World Trade Organization members, particularly developing countries, receive preferential (i.e., lower) tariff rates on their exports to developed countries. They thus often raise concerns about non-discriminatory tariff cuts because it would mean their preferences were worth less (called "preference erosion," in the jargon of trade negotiators).  You then see the somewhat perverse situation of developing countries arguing against tariff cuts in rich countries, or at least demanding compensation for it.

The latest example of the conflict between modes of liberalization -- in this case, unilateral v. regional liberalization -- comes from closer to home. The trade press is buzzing with the news that the Obama Administration has raised concerns about the efforts of some lawmakers to cut tariffs on certain footwear items (on the basis that we do not make them in the United States and therefore have no competitive interest in the market). These sorts of efforts happen regularly in the form of "miscellaneous tariff bills" (MTBs), usually with little fanfare given the uncontroversial politics of it, Republican concerns notwithstanding. Why would the administration object to limited tariff relief on goods not produced domestically? Because, as is typical among trade negotiators, they want to keep the tariffs in place as bargaining chips:

Alex Boian, director of trade policy at the Outdoor Industry Association (OIA), said in an interview that administration officials in private conversations have made clear their reservations relate to the fact that Vietnam is seeking a reduction in U.S. footwear tariffs in the context of the TPP talks. In the administration's view, these tariff lines represent “prime negotiating leverage” with Vietnam in [the Trans-Pacific Partnership negotiations], Boian said. (emphasis added. Source: Inside U.S. Trade [paywall])

A few industry groups have raised a stink, pointing out that the tariff relief provided by the MTB is limited and temporary, so are unlikely to threaten the TPP. And procedurally, it is not clear if the administration even has the right to object to the MTB tariff breaks on this basis anyway. More broadly, I find myself sympathetic to the arguments of the American Apparel and Footwear Association, which in their letter to United States Trade Representative Ron Kirk, said:

...the objection that “Enactment would undermine existing U.S. trade preferences” creates  significant concerns.  In addition to the reasons outlined above, the basic premise of this objection is faulty. To extend the logic outlined in this objection, the current negotiations toward a TPP agreement would “undermine existing U.S. trade preferences” as would negotiations toward a Doha Round agreement at the World Trade Organization.

For that matter, under this logic, any new trade negotiation would “undermine existing U.S. trade preferences.” By making such an objection, the administration is essentially arguing that U.S. trade policy should be brought to a halt altogether. [emphasis added]

Indeed. When it comes to preferential trade deals, caveat emptor.