Can Embedded Liberalism Survive the Challenges of the 21st Century? - What Markets Need in Order to Work Properly

Actually, I am skeptical of the phrase embedded liberalism, as it is often misused and the word liberal is ambiguous. A liberal trading system is one that relies on market economies, but it is still ambiguous. Sometimes the phrase embedded liberalism is used to mean that there is a bias in favor of the market and is, therefore, used to justify government intervention.

In today's setting, the word globalized is abused, but there is nevertheless a core understanding of what the word means. People understand that globalization means that there is a high degree of interdependence, exchange, and movement of goods and other forces in the world. Today's markets are based on characteristics that are different from those in the past.

Specifically, we have witnessed technological innovation in two crucial areas: Innovation in transport has lowered the time and price for the transportation of goods and services. Meanwhile, innovation in communications is important because in order to move good successfully through multiple countries, you need really good communication. An increasingly globalized world implies, however, that there are greater risks, as crises can spread rapidly.

We address these issues with international agreements. After the Uruguay round, we had a telecommunications agreement, which addressed the true infrastructure of trade. Governments knew that if they did not sign on to this agreement, they would be lost. So it became a catch-up agreement: diplomats were catching up with technology. It was a recognition of the centrality of rapid communications.

There were two goals in establishing the international trading system and the Bretton Woods institutions in 1944. The first and most important was to prevent another world war. Nowadays when we discuss trade policy, sometimes we forget that original goal because we are so absorbed in the second one. The second goal was to create more wealth for the whole world-to make the pie larger rather than cutting up an existing pie.

In the last decade or two, these institutions have acquired at least two more goals. One is that the WTO and other institutions will have to address poverty. We will see this if the Doha round really becomes a round for the developing countries. The other goal is to manage economic crises or coping with the "electronic herd," as New York Times columnist Thomas Friedman calls the force of countless investors all over the world with the ability to move capital instantaneously.

This is all background. For the rest of my talk, I would like to address the policy framework of the WTO, the two biggest challenges (namely the Doha round and the adjustment to the new member China), and the WTO's institutional structure.

After the Cold War, we witnessed the world came to the conclusion, based on theoretic and empirical evidence, that the market approach was the best system for creating the most wealth for the greatest number of people so that they can enjoy the kind of life that they want to enjoy. While there are winners and losers in trade, the hope is that the market will create more winners than losers. Is redistribution the answer? So far redistribution has been a national issue (a question that must be considered).

I am not totally addicted to markets. We are entitled to be skeptical about too much emphasis on markets. Markets need the appropriate institutional frameworks. Governments do have a role. If the government stays out completely, you get market failures such as monopolies or asymmetries in information. The most significant institutions are rules or law. Rules are necessary to provide predictability, which helps entrepreneurs. The market system is about de-centralizing power. So the constituency includes millions of entrepreneurs. The essence is to reduce risk or the risk premium and increase information.

Rules could be left to the nation state, but those would not be as useful. How do you go above the nation state? The obsession with sovereignty is foolish; sovereignty has been called "organized hypocrisy." We might get rid of the word, though it no longer commands its former, Westphalian scope. Nevertheless, there might be something to the idea of sovereignty. The current idea of sovereignty has more to do with the allocation of power or it answers the question, "Where should a decision be made?" Which decisions does the WTO need to make? We have to think of the WTO has a regulatory body.

The challenges facing the WTO are two: adjustments associated with a new, large member China and the upcoming round Doha. China has agreed to a greater number of extra obligations to join the organization than has any other country joining the WTO. The Chinese hope that the WTO will assist the country in its internal reform, needed to move the economy toward one that is more market-based. The Chinese see the obligations as worth it for the sake of reform. Part of the problem is reciprocity. China has to reform its state-owned enterprises. But the WTO members also have a responsibility-to assist China in its adjustment process because, I would argue, the WTO needs China more than China needs the WTO.

The Doha round will be crucial because of the failure in Seattle-and in this game, it's two strikes and you're out. The good news is that a round has indeed been launched, there is a full agenda (the documents are ambiguous, which is good), and developing countries have played a leadership role, especially in the area of intellectual property rights. Nevertheless, Doha has not paid attention to institutions.

Regarding WTO institutions, the dispute settlement process applied the rules, while another part of the organization makes the rules. The dividing line is murky, but it is risky to ask the dispute settlement people to make rules. The dispute settlement system is extraordinary and unique in its construction, its appeal procedure, and in its broad competence. It makes decisions that make governments change, which helps governments to do what they know is right. It is a successful system and compliance has generally been quite good. Developing countries favor the system because it gives them leverage.

The other WTO institution, the decision making process, has big problems however. There is near paralysis in this part of the WTO. The consensus rule is a problem because it allows any government to object, thereby defeating the decision in the process. So governments use the mechanism to hold issues that they do not care about as ransom for issues they do care about. The telecommunications agreement was reached by partial consensus; this could be a model to look at for reforming the WTO's decision-making process. If there is a bad decision-making institution, you will start seeing the dispute settlement system making rules.

Let me dispel two myths regarding the WTO:

Myth number one: the WTO's mandate should be limited to the core competence of the GATT (boarder measures only). This is wrong. It was never the case with the GATT; the GATT does address national rules (see article 3, the national treatment article).

Myth number two: The WTO policy-making body should have veto power against decisions made in the dispute settlement mechanism. No, this would be a bad idea. Governments would begin lobbying the diplomats and processes. Instead of pulling down the dispute settlement system, I would suggest lifting up the decision-making body. The problem is that in order to change the consensus system, you need consensus. We should look at ways to enhance policy without changing treaty rules or by requiring something less than consensus to change.

Good governance requires transparency, participation, and a persuasion or discussion process. The WTO needs more of all three. It needs less secrecy and more transparency. You need the input of non-profit organizations. Finally, there needs to be a process for persuasion, which may mean a longer decision-making process.

Q: We are worried about US compliance of outstanding cases. Can you suggest an approach?

The US should get rid of the Byrd Amendment. A common problem for US compliance is that an act of Congress is required. Meanwhile, Congress debates whether or not it will grant the president trade promotion authority. It is therefore a delicate issue. When the process was simply administrative, US compliance was better. What to do? Look at alternative means of inducing compliance. Rich countries comply because they expect reciprocity. Maybe someone should suggest that countries that do not comply should not be able to bring cases to the WTO. You may wish to look at dollar compensation instead of retaliation.

Q: Is there a criterion regarding what the WTO should or should not discuss?

Well it is not boarder measures. Beyond that, it is case-by-case. I believe competition policy should be addressed by the WTO. Environmental issues may be best addressed by another (new) organization.

Q: Is a plurilateral approach a possible solution to the consensus problem?

I favor a plurilateral approach for issues that don't need 100 percent of the membership. Maybe you can go outside the WTO, to organizations such as the Multilateral Investment Agreement (MIA). Investment is related to trade and should at least be under the WTO umbrella. Developing countries must be trained on investment treaties. UNCTAD could be used to train these countries. Partial membership is another possible scenario.

Q: As capitalism comes to China, will the system adapt, will the system collapse, or will there be a backlash? What can the WTO do to help China's future? One more possible scenario is that the Communist Party becomes more inclusive. It would be like Japan's LDP. Economists have criticized China-Japan forums for settling trade issues for not being transparent. They are wrong. Japan's farming lobby is protectionist. As it enters the WTO, China is going through a gradual democratization. If Japan brings China to the WTO, it would be a risk.

I agree. The fourth option is viable and most hopeful. The WTO could make Beijing more powerful and centralized because more decisions will be made at the capital. I also favor bilateral settlements. But it should be transparent. Bilateral negotiations should be in light of WTO rules on negotiations.

Q: There is already an international environmental regime based on customary law. What should the international community do when obligations clash between, say, trade and environmental rules?

Even within the WTO, obligations can clash. The Uruguay round had a lot of ambiguities. The key question is: who should resolve these clashes? Sometimes it should be negotiated in the rule-making system.

Q: In compliance, there is a cultural question too. US institutions are borne from its political culture. How far can the WTO go? How can it cope with culture?

This is part of the puzzle. In the shochu (Japanese spirits) case, the key phrase was "like product." The appellate body's interpretation of this phrase was accordion-like: it expanded and contracted. But sometimes "culture" is just an excuse of protectionism. I do not think the WTO is a harmonizer of cultures. You have to allow some difference in economic systems.