Urgent and Important: Improving WTO performance by revisiting working practices

My talk is a work in progress and based partly on work done jointly with Professor Charles SABEL at Columbia University. It is part of a bigger project which is focusing on European Union (EU) trade policy. The World Trade Organization (WTO) is an important part of what the EU is doing, so that is one of the reasons I am focusing on this topic. We are seeing a lot more use of trade-distorting policies by countries around the world. A lot of countries are doing more in terms of intervention as policies with respect to trade, investments, and technology. Pascal LAMY, the Director-General of the WTO at the time, said one way of thinking about the global value chain as a phenomenon is that it does not make any sense any more to think about products being made somewhere. In the economy today, things are just made in the world. We have different bits and pieces of value added, produced, integrated, and then finally assembled somewhere, but there is not a lot of value added associated with that assembly.

My interpretation of what we are seeing in terms of policy today is that these are governments who are saying they do not like "made in the world." This is part of Mr. MODI's economic policy. "Make in India" is an official policy of the Indian government and we also see it in other countries like Argentina, Brazil, and China. Is that something we are seeing now happening in the U.S.? If you listen to what Mr. TRUMP is saying, the answer is very much yes. Mr. TRUMP does not like global value chains and wants firms to come back home, produce at home, create employment at home. That is one driver behind some of the things we are seeing today.

A bigger dimension of this is the very rapid growth of emerging economies. China is by far the best example. If you look at the share of developing countries in world trade and world output, it has grown by 10%-15% over the last 20 to 30 years. It has been increasing pressure on relatively unskilled workers in Organisation for Economic Co-operation and Development (OECD) countries. That is part of the backlash against globalization.

The third element is technological change. We are seeing a big and rapid shift away from traditional manufacturing-based economies towards services-based and digital economies with associated trade in data flows, services, digital products, and so forth. Artificial intelligence and robotization are going to create even more pressure on relatively unskilled labor in all countries. That trend towards servicification and a digital economy is raising a whole series of policies which have negative spillover effects for other countries. Services tend to be regulated. Differences in regulations across markets can impede trade and increase costs for firms that operate internationally. We have issues related to national security, but we also have issues relating to privacy and consumer protection, etc. that call for international cooperation.

The geo-political, geo-economic systemic competition and conflict between the United States and China is front and center in the newspaper. How do you deal with a country that is different? The socialist market economy is not the type of economy that the rest of the OECD countries have, so that is giving rise to conflicts. There is a China-specific dimension to this situation. The policies that OECD countries are objecting to in China are not trade-related but about how foreign firms are treated there with respect to their intellectual property, their capacity to sell goods and services to locals, and their ability to compete with SOEs (state-owned enterprises). As SOEs become international, there is an export dimension to that competition, but it is still mostly centered on China and Chinese investment going abroad.

There is a large number of national policies today creating negative spillovers for other countries. The WTO is not dealing with these types of tensions effectively. The U.S. strategy is to use unilateral pressure on countries to change their policies. Similarly, the U.S. has been pushing for WTO reform to get them to do more to address these sources of tensions. In one sense, current U.S. actions are similar to their actions in the 1980s. In the 1980s, the U.S. had serious problems with the policies of other countries. U.S. industry was concerned about intellectual property protection. It wanted to have rules on that and on trade in services which we did not have in the GATT (General Agreement on Tariffs and Trade) at the time. The U.S. was very active in using Section 301 to put pressure on foreign countries. It led to the launch of the Uruguay Round and subsequently the creation of the WTO. One way to maintain optimism is to consider that current circumstances could lead to similar positive outcomes. It was feasible in the 1980s, but what about in the world today where we have China as a very large and fast-growing country with a different system? That is the big overarching challenge.

If you add up all of the measures that have been taken by countries since 2009, we see a big bifurcation between countries that have become much more interventionist and proactive users of trade policy-related instruments than others. The leader at the moment is the U.S. partly because of what has been going on under the Trump Administration. We also have Brazil, Russia, India, and Germany as very active users of trade-related policy instruments. In the case of Germany, is the majority of measures are related to trade finance and export credit.

If you ask who is doing what to whom, you might think a lot of that is targeted against China, because a lot of countries fear Chinese import competition. That is the case for some countries and not the case for others. In some countries, the share of total Chinese exports that are subject to trade measures is above 90%. In other countries, it is around 20% to 30%. While China is the main target overall, different countries are doing quite different things with respect to exports from China.

If you ask what instruments are being used, the data tells you that most of it is production subsidies, export subsidies, and measures that promote exports. The point here is that most of the action is not in the traditional trade policy area of tariffs, countervailing duties, and anti-dumping. The WTO has very strict and clear rules on the use of tariffs and trade defense instruments like antidumping but not so in terms of subsidies. If another country is subsidizing, you can take countervailing duties, but if that country is not exporting much to you, there is very little you can do in terms of third markets.

Finally, there is a lot going on in terms of new digital economy-related policies. There is a lot of trade-distorting and trade-restricting policies being used in digital trade. China is the number one user here, followed by Russia, India, Indonesia, and Vietnam. A lot of the emerging economies are quite restrictive to that new and growing sector. The takeaway here is that there is a lot of restrictive policies in place across countries, which calls for international cooperation.

The WTO rulebook and operation has gaps and design weaknesses which have been revealed over the last 10 years. Doha Round negotiations were launched in 2001, however, there is still no Doha Round conclusion in 2019, and there is not likely to be one. The effort made by the WTO membership essentially failed and did not go anywhere.

If you ask how much discussion there has been in the WTO on these new areas, the answer is very little. The reason for that is that many countries have argued the need to finish the Doha Round before talking about new issues. That is one reason why countries have increasingly moved away from Geneva and try to negotiate preferential trade agreements among like-minded countries, or in the case of the United States, pursue a policy of aggressive unilateralism.

The reason the WTO has not managed to do much in helping countries resolve conflicts is two-fold. One of them has to do with decision-making which is by consensus. Consensus has been part of this system since the GATT was created in 1948. The problem with consensus is that increasingly it has been used to block the daily operations of the WTO. If I put forward a proposal, another country could say no. I think this has been one of the main reasons for the lack of progress in the WTO.

The second big bottleneck is the treatment of developing countries. This goes back to the early 1960s, when the GATT adopted a series of principles called special and differential treatment for developing countries. It says that if you are a developing country, you can make fewer concessions in trade negotiations and you do not necessarily need to implement what is being negotiated as fully as a developed country.

Personally, my view of special and differential treatment is that it is outdated and ineffective. It is completely inappropriate today in a world of global value chains. The problem is that developing countries can self-designate whether they are a developing country or not. The same thing applies to many upper, middle-income countries. The view is that this should not apply to countries like China, India, and Brazil. China continues to insist that they are a developing country and do not want to let go of their special and differential treatment.

Responses to this consensus constraint and the issue of special and differential treatment have been that countries need to go off and negotiate their own agreements, preferential trade agreements (PTA), especially the deeper versions, for example, the CPTPP (Comprehensive and Progressive Agreement for Trans-Pacific Partnership). These are positive instruments that help integrate these markets more deeply and deal with real issues, but they do not deal with the systemic problems because the countries we are most worried about are not part of these agreements.

Response to the deadlock has been the U.S. becoming quite aggressive by starting a trade war and breaking its commitments to the WTO. At the same time, the U.S. has been putting a lot of pressure on the WTO through the dispute settlement mechanism. The U.S. has refused to appoint new members of the Appellate Body and there will no longer be enough Appellate Body members to make rulings. My expectation is that the United States will continue to block appointments because it wants to keep up the pressure for WTO reform.

In addition, some groups of countries can just ignore consensus. They negotiate or talk to each other on topics that are of common interest and without all the countries of the WTO around the table. I think that is a very positive development, and a big challenge for countries like Japan, who are very much in favor of a rules-based system is to determine which topics are best suited to such smaller group cooperation.

To address the current trade tensions and update the rules, there are some necessary conditions. One is that the big countries are involved in the discussion. We also need to improve the organizational performance of the WTO.

There are a number of things that need to be changed in that regard. One is to make the WTO more effective in giving government officials the information they need in order to understand what is going on in other countries. There is a big transparency agenda here which needs to be improved in terms of monitoring information on policies and the implementation of trade agreements.

The second condition is for governments to use the WTO as a venue for deliberation and (re-)negotiation of rules. To some extent, we are seeing that happen through the plurilateral initiatives launched at the Buenos Aires Ministerial Meeting in 2017 and the negotiations on data flows at the Davos Meeting earlier this year. That is a positive development and we need more of that.

The third necessary condition for improving the operation of the WTO is to resolve the disagreements around the Appellate Body. How important is the Appellate Body and does it add a lot of value? Are panels enough, as was the case under GATT? I think that is a big policy question as well as a big research question to try and figure out.

I think it is important to keep in mind that even though the WTO is under a lot of pressure, it has been heavily criticized, it is not dead; there is a lot happening in the WTO. It is important to also recognize the U.S. is continuing to be very engaged in all its committees. Therefore, we should not get too depressed about what is going on or what we are reading about in the papers. There is actually hope for the institution.

What is needed is to establish an agenda for cooperation and negotiations. We have four joint initiatives that are dealing with issues such as investment facilitation and micro/small/medium size enterprises. However, we do not have a negotiation among countries on industrial policy and industrial subsidies. I think we need to move in that direction if we are going to resolve some of these conflicts. Those discussions are ongoing, but not with the main protagonist sitting around the table. One of the key things that needs to be done is to bring China into those discussions. That can be done on the small group basis.

At the same time, there are a lot of issues that have nothing to do with China that need to be addressed as well. It is important to address urgent and important topics like subsidies, but at the same time we also need to deal with issues that might be less urgent but very important to other countries.

There needs to be work done on mapping which type of policies are appropriate for small group cooperation, which ones are zero sum situations that would require more difficult negotiations and which issues should be linked to ensure success in those endeavors, and finally, which issues do not require linkage, where we can sit together as a group, agree on a set of rules that will make us better off and will not make the rest of the world worse off? I think that mapping exercise is the key thing to do at the moment and I do not see enough work going on to try and figure it out.

One element here in terms of answering this question is to determine of all the policies, which ones are systemically important, which matter for the trading system and for most countries that are a member of the WTO, and also, who we need to involve in a potential deal.

A fact is that most countries in the WTO are small and cannot affect their terms of trade. They do not really impose spillovers on the rest of the world. Ideally, they should be a part of these discussions, but they do not really need to be there.

If you are thinking about a plurilateral approach as a way of dealing with some of the trade conflicts and challenges, there are two kinds of downsides. The first is that the members of a group might do things which are not in the interest of countries that have remained outside. The second is that if we do things on the basis of small groups of countries, the countries that are not part of that group will not have to apply those rules.

In addition to the mapping I mentioned earlier, the key question here is to determine where and whether free riding is a concern, and if free riding is a concern, what constitutes critical mass for an agreement?

The main point of the paper I presented for the Asian Economic Policy Review journal is open plurilateral agreements, which are agreements among subsets of countries that are applied on a nondiscriminatory basis and deal with questions that have to do with regulatory heterogeneity. There is a large potential to use those types of agreements to deal with some of the questions that are leading to trade conflicts today.

More focus on the type of joint initiatives that we are already seeing being pursued in Geneva could actually help deal with some of the trade conflicts we have today as long as we have enough key players involved in the discussions. Those types of approaches are much easier for regulatory issues and traditional market access related issues, but even in the area like subsidies, if we can get the big countries together to agree on how to move forward, that will potentially be a way of addressing some of the trade conflicts.

Because we are moving towards a world of plurilateral cooperation simply because of the consensus constraints in the WTO, we need to put in place an explicit framework so that countries that do not join feel more comfortable and know that there will be assistance to help them join if that is needed. We need to agree on a code of conduct for these plurilateral agreements to set down very clear criteria that members can agree to. I think that they are a way to multilateralize a lot of the cooperation that is happening in regional agreements.

I spoke a lot on these open plurilateral agreements as a way forward, but they are not perfect. There is a lot of other things that need to be done, such as on the transparency front and I think there is a need to revisit the current notification system that we have in the WTO. We also need to revisit special and differential treatment. That is going to be quite difficult but very important. We also need a system to evaluate the performance of the WTO as an organization. The WTO is the only organization that does not have an independent evaluation office.

The things the U.S. is objecting to with the Appellate Body are things that the U.S. has been saying for well over a decade. We have been at this for over 20 years and we really should be assessing the operation of the organization and have a system to ensure that the WTO stays relevant in today's world.

It would be a good thing if we can move more of the dynamism that is underlying the negotiation of regional trade agreements into the WTO in the format of plurilaterals. In addition, identifying what topics lend themselves to plurilateral agreements is another urgent research agenda. We need to commission work to figure out what could work and what types of rules might be appropriate.

The second dimension of looking forward is WTO reform itself. What are alternative instruments to enforce agreements? We have gone down the track of judicialization, legalization of the system. The GATT used to be much more diplomatic. However, there are potential other elements on the table that could help us resolve disputes in a more efficient and effective way. One way forward might be to rethink the excessively legal nature of dispute settlements and improve notification, transparency, and regular Committee work in the WTO. There are a lot to be learned both from other organizations and what has been done in the WTO to date, for example, in the area of product standards.

Q1: My name is OSHIMA Shotaro. I used to be a member of the Appellate Body.
Major emerging economies are sitting pretty, in a way free riding, and not helping to meet the demands of emerging economic changes. While I agree with the methodology that you mentioned of open plurilateral agreements (OPA), in my view, I would say CPTPP is a good forum or model for this. However, will China or India come along? I doubt it. What is the ultimate objective of major emerging economies like China and India in not contributing to this critical work of the WTO?

Bernard HOEKMAN:
That is absolutely true. The large emerging economies felt that things are good and do not have to engage in new issue areas. However, why do we let that be a binding constraint? China is probably more inclined to engage on particular issues because it is a huge exporter. There, it is feeling the pressure and seeing what is happening in the U.S. and the EU, where increasingly there is a feeling of stopping SOEs from investing in Europe.

I think the big difference between India and China is that India is still a closed economy. Yes, they have their own regime which is very interventionist and certainly creates negative spillovers, but at the same time, they are not a major exporter.

Will those countries join? How do you bring China and India into these discussions? The way you bring them in into these discussions is to define the rules amongst yourselves and tell them that it is going to affect them. The main reason that China joined the negotiation on data earlier this year and India did not, was because China saw that as something they needed to be involved in.

Will China eventually join the CPTPP? This is where the OPA framework helps because one of the characteristics of the CPTPP is that it is a trade agreement. The OPAs can be designed in a way that they are sector specific. Why not take those, multilateralize them, and then engage with China and India.

At the end of the day, my expectation would be that India is always going to be difficult. There are things to be learned here from the Regional Comprehensive Economic Partnership (RCEP) experience.

Q2: I am URATA Shujiro from Waseda University and RIETI. First, a piece of information: Dr. HOEKMAN's discussion paper will be out in the Japan Center for Economic Research (JCER). The final product will be published in a journal called Asian Economic Policy Review towards the end of this year.
I think the "Make in India" mentality is crucial. If India or Mr. MODI realizes it is important for them to abandon this mentality, then maybe they can achieve faster economic growth by inviting or attracting foreign investment. However, if the leaders do not believe in this global value chain-type of production network, it is very difficult for countries or policy makers to go along with your idea of plurilateral agreement. That also goes with the United States and Mr. TRUMP.
As long as these two very important leaders in the world still have this old and maybe incorrect mentality, do we have to wait until they leave power to proceed with your recommendation? How do you see the future prospect of the trade policies by these two countries?

Bernard HOEKMAN:
I would be much more positive about the U.S. than I would be about India. One of the things that has surprised me about the U.S. situation is that our political economy models are not particularly good at understanding and rationalizing what the TRUMP view is. The TRUMP view is all about outward foreign direct investment being bad. If you talk to the people of the USTR (Office of the United States Trade Representative), the people in Washington who are lobbying, or the business community, the prospects there are much more positive, especially when it comes to issue-specific areas.

Take the case of data flows. The U.S. has a huge services industry and they are essentially the market leaders. Those companies are now confronting much more aggressive regulation in very large markets like the EU. Ultimately, the political economy is going to be such that I am reasonably positive that the plurilateral approach will find a lot of support in the U.S., especially out of these regulatory types of measures largely due to pressure from business leaders.

India is a different case because it is not an exporter. The challenge for us, who want to sell to India and get access to the market, is free riding. It is the same thing we are engaged in addressing with China. Ultimately, if you are not an exporter you do not have a lot of leverage. What will change the dynamics in India is when enough Indian firms become exporters. A big driver of change in developing country policies which used to be very protectionist is an export-oriented industry. I think that will be the channel for change.