The Changing Landscape of Trade Negotiations

I changed the title of my speech to "The Changing Landscape of Trade Negotiations," because approximately six months ago when I started talking about these topics it seemed pretty clear that we were moving in the direction from free trade agreements (FTA) to mega-FTAs—or FTAs involving large numbers of countries, such as the Trans-Pacific Partnership (TPP). Now, I am less sure that that is going to happen. The odds seem to be stacked against approval of the TPP in the United States. If the TPP is approved, we may move into a new landscape, but it is not certain.

The modern world of trade negotiations started at the end of World War II with the creation of the General Agreement on Tariffs and Trade (GATT). Tariffs today are something on the scale of 1/10 of pre-GATT levels. The tariffs were lowered on a "most favored nation (MFN)" basis: the same tariff for all GATT signatory countries. FTAs, by contrast, are discriminatory.

The GATT expanded from the original 15 countries to 128 countries by 1994. In 1995, the last round of negotiations created the World Trade Organization (WTO), and since then, the membership has grown even further, to approximately 160 member countries. The WTO incorporated the GATT. It also included two other smaller agreements: the General Agreement on Trade in Services (GATS) and the Agreement on Trade-Related Aspects of Intellectual Property Rights (TRIPS).

The WTO was expected to lead to continuing rounds of negotiations that would bring down tariffs and expand coverage to reduce non-tariff barriers to trade in goods and identify barriers to trade in services. The Doha Round of negotiations, which finally started in 2001, was a failure. It was never officially declared dead, but it is over. The only multilateral successes that have occurred under the WTO were the Bali package in 2014 on trade facilitation, and then in Nairobi, there was a commitment to abolish export subsidies on farm products. So, they are still negotiating but in much smaller and less ambitious ways. They have also begun to negotiate so-called plurilateral agreements. A multilateral agreement is by definition applied to and implemented by all WTO members. A plurilateral one is for a group of members who can choose to join or not. A number of these agreements have been made in recent years. This seems to be the limit of what the WTO can accomplish in terms of trade negotiations. The WTO's other major reason for existing is its dispute settlement system, which is doing fine and is a huge improvement over what had been available prior to the WTO. In many ways, the WTO is an important and successful organization, just not in trade negotiations.

An FTA is an agreement, usually between two countries but sometimes a group of countries, to eliminate essentially all tariffs on trade between them. This means they are departing from the MFN requirement of the GATT and WTO which prohibits discrimination, but the GATT and WTO rules now permit this, and it has been done.

Japan was a bit later than some countries in joining this process. As far as I know, its first FTA was with Mexico in 2004, a decade after the North American Free Trade Agreement (NAFTA) started this process and a decade or more after the start of the major period of growth of FTAs around the world. Japan has since picked up speed and now has concluded eight agreements, including one with the Association of Southeast Asian Nations (ASEAN) which includes 10 other countries, so it now has them with a fair number of countries, with some others under negotiation. I still would not say that Japan is at the forefront of this move to adopt trade agreements.

One way of looking at the proliferation of these agreements is to make a list of countries. I picked the 66 biggest countries by gross domestic product (GDP). I looked at what had been reported to the WTO in 1990 regarding trade agreements, not including customs unions. There were very few; mainly Norway and Switzerland concluding them with European Union (EU) countries. By 1995, there were a few more scattered all over the world. It slowly and steadily increased until today. There is now a trade agreement rate of 20% among the 66 countries. Most countries are now concluding them with a number of partners. If we assume approval of the TPP, Transatlantic Trade and Investment Partnership (TTIP), and Regional Comprehensive Economic Partnership (RCEP), and if we also include customs unions such as the EU, then the rate reaches 36%.

The most recent development in the world of FTAs is the mega-FTA: an FTA among a large number of countries. There is precedent for this. The EU, for example, was a customs union but it was a mega agreement, starting with six countries and growing over time to 28. There are four FTAs I learned about in Africa, three of which include more than a dozen countries. We look to be moving toward more of them. The major examples are the TPP, TTIP, and RCEP.

The TPP negotiations were launched in 2008, and agreement among 12 countries, including the United States and Japan, was reached on October 5, 2015. It has so far not been ratified by any of the countries as far as I know. A distinctive feature of the TPP compared to all prior trade agreements is that it is characterized as an open agreement to which additional countries may join. In a way, this already happened, as Japan opted to join the process while the negotiations were already underway.

Japan's participation is most important from the U.S. perspective, and I would speculate that the reverse is also true. The inclusion of so many other countries will matter in several ways. Vietnam is also important because it is a much more centrally planned economy with a much larger presence of state-owned enterprises. If this is going to be an open agreement, it has to show how state-owned enterprises will be handled. China will need to see what those rules are before deciding whether to join.

Among the 30 chapters of the TPP, the centerpiece is the tariffs. On cars and trucks, U.S. tariffs against all other TPP countries will be removed. The tariff on cars is only 2.5%, whereas the tariff on trucks is much larger, at 25%. The reason for this so-called "chicken tariff" is unusual. It was first established under U.S. President Lyndon Johnson in the 1960s in response to a trade dispute with Europe, which was refusing to buy chickens from the United States. The United States put a big tariff on trucks in response, of which they were major exporters. The tariff still exists even though the chicken dispute went away. It will be a phased removal, with the tariff gradually reduced to 0% after a very long period of time.

What is more interesting is that because this is a mega-FTA, it has a feature that would have been impossible in a bilateral FTA: the schedule of rates can differ among the exporting countries. There are 12 members, so there are 11 other countries exporting to the United States. There is no commitment that they will all be treated the same. The length of the period of the gradual tariff reductions differ by category and by country. The United States is trying to structure its participation so that it will not have to renegotiate its already existing agreements with other countries. Other countries do not have the same political constraints. Some of the commitments are based on agreements the United States already has with other countries. The TPP is a great deal more complicated than I ever would have dreamed. A mega-FTA where we deal differently with different countries inevitably entails complexity.

Some of the other noteworthy features include the investor-state dispute resolution mechanism, which has been controversial in the United States. I understand this to be an issue between the United States and Europe, because the Europeans are afraid of the former's big multinationals. It became especially controversial in the United States when news got out that investor-state dispute resolution mechanisms had been used by tobacco companies—especially in Australia—in an attempt to prevent the use of cigarette packaging intended to discourage smoking. They resolved this controversy by exempting the tobacco industry from the dispute resolution mechanisms, which means that the United States will also lose their lobbying efforts in getting the TPP ratified.

The treatment of biologic drugs is another feature. A biologic drug is a medicine which, rather than being made by people in laboratories, is made by living organisms. This includes bacteria-making medicines, etc. The issue here concerned data exclusivity. The United States wanted 12 years of protection for its companies working in this field. Australia and other countries wanted a shorter period. In the end, they made a compromise: the United States has 12 years of protection but the others can offer five years. How will that work for pharmaceutical companies?

Agriculture is an important area for Japan. I understand that Japan's tariff on beef (38.5%) will be lowered to 9%, almost twice as fast as the United States is reducing its tariff on trucks. On pork, Japan has a much lower tariff which will more or less be cut in half. Japan's rice tariff will not be reduced at all.

The last controversial issue I wanted to mention is exchange rates. When U.S. President Barack Obama requested trade promotion authority—what we used to call "fast track" authority—concerns about exchange rates were an obstacle. Currency manipulation is not included in the TPP. This issue was resolved with a side agreement on exchange rates, under which all members commit to avoid manipulation and a group will meet annually to discuss it. However, this agreement has no enforcement mechanism, making it unlikely to satisfy those with exchange rate/currency undervaluation concerns.

The RCEP negotiations began in 2012, several years after the TPP, but it existed as an ASEAN+ concept long before that. It is an agreement being discussed by the 10 members of the ASEAN group plus six countries with which ASEAN already has bilateral FTAs. It would be a major mega-FTA. It will never be as comprehensive as the TPP but it might have better odds of coming to pass. Of importance to the United States is that it includes China—China is the center—whereas the United States seems to be the center of the TPP. In that way, it is important to note that Japan is in both.

The TTIP is even newer, having been launched in 2013. In a way, it is just a bilateral agreement between the United States and the EU, but the EU has 28 members so it does involve a large number of countries. "Tripartite Free Trade Area" is another new idea: an effort to combine the three of four already existing trade agreements in Africa.

Overall, FTAs and mega-FTAs are likely to be beneficial. It is important to ask what all this will mean for the WTO. I think it is a very important organization. Some thought that the TPP might pressure the Doha Round to succeed, but that did not happen. Some uncompetitive or less competitive industries may go out of business due to greater competition from other trade agreement members, and, if so, that will relieve some protectionist pressures. This should be helpful for the WTO and may lead to less frequent use of some of the administered protections it sanctions. I think less frequent use of these protections would actually help the WTO. In addition, parties to trade disputes will be able to choose whether to have their complaints resolved by the WTO or in the TPP or other dispute resolution mechanisms. This could reduce the importance of the WTO, but I imagine it will remain relevant. It will continue to be important in the types of negotiations it has always conducted, and which cannot be addressed under regional trade agreements.

Hopefully, the mega-FTAs will move us closer to free trade. Rules of origin are a problem. If the mega-FTAs grow larger, I think these issues will dissipate. The issue of sensitive sectors (sectors excluded from trade liberalization) is also significant. It is acceptable for tariffs in certain sectors to be phased out gradually, but permanent tariffs, such as Japan's rice tariff, are problematic.

It remains to be seen whether the TPP will come to pass. Donald Trump and Hillary Clinton both oppose the TPP. Trade is currently unpopular in the United States. There is hope, however, that it will come up during the lame duck session. It will need a lot of Republican votes and some Democrat votes. That will be hard to get. If the TPP doesn't pass in the United States, I think it's over. I think the TTIP would then also die. Other mega-FTAs, such as the RCEP, may or may not stop. Some believe a failed TPP would make the RCEP stronger. TPP failure could be traumatic to anyone thinking to create new bilateral agreements, and would result in protectionism.

Q1. What do you think are the odds the TPP will pass in the lame duck session? Obama might want to leave a legacy by passing it. What are the dynamics?

Alan V. DEARDORFF
I don't know the answer, given that I am an economist rather than a political scientist. Disagreement exists over the TPP's prospects. Some are optimistic that it will get passed. There are many pro-trade Republicans, and the Republicans have a majority in both the House of Representatives and the Senate. However, the more recently elected Tea Party Republicans are anti-business, anti-trade, and anti-TPP. Not all Republicans will vote for the TPP. On the Democratic side, Democrats have tended to be anti-trade for more than half a century. When NAFTA was negotiated by U.S. President George H.W. Bush and then came to Congress under U.S. President Bill Clinton, a Democrat who came to believe through becoming president that trade agreements were a good thing, he pushed for passage but mainly succeeded through Republican votes. How will Obama pull that off? Bill Clinton also had an advantage that will not be available to Obama due to the elimination of earmarks. It was formerly possible to add tiny pieces to legislation, called earmarks, specifically to benefit particular members of Congress and their constituents. Earmarks were a currency used to buy votes from the opposition.

Q2. I would like to add another implication of mega-FTAs to the WTO. The mega-FTAs will result in the creation of new rules and disciplines. The choice between the WTO dispute settlement procedures and the TPP dispute settlement procedures is likely to disfavor the WTO as its rules are almost half a century old. Many countries would choose the newer rules and disciplines.

Alan V. DEARDORFF
That's a very good idea. For old issues such as underpricing and subsidies, that is not a problem. However, the WTO has never grappled with a range of new issues which are built into the TPP. If the TPP survives, the most optimistic scenario for a trade advocate would be for it to be ratified and expand over time until it ultimately supplants the WTO as the governing body for trade. One of the hopes is that the TPP will be able to flexibly negotiate new rules over time. The bigger it gets, the harder that's going to be. The WTO couldn't complete the Doha Round in part because of how many members it now has.

Q3. Legally, the Japan-Singapore agreement preceded the Japan-Mexico agreement. You missed one point concerning the WTO plurilateral approach. The WTO does have a role in negotiations by providing a forum. This doesn't mean all 161 countries, but even 20 can negotiate within the framework of the WTO. That is one positive aspect of the WTO. I would like to ask how we can cope with protectionism in the future.

Alan V. DEARDORFF
I think our best defense against protectionism continues to be the WTO. If a country raises protectionist barriers that are contrary to its WTO commitments, other countries will file disputes. It's a slow and difficult process, but it does work. In most cases, the WTO is successful in eliminating the offending policies. Even more importantly, it has been true and I think it will continue to be true, that at least within the U.S. government—and I think this is true of other governments as well—the issue is raised as to whether a certain action violates WTO commitments. There has been a desire not to break WTO rules. However, I think we have bigger problems to deal with at present than protectionism.

Q4. Industries are calling for more and more FTAs. Why is this?

Alan V. DEARDORFF
I think this is because they want to engage in trade, and every FTA tends to lower tariffs. It is complicated and industries do not always take advantage of the tariff cuts that an FTA includes because of rules of origin and the complexity of satisfying them. However, they do take advantage quite often. Lower trade barriers are preferable to companies. Employees may not like them due to the fact that jobs may go to other countries, but the companies by and large benefit. Larger and more complex agreements pose no difficulties because a company only needs to look at the part of the agreement that relates to its specific industry.

Q5. I have a question on the RCEP, which was initially driven by the ASEAN countries. The idea was initiated by the Ministry of Economy, Trade and Industry about 10 years ago with the hope that ASEAN would proceed with this initiative. In 2010 at the APEC summit meeting in Yokohama, a dispute erupted over leadership of the Free Trade Area of the Asia Pacific (FTAAP.) Afterwards, Japan decided to join the TPP. Work on the CJK (China-Japan-Korea) FTA also started around the same time as RCEP. China could not enter the TPP at this time because of the transaction rules and the TPP's approach to state-owned enterprises. If the TPP fails, China will be more likely to proceed with the RCEP. China would prefer an initiative in the Asia-Pacific region without the United States, so it would be a comfortable agreement for China. Judging from statistics, U.S. exports are expanding at this moment, and exports from China to the United States are decreasing. Some people see this as a revitalization of the U.S. manufacturing industry. Why at this time would the United States entertain anti-trade ideas?

Alan V. DEARDORFF
The people taking anti-free-trade positions are not looking at the statistics and probably would not believe them if they did. It is true that the huge expansion of exports from China since it joined the WTO displaced many workers in the United States. The U.S. overall unemployment rate has fallen considerably, but the jobs that replaced the jobs lost have often not been as highly paid and in many cases are not even full time. A fairly large segment of labor in the United States feels correctly that it has been hurt by trade. It may be true that Chinese exports are falling while U.S. manufacturing is increasing, but the United States has just turned the corner. It hasn't gone past it yet. Nobody feels it has gotten better. There are real reasons for them to be unhappy based on what has happened over the last decade or two. I am not sure what we can do about this situation, especially when economists are diminishing in influence.