Trade Liberalisation and Poverty in South Asia

Prema-chandra Athukorala, Jayatilleke S. Bandara, Saman Kelegama, Prema-chandra Athukorala, Jayatilleke S. Bandara, Saman Kelegama

• Publisher: Routledge
• Year: 2012
• ISBN:
  9781136697838
• Edition: 1
• Topic: Economics
• Subtopic: Development Economics
• Index: Economics

The link between trade liberalisation and poverty has arguably been one of the most debated topics in development policy debate. Existing studies on the subject have primarily used multi-country cross-sectional data, and there is a growing concern about the limitations of this approach in providing a sound empirical basis for informing the policy debate. These limitations point to the need for undertaking in-depth analyses within individual countries over time.

In order to examine the connection between trade liberalisation and poverty, this book provides case studies of trade policy reforms and poverty reduction outcomes of seven countries in South Asia - Bangladesh, Bhutan, India, Maldives, Nepal, Pakistan, and Sri Lanka. The South Asia region allows for an excellent comparative study given the widespread emphasis on liberalisation reforms in the region over the past two decades, as well as highlighting significant inter-country differences in terms of the timing and comprehensiveness of reforms, and the heavy concentration of world poverty in the region. This book is a useful contribution to studies on South Asia, as well as International Trade and Development Economics.

1 Trade Liberalisation and Poverty in South Asia

Reforms, Stylised Facts and Preview

Prema-chandra Athukorala, Jayatilleke S. and Saman Kelegama

The role of trade policy¹ in economic development and poverty reduction in developing countries has remained at the centre of the debate on economic policy making in developing countries. Trade policy, through its influence on the levels and composition of imports and exports, impacts on the structure of production and pattern of development of all economies. The emphasis placed on trade policy is usually very high in developing countries for reasons associated with their shared economic backwardness. The typical developing country adopts its development strategy from an initial position characterised by limited capacity to produce manufactures and dependence of domestic firms on imported inputs and technology for their ability to produce output. Therefore the nature of the trade regime, in particular the mechanism used to repress import demand, could have important implications for resource allocation, efficiency and income distribution in the economy.

In the 1950s and 1960s there was a broad consensus in the economics profession that the basic strategy for development should be based on ‘import substitution’ (IS) – the promotion of industries oriented towards the domestic market by using import restrictions, or even import prohibition, to encourage the replacement of imported manufactures by domestic products. The case for the import-substitution strategy was so widely accepted at the time that ‘developing-country exemptions’ were even incorporated into the General Agreement on Tariff and Trade (GATT),² enabling developing countries to pursue protectionist policies at a time when developed countries were removing their tariffs to increase the openness of their economies. Moreover, the two Bretton Woods institutions (the International Monetary Fund and the World Bank) and other international organisations with commitment to economic development in developing countries generally supported the basic thrust of the import-substitution policy (Krueger 1997).

The period from about the late 1960s has witnessed a decisive shift in development thinking and policy away from the entrenched import-substituting views and in favour of outward-orientated (export-oriented) trade strategy. The case for this policy was based on a number of multi-country studies of the contrasting experiences of developing countries under alternative trade policy regimes.³ Policy advocacy based on this ‘neo-classical revival in the applied trade and development literature’ (Diaz-Alejandro 1975: 94) soon became an integral part of aid conditionality of the World Bank and the International Monetary Fund (IMF) and the major bilateral donors. Reflecting this new ideological orientation (popularly known as ‘the Washington Consensus’), coupled with the influence of aid conditionality, trade liberalisation became the linchpin of policy reforms in many countries around the world. The new orthodoxy in favour of trade liberalisation also provided the setting for dismantling of trade concessions for developing countries under the trade policy reforms in the Uruguay Round.

The past two decades have seen the emergence of a strong revisionist school of thought in response to the lacklustre outcome of policy reforms in many countries. The revisionists do accept that the old-style import-substitution strategy bordering on autarchy has outlived its usefulness and that growth prospects for developing countries can be greatly enhanced through integration into the global economy. But they argue that trade can help achieve selfsustained growth with poverty alleviation only through cautious liberalisation combined with the right kind of government action to make ‘openness work’.⁴

Most, if not all, of the empirical evidence used by the revisionists is derived from aggregate multi-country (cross-section or pooled time series) regression analyses. Quite apart from general methodological flaws relating to model specification and econometric procedure (Levine and Renelt 1992; Srinivasan and Bhagwati 2001; Athukorala 2011), there are two fundamental limitations that make results from any cross-country study on this subject rather dubious. First, cross-country regression analysis is based on the implicit assumption of ‘homogeneity’ in the observed relationship across countries. This is a very restrictive assumption. It is common knowledge that there are considerable variations among developing countries in relation to various structural features and institutional aspects that have a direct bearing upon the reform outcome. Second, given vast differences among countries with respect to the nature and quality of data, cross-country comparison is fraught with danger because attempts to characterise the ‘average’ developing country in terms of a cross-country regression are unlikely to yield sensible results. Comparison of results from various studies is also complicated by the absence of a unique measure of trade openness. Even if these limitations are ignored, cross-sectional studies are only a means of testing the validity of generalisations. Such tests are of obvious importance for broadening our understanding of economic phenomena. But in order to inform the policy debate, it is necessary to go beyond the general picture and obtain a comprehensive account of the underlying growth process and related social, political and institutional aspects.

These considerations point to the need for undertaking in-depth analyses within individual countries, by appropriately combining quantitative analysis with qualitative analysis in its own historical context, in order to build a sound empirical foundation for the debate on policy reforms in developing countries. This is the motivation behind the production of this volume. It brings together case studies of trade policy reforms and poverty reduction outcomes of seven countries in South Asia – Bangladesh, Bhutan, India, Maldives, Nepal, Pakistan and Sri Lanka.⁵ South Asia provides an ideal laboratory for studying the subject at hand for the following reasons. All countries in the region have undergone notable shifts in trade policy regimes with a clear shift towards greater outward orientation over the past two decades, and the timing of reforms and the degree of trade opening achieved varied notably among the countries. Second, the overall growth trajectory, poverty incidence and the success of poverty reduction effort have also varied among the countries, providing rich material for a comparative study. Third, over 40 per cent of the total world poverty headcount population living are in South Asia, with India alone accounting for a third. An understanding of the South Asian experience is therefore vital for the contemporary policy debate on the role of policy reforms in poverty reduction. Fourth, after almost two decades of reforms, there has been a growing concern among policy circles in almost all countries in the region that the economic outcome of liberalisation reforms has fallen well short of the initial expectations. Consequently, the political climate has become more receptive to calls for more ‘nationalistic’ and protectionist policies and there are signs of a mounting policy backlash that can perpetuate and aggravate, rather than redress, current problems. In this context, it is vital to assess systematically the achievements of liberalisation reforms and the causes of their failure to match expectations.

The remainder of this chapter is organised as follows. The next section provides a historical overview of policy reforms in South Asia. The section following provides stylised facts on economic performance and the incidence of poverty. The final section provides a preview of the structure, content and key policy lessons of the case studies presented in the ensuing chapters.

Trade Policy Reforms: an Overview

During the first four decades of the post-World War II period, import substitution was the basic tenet of development strategy in all South Asian countries.⁶ This policy choice was much in line with the climate of ‘development’ opinion at the time – there was a broad consensus in the economics profession that the basic strategy for development should be based on ‘import substitution’. Apart from the ideological consensus of the day, import substitution also had a natural appeal to the strong nationalistic and anti-colonial sentiments that naturally accompanied the attainment of independence. There was a strong perception that the ex-colonial powers had enforced the primary commodity-dependent status on the developing countries and thereby had become economically stronger.

The policy regimes during the period were characterised by stringent trade barriers to international trade with high tariffs and quantitative restrictions (QRs), restriction on foreign investment, industrial licensing aimed at governing sectoral priorities of private sector participation in line with the objectives of central planning, and direct pervasive state participation in the economy through setting up of public enterprises.

In the 1960s and 1970s there were episodes of partial liberalisation in some countries driven principally by donors’ initiatives, but they were rather short-lived. Sri Lanka led the way in breaking away from the protectionist past by embarking on a decisive process of economic opening in 1977. The other countries embarked on significant liberalisation reforms from the late 1980s. While there are vast inter-country differences in terms of the degree of liberalisation achieved during the ensuing years and comprehensiveness of reforms, by the mid-1990s all seven countries seemed to have moved into a seemingly irreversible process of economic liberalisation. Table 1.1 provides a chronology of policy shifts.

Table 1.1 A chronology of trade policy shifts in South Asia

Bangladesh
1971–9	Tightening trade restrictions
1980	Import duty reduction began
1985	Reduction in QRs began
1986	Simplification of tariff began
1991 onwards	Movement towards a uniform tariff structure with low tariff rate
1994	Achieved Article VIII status of the IMF
Bhutan
Until 1960s	Virtually a closed economy
1960s	Began gradual integration into the world economy
Early 1970s	The customs tariff was reduced
Early 1990s	Replacement of quantitative trade restrictions by tariffs, setting the stage for further tariff cuts in the ensuing years.
1999	Negotiation for WTO accessions commenced
India
1947–52	Liberal trade regime
1952–65	Consolidation of the control regime
1966–71	Reduction of some tariffs and introduction of some export subsidies
1972–4	Tightening...

Table of contents

• Cover
• Half Title
• Title Page
• Copyright
• Contents
• List of Illustrations
• Acknowledgements
• List of Contributors
• Acronyms and Abbreviations
• 1. Trade Liberalisation and Poverty in South Asia: Reforms, Stylised Facts and Preview
• 2. Trade and poverty: Theory, Evidence and Policy Issues
• 3. Bangladesh
• 4. Bhutan
• 5. India
• 6. Maldives
• 7. Nepal
• 8. Pakistan
• 9. Sri Lanka
• Appendix 1
• Appendix 2
• Appendix 3
• Bibliography
• Index