global economic prospects - world...

GlobalEconomicProspectsand the Developing Countries

2002

© 2001 The International Bank for Reconstruction and Development / The World Bank1818 H Street, NWWashington, DC 20433

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Acknowledgments ix

Summary xi

Abbreviations and Data Notes xxi

Chapter 1 Prospects for Developing Countries: Coping with a Global Slowdown 1A simultaneous downturn in the industrial countries 4Global environment: trade 9Global environment: financial markets 13The outlook for developing countries 16Risks to the outlook 24Long-term prospects: growth and poverty reduction 27Conclusions 33Notes 33References 34

Chapter 2 Market Access and the World’s Poor 37A changing landscape of merchandise trade 38Labor-intensive exports can spur pro-poor growth 38Market access barriers limit export opportunities of developing countries 44Liberalizing trade to promote development 56Notes 63References 64

Chapter 3 Trade in Services: Using Openness to Grow 69Surging trade and investment in services 70Service reforms can promote efficiency and growth 76Domestic policy: emphasizing competition and regulation 81Multilateral engagement: buttressing domestic reforms 84Notes 90References 92

Contents

Chapter 4 Transport Services: Reducing Barriers to Trade 97High transport costs penalize exports 98Why some countries pay more for transport services:

geography and income 103Why some countries pay more: policy-driven factors 109Unleashing competition in international transport: policy implications 120Notes 123References 125

Chapter 5 Intellectual Property: Balancing Incentives with Competitive Access 129Intellectual property rights and development 130Costs of enforcing IPRs 136IPRs policies for promoting development 139Other policies can support technological progress 144Multilateral actions and IPRs in a development round 145Notes 149References 149

Chapter 6 Envisioning Alternative Futures: Reshaping Global Trade Architecturefor Development 153

Reshaping global trade architecture for development 154Envisioning alternative futures 166Conclusions 176Annex 1 177Notes 178References 182

Appendix 1 Regional Economic Prospects 187

Appendix 2 Global Commodity Price Prospects 211

Appendix 3 Global Economic Indicators 233

Figures1.1 Industrial production in the G-3 countries falls in 2000–2001 51.2 European industrial production falls 81.3 U.S. NAPM and manufacturing industrial production excluding high tech,

1994–2001 91.4 GDP growth in OECD countries 91.5 Import growth across industrial centers 101.6 Export shares for developing countries excluding transition economies 111.7 Distribution of countries by share of primary commodities in total

merchandise exports 111.8 Episodes of world growth slowdown and agricultural and mineral

export prices 121.9 OPEC output and crude oil prices 131.10 Gross capital market flows to developing countries 14

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1.11 Emerging market spreads and share of global capital flows 141.12 Industrial- and developing-country GDP growth, 1981–2003 171.13 Composition of developing-country exports 181.14 Major destinations for developing-country exports 191.15 Total external debt in developing countries, 2000 191.16 Emerging market stripped spreads, 1999–2001 201.17 Global dynamics of recessions in industrial countries 261.18 Income and population shares 291.19 World poverty, 1820–1998 311.20 Under-5 mortality—hopes and aspirations 322.1 Changing global trade patterns 392.2 A rising share of exports in GDP is associated with faster growth 402.3 Increases in exports and agricultural production go hand in hand 412.4 In globalizing economies the poor participate in stronger growth 442.5 Tariffs still impede trade 452.6 Support to agriculture in the Quad is growing . . . partly due to the fall in

commodity prices 512.7 Despite preferences, LDC exports to the Quad often face high tariffs 542.8 LDC exports can grow fast when tariff preferences are significant 562.9 Opposite patterns of tariff incidence in manufactures and agriculture 563.1 Trade in services has grown faster than trade in goods—and developing

countries’ share in world exports has increased, 1985–98 713.2 Transport has declined while “other” services have increased 723.3 FDI in services is concentrated in the OECD countries—but the growth rates

are higher for many developing countries 733.4 Software is cheaper to develop in India 753.5 Services liberalization indices: telecoms & financial services 793.6 Greater liberalization in services is associated with more rapid growth 793.7 WTO members have been reluctant to make market access commitments

on the movement of natural persons 864.1 Transport costs are often higher than tariffs 1004.2 Tourism earnings in developing countries, 1998 1014.3 Potential market access explains variations in income 1024.4 Shipping a container from Baltimore, Maryland, around the world: Distance is

only half the costs story 1054.5 Ocean freight rates, 1970–99 1064.6 Decomposing the costs of door-to-door shipments 1084.7 Potential door-to-door cost savings on containerized imports in Brazil 1096.1 Regional integration agreements are proliferating—and now span

the globe 1556.2 Developing countries could reap income gains of over $500 billion from full

trade liberalization 1686.3 Unskilled wages rise substantially relative to cost of living—implying a

substantial reduction in poverty 1756.4 Reform has costs, but they are largely outweighted by the gains 1766.5 World trade booms, particularly in food and agriculture 177

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Tables1.1 Global conditions affecting growth in developing countries and

world GDP growth 31.2 Merchandise export volumes, annual average percentage change 101.3 All developing countries: key indicators 181.4 First year effects of a 2% of GDP decline in investment in the United States,

Europe, and Japan 251.5 Short-term claims of international banks outstanding in selected

developing countries 261.6 Withdrawal of short-term lending by industrial-country banks to

selected developing regions: the first-year impact on GDP 271.7 Long-term prospects: forecast and scenario growth of world

GDP per capita 281.8 Regional breakdown of poverty in developing countries 302.1 Major export booms in textiles and clothing and effects on economic

performance and poverty 424.1 Ad valorem freight rates for U.S. imports: 1938, 1974, and 1998 1055.1 TRIPS: who gains? 1335.2 TRIPS-consistent IPRs standards: options for developing countries 1416.1 Agriculture accounts for the bulk of the gains from merchandise

trade liberalization 1716.2 Global gains are sensitive to productivity—openness linkages 1716.3 Services liberalization generates substantial windfall gains for

developing countries 1726.4 Labor’s share of national income rises substantially 1736.5 Developing countries increase their market share 176

Boxes1.1 Japan and the developing countries 72.1 The aftermath of trade liberalization in agriculture: lessons from Haiti 432.2 U.S. sugar policy and its impact on imports 482.3 Wheat production with CAP support 492.4 Bringing support to agriculture and export subsidies under multilateral rules:

a long-awaited endeavor 502.5 A primer on the agreement on textiles and clothing 522.6 Anti-dumping—and better alternatives 532.7 Mushroom wars 552.8 Calculating effective tariffs faced by the poor 572.9 Designing appropriate safety nets to ensure trade forms are pro-poor 592.10 The banana dispute: good intentions . . . bad policies? 613.1 Why do services matter for development? 703.2 Whose regulations and for what purpose? Challenges in electronic

commerce 743.3 Welfare gains from service liberalization: the case of Tunisia 783.4 Challenges in implementing procompetitive regulation 833.5 Financial sector liberalization: the need for policy coherence 853.6 Ensuring barrier-free trade in electronically delivered products 884.1 The Kenyan-European cut-flower supply chain 99


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4.2 Inefficient internal transport systems contribute to the concentration ofChina’s export industries in coastal regions 104

4.3 Lessons from customs reforms in Mexico 1114.4 Maritime shipping in West Africa 1134.5 How important are public and private barriers to trade in

maritime services? 1154.6 Lessons from reforming Argentina’s ports 1174.7 EU noise regulations and their potential effect on air service to

Central Asian countries 1195.1 An overview of intellectual property rights 1315.2 Pharmaceutical policies and the limits of TRIPS 1386.1 Reshaping global trade architecture for development:

the four-part policy agenda 1586.2 The recently renovated integrated framework 1606.3 Environmental standards and trade 1616.4 Improving labor standards in a way that works 1636.5 Standards development facility: coordinated action to bridge the

standards gap 1656.6 The complexities of measuring openness and growth 1696.7 World Bank programs: activities to support trade-led pro-poor growth 177

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This report was prepared by the Economic Policy and Prospects Group and drew from re-sources throughout the Development Economics Vice Presidency and the World Bankoperational regions. The principal author of the report was Richard Newfarmer, with

direction from Uri Dadush. The chapter authors were Hans Timmer (chapter 1), AristomeneVaroudakis (chapter 2), Aaditya Mattoo (chapter 3), Carsten Fink (chapter 4), Keith Maskus(chapter 5), and Dominique van der Mensbrugghe and Richard Newfarmer (chapter 6). BernardHoekman provided ideas, suggestions, and comments on the trade chapters. The report was pre-pared under the general guidance of Nicholas Stern.

The report benefited from contributions from many Bank staff. Annette I. De Kleine, CarolineFarah, Himmat Kalsi, Robert Keyfitz, Robert Lynn, Fernando Martel Garcia, Shoko Negishi,Dilip Ratha, Mick Riordan, Virendra Singh, and Bert Wolfe contributed to the global trends;Shaohua Chen and Martin Ravallion contributed to the poverty analysis; and David Roland-Holst assisted with the international development goals in chapter 1. Ataman Aksoy, Betty Dow,Dilek Aykut, Don Mitchell, John Baffes, Marcelo Olarreaga, Simon Evenett, and Francis Ng con-tributed to chapter 2. Yong Zhang, Stijn Claessens, Antonio Estache, Charles Kenny, FernandoGarcia Martel, Cristina Neagu, Randeep Rathindran and Taizo Takeno provided inputs intochapter 3. Shweta Bagai, Ileana Cristina Neagu and Ranga Rajan Krishnamani contributed tochapters 4 and 5. The following provided comments on chapter 4: Mark Juhel, Juan Gaviria,Ronald Kopicki, Aaditya Mattoo, Marcelo Olarreaga, Uma Subramanian, Simon J. Evenett, andTony Venables. Ataman Aksoy, Shweta Bagai, Mirvat Sewadeh, and John S. Wilson contributedto Chapter 6. The regional and statistical annexes were prepared by Milan Brahmbhatt, CarolineFarah, Robert Keyfitz, Annette I. De Kleine, Robert Lynn, Mick Riordan, and benefited from theguidance of the Bank’s regional chief economists, Sadiq Ahmed, Alan Gelb, Homi Kharas,Mustafa Nabli, Guillermo Perry, and Marcelo Selowsky. John Baffes, Betty Dow, Don Mitchell,and Shane Streifel contributed to the analysis of commodity prices in chapter 1 and the appen-dix. Mark Feige edited the report with a special competence. Shweta Bagai, Yeling Tan, and YongZhang provided research assistance. Awatif Abuzeid was the task assistant for the report, andKatherine Rollins assisted with chapter 1.

Many others from inside and outside the Bank provided inputs, comments and suggestionsthat immeasurably improved its content. Milan Brahmbhatt and Roberto Zagha were overallpeer reviewers, and other reviews of specific chapters were invaluable: James Hanson, OdinKnudsen, Kym Anderson, James Hodge, Elizabeth Twerk, Carlos Braga, Eric Swanson, Anne

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Acknowledgments

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Kenny McGuirk, Todd Schneider, Ejaz Syed Ghani, Manjula M. Luthria, David Hummels,Mauricio Carrizosa, Will Martin and T.N. Srinivasan. The report also benefited from the com-ments of Ian Goldin, Shahrokh Fardoust, Larry Hinkle, Ernesto May, David Tarr, DimitriDiakosavvas, and Edith Wilson. The Development Data Group was instrumental in the prepara-tion of the appendix. Robert King coordinated the production and managed the disseminationfrom the Development Prospects group, working closely with Heather Worley and Susan Gra-ham. Book design, editing and production were managed by the Production Services Unit of theWorld Bank’s Office of the Publisher.


AS 2001 DRAWS TO A CLOSE, THE GLOBAL

economy is slipping precariously to-ward recession. Developing countries

have seen their economic growth rates plunge.Growth in trade has undergone one of themost severe decelerations in modern times—from over 13 percent in 2000 to 1 percent in2001. Developing countries are confronting a10 percentage point drop in the growth of de-mand for their exports. Though the weight ofevidence still points to a probable recovery inmid-2002, the risks posed to recovery are thegravest in a decade. The terrorist attacks in theUnited States, although it is still too early toevaluate them fully, have unleashed new andunpredictable forces that have substantiallyraised the risk of a global downturn.

Against this uncertain backdrop, worldleaders have launched an intense discussionabout whether to begin a new round of globaltrade negotiations at the ministerial meeting ofthe World Trade Organization (WTO) in No-vember 2001. A round would offer an oppor-tunity to renew progress on multilateral rulesthat open markets and expand trade. A reduc-tion in world barriers to trade could accelerategrowth, provide stimulus to new forms of pro-ductivity-enhancing specialization, and lead toa more rapid pace of job creation and povertyreduction around the world.

However, the fate of new trade talks is asuncertain as the global outlook. Many devel-oping countries have lingering doubts aboutnew trade negotiations. On the one hand, they

have become important actors in the globalsystem. In contrast to the early rounds ofglobal trade negotiations—the Dillon Roundin 1960 had only 39 participants, mostly fromindustrial countries—the next round will havemore than 142 WTO members, 70 percent ofwhich are developing countries. This mirrorsthe increased weight of developing countries in the global economy. They have grown to ac-count for more than one-third of merchandisetrade—and they have much to gain from a newround.

On the other hand, they worry that themultilateral system, in leaving intact barriersto markets whose removal would otherwisestimulate pro-poor growth, has become lessfair and less relevant to their developmentconcerns; that the trade agenda is being ex-panded to include only issues in which the de-veloped countries have an interest; and thatmultilateral rules are increasingly becoming amere codification of existing laws and rulesprevalent in developed countries, but whichare inappropriate or unenforceable in devel-oping countries (Ganesan 2000).

Nor is support for new trade initiativesuniversal among industrial countries. New op-position to “globalization” in general—andexpanded trade in particular—has emergedforcefully, questioning the very premises thatmore open markets can raise people’s incomes,especially those of the poor. The downturn inthe global economy may inflame protectionistsentiment.

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Summary

The international community thus faces aclear choice: whether now is the time to con-tinue down the path toward greater opennessthat has led to greater integration and pros-perity for more than five decades, or whetherto allow the hiatus in the wake of the WTOmeetings in Seattle (1999) to endure. If tradetalks are to succeed in underpinning a newwave of global prosperity, and at the sametime contribute to raising the incomes of thepoorest in the global community, they willhave to ensure that the world’s poorest coun-tries and poorest people will benefit.

The world’s poor could benefit fromreshaping the global architecture of trade—Poor people—those living below the interna-tional poverty line of $2 per day—work pri-marily in agriculture and labor-intensive manu-factures. These sectors confront the greatesttrade barriers, putting the world’s poor at aparticular disadvantage. According to estimatesin chapter 2, the average poor person sellinginto globalized markets confronts barriers thatare roughly twice as high as the typical workerin developed countries. In general, tariffs inhigh-income countries on imports from devel-oping countries, though low, are four timesthose collected from developed countries (0.8percent as opposed to 3.4 percent). Subsidiesand other support to agriculture in the high-income countries are particularly pernicious—and are now running roughly $1 billion aday—or more than six times all developmentassistance. Distortions in tariff codes—excep-tionally high tariffs on developing countryproducts (tariff peaks), embedded incentivesagainst processing abroad (tariff escalation),and tariffs that are far higher once specified im-port ceilings are reached (tariff rate quotas)—and trade practices, such as frequent recourseto antidumping actions, are often more impor-tant impediments that keep the poor from tak-ing advantage of trading opportunities.

Other costly asymmetries in trade-relatedagreements and practices can at times work atodds with development objectives. For exam-

ple, full implementation of the Agreement onTrade-Related Intellectual Property Rights(TRIPS) may not be suitable for all countries.Transportation cartels enjoy official sanctionbut are costly to developing countries, andsome standards may be set with little regardfor their effects on developing countries.

Protection is not solely an issue for high-income countries. Developing countries havealso placed high barriers on agriculture, labor-intensive manufactures, and other products andservices. Developing-country tariffs in manu-facturing average four times higher for importsfrom developing countries than are tariffs in in-dustrial countries on imports from developingcountries (12.8 percent as opposed to 3.4 per-cent). Restrictions on services trade are usuallymore common than in industrial countries.

This report argues for reshaping the globalarchitecture of world trade to promote devel-opment and poverty reduction. The report fo-cuses on four policy domains:

1. Using the WTO ministerial to launch a “de-velopment round” of trade negotiations thatwould reduce global trade barriers. Thosebargains will only be enduring and havegreatest development impact if industrialcountries are willing to reduce restrictionson products and services that poor coun-tries and poor people produce—particularlyprotection of agriculture (including subsi-dies), textiles, and clothing; and even re-strictions on temporary movement of work-ers. Similarly, developing countries canimprove their own situation while at thesame time winning concessions by liberaliz-ing services, and lowering barriers to importcompetition. To be sure, a trade round alsoinvolves issues of interest primarily to in-dustrial countries. Nonetheless, a true de-velopment round would produce win-wingains for the entire national community, in-cluding the world’s poor.

2. Engaging in global collective action to pro-mote trade outside the negotiating frame-work of the WTO. Providing market ac-cess may not by itself be enough to elicit


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new trade from developing countries, par-ticularly the poorest. Increasing multilateral“aid for trade”—development assistance topromote trade infrastructure, adoption ofbest practice standards and rules, and ahealthy investment climate—could help. Noless important, global cooperation to im-prove the environment and labor standardscan most effectively be undertaken outsidethe WTO.

3. Adopting pro-trade development policies ofhigh-income countries unilaterally. First, ifthe high-income countries were to allowlow-income countries duty-free and quota-free access to their markets, they would pro-vide a strong stimulus to trade that wouldhelp these poor countries overcome their pastlackluster trade performance. Second, high-income countries could also demonstrategood faith by reining in mushrooming an-tidumping cases. Third, increasing bilateral“aid for trade” can complement the multi-lateral effort.

4. Enacting new trade reform in developingcountries. Developing countries individu-ally can improve their competitivenessthrough trade reforms that lower restrictivebarriers, especially in services markets. In-deed their own policies hold the largest po-tential for policy-induced gains from trade.Trade reforms, especially those reinforcedwith reforms in governance and in domes-tic investment climates, can raise productiv-ity and incomes, irrespective of policies ofother nations.

Other aspects of global trade architec-ture—for example, regional trading arrange-ments, standards, and world institutions witheffects on trade (such as the World CustomsOrganization and so on)—are also important.However, save for brief mention in chapter 6,they fall outside the focus of this report. Thisis for reasons of parsimony and because theyhave been covered in recent Bank reports.1

Nonetheless, if the policies recommended inthese four areas were adopted, they wouldmove the global trade architecture in way that

would enhance the prospects of developingcountries.

Reshaping global trade architecture for development would reduce world poverty—Seizing the opportunity to reshape the globaltrade architecture for development wouldmake an enormous difference to the world’spoor. Some 2.8 billion people today live onless than $2 day. In the base-case long-termprojection of this report, developing countrieswould grow at rates that reduce poverty to 2.2billion by 2015, effectively lifting some 600million people above this poverty line. Thiswould be an important achievement.

But better results are possible. This reportsimulated the effects of taking the mutually re-inforcing actions in all four policy domains—ef-fectively removing restrictions on trade and ser-vices in combination with the “aid for trade”agenda and other companion policies that trans-late the trade impulse into rising incomes for thepoor. These exercises have methodological limi-tations but are indicative of what’s at stake.

Three headlines are worthy of note: First,the pace of poverty-reducing globalizationwould clearly be accelerated. This combinationof polices could spur new growth that will liftan additional 300 million people above thepoverty line relative to the normal growth inthe base case.2 Said differently, because of fastergrowth associated with trade integration, theworld would have 14 percent fewer people liv-ing in poverty in 2015 than in the base-case sce-nario. Faster integration through lowering bar-riers to merchandise trade would increasegrowth and provide some $1.5 trillion of addi-tional cumulative income to developing coun-tries over the 2005–15 period.3 Liberalizationof services in developing countries could pro-vide even greater gains—perhaps as much asfour times larger than this amount.

Second, the effects on income distribution ofremoving trade restrictions in the simulationare broadly positive. The simulations show thatlabor’s share of national income would risethroughout the developing world. And un-

skilled workers generally do better in most re-gions. Finally, this scenario would bring downinfant mortality more rapidly and contribute toimproved child health throughout the develop-ing world.

Chapter Highlights

This report is dedicated to the trade-for-development agendaRealizing the promise of the new global initia-tives to expand trade requires concerted effortto move development to center stage in tradepolicy formulation. This report is dedicated tothat agenda. It begins with a review of globalprospects and ways globalization links thefates of industrial and developing countries.The report then considers issues in four broadareas that are particularly important to devel-oping countries: merchandise trade, services,transport, and intellectual property rights. Afinal chapter summarizes the forward-lookingpolicy agenda, and assesses the potential im-pact of further global integration and morerapid growth for the standards of living inpoor countries everywhere.

Global prospectsBy the third quarter of 2001, the global econ-omy was precariously close to recession. Forthe first time in more than two decades, thethree major engines of the global economy—the United States, Japan, and Europe—wereslowing at the same time. With recession al-ready a fact in Japan and the probability ofnegative growth in the United States rising—inpart attributable to the demand and supplyshocks from the September terrorist attack—and Europe suddenly slowing, the global econ-omy has ceased supporting rapid growth in de-veloping countries.

Nonetheless, the outlook for 2002, thoughsubject to unusually high risks, is that theglobal economy will begin to recover. Develop-ing countries are expected to grow by 3.7 per-cent if the external environment improves asexpected, up from 2.9 percent in 2001. The

world economy should grow by 1.6 percent,with the recrudescence of consumer spending inthe United States, prompted by lower interestrates and fiscal stimulus, and renewed expan-sion in Europe in response to recent interestrate cuts and lower oil prices. High-incomecountries, still shackled by slow growth in thefirst half of 2002 but picking up in the second,are likely to grow at about 1.1 percent for theyear, up slightly from the anemic 0.9 percent in2001. Dynamism in major economies of the de-veloping world—particularly China and Indiaand, to a lesser extent, Brazil and Mexico—willreinforce these positive trends. South Asiaseems likely to become the fastest-growingregion, with growth at 5.5 percent, followedclosely by East Asia, at 4.9 percent. Other re-gions will not achieve these growth rates, butall will predictably do better than in 2001.

The recovery of the global economy islikely to transmit new growth to developingcountries through more robust trade demand.Although unlikely to reach the boom rates of2000, trade expansion seems likely to surpass4 percent in 2002, up considerably from the2001 rate.

Risks to this forecast are unusually high.The terrorist violence in the United States inSeptember will have negative short-run conse-quences for the United States and the globaleconomy, but could be even more severe thanthese projections indicate if unforeseen eventsprove highly disruptive. These uncertaintieswith enormous downside risks overlay struc-tural risks. U.S. consumers may be less respon-sive to interest rates than on previous occa-sions; foreign investors, concerned about thehigh external current account deficit, may pre-cipitate a sudden adjustment; European growthmay level off at a lower-than-expected plateau;and Japan’s structural reforms may falter andcause the dip in 2001 to carry over into the nextyear. Thus, with the global economy in precar-ious balance, unforeseen shocks from whateversource are magnified and could push the globaleconomy into recession.

This said, the long-term prospects for de-veloping countries remain bright. Fundamen-


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tals—savings, population growth, and invest-ments in education—are favorable. Moreover,many of the policy distortions prevalent inmany developing countries during the 1980shave been progressively diminished during the1990s. Budget deficits have generally comedown, reserve levels are higher relative to debtlevels, and economies are now more open. Forthese reasons, the growth rates in the base-casescenario of 3.6 percent for the 2005–15 periodare both technically feasible and realistic.

However, not all countries and regionsbask in this bright long-term outlook. Non-oilcommodity exporters, countries with high debtlevels, and countries with poor credit historieswill find themselves at a disadvantage in tradeand financial markets. Sub-Saharan Africa inparticular confronts enormous problems in all of these dimensions—as well as the publichealth epidemic of AIDS (acquired immune de-ficiency syndrome). For these reasons, invigo-rating the global trade agenda, even in thesetimes of uncertainty, is imperative.

Merchandise tradeRestrictions on agriculture and labor-intensivemanufactures, notably textiles and clothing,are particularly damaging to the world’s poor.Virtually all major agricultural commoditiesface barriers to trade on a scale that dwarfsmanufactured products. Barriers include high,steeply escalating, and nontransparent tariffs;tariff peaks; tariff rate quotas on maximumlow-tariff imports; and a plethora of domesticand export subsidies in high-income countries,to say nothing about state enterprise tradingthat still survives in many developing coun-tries. Support to agricultural producers inhigh-income countries runs in excess of $300billion annually. During downturns—such asthe one the global economy is now experienc-ing—these subsidies tend to increase and forcea disproportionate share of the cyclical adjust-ment onto producers in developing countries.Tariff peaks also work against the poor. Fullyone-third of exports of the poorest developingcountries face tariff peaks in at least one of thefour major markets, the United States, Japan,

Europe, or Canada. As estimated in chapter 6,phasing out restrictions on agriculture wouldproduce dynamic gains that could well meanhigher incomes in 2015 by nearly $400 billion.

The Agreement on Textiles and Clothing(ATC), which replaced the Multi-Fiber Agree-ment in the Uruguay Round, succeeded in in-tegrating these products into the WTO. How-ever, the agreement provided a much delayedphaseout schedule that put off much of themarket liberalization until the very end of theprocess in 2005. And, because the implemen-tation of the ATC allows importers much lee-way in selecting the products to be freed ofquotas, forgone export earnings for develop-ing countries are sizable. Because high tariffsloom behind the quotas, market access will re-main restricted even after the quotas havebeen abolished in 2005. Removing these bar-riers would, we estimate, produce increases inincome of perhaps $120 billion by 2015.

These issues provide fertile areas where rec-iprocal negotiations in a development round ofthe WTO could provide substantial benefits fordevelopment. Developing countries would ben-efit from reducing their own protection in thesesectors as part of negotiated reciprocal reduc-tions in high-income countries for agricultureand labor-intensive manufactures. Beyond this,high-income countries could also expand tradeby enlarging the scope for preferential accessfor poor countries. Existing schemes in high-income countries have limited coverage and,together with other impediments to trade, un-dermine their otherwise positive effects.

Services Services are the fastest growing components ofthe global economy, and trade and foreign di-rect investment in services have grown fasterthan in goods over the past decade. In virtu-ally every country the performance of the ser-vices sectors can make the difference betweenrapid and sluggish growth. More efficient ser-vices—in finance, telecommunications, domes-tic transportation, and professional businessservices—improve the performance of thewhole economy because they have broad link-

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age effects. Collectively, they are essential toincreasing domestic productivity.

Developing countries, in particular, arelikely to benefit significantly from further do-mestic liberalization and the elimination of bar-riers to their exports. In a range of services—from financial sector and business services totelecommunications and retailing—restrictionson foreign investment are still common, par-ticularly in developing countries. Even morestringent restrictions affect the export of ser-vices, such as professional and constructionservices, through the movement of persons—amode of supply in which many developing coun-tries have a comparative advantage.

As with merchandise trade, reforms in ser-vices have to be managed carefully. The largestgains come from eliminating barriers to entryand new competition, but many developingcountries have been content only to changeownership through privatization while retain-ing limits on entry that buttress monopolies.Privatization without competition can vitiatewell-intentioned reforms. Effective regulationis also critical to the success of liberalization.Even though governments can initiate reformsof services unilaterally, multilateral agreementsthrough the General Agreement on Trade inServices (GATS) could help accelerate domesticreform and improve access to foreign marketsfor developing countries. In parallel, global co-operation to expand trade could mobilize sup-port for developing countries at four levels: indevising sound policy, strengthening the do-mestic regulatory environment, enhancing theirparticipation in the development of interna-tional standards, and ensuring access to essen-tial services in the poorest areas.

The payoffs to success, however, are espe-cially high. Studies comparing reduction of ser-vices barriers to reductions in barriers to mer-chandise trade find that services liberalizationcan provide benefits up to four times higher.Estimates suggest that, after controlling forother determinants of growth, countries thatfully liberalized trade and investment in fi-nance and telecommunications grew on aver-

age 1.5 percentage points faster than othercountries over the past decade.

TransportInternational transportation costs to move de-veloping countries’ exports to foreign marketsoften are a far greater barrier to trade thantariffs. Both public policies and private prac-tices exercise a significant influence on costs.Policies toward maritime transport, such ascargo reservation policies and limitations onthe provision of port services, often protect in-efficient service providers and unduly restraincompetition. Competition-restricting practicesamong shipping lines increase freight rates byup to 25 percent on selected routes. Increasingconcentration in the market for port terminalservices poses the risk that the benefits of lib-eral government policies may not be passed onto consumers.

International air transport services, despitebeing at the heart of the globalization process,are one of the most protected from interna-tional competition. The current regime of bi-lateral air service agreements largely denies ac-cess to efficient outside carriers—and inflatesexport costs for developing countries.

Countries themselves can take actions to im-prove management of their ports and reducecostly delays associated with inefficient cus-toms. In Brazil, for example, failure to deployefficient container services has kept costs up tomore than twice international norms in cus-toms, warehousing, inland transport, and ports.Recasting institutional arrangements to maxi-mize competition in the provision of port ser-vices could also drive improvements. Adoptingnon-discriminatory policies of open access ininternational air transport can enhance the effi-ciency of air services. At the same time, there isa need to regulate private practices of transportservice providers by competition policies, to en-sure that the gains from liberalization are notcaptured by private firms.

A special responsibility for promoting com-petitive international transport markets fallson the large industrial countries. These coun-


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tries, with their strong regulatory capacity andhistory of antitrust enforcement, are well posi-tioned to enforce competition disciplines onmultinational transport operators. To date, theyhave not done so.

Beyond this, multilateral negotiations ontransport services under the GATS can sup-port domestic reforms by unleashing greaterliberalization and by lending credibility to do-mestic policies. The scope for creating bindingmultilateral disciplines on transport services islarge. Only little progress has been made inthe past on maritime transport, and even lesshas been made on air transport.

Intellectual propertyIntellectual property rights (IPRs) are designedto balance the needs of society to encourageinnovation and commercialization of new tech-nologies, products, and artistic and literaryworks, on the one hand, with needs to pro-mote use of those items, on the other. Since theoverwhelming bulk of intellectual property iscreated in the industrialized countries, theUruguay Round TRIPS shifted the global rulesgoverning intellectual property in favor of de-veloped nations. If TRIPS were fully imple-mented, rent transfers to major technology-creating countries—particularly the UnitedStates, Germany, and France—in the form ofpharmaceutical patents, computer chip de-signs, and other intellectual property, wouldamount to more than $20 billion.

To be sure, there are reasons to believe thatthe enforcement of IPRs is associated positivelywith growth. However, these benefits tend notto materialize until countries move into themiddle-income bracket. Therefore, many coun-tries, especially low-income countries, see thesepotential benefits as elusive promises againstwhich they have to weigh heavy, up-front costsof enforcement and administration. Adminis-tration and enforcement, together with higherprices for medicines, agricultural inputs, andother key technological inputs, could readilyabsorb a significant portion of annual publicexpenditures in many low-income countries.

Moreover, enforcing all property rights is of-ten a major problem needed to improve the in-vestment climate, so governments have to askwhether it makes more sense when measuredagainst objectives of poverty reduction toforego allocating scarce resources for enforce-ment of (say) land rights in agriculture—wherereturns to investments often benefit poor own-ers directly—in order to enforce IPRs.

Because economic advantages and capabil-ity of enforcement tend to rise as countries be-come more developed, and low-income coun-tries markets are of marginal importance topatent holders, there is a compelling logic torebalance the TRIPS agreement to accommo-date the problems of low-income countries.This could take three forms: It may make senseto recognize the validity of a phased imple-mentation of TRIPs based upon developmentcapacity. Second, negotiating compulsory li-censing provisions to allow poor countries withno production capability of their own to li-cense producers in other countries for sale intheir markets would improve their competi-tion access to critical development inputs. This may provide small developing countries withgreater flexibility in addressing public healthcrises. Third, since industrial countries are themain up-front beneficiaries of IPRs, they mayfind it in their interest to provide assistance tothe poorest countries for the implementationof TRIPS. Beyond this, developing countriescan realize concrete benefits from TRIPs by en-couraging domestic intellectual property devel-opment and its protection abroad.

Reshaping global trade architecture for development This report thus proposes actions to reshapeglobal trade architecture to promote develop-ment in four policy domains: launching a de-velopment round of trade negotiations withinthe WTO, moving forward on the global co-operation agenda to expand trade outside theWTO, enacting new policies in high-incomecountries to provide aid for trade, and adopt-ing trade reforms within developing countries.

S U M M A R Y

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xviii

1. Convening a development round in the WTO

Market access

Agriculture• Reduce applied tariffs, phase out tariff rate quotas, and bind tariffs at applied rates in both developed and

developing countries • Phase out export subsidies in high-income countries and commit to eliminate domestic support linked to

production levels• Reduce tariff escalation and cut off tariff peaks

Manufactures • Reduce applied rates further, and bind tariffs to levels that equal or are close to applied rates• Reduce tariff escalation and cut off tariff peaks• Accelerate implementation of ATC quota eliminations and reduce tariffs in lines now covered by quotas• Negotiate tighter disciplines on antidumping and other forms of contingent protection

Services• Liberalize entry of foreign services suppliers through elimination of restrictions on entry and promoting increased

competition, with wider use of GATS to bind nondiscriminatory access and lend credibility to domestic programs• Enhance scope of services provision through the temporary movement of service providers (both skilled and

unskilled)• Secure openness of e-commerce in services, through wider and deeper GATS commitments on cross-border supply• Strengthen multilateral rules to deal with anticompetitive practices in services• Adopt a nondiscriminatory trading regime for air transport, including traffic rights, under GATS

Implementation procedures and phasing • Adopt a phased implementation of TRIPS and other administrative-intensive agreements for low-income countries,

based upon development capacity. • Establish a consensus that the TRIPS Agreement allows developing countries with no domestic production

capacity to grant compulsory licenses to foreign firms• Convert “best endeavor” promises to binding commitments to provide low-income countries with financial and

technical assistance to implement WTO accords

Improving WTO transparency and participation• Require WTO disclosure of databases; reports and their full associated information; and analyses for particular

decisions• Provide assistance to strengthen capacity of all members to participate effectively in negotiations

2. Global cooperation to support trade outside the WTO

Provide “aid for trade” through stepped up development assistance• Expand “Integrated Framework” assistance to all low-income countries• Provide assistance to enhance the efficiency of the customs clearance process in developing countries, notably the

good customs practices that are laid out in the revised Kyoto Convention (World Customs Organization)• Expand multilateral assistance to overcome country-specific bottlenecks to improving competitiveness and trading

potential (for example, in finance, transportation infrastructure, education for low income workers, and publicsector trade-related institutions) and to promote trade

Reshaping global trade architecture for development:The four-part policy agenda

S U M M A R Y

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• Fund mechanisms to help developing countries use intellectual property protection to their benefit by protectingintangible assets such as traditional knowledge, designs, music, and ethnobotanicals, and patent protection forindustrial goods as well as improve enforcement of IPRs

• Establish a global health fund to purchase licenses from developers of new medicines essential to treatingdebilitating diseases in poor countries

Expand global efforts beyond trade to improve environment, raise labor standards, and adopt adequate productstandards outside the WTO• Expand global environmental cooperation with financing to improve environmental protection

in developing countries, and create multilateral forum of environmental exchange• Strengthen international actions on labor standards through the International Labour Organisation (ILO), with

project collaboration from multilateral development banks• Create a Standards Development Facility to introduce science and other professional evidence into standard

setting for products, with adequate representation from developing countries; and provide assistance todeveloping countries’ standard setting bodies

3. Policies for high-income countries

Market access• Grant to all low-income countries duty-free and quota-free access to markets of all countries of OECD• Reduce uncertainty of market access by harmonizing rules of origin, and by reducing threats of antidumping

Expand bilateral “aid for trade”• Provide financial and technical assistance to developing countries for “behind the border” trade-related invest-

ments necessary to take advantage of market access• Improve policy coherence by establishing coordinating mechanisms between development policies and trade

policies to ensure effective development outcomes• Assist developing countries to strengthen competition agencies and improve legislation, and require antitrust

agencies to provide to developing countries information on third market effects of domestic mergers as well aspending cases of price-fixing and restrictive business practices; and review the anticompetitive consequences ofantitrust exemptions in transport and other sectors that adversely affect development

Domestic policies that facilitate adjustment of labor to economic change• Review domestic policies to ensure displaced workers have adequate social support to deal with rapid changes in

labor market conditions, including unemployment insurance, social safety nets (particularly health and pensions),and access to training and education

4. Policies for developing countries • Adopt program of trade reform, including phased lowering of border protection for goods and services as part of

a poverty reduction strategy• As part of trade reform program, adopt companion policies to cushion any impact on the poor of adjustment to

new trade incentives, and ensure investment responses; solicit foreign assistance when necessary to implementadministrative requirements of programs

• Spur development of industries essential to trade, such as transport, telecommunications, financial sector, andbusiness services, particularly through introduction of regulatory policies that, where feasible, harness competition

• Invest in upgrading public sector institutions related to trade, including customs, administration of drawbackprograms, and financial supervision agencies

• Encourage domestic intellectual property development through TRIPS-consistent standards appropriate to countryneeds, and pursue protection of domestic intellectual property abroad

• Ensure adequate macroeconomic policy framework to provide sound investment climate

While this report focuses on global issues,chapter 6 indicates ways regional agreements,properly designed, can be steppingstones topromote new trade and deeper integrationthat reinforces multilateral collective action.The box below summarizes specific measuresthat can produce faster economic integration.

Removing barriers to trade and services, inconjunction with companion policies to fo-ment a supply response, would give a stronggrowth impetus to the global economy andlong-run development. Chapter 6 quantifiesthese effects, if with the large margin of un-certainty and qualifications that estimatingtechniques impose. If remaining restrictions onmerchandise trade were phased out in the2006–10 period, economic growth in develop-ing countries would be about 0.5 faster than inthe base-case scenario—including services lib-eralization would add significantly to the boostin growth. Much of the benefits come fromtrade reforms in their own countries and inother developing countries—and in that sensedeveloping countries as a group control a con-siderable portion of their own trade destiny. Insome regions, these new trade policies couldwell make the difference between achievingtheir objectives (for poverty-reduction, lower-ing maternal and child mortality, and improv-ing educational attainment) and falling shortby a large margin.

The long-term promise of well-imple-mented trade reform is therefore tangible: aworld with a much higher standard of living,hundreds of millions lifted out of poverty, anda greater share of children living beyond their

fifth birthday to become productive citizens ofthe world. Continuing down the path ofgreater integration will not be easy, but if theinternational community succeeds in doing so,the world will undoubtedly be more prosper-ous and stable.

Notes1. On regional trading arrangements, see World Bank

2000. On standards, see World Bank 2001, chapter 3.2. Trade liberalization has a relatively small impact

on the rate of growth, but has a large impact on the netnumber of poor lifted out of poverty. The reasons arethreefold as described in chapter 6: First, under thebase-case scenario, growth—assuming population wereheld constant—will reduce the number of poor from2.8 to 1.9 billion, but population growth will push thatnumber back up to 2.2 billion in 2015. Hence compar-ing the net change to the change associated with fastintegration records an impressive increment. Second,growth has a disproportionate and positive effect onpoverty, and we have assumed a poverty elasticity withrespect to growth of two, consistent with historical ex-perience. Finally, trade liberalization changes the com-position of production to incomes of the poor.

3. This is the discounted present value in 2005 ofcumulative income gains over the decade to 2015.

ReferencesGanesan A.V. 2000. “Seattle and Beyond: Developing

Country Perspectives” in Jeffrey Schott (ed.) TheWTO After Seattle Washington: Institute for In-ternational Economics.

World Bank. 2000. Trade Blocs Washington DC:World Bank

———. 2001. Global Economic Prospects 2001 Wash-ington DC: World Bank.


xx

Abbreviationsand Data Notes

xxi

ACP African, Caribbean Pacific Group of States

ASA Air Service Agreement

ASEAN Association of Southeast Asian Nations

ATC Agreement on Textile and Clothing

CAP Common Agricultural Policy

CAPAS Coordinated African Program of Assistance on Services

CGE Computable General Equilibrium

CEPR Consortium and the Centre for Economic Policy Research

CEWAL Associated Central West Africa Lines

CIS Commonwealth of Independent States

CPI Consumer Price Index

DEC Development Economics

DFA Duty-free access

EA East Asia

EAC East African Community

EAP East Asia and the Pacific

EC European Community

ECA East and Central Asia

EDI Electronic data interchange

EEC European Economic Community

ERF Economic Research Forum

EU European Union

FDI Foreign Direct Investment

FIAS Foreign Investment Advisory Service

FTAA Foreign Trade Agency of the Americas

GATS General Agreement on Trade in Services

GATT General Agreement on Tariffs and Trade

GDF Global Development Finance


xxii

GDP Gross domestic product

GSP Generalized System of Preference

GTAP Global Trade Analysis Project

GEP Global Economic Prospects

HIV/AIDS Human immunodeficiency virus/acquired immune deficiency syndrome

ICAO International Civil Aviation Organization

ICT Information and Communications Technology

ICTB International Clothing and Textiles Bureau

IDA International Development Agency

IDB Inter-American Development Bank

ILO International Labour Organization

IMF International Monetary Fund

IPRS Intellectual Property Rights

IT Information Technology

ITA Information Technology Agreement

JPS Japanese patent system

LAC Latin America and the Caribbean

LATN Latin American Trade Network

LDCs Least Developed Countries

MENA Middle East and North Africa

MERCUSOR Latin America Southern Cone trade bloc (Argentina, Brazil, Paraguay, and Uruguay)

MFA Multi-fiber Agreement

MFN Most favored nation

MRAs Mutual Recognition Agreements

NAFTA North American Free Trade Agreement

NAPM National Association of Purchasers and Manufacturers

NASSCOM National Association of Software and Service Companies

NGO Non-governmental organization

NTBs Non-tariff barriers

PREM Poverty Reduction and Economic Management

PRSP Poverty Reduction Strategy Papers

PSE Producer support estimates

ODS Ozone depleting substance

OECD Organization for Economic Cooperation Development

OPEC Organization of Petroleum Export Countries

PBRS Plant breeders’ rights

QUAD U.S., Canada, European Union and Japan

SOEs State-owned enterprises

SSA Sub-Saharan Africa

SAR South Asia Region

TBT Technical Barriers to Trade Agreement

TFP Total factor productivity

T&C Textiles and clothing

TFP Total factor productivity

TRAI Telecommunication Regulatory Authority of India

TRIPS Trade-Related Intellectual Property Rights

TRQs Tariff Quotas

UNCTAD United Nations Conference on Trade and Development

UNDP United Nations Development Program

UR Uruguay Round

URAA Uruguay Round Agreement on Agriculture

USDA United States Department of Agriculture

WCO World Customs Organization

WDR World Development Report

WHO World Health Organization

WTO World Trade Organization

WIPO World Intellectual Property Organization

A B B R E V I A T I O N S A N D D A T A N O T E S

xxiii

Data notesThe “classification of economies” tables atthe end of this volume classify economies byincome, region, export category, and indebt-edness. Unless otherwise indicated, the term“developing countries” as used in this vol-ume covers all low- and middle-incomecountries, including the transition economies.

The following norms are used throughout:

• Billion is 1,000 million.• All dollar figures are U.S. dollars.• In general, data for periods through 1998

are actual, data for 1999 are estimated,and data for 2000 onward are projected.

Global economy stallsThe global economy, already balanced precari-ously between recession and recovery in thesummer of 2001, received a sharp negativeshock with the terrorist attacks in the UnitedStates on September 11. The probability of amore severe global slowdown has since in-creased, but because of the difficulties of antic-ipating the responses of businesses and con-sumers to these unprecedented events, togetherwith the unpredictable ramifications of the at-tacks, forecasts are subject to an unusuallyhigh degree of uncertainty. Nonetheless, U.S.consumer demand, instead of fueling a recov-ery in global demand in the fourth quarter,now seems likely to decline. The September 11events snuffed out the first signs, clearly dis-cernible in late summer, of an incipient re-bound in U.S. manufacturing production. Asperceived risks rose, stock markets fell aroundthe world, and new private lending to most de-veloping countries has effectively ceased. Tradeflows, already depressed by slowing demand,are under new pressures from rising security-related costs, disruptions in normal air traffic,and further post-attack slackening in demand.

The origins of the global downturn can betraced to the sudden decline in U.S. financialmarkets in mid-2000. This signaled the end tothe worldwide bubble in equity values and cre-ated over-capacity in global high-tech sectors. Inthe ensuing slowdown of the U.S. economy,investment demand plummeted, and consumerconfidence waned. Weakening investor confi-

dence quickly spread to Europe, first evident inequity markets but soon transmitted to businessand consumer demand. The phased contractionof U.S. and then European import demand, incombination with the reversal of incipient re-covery in Japan, heralded an unprecedented de-celeration of world trade in 2001 that has ad-versely affected developing countries.

Growth of global trade fell from record 13.3percent growth in 2000 to 1 percent in 2001.Because nearly half of U.S. investment was incomputers, electronics, telecommunications,and other high technology products, the sharpcontraction of investment hit East Asia’s tech-nology-heavy exports swiftly and hard. TheU.S. downturn also rippled through Mexicointo the rest of Latin America. The downturnspread to the Euro area where economies werereaching the top of the business cycle in early2001. Conditions then worsened as the tech-nology slump cut into demand, rising oil pricescut into the purchasing power of consumers,and the profits of European companies in thelarge U.S. market sagged. The European Cen-tral Bank, still fearful of future inflation associ-ated with oil prices and the Euro’s value, didnot immediately cut interest rates. In Japan,slumping exports cut the tenuous string pre-venting the economy from slipping back intorecession as the government bumped up againstceilings on fiscal headroom. These forces, to-gether with weak commodity prices, reducedgrowth in virtually all major regions of the de-veloping world.

1

Prospects for DevelopingCountries: Coping with a Global Slowdown

1

Those countries that still depend heavily oncommodity exports were particularly hard-hit.Many have experienced falling commodityprices since 1997, prices that never recoveredfrom the East Asia crisis. These countries wereunable to rebuild reserves and other buffers tocushion this year’s further terms-of-trade losses,and suffered declines in income. Sub-SaharanAfrica as a whole, for example, seems likely towitness a decline in real per capita income of0.7 percent during 2001.

For the first time since 1974–1975, theworld’s major economies are decelerating intandem. With Japan in recession, Europe de-celerating, the United States dealing with theaftermath of the attacks, and many develop-ing countries seeing their own growth slow,the downturn has now become global inscope. Global gross domestic product (GDP)is projected to increase by a tenuous 1.3 per-cent in 2001, down from 3.8 percent in 2000(table 1.1).

The most probable scenario is a recoveryin mid-2002—The global economy, in the most probable sce-nario, will begin to recover in mid-2002, prob-ably starting in the United States and thenspreading to Europe and elsewhere. With infla-tion in abeyance, U.S. monetary authoritieshave progressively brought interest rates down400 basis points over the course of the yearthrough October and new tax cuts and spend-ing increases provide additional stimulus forthis year and next. The European Central Bankcautiously started to bring interest rates downin the third quarter of 2001, and, after Septem-ber 11, did so in tandem with other centralbanks around the world. Both the low inflationand the improved structural policies in most in-dustrial countries have created an environmentin which technology-driven productivity growthcan gain traction rather promptly, once thecyclical downturn has reversed. Moreover, rapidtechnological developments, high depreciationrates of investment goods, and just-in-time pro-duction systems tend to generate relativelyrapid rebounds after downturns. Only Japan,

facing severe financial problems, is unlikely tobecome a source of global growth in the shortrun. Oil prices, averaging $25 a barrel in 2001,are likely to drift downward to an expectedlong-run equilibrium of $20 a barrel, underpin-ning growth in oil-importing countries.

—creating a global environment better fordeveloping countries in 2002–03These developments in the high-income coun-tries, if they evolve as anticipated, will create amoderately propitious external environmentfor a rebound in developing countries in late2002, and stronger growth in 2003. Aggregategrowth rates for the developing countries areexpected to fall from 5.5 percent in 2000 to 2.9percent in 2001; if global recovery takes holdas anticipated by mid-2002, growth in devel-oping countries would probably pick up to 3.7 percent in 2002, and then rebound to over5 percent in 2003. Trade and financial links,which had transmitted weakening impulses togrowth from the large high-income economiesto developing countries in 2001, appear nowlikely to reverse in 2002, and to do so sharplyin 2003.

Trade growth is likely to accelerate mod-estly next year to 4 percent, and then gain sub-stantial momentum in 2003 to exceed 10 per-cent. The last decade of trade growth hascreated structural changes that now favor ex-pansion for many developing countries. Manycountries not only gained global market shareduring the 1990s, but also diversified heavilyinto manufactures. This enabled them to es-cape the volatility inherent in commodity tradeand price movements. It also cushioned the2001 shock, and should allow them to benefitfrom high growth when the projected reboundin global demand begins to occur over 2002–03. However, those countries remaining de-pendent on commodity exports are experienc-ing severe stress today, and can expect little re-lief from forecast developments over the nextyears.

Developments in global financial marketsare also likely to favor renewed growth begin-ning in 2002, if on a more selective basis than


2

in the past. Lower international interest rateseased the pressure on developing countries’debt servicing, particularly in the most credit-worthy countries. However, this positive newsis likely to be offset in the short run with a

flight to quality, and rising risk premiumsglobally. These have increased financial strainsin some highly indebted countries. Investors,with memories of financial crises in East Asiaand elsewhere firmly in mind, are more dis-

P R O S P E C T S F O R D E V E L O P I N G C O U N T R I E S

3

estimate2000

Table 1.1 Global conditions affecting growth in developing countries and world GDP growth(percentage change from previous year, except interest rates and oil price)

Current

April 2001

Current forecasts Forecasts

2001 2002 2003 2001 2002 2003

Global conditionsWorld trade (volume) 13.3 1.0 4.0 10.2 5.5 7.3 7.3

Inflation (consumer prices)G-7 OECD countriesab 1.9 1.8 1.4 1.5 1.8 1.7 1.8United States 3.4 2.8 2.2 2.3 3.0 2.6 2.7

Commodity prices (nominal dollars)Commodity prices, except oil (dollars) –1.3 –8.9 1.6 8.1 –0.3 5.4 5.6Oil price (dollars, weighted average), dollars/barrels 28.2 25.0 21.0 20.0 25.0 21.0 20.0Oil price, percent change 56.2 –11.3 –16.0 –4.8 –11.4 –16.0 –4.8Manufactures export unit value (dollars)c –2.0 –4.6 4.0 4.4 5.9 3.1 2.4

Interest ratesLIBOR, 6 months (dollars, percent) 6.7 3.6 2.8 3.0 4.8 4.7 5.0EURIBOR, 6 months (euro, percent) 4.5 4.1 3.3 3.3 4.3 4.2 4.5

World GDP (growth) 3.8 1.3 1.6 3.9 2.2 3.3 3.4

High-income countries 3.4 0.9 1.1 3.5 1.7 2.9 2.9OECD countries 3.3 0.9 1.0 3.4 1.6 2.8 2.9

United States 4.1 1.1 1.0 3.9 1.2 3.3 3.2Japan 1.5 –0.8 0.1 2.4 0.6 1.8 2.3Euro Area 3.5 1.5 1.3 3.6 2.5 3.1 2.9

Non-OECD countries 6.3 0.6 3.2 5.7 4.1 4.9 5.2

Developing countries 5.5 2.9 3.7 5.2 4.2 4.9 4.9East Asia and Pacific 7.5 4.6 4.9 6.8 5.5 6.0 6.1Europe and Central Asia 6.3 2.1 3.0 4.2 2.3 4.2 4.1Latin America and the Caribbean 3.8 0.9 2.5 4.5 3.7 4.4 4.4Middle East and North Africa 3.9 3.4 2.9 3.6 3.9 3.5 3.6South Asia 4.9 4.5 5.3 5.5 5.5 5.5 5.6Sub-Saharan Africa 3.0 2.7 2.7 3.9 3.0 3.4 3.6

Memorandum itemsEast Asia crisis–affected countriesd 7.1 2.3 3.4 5.4 3.7 5.1 5.2Transition countries of ECA 6.1 4.0 3.1 3.8 4.1 3.8 3.8Developing countries

excluding ECA 5.3 3.1 3.8 5.4 4.2 5.1 5.1excluding China and India 5.0 1.9 2.9 4.6 3.4 4.4 4.4

a Canada, France, Germany, Italy, Japan, the United Kingdom, and the United States.b In local currency, aggregated using 1995 GDP weights.c Unit value index of manufactures exports from G-5 to developing countries, expressed in dollars.d Indonesia, the Republic of Korea, Malaysia, the Philippines, and Thailand.

Source: Economic Policy and Prospects Group, October 2001; and GDF 2001 projections of April 2001.

criminating, and that at least partially ex-plains why financial stress in Turkey and Ar-gentina have not produced more widespreadcontagion. Capital flows are thus likely toconstrain growth in some countries, but willprobably reward good policies in other coun-tries. As in the case of trade flows, only by2003 should growth of capital flows be ex-pected to show a significant acceleration.

Short-term risks are high—Even though the most probable scenario is forrecovery by mid-2002, risks to this global out-look are unusually high and depend largely onthe still unfolding ramifications of the terror-ist violence in the United States. Moreoverstructural and policy risks persist. The U.S.current account deficit remains large, andglobal financial markets could impose a dis-ruptive adjustment. Japanese domestic finan-cial strains, should improvements in policynot be forthcoming, may have a destabilizingeffect on the global economy. Furthermore ifboth monetary and fiscal policies in Europeare insufficient to offset the worsening of mar-ket sentiment, the slump could be deeper andlonger than in present projections; a longerand more pronounced downturn in Europewould be especially harmful for developingcountries due to the region’s strong trade andfinancial linkages with all developing regions.Finally, financial tensions in some developingcountries may significantly delay the recoveryin more tightly linked groups of countries.

These risks argue strongly for continuedpolicies in the high-income countries that willsupport growth, and for policies in developingcountries that quicken the pace of structuralreforms to improve their investment climate.

—but long-term prospects are favorableEven though today’s environment is weak andunusually uncertain, the long-term growth po-tential of developing countries is promising.This is because improved macroeconomic man-agement, rising savings, increased openness,and greater diversification create better incen-tives for investment, technological progress,

and growth. Yet, with these favorable growthtrends in most regions, some will be left be-hind, and may find it difficult to meet develop-ment goals, such as a reduction in child mor-tality, without additional policy measures andexternal support.

To understand ways the global slowdownis affecting the prospects for developing coun-tries, the first three sections below discuss ele-ments of the global environment that shapethe outlook for developing countries: the syn-chronous slowdown in the high-income coun-tries, then deceleration of trade, and diversetrends in financial markets. We then showhow these forces shape the short-term outlookfor developing countries, as well as the risksthat could undermine this outlook. A final sec-tion concludes with a discussion of long-termprospects and potential consequences for re-ductions in poverty.

A simultaneous downturn in theindustrial countries

Downturn broadened—For the third time in two decades GDP growthin the industrial world slowed below 1 percentin 2001. By September, the downturn had notbecome as deep as during the early 1990s andthe beginning of the 1980s. However, a worri-some characteristic of the current downturn isthat all three industrial regions are simultane-ously in a downward phase of the businesscycle (figure 1.1). More pronounced weaknessin the Euro Area and recession in Japan mir-rored meager GDP growth in the United States.

While the end of the high-tech boom, thecollapse of stock markets, high oil prices, andcurrency movements were factors that con-tributed to the downturn in all three regions,the relative importance of those factors dif-fered across regions. Plunging sales of semi-conductors and related products primarily af-fected the United States and Japan, as growthin Europe depended less on high-tech manu-facturing. Also, the collapse of stock marketshas probably affected the United States and


4

Japan more severely: wealth effects are tradi-tionally more important in the United States,and the fragile Japanese banking sector is vul-nerable to low equity prices. Inflationary pres-sure coming from high oil prices and the strongdollar were a main impediment in Europe,where the European Central Bank tried to es-tablish a tradition of keeping inflation strictlyunder control and hesitated to ease monetarypolicy.

—as growth stalls in the United States—The downturn started in mid-2000 in theUnited States, with sharp corrections in thestock market ending a long period of large cap-ital gains, especially in the high-tech sectors.Just when an expected soft landing seemed athand, market sentiment worsened toward theend of the year. Uncertainty about future prof-its sharply reduced investment demand andborrowing, particularly by high-tech firms.The resulting negative wealth effects alsosharpened the downturn in other sectors.

U.S. business investment continued toweaken sharply during 2001, exports and im-ports plummeted at double-digit rates, andjobless claims rose at a recession-like pace.

Quarterly GDP growth rates flirted with re-cession during the first three quarters of theyear. Manufacturing production had sagged—a result of declining domestic investment andthe adverse effects on exports stemming fromthe strong dollar and weak global growth—which in turn yielded burgeoning excess in-ventory levels that required sharp curtailmentsin output.

The terrorist attacks on September 11 ex-acerbated the deterioration of economic con-ditions. The direct loss of U.S. output in theimmediate aftermath of the September 11thtragedy is estimated to be $25 to $35 billion.This is about one day’s GDP (1.5 percent ofquarterly output)—as business, financial mar-kets, and air transport effectively came to a haltas the events of the day unfolded. Financial mar-kets remained closed for four trading sessions, afull ban on commercial air travel lasted for aweek, and disruptions to the countries’ “nor-mal” order of business became widespread.

The collapse of air transport aggravatedthe direct output effects, because the sector ishighly labor intensive, and air travel is an es-sential input to other economic activities. Ac-cording to the World Bank’s sectoral Linkage


5

Figure 1.1 Industrial production in the G-3 countries falls in 2000–01(percent change, 3-month/3-month, saar)

Note: The G-3 countries are United States, Japan and Germany. Source: National statistics; Economic Policy and Prospects Group calculations.

–18Jan. 2000

Germany

United States

Japan

April 2000 July 2000 Oct. 2000 Jan. 2001 April 2001 July 2001

–12

–6

0

6

12

Model, a 20 percent cut in air travel supplyduring one month would reduce annual GDPby more than 0.25 percentage points. Accom-modations and restaurants are among the sec-tors that were affected severely, with “recre-ational services” representing over 3 percentof national value added—some three timesthat of air transport.

The indirect effects of the attacks are pro-spectively larger, operating through a fall inconsumer confidence and lower equity mar-ket prices. The aggressive monetary policy re-actions following the attacks could well con-tain the deterioration of market sentiment to a limited period; but is unlikely to prevent astrongly negative impact on economic activityduring the fourth quarter of 2001.

—while Japan is in recession—Even though the economy is likely to haveslipped back into recession in 2001, the Japa-nese government persevered with its plans forbadly needed reforms. It moved toward somefiscal consolidation and began disposing ofbanks’ nonperforming loans, acknowledgingthat short-term economic costs are the pricefor achieving long-term gains. Bad loans havecontinued to mount in the domestic bankingsystem, rising by official estimates from 9.7percent of GDP in fiscal 1997 to 12 percent ofGDP in fiscal 2000.1 Loan-loss reserve cover-age of “risk management loans” dropped from46 percent in fiscal 1997 to 24 percent as offiscal 2000. Revised reporting criteria nowcommit commercial banks and other financialinstitutions to “mark-to-market” equity heldas capital, revealing losses that have likely beensubstantial over the last years, and requiringadditional scale-backs in the loan portfolio (seebox 1.1). With the Nikkei at very low levels,this adjustment could be particularly sharp.

The economy will probably contract by 0.8 percent in 2001. With limited policy in-struments other than structural reforms, onlya recovery of exports can offset continuedstagnation in consumption and fall-off in pub-lic works spending, to set the stage for even-tual recovery in private investment.

—and Europe, led by Germany, weakens The weakening in Europe has been unexpect-edly sharp in the second and third quarters of2001 (figure 1.2). Germany was the first to feelthe impact of collapsing investment demand inthe United States and East Asia. Its exports tothose regions amount to almost 4 percent ofGDP, more than for any other European coun-try. The malaise in German manufacturing isdepressing activity in other countries and othersectors. Moreover, it became increasingly clearthat Europe could not escape the sharp cyclicalglobal downturn in high-tech products. In par-ticular the telecom sector, which had investedheavily in infrastructure and licenses for third-generation mobile communications, had to ad-just its profit expectations. Trade volumes arefalling rapidly across the region, reflecting thesharp downturn in global demand, as well asdeclining intra-European Union (EU) flows.Earlier strengthening of the dollar, remaininghigh levels of the oil price and the fall in equitymarkets—in addition to slowing world trade,contributed to this recent sharpening of thedownturn in Europe.

The unexpected strengthening of the dollarduring the spring, and high energy prices bothadded to inflationary pressures, and the Euro-pean Central Bank (ECB) was hesitant to lowerinterest rates further, even when it became in-creasingly clear that such a step would be nec-essary to stabilize the economy. But the ECB re-duced its policy interest rates by 25 basis pointsin late August, and lowered rates again as partof the coordinated policy response to the Sep-tember 11 events.

Declines in equity markets and financingconditions in the United States appear also tohave affected the domestic investment of glob-ally active European firms. The EU has contin-ued to be the major investor in U.S. equity andfixed-income markets, as well as in mergers andacquisitions (M&A) over the last years—ac-counting for some 70 percent of net foreign pur-chases of U.S. corporate bonds, 90 percent ofequities, and over $125 billion in M&A during2000.2 Hence fall-out from slowing exportmarket growth, accumulated losses in U.S. fi-


6


7

During the 1970s and 1980s, East Asia’s develop-ing and newly industrialized countries found

that links through Japan’s goods trade, bankingflows, direct investment, and official development as-sistance formed a cement that fostered robust ad-vances in trade, financial integration, and growthwithin the region. During the 1990s Japan experi-enced a burgeoning problem of nonperforming loansin its banking system and meager output growth of1.4 percent per year. Yet, Japan’s impact on the re-gion during bad times appears to be as strong asduring the good times of the earlier decades.

Japan has become less important as a destinationfor regional exports over the last decade, as evidencedby a 5 percentage point drop in export share for EastAsia, and sharper fall-offs for other developing regions.This is indicative of relatively low growth of Japaneseimport demand and a diversification of export marketsby Asian economies. However, the share of East AsianGDP, and particularly that of China “exported” toJapan, has risen slightly over the last decade.

On the financial front, however, the scale-backof Japanese commercial bank lending to developingcountries has continued well beyond the retrench-ments of the immediate post-crisis period.

Box 1.1 Japan and the developing countries

Japanese lending to East Asia doubled between1990 and 1996, rising to 4.4 percent of regional GDP,and as high as 21 percent of GDP in Thailand. A criti-cal factor contributing to the upsurge in internationallending was domestic—the demise of the traditionalor “Main Bank” lending system within Japan itself,introducing more competition in the capital markets(Hoshi 2001). The financial crisis of 1997–98 yieldeda swift decline in Japanese bank claims on the “Crisis-5” countries dropping by 30 percent between 1996and 1998, representing a withdrawal of some 2.6 per-cent of GDP for these countries—although for Thai-land it was 8.3 percent of GDP. From 1998 through2000, Japanese claims on developing countries contin-ued to fall, by 53 percent to the Asia-Pacific regionand 12 percent for other developing regions. At pres-ent, the persistence of nonperforming loans in theportfolios of Japanese banks constrains its ability togenerate new lending. Indeed, domestic lending byJapanese banks has fallen recently at 6 to 7 percentannual rates. Financial institutions have reduced over-seas exposures in order to build up capital and in-crease funding for loan-loss reserves (Mori and others2001). So Japan’s share in developing countries com-mercial bank financing has dropped by one-half in thelast decade, lessening the importance to emergingmarkets of further withdrawal of Japanese loans dur-ing the present downturn.

Note: Crisis-5 countries are Indonesia, Republic of Korea,Malaysia, the Philippines, and Thailand.

Links through trade

Japan’s share in GDP “exported” toregion’s exports Japan (percent)a

World region 1990 2000 1990 2000

Developing E. Asia/NIEs 18.8 13.8 5.2 5.5China 14.7 15.6 2.6 3.9Korea, Republic of 18.6 11.1 5.0 4.0Singapore 8.8 7.5 12.6 10.8

Oil exporters 23.6 24.4 11.4 13.1North America 10.3 6.7 0.9 0.7European Union 2.1 1.8 0.5 0.6

Major Latin America 6.8 3.0 0.6 0.5Other majordeveloping** 20.7 6.1 3.3 1.5

Other developing 10.3 5.7 0.8 0.7

Note: a Calculated as the share of total exports in GDP for country“i” times the share of Japan in country “i’s” exports.**Group includes Algeria, Arab Republic of Egypt, India, IslamicRepublic of Iran, Morocco, the Russian Federation, and South Asia.

Source: IMF Direction of Trade Statistics, Japan ERISA, WorldBank data, Economic Policy and Prospects Group calculations.

0

1990 1992 1994 1996 1998 2000

25

50

75

100

125

150

East Asia and PacificLatin America and the CaribbeanSub-Saharan Africa/Middle East and North AfricaEurope and Central Asia

Japanese commercial bank claims bydeveloping region, 1990–2000(billions of current dollars)

Source: Bank for International Settlements, Quarterly ReportJune 2001 and Annex tables.

nancial markets, and unfavorable conditionsunder which to mobilize new corporate affilia-tions have come to exert increasingly adverse ef-fects on the European business climate. The fallin equity prices also had a negative impact onconsumer confidence, although wealth effectsare, on average, less important in Europe thanin the United States. Euro Area GDP growth isexpected to fall to 1.5 percent in 2001, follow-ing strong output gains of 3.5 percent in 2000.

Rebound next year still likely, butprobably later than earlier expectedBefore September 11, there were early signsthat a recovery in the manufacturing sector was underway in the United States. Figure 1.3shows, for example, that manufacturing pro-duction, excluding high-tech production, hadreached a trough, confirming information com-ing from the purchasing managers’ index(NAPM). Since the terrorist attacks, that recov-ery has been postponed. But prudent use of thelevers of economic policy is likely to bringabout at least the beginnings of a rebound in2002 for the United States and Europe. TheUnited States has aggressively loosened mone-tary policy, with the Federal Reserve having

lowered interest rates by 400 basis points in aseries of nine cuts over the course of 2001, car-rying the Federal Funds rate to 2.5 percent bymid-October, its lowest level since the early1960s. European rates have also fallen, but notas swiftly. In addition, on both sides of the At-lantic increased fiscal stimuli are expected toaugment consumption. However, the U.S. re-covery, while expected to begin in the second orthird quarter of 2002, will be reflected more in2003 annual growth numbers than in those for2002. Nonetheless, the U.S. recovery is unlikelyto be as quick and strong as earlier thought,and the European recovery will likely lag oneor two quarters. European manufacturers havebeen faced with large-scale unsold inventories,and it will take several quarters for this in-ventory cycle to unwind. With lower externaldemand than earlier anticipated, a buoyantexport-led U.S. recovery has become less likely.U.S. consumer demand, put on hold after Sep-tember 11, is expected to lead the recovery—ifsomewhat delayed. In Japan, there is no effec-tive scope for monetary easing through inter-est rate cuts. Financial problems will continueto weigh heavily upon the Japanese economy,though a return to moderate positive growth in2003 is expected with revival of world trade.

In the medium term, prospects for industrialcountries remain favorable. Low inflation andimproved structural policies in most industrialcountries have created an environment inwhich the potential benefits from investment in technology can be reaped once the cyclicaldownturn has reversed. Oil prices averaging$25 a barrel are expected to return slowly tolong-run equilibrium of under $20 a barrel,further underpinning growth in the industrialcountries. And in Japan, the new government’stougher approach toward the “bad loan” prob-lem should help the economy move graduallytoward potential growth rates.

Under these assumptions, the forecast antic-ipates continued low growth rates in the UnitedStates, Japan, and Europe for 2002, 1.0, 0.1,and 1.3 percent respectively, but with strongacceleration of GDP growth advancing into2003 (figure 1.4). [Weaker annual GDP growth


8

Figure 1.2 European industrialproduction falls(growth at seasonally adjusted annualized rates)

Source: National agencies; Eurostat.

Germany France Italy EuroArea

UnitedKingdom

–8

–6

–4

–2

0

2

4

6

Q4-00

Q1-01

Q2-01

rates in 2002 are due in large measure to statis-tical effects related to the initial conditions forthe year—a “carry-over” of sluggish or declininggrowth in the final quarters of 2001. A pick-up inthe momentum of output growth across the majorOECD blocs on a quarterly basis is anticipated tocommence in the second and third quarters of2002, in turn yielding positive “carry-over” ef-fects and resulting in higher annual GDP figuresfor 2003.] The delayed recovery of these majorlocomotives of the global economy will trans-form the earlier-expected outlook for the devel-oping countries. Trade and financial marketswill be the two main channels through whichthese dynamics are transmitted. The next twosections look at the global environment throughthe lens of trade and finance, and a followingsection explores in detail the outlook for devel-oping countries.

Global environment: trade

Downturn hits manufacturing exporters—The industrial country–downturn has led tothe sharpest deceleration of world trade onrecord, from an extraordinary 13.3 percent ad-

vance in 2000 to a crawl of 1 percent growthin 2001. Import demand in all three industrialregions slowed sharply, with the steepest de-cline in U.S. imports (figure 1.5). U.S. invest-ment in equipment declined by 4.5 percent


9

Figure 1.3 U.S. NAPM and manufacturing industrial production excluding high tech,1994–2001(percent change saar, 3-month/3-month)

Source: National Association of Purchasing Managers, Datastream.

(index, sa. 3-month/3-month)

–10Feb. 1994 Feb. 1995 Feb. 1996 Feb. 1997 Feb. 1998 Feb. 1999 Feb. 2000 Feb. 2001

ManufacturingIP excluding tech

NAPM

–5

0

5

10

40

45

50

55

60

Figure 1.4 GDP growth in OECD blocs(percent)

Source: National agencies; Economic Policy and ProspectsGroup projections.

–1United States Japan Euro Area

0

1

2

3

4

5

2000 2001 2002 2003

after growing by over 11 percent last year.With almost 30 percent of such investmentbeing imported, and 40 percent of total invest-ment consisting of high-tech products, this wasa major force behind the slowdown of worldtrade and the collapse of the global semicon-ductor market. Indeed, U.S. imports of capitalgoods dropped at an annual rate of 32 percentduring the first half of the year.

The terrorist attacks on September 11 re-strained trade flows further, exacerbating thesharp cyclical downturn. Security concernstranslated into higher freight rates,3 and limitedair travel greatly hindered the shipment of per-ishables and high-tech products.4 The impacton trade in services was significantly larger, withtourism and business travel sharply lower.5

Growth of exports from developing coun-tries plummeted from over 19 percent in 2000to 2 percent in 2001. East Asian exportgrowth fell more sharply still, from 25 percentto 0.5 percent (table 1.2). These effects are sopervasive because developing countries arenow more than ever linked to global trade cy-cles in manufacturing. Countries increasedtrade as a share of their economies, and in-creased their share of the global market duringthe 1990s. In doing so, many developing coun-tries diversified away from commodities tomanufactures, and further, into high-tech prod-ucts. The share of manufactured goods in de-veloping countries’ exports increased from 60to 80 percent over the last decade, while theshare of capital goods increased from 27 to 42percent (figure 1.6).

—and commodity exportersCommodity exporters have been hard hit byprice declines. Although the number of coun-tries that are highly dependent on commodity


10

Figure 1.5 Import growth acrossindustrial centers(percent)

Source: World Bank data; Economic Policy andProspects Group projections.

Industrialcountries

UnitedStates

Japan EuroArea

2000 2001

2002 2003

–5

0

5

10

15

Table 1.2 Merchandise export volumes, annual average percentage change

1999 2000 2001 2002 2003

World 4.1 13.5 0.3 3.7 10.3High-income countries 4.1 11.9 –0.2 3.3 10.5

United States 3.9 11.3 –2.1 4.6 11.9Euro Area 3.2 12.2 2.2 3.0 11.0Japan 4.0 12.9 –7.7 4.0 11.8

Low-middle-income countries 3.8 19.2 2.1 5.0 9.7East Asia and Pacific 9.7 25.5 0.5 6.4 11.5South Asia 7.5 12.3 3.0 7.0 7.6Middle East and North Africa –2.6 8.0 2.1 4.1 5.8Europe and Central Asia –2.6 18.9 6.1 2.8 8.4Latin America and Caribbean –0.8 12.0 1.9 3.8 9.3Sub-Saharan Africa 0.0 8.8 3.4 2.9 6.4

Memo: Developing x ECA 5.3 19.2 1.2 5.5 10.0

Source: World Bank data; and Economic Policy and Prospects Group projections.

exports is declining, for more than 10 percentof developing countries commodities exportsaccount for over 80 percent of total merchan-dise exports (figure 1.7).

Non-oil commodity prices are projected to fall by about 9 percent in 2001 following a1.3 percent decline in 2000. Substantial in-creases in the supply of commodities such ascoffee, vegetable oils, and timber, and currencyweakness of major exporters relative to theU.S. dollar,6 also contributed to the fall of com-modity prices. In the case of metals, the pricedeclines come in spite of production cuts, par-ticularly in aluminum, but also in copper andother metals.7 Using its market power, the Or-ganization of Petroleum Exporting Countries(OPEC) was able to sustain, at least in the shortrun, prices around $25 a barrel. However,slackening demand, especially after September11, clearly will exert downward pressure onprice. OPEC’s reassurance that it will guaranteesufficient supply quickly, eased market con-cerns after September 11, but the possibility offuture supply disruptions in the aftermath ofthe terrorist attacks has not disappeared, keep-ing uncertainty at exceptionally high levels inthe short run.

World trade expected to rebound later in 2002—As noted in Global Development Finance(GDF 2001), earlier cyclical downturns in theworld semiconductor industry have been brief,largely due to technological advance and rapidinventory liquidation. More generally, fasterdepreciation rates of capital goods appear tohave shortened the investment cycle, whilelower inventory ratios have reduced the struc-tural importance of inventory cycles. Com-bined with the positive impact of lower inter-est rates on demand for durable goods, thechanging technological characteristics made arecovery of manufacturing production in theUnited States before the end of 2001 proba-ble—and the first signs of a rebound were vis-ible before September 11. However, the terror-ist attacks have now rendered such a scenarioof quick recovery unlikely. Although the mech-anisms behind the recovery remain unchanged,a delayed upturn is more plausible now.

As a recovery in the United States begins togather pace by mid-2002, increased investmentand Information and Communications Technol-


11

Figure 1.6 Export shares for developingcountries excluding transition economies(percent of total exports)

Source: U.N. Commodity trade statistics (COMTRADE).

100

80

60

40

20

0

1971 1976 1981 1986 1991 1996

Natural resources

Energy

Agriculture

Manufacturing

Figure 1.7 Distribution of countries byshare of primary commodities in totalmerchandise exportsPercent of countries

Source: Staff calculations using UN COMTRADE datafrom WITS system.

0<60 60–80

commodity share

80–100

10

20

30

40

50

60

70

80

1981–85

1996–99

ogy (ICT) equipment spending should feedthrough to import demand, setting the stage fora pick-up in world export growth, mainly man-ifesting in robust 2003 annual growth rates(table 1.2). Expected growth of 4 percent in2002 is followed by growth over 10 percent in2003 in this projection. The rebound is likely tobe fastest for East Asia, with growth rates of6.4 and 11.5 percent in the coming two years.The dynamics in the region reflect countries’specialization in high-tech products and thepronounced boom-bust cycles rippling throughEast Asia since the 1997–98 crisis. For regionsdepending more on commodity exports, exportgrowth will be lower under these circum-stances. For example, Latin American exportsare expected to grow about 4 and 9.5 percentin 2002 and 2003, while Sub-Saharan Africacould see exports growing near 3 and 6.5 per-cent, lower than Africa’s record growth of2000, but still high relative to past trends.

—but commodity exporters remain vulnerableAfter the sharp 9 percent fall in commodityprices in 2001, almost no rebound is expectedfor 2002, and only by 2003 are current losseslikely to be made up. Market conditions con-tinue to put downward pressures on commod-ity prices in local currencies, and the modestprice rebound expected for 2002 is mainlybased on expected currency movements. Withmanufactures export prices expected to in-crease by 4–4.5 percent per year, in light ofanticipated depreciation of the dollar, com-modity exporters are likely to experience fur-ther terms-of-trade losses. The decrease in theimport-purchasing power of exports as a resultof relative price changes might constrain con-sumption and investment demand, for instancebecause of reduced availability of intermediatemanufactures or capital goods. Research onNorth-South business cycles suggests that upto 20 to 50 percent of output volatility for suchcountries may be explained by business fluc-tuations in developed countries (see, for ex-ample, Deaton and Miller 1996; Kouparitsas

1996; Kose and Riezman 2000). Figure 1.8 in-dicates that the negative impact during down-swings on mineral exporters is generally largerthan on agriculture exporters, reflecting thegreater sensitivity of minerals demand to in-dustrial production.

Oil prices are expected to gradually declineto under $20 a barrel over the forecast period,due to rising supply competition from bothnon-OPEC producers and within OPEC itself.Earlier episodes, notably the second oil crisisduring the early 1980s, show that, in the shortterm, it is possible to evoke large price swingswith small supply shocks, but that large sup-ply adjustments are needed to keep the price athigh levels for a more extended period (figure1.9). The sharpening of the downturn afterSeptember 11th and OPEC’s policy reactionsto avoid sharp price hikes in the wake of theterrorist attacks, have accentuated the ex-pected downward trend.


12

Figure 1.8 Episodes of world growthslowdown and agricultural and mineralexport prices(difference in growth from the previous two years—

Sample of 31 non-oil commodity dependent SSAcountries, classified as mineral or agricultural exporters(see GEP 2000, Chapter 4, fn. 28 on p. 129 for detailsof coverage).

Source: Economic Policy and Prospects Group staffestimates.

–30

1980–82

–4.7–6.3

–15.9

–28.8

–17.5

–8.0

1990–92 1998–99

–20

–10

0

10

Agriculture Minerals

percent)

Global environment:financial markets

Increasing risk generally outweighsinterest rate reductions—The weaknesses of demand in the industrialcountries had translated into lower interest ratesbefore September 11, as authorities provided amore accommodating monetary stance. Afterthe terrorist attacks, monetary authorities in theindustrial countries swiftly eased monetary con-ditions further. These policies can potentiallysoften both the slowdown in the OECD regionitself and the transmission of the downturn todeveloping countries, enabling the latter to ben-efit from lower international interest rates and ashift of capital flows away from industrial coun-tries. However, the financial channel of trans-mitting growth dynamics from the major mar-kets to developing countries produced higherspreads instead of larger capital flows in 2001,and contained a strong bias in favor of well-performing, creditworthy countries. This re-flects the behavior of investors, who are nowmore risk-sensitive and discerning than theywere in the years before the 1997–98 crises in

emerging markets. Therefore, the benefits oflower OECD interest rates have been more-than-offset by higher risk premiums particularlyfor poorer performing countries.

This is in sharp contrast to the 1991–93slowdown in industrial countries, anotherepisode of slowing growth and interest ratecuts. Then, when U.S. interest rates fell by 450basis points cumulatively over three years,global gross capital market flows increased by22 percent a year, albeit from very low levelsborn of the 1980s’ debt crisis. Developingcountries benefited from the increased liquiditywith a similar increase in inflows by 32 percenta year.

In 2001, the opposite occurred when theFederal Reserve reduced policy rates by 400basis points. After rising in 2000 for the firsttime since the 1997–98 crisis-ridden period,net capital flows to developing countries areexpected to decline in 2001. Gross flows frominternational capital markets, which increasedby over 30 percent last year, are down by near20 percent (year on year—y/y) in the first halfof this year (figure 1.10). Foreign direct in-vestment (FDI) flows have continued to fall


13

Figure 1.9 OPEC output and crude oil priceThousands of tons

Source: World Bank; OPEC Bulletin.

dollars per barrel

600

Production(left scale)

Nominal crude price(right scale)

1971 19791975 1983 19911987 1995 1999

800

1,000

1,200

1,400

0

5

10

15

20

25

30

35

40

(by 4 percent [y/y] in the first quarter) fromtheir peak in 1999, and official flows are notexpected to post a significant rise in 2001.

The difference between the current down-turn and the recession a decade ago is the riskperception of private investors. Toward the endof the 1991–93 recession, investors were gener-ally optimistic about new investment opportu-

nities in emerging markets after many develop-ing countries eased capital market restrictions.The spreads were relatively low and developingcountries’ share in global capital flows were in-creasing (figure 1.11). This year, the spreadswere high and even rising toward the middle ofthe year, reflecting the heightened risk percep-tions of the markets. As a result, the already


14

Figure 1.10 Gross capital market flows to developing countriesbillions of dollars (monthly averages)

Source: Euromoney; Economic Policy and Prospects Group.

1998 1999 2000 Q4 ’00 Q1 ’01 Q2 ’01 July ’01 Aug. ’01

Equity

Loans

Bonds

0

5

10

15

20

Figure 1.11 Emerging market spreads and share of global capital flowsBasis points Percent

Source: Euromoney.

300

1991 H1 1993 H1 1995 H1

LHS: Left scale RHS: Right scale

1997 H1

EMBI spreads (LHS)

Emerging marketshare (RHS)

1999 H1 2001 H1

600

900

1,200

1,500

3

6

9

12

15

small share of developing countries in globalcapital flows has declined further.

—but mainly because of financial tensionsin some large emerging markets—Although aggregate net capital flows are on thedecline this year, the reduction comes mainly at the expense of a few large recipients, no-tably Brazil, Argentina, and Turkey. Investorsshunned the latter two countries on the worryof default on their public debt. Brazil, whichreceived FDI flows of over $30 billion a year in1999 and 2000—more than covering currentaccount deficits—has seen a marked fall-off inFDI to $15–20 billion in 2001. A worsening ofthe external environment for Brazil—weak ex-port market growth, low commodity prices,and rising spreads due to contagion from Ar-gentina—and a domestic energy crisis havelimited the country’s access to capital markets.

Market reactions in the first weeks after theterrorist attacks showed a similar pattern.Spreads on Brazilian and Argentine bonds in-creased by more than 150 basis points, but theaverage increase for all other emerging econo-mies was just 60 basis points, only slightly morethan the decline in international interest rates(LIBOR).

Capital market financing to developingcountries other than Argentina, Brazil, andTurkey declined by 9 percent in the first halfof 2001, contrasted with a 20 percent declineincluding these three countries. Bond issuance,that seems to have benefited from the lowerinterest rate environment, grew by 75 percentexcluding the three countries, and by 35 per-cent for all emerging markets.

Countries that usually had difficulty in ac-cessing the global bond market in the past fewyears were successful during “windows of op-portunity” that opened up periodically in thefirst half of 2001. These episodes usually oc-curred when interest rates fell sharply in the in-dustrial countries—thereby increasing liquidityin the market—and when difficult conditions inkey developing countries abated. June 2001 wasone such month, when gross capital flowssurged to over $21 billion, with countries that

had little success in accessing the market muchin the past year raising relatively large sums. Forexample, a private Russian corporation success-fully issued a bond—the first access in a year—while large sums were raised by the Arab Re-public of Egypt ($1.5 billion), Malaysia ($1billion), and Hungary ($0.9 billion). Moreovermany small issuers with less-than investmentgrade credit ratings either tapped the bondmarket (Jamaica, Lebanon, Romania, and theRepública Bolivariana de Venezuela) or ob-tained syndicated loans (Chad, El Salvador, Es-tonia, Gabon, Peru, and a Russian bank that re-ceived a loan for the first time since the 1998crisis in that country).

These “windows of opportunity,” however,alternated with periods when they were closeddecisively. Investor sentiment deterioratedsharply in July, with average spreads rising bynearly 200 basis points in response to adversedevelopments in Argentina and Turkey. Al-though spreads also increased for several Cen-tral European and other Latin American coun-tries, the contagion was limited. The terroristattacks and threats of further violence willlikely yield a further decline in private flows toemerging markets in 2001, both capital mar-ket flows and foreign direct investment. Capi-tal market commitments could drop to some$160 billion—a third below 2000 levels. FDIto major emerging markets had declined from$61 billion in the first half of 2000 to $56 bil-lion in the first half of 2001, and the attackshave raised the likelihood of a further down-turn: they have greatly increased the uncer-tainty involved in traveling to supervise for-eign subsidiaries; raised the cost of globallyintegrated supply chains due to higher insur-ance rates and enhanced security measures atthe border; and demonstrated that these sup-ply chains are vulnerable to interruption.

Capital flows are unlikely to recover in 2002Although near-term gross capital market flowsare notoriously difficult to forecast, the globalpolitical and economic environment seems toouncertain for a rapid upturn in capital flows to


15

developing countries. In the short run, emerg-ing markets’ share of private flows—which in-creased rapidly during the last decade—is likelyto drop sharply as private investors seek safehavens. By 2003, however, the right mix of con-tinued low interest rates, a rebound in worldtrade and reduced risk perceptions could gener-ate a recovery of capital flows, and perhaps anincrease in developing countries’ share of globalflows. Yet private market flows will probablybe much more selective than in the past. In-vestors, with memories of financial crises inEast Asia and elsewhere firmly in mind, will re-main more discriminating. Capital flows arethus likely to reward good policies in somecountries, but continue to constrain growth inothers. Moreover risks remain weighted to thedownside, as default by a major emerging mar-ket would escalate risk premiums for the ma-jority of developing countries.

The outlook for developingcountries

Although the slowdown in global economicactivity is being led by the industrial

countries, aggregate growth for developingcountries is being adversely affected and ex-pected to weaken from 5.5 percent in 2000 to 2.9 percent in 2001. Delayed recovery in theOECD area is likely to keep developing coun-try growth in 2002 restrained to 3.7 percent.But stronger recovery in the advanced econo-mies by 2003 should ignite a rebound to 5.2percent growth in the developing world. How-ever, there are considerable regional variationsunderlying these summary figures.

The Europe and Central Asia (ECA), andLatin America and the Caribbean (LAC) re-gions have been hardest hit by the deteriorat-ing global environment in 2001—althoughconditions in these regions have been cloudedby difficult financial and economic develop-ments in Turkey, Argentina, and Brazil, respec-tively. Latin America in particular will begin2002 within a challenging external environ-ment, with the United States likely in recession,commodity prices falling sharply, international

tourism collapsing, and capital-market riskaversion heightened. Only by mid-2002 willrecovery gain some underpinning, as theUnited States and the Euro Area emerge fromtheir slumps. Economic prospects for the Mid-dle East and North Africa (MNA) region—which, after Sub-Saharan Africa (SSA) suffersthe smallest reduction in near-term growth—are expected to deteriorate further in 2002, asoil prices continue to fall and other commodityprices drop relative to the cost of manufacturesimports. The East Asia and Pacific (EAP) re-gion is anticipated to be first among develop-ing regions to show a recovery in exports inlate-2001 and early 2002, as the group was thefirst to suffer from the collapse in high-techtrade flows. South Asia (SAS) is expected toexperience a less pronounced cycle, as the re-gion is relatively less integrated with the globaleconomy. But GDP growth at 4.5 percent in2001 corresponds with the 1997 low regis-tered by the region. (See appendix 1 for moredetailed discussion of the regions).

Diverse impacts of industrial countries’ slowdownsHistorically, the effects of downturns on devel-oping countries have been quite diverse (figure1.12). Financial conditions are discriminatingfactors that potentially even reverse the sign ofthe impact. In the early 1980s, the developingcountries followed the industrial countries intorecession; after the second oil crisis the indus-trial countries tightened monetary policy tobring inflation under control. Higher interestrates generated severe debt-service problemsfor oil-importing developing countries that hadaccumulated foreign debts, and the downturnin the developing countries was almost as deepas in the industrial world. Moreover, growthopportunities in highly indebted countries werelimited for a longer period.

In the beginning of the 1990s, growth in de-veloping countries, excluding the transitiongroup, accelerated despite recessions in theUnited States and Europe. It was again mone-tary transmission that played an importantrole. With inflation under control, the indus-


16

trial world pursued an accommodative andmore predictable monetary policy. Encouragedby major reforms in developing countries—including the opening up of capital markets—international capital diversified away from in-dustrial country markets and found its way to those developing countries that undertookmajor reforms. This enabled many low- andmiddle-income countries not only to escape thedownturn, but to grow at significantly fasterrates than the high-income countries—until theEast Asia crisis brought about a sudden rever-sal in capital flows.

Although the current downturn resemblesthat of 1991–93 rather than the 1982 episode,developing countries today are more adverselyaffected by falling import demand in the in-dustrial countries. This is because trade link-ages have become increasingly important. Andin the aftermath of the East Asia crisis, a sharprerouting of capital flows from industrialcountries to developing countries (as occurredin the early 1990s) is less likely. On the otherhand, developing countries are now betterequipped than 20 years ago to absorb negativeexternal shocks, benefiting from diversificationand domestic reforms associated with integra-tion into the global economy. The structural

improvements in many developing countriesjustify the expectation that they will return torelatively high growth rates, once the globaleconomy recovers from the current slowdown.

Current downturn follows region-specificchannels on developing country growthA probable consequence of the simultaneousdownturn in the industrial world is that abroad range of developing countries will facean abrupt ending to the strong recovery thatfollowed the financial crises. GDP growth isexpected to drop by 2.6 percentage points in2001, with serious downside risks, discussedin the next section. Apart from an 11 percent-age point drop in export market growth, andsharp fall in non-oil commodities—implyingsubstantial terms of trade losses—developingcountries face a decline in capital inflows ofalmost 20 percent and spreads are again onthe rise after a steady decline since the finan-cial crises (table 1.3).

The regional impacts follow closely the ex-port patterns that vary significantly acrossregions, both the commodity composition ofexports, and the orientation of exports acrossvarious markets in the industrial and develop-ing worlds (figures 1.13 and 1.14). Countries


17

Figure 1.12 Industrial- and developing-country GDP growth, 1981–2003(percent change)

Source: World Bank data; Economic Policy and Prospects Group projections.

0

1981 1984 1987

Developingexcluding transition

Industrial

1990 1993 1996 1999 2002 2003

1

2

3

4

5

6

in East Asia—and to a lesser extent LatinAmerica—with large manufacturing exports,were the first to feel the impact of the collapseof import demand in the United States andJapan. East Asia’s high-tech laden exports(about one-third of total shipments from theregion) were especially adversely affected asdemand for computers, telecommunicationsequipment, and other semiconductor-basedcapital goods dissipated. Now, increasingweakness in Europe and declining commodity

prices put additional pressure on countries inCentral Europe, Sub-Saharan Africa, and LatinAmerica.

External debt-to-export ratios, and the com-position of the debt (private or official) differwidely across regions (figure 1.15), and canlargely influence the severity of the impact. Themore difficult external environment is especiallyworrisome for highly-indebted countries relyingon private capital flows, such as Argentina,Brazil, Turkey, and Indonesia. At a regional


18

Figure 1.13 Composition of developing-country exports(average export shares, 1998–2000—percent)

Source: U.N. COMTRADE database.

0All

DevelopingEastAsia

SouthAsia

Middle Eastand

North Africa

Europe andCentral Asia

Latin Americaand the

Caribbean

Sub-SaharanAfrica

25

50

75

100

Mfgrs Oil Non-oil commodities Services

Table 1.3 All developing countries: key indicators(annual percent change unless indicated)

1990–99 2000 2001 2002 2003

Export market* 7.5 13.4 2.3 4.4 9.4Merchandise export volume 7.4 19.2 2.1 5.0 9.7Terms of trade (percent of GDP) –0.2 0.5 –0.5 –0.5 –0.4

International market spreads (avg. bp) 807.6 707.2 733.6 . . . . . .Gross capital market flows 15.2 28.8 –18.5 . . . . . .

Real GDP 3.2 5.5 2.9 3.7 5.2

*merchandise import growth in destination countries, weighted by export shares of exporting countries.. . . Not availableSource: Economic Policy and Prospects Group.


19

Figure 1.14 Major destinations for developing-country exports(average export shares, 1998–2000—percent)

Source: International Monetary Fund; Direction of Trade Statistics.

AllDeveloping

EastAsia

SouthAsia

Middle Eastand

North Africa



Caribbean

Sub-SaharanAfrica

0

25

50

75

100

Europe United States Japan Intra-Region Other

Figure 1.15 Total external debt in developing countries, 2000(as a percent of exports**)

Note: *Low- and middle-income (developing) countries. **exports of goods and services plus workers’ remittances.Source: Global Development Finance 2001, World Bank.

East Asiaand Pacific

SouthAsia

Middle Eastand

North Africa



Caribbean

Sub-SaharanAfrica

0

50

100

150

200

LMICs*

IMF

Short term

Official

Private

level, Latin America has one of the highest debt-to-exports ratios, and at the same time thelargest share of private debt in total debt. As aresult, debt from private sources as a share ofexports in Latin America is more than twice aslarge as in any other region. This makes LatinAmerica particularly vulnerable. Potentially theregion can benefit from lower international in-terest rates, but is at the same time most sus-ceptible to reduced availability of funds for refi-nancing. This vulnerability translates into alarger increase in Latin American spreads thanin other regions (figure 1.16). The hetero-geneous debt picture across developing coun-tries requires diverse policy responses. While forcountries with large reserves and low debt,some macroeconomic easing may be warrantedto stimulate the domestic economy; others faceharsh, but ineluctable, fiscal adjustments.

Region-specific factors will complementcoming recoveryDevelopments in the world economy, if theyevolve as anticipated, will create a more favor-able external environment for renewal ofgrowth in developing countries later in 2002.Aggregate growth rates for the developing coun-

tries are likely to bounce back from their fall to2.9 percent in 2001 to a projected 3.7 percent in2002 and 5.2 percent in 2003. The dynamics ofthis cycle are likely to be much different fromearlier downturns in the global economy—andto be heavily conditioned by structural changesin trade and financial markets.

Although the initiating factor driving recov-ery among developing countries will be the re-sumption of growth in the industrial centers,this should be augmented by conditions specificto developing regions and major countries. Forexample, an important factor rekindling growthin East Asia should be a recovery of intra-regiontrade, following the return of more buoyant de-mand conditions in the United States and Eu-rope. In Central and Eastern Europe progresstoward accession to the EU, albeit more pro-tracted, should serve to underpin policy reformsand set the stage for more robust growth asWestern Europe emerges from its slowdown.The degree of near-term success of reforms inthe larger developing and transition econo-mies—Brazil, China, India, Indonesia, and theRussian Federation—will also prove critical ele-ments in the outlook, as these countries addressissues ranging from fiscal and financial sector


20

Figure 1.16 Emerging market stripped spreads, 1999–2001(basis points over US$ Treasury bonds)

Source: Euromoney; Economic Policy and Prospects Group calculations.

0

Jan. 1999 July 1999


Latin America and the Caribbean

East Asia

Jan. 2000 July 2000 Jan. 2001 July 2001

500

1,000

1,500

2,000

2,500

reforms, privatization, or trade liberalization.China’s imminent accession to the World TradeOrganization could spur its growth and con-tribute to further global integration.

East Asia and Pacific . . . trade slumpleads to sharp growth slowdown. . . EAP experienced an unprecedented decelera-tion of exports in 2001, as noted in previoussections. Export growth plummeted 25 per-centage points, mainly following the collapse inglobal high-tech markets and the fall in Japa-nese and U.S. import demand. Worsening of fi-nancial conditions, reflected in higher spreads,was limited to highly indebted countries such asIndonesia and the Philippines. Relatively lowdebt levels, current account surpluses, and largeforeign reserves tended to insulate other coun-tries from contagion.

The sharp drop in manufacturing exports re-sulted in significant output declines—close torecession levels in some of the small, open econ-omies. However, carryover effects from last yearresulted in positive annual growth rates formost countries, while continued strong, albeitsomewhat less dynamic growth in China keepsregional growth near 4.5 percent in 2001.

The strength of next year’s rebound willprimarily depend on the vigor of the trade re-covery and on policy responses to the deterio-ration of the financial environment. Signs thatthe high-tech markets have potentially passedtrough levels are becoming clearer, but it re-mains uncertain whether the upswing in thesemarkets will be as strong as they were duringthe last decade. And slower U.S. growth in thewake of September 11 developments will dampennear-term export prospects.

Export growth during the coming twoyears is expected to register 6.5 and 11.5 per-cent respectively. This is only 1 to 2 percent-age points above export market growth, whilein previous years the difference between ex-port performance and export market growthwas much larger, averaging 6 points over the1990s, reflecting the high-tech specializationof East Asia. In that sense, the current forecastis a cautious view on near-term developments.

Low inflation in most countries provides theopportunity for further monetary easing. How-ever, strengthening of financial systems maybe equally as important as domestic stimulusat the moment. Under cautious assumptionsabout trade recovery and domestic policies,and assuming no clear-cut financial crises, theforecast implies growth rates of 5 and 6.8 per-cent in 2002–03 respectively.

Latin America . . . global context andfinancial stress in Argentina exact a tollon growthDevelopments during 2001 proved muchmore challenging than anticipated in thespring of the year, and have turned yet moreadverse following September 11. Slackeningworld trade and weakening commodity pricescontributed to slower growth in many LatinAmerican countries. The region’s merchandiseexport volume fell from a 12 percent advancein 2000 to about 2 percent, following a simi-lar decline in export market growth. At thesame time the region endured terms-of-tradelosses, equivalent to 0.2 percent of GDP in2001. For commodity-dependent CentralAmerican countries, this measure dropped bya full percentage point in the year. Caribbeancountries were hit hard by a sharp reductionin tourism earnings after the terrorist attacksin the United States.

More important than the deterioration ofthe trade environment were changing condi-tions in financial markets. Rapidly decliningU.S. interest rates provided a degree of relieffor some highly indebted countries by reducinginterest payments on debt. But internationalcapital markets were less forthcoming than an-ticipated, and a number of countries had diffi-culties in financing maturing debt. Argentina’sfiscal strains and Brazil’s drought-inducedshortage of hydroelectric power were amongthe domestic factors that created an inflamma-ble mixture with the worsening of the externalenvironment. GDP growth in the region wasconstrained to 0.9 percent—a decline of 2.9percentage points from the 3.8 percent perfor-mance of 2000.


21

and Hungary, leading to appreciation of cur-rencies during the first half of the year. With fi-nancial stress in Turkey, Western Europe need-ing time to recover, oil prices expected todecline, and a possible hiatus in progress to-ward EU accession,8 a sharp and quick recov-ery of economic activity in the region is un-likely. In the Commonwealth of IndependentStates (CIS), GDP growth is expected to decel-erate further to 3.2 percent in 2002, due inlarge part to the easing of oil prices. In theabsence of high oil prices, significant institu-tional and structural impediments remain a con-straint to achieving higher sustained rates ofgrowth. GDP growth in the CIS is likely toachieve a 3.5 percent pace in 2003.

In Central and Eastern Europe, the poten-tial for solid growth exists in the medium run.Two key assumptions underlying this perfor-mance are that the EU accession process stays,generally, on track—albeit with some transi-tory difficulties. And that Turkey is successfulin reestablishing macroeconomic stability,paving the way for a recovery over the comingperiod, driven in part by strong exportgrowth, due to some extent to the fall of theTurkish lire. A gradual recovery to strongerperformance in the region would yield growthof 3 percent in 2002, rising to near 4.5 by2003. Contagion from the financial strains inTurkey has been limited thus far, with averagespreads following a downward trend. This de-velopment has been supported as well by higheroil prices serving to ease some of the financialtensions that caused the Russian crisis. None-theless, financial risks remain substantial andcould drastically change the outlook.

South Asia . . . less affected by global slowdown SAS, less integrated into the global economy, is generally less affected by the deterioratingglobal environment, although uncertainty isexceptionally high because the region could bedirectly affected by the ramifications of the ter-rorist attacks in the United States. GDP is pro-jected to slow only moderately, from 4.9 per-cent in 2000 to 4.5 percent in 2001. Growth is


22

GDP growth in 2002 accelerates to 2.5 per-cent in the current projections. However, thispoint estimate is surrounded by a high degreeof uncertainty, as it assumes that those coun-tries under financial pressure in 2001 are ableto avert further adverse developments. LatinAmerica’s high debt and continued large fi-nancing requirements will keep risk percep-tions elevated, due to the region’s strong re-liance on volatile private capital markets.Argentina’s struggle to establish sound footingfor its fiscal position and debt burden contin-ues to depress its immediate prospects. Manylarge countries are facing elections in 2002(Brazil and Colombia), with the potential fordomestic shocks remaining high. But macro-economic management in many of the largercountries has improved steadily over thecourse of the 1990s, laying the groundworkfor higher sustainable growth in the mediumterm.

In 2003, rebounding world output and tradeactivity should be supportive of a substantialrecovery in Latin America, reflected in 4.5 per-cent GDP growth, powered in part by a revivalof export growth to over 9 percent.

Europe and Central Asia . . . prospectsworsened by EU downturn The drop in export market growth from 12percent in 2000 to 5 percent in 2001 was not as sharp for the ECA region as for others. Thismainly reflects that the slowdown in WesternEurope, accounting for 50 percent of ECA’sexports, started half-a-year later than in theUnited States and Japan.

Despite the smaller than average drop inexports (about 13 percentage points), the de-celeration of output growth was larger than inany other region, from 6.3 percent in 2000 to2.1 percent in 2001. This reflects the combinedoutturns of a strong contraction in Turkey’sGDP after recent financial upheaval; a returnto more moderate growth rates in Russia—andother hydrocarbon exporters—after an unusu-ally robust expansion of near 8 percent in2000; and tight monetary policy in severalCentral European countries, notably Poland

then expected to remain near a rate of 5.4 per-cent over the short-term forecast period. Thisreflects not only a relatively low level of globalintegration across much of the region, but alsosome positive domestic factors within many ofthe countries. Agricultural sectors, at least out-side Pakistan, are expected to perform betterthan last year, when weather conditions werehighly unfavorable. However, the most signifi-cant contribution to growth will be the contin-ued buoyancy of India’s large domestic servicesector, which is expected to grow at about 8 percent over the next few years. Of course,the sharp deceleration in global trade has de-pressed growth in regional manufacturing pro-duction to only slightly above 1 percent, butbecause this sector accounts for approximately25 percent of regional economic activity, theaggregate impact has been somewhat muted.

Government subsidies have been used overthe last several years to cushion the impact ofhigh oil prices and poor crop production onconsumer prices—which in turn is being re-flected in growing fiscal and current accountdeficits. For both India and Pakistan, centralgovernment fiscal deficits—of 5.3 percent and5.8 percent respectively—have become majorimpediments to an acceleration of growth.India’s fiscal deficit is considerably higher on aconsolidated basis, including regional govern-ments. Pakistan’s fiscal woes are being com-pounded by its deteriorating current accountposition, which reflects higher oil prices and in-terest payments, as well as drought-affected de-clines in export revenues. This has come at atime of high levels of public debt and low for-eign reserves, and Pakistan was forced to turnto the IMF to help finance the current account.Pressure on the current account may not ease inthe short run, because a severe water constraintfor irrigation is likely to significantly reduce cot-ton output, the main foreign exchange earnerfor Pakistan. Aside from economic develop-ments, Pakistan’s position on the “front line” ofmilitary action against Afghanistan will carrysubstantial near and medium term implications.

Risks are substantial for the region. Politi-cal uncertainty hangs over Afghanistan, and

ineluctably implies future uncertainty for thesubcontinent. Structural problems also entailrisks. Financial strains in India and Pakistan,left unattended, would significantly reduce theopportunities for the region to benefit fully incoming years from a recovery in the globaleconomy, and jeopardize the promise of re-gional growth. The ending of a preferentialtrade agreement with the United States—which accounts for 30 percent of Bangladesh’sexports—may damage the Bangladeshi cloth-ing sector, but this will probably be more thanoffset in 2002, when Bangladesh will receiveduty-free access to European markets for itsgarment exports.

Middle East and North Africa . . . high oilprices and reprieve from drought boostsnear-term growthOil revenues—which account for almost two-thirds of the region’s export revenues—pro-vide the MNA region with a short-term out-look that is better than other regions. In 2001,the oil-exporting countries benefited not onlyfrom strong export revenues, but also im-proved fiscal positions and higher rates of in-vestment. Among the diversified exporters,agricultural production and rural incomes re-ceived a strong boost from a reprieve of long-standing drought conditions in some parts of northern Africa. Growth in Morocco, forexample, is anticipated to accelerate stronglyafter consecutive years of stagnant or declin-ing output.

While higher oil prices and recovery fromdroughts in 2001 have provided a fillip togrowth, the delayed recovery in industrial coun-tries will significantly reduce the external im-petus to growth at end-2001 and into 2002.World demand has slowed, and oil prices areexpected to fall to $21 per barrel by 2002.Growth in the oil-dominant economies willslow to 2.3 percent in 2002. The diversified ex-porters are similarly affected. Demand is nowslowing sharply in the EU—the dominant ex-port market for the countries of the Maghreb—and in the United States, of importance to sev-eral countries in the Mashreq. Lower income


23

growth and the erosion of confidence after Sep-tember 11th will also affect tourism and relatedsectors in the region in a substantial fashion.For some of the diversified exporters, increasinglevels of public debt make it relatively hard tocope with the current deterioration of the exter-nal environment. Increasing spreads threaten to worsen debt dynamics for several countries.Growth in the diversified exporters shouldimprove in 2003, as external conditions be-come more favorable to exports and tourism—although the improvement in the internationalcontext is expected to be gradual. And theMNA region will face increasing competitivepressures as the countries of Central Europeenjoy greater access to the EU.

Sub-Saharan Africa . . . suffering fromlow commodity pricesIn 2001, the world economic slowdown tem-porarily derailed SSA gradual recovery fromthe late 1990s slump. Average growth acrossthe region slowed to 2.7 percent from 3.0 per-cent in 2000, and with population growing at2.5 percent, per capita GDP barely increased atall. Despite generally better supply conditionsin commodity producing sectors, weak demandin industrial countries held export volumegrowth to 3.4 percent. Services, includingtourism also felt the impact, growing at 3.6 per-cent. A widespread deterioration in terms oftrade compounded the difficulties for manycountries. Agricultural and mineral commodityexport prices plummeted due to a combinationof weaker demand and a delayed supply re-sponse to the price surge of 1995–97. Oil pricesalso weakened, although oil exporters contin-ued to benefit from buoyant terms of trade andstrong foreign investment demand. Not surpris-ingly, oil exporters average growth of 3.6 per-cent significantly outperformed the rest of theregion, where growth registered 2.6 percent forthe year.

Given the steep decline in developed coun-tries activity toward the end of 2001, and theprospect of a sluggish recovery in the first halfof 2002, the near term outlook for SSA is pes-simistic. The forecast anticipates 2.7 percent

growth in 2002, with per capita incomes againflat. However, the recovery in developed coun-tries is expected to gather pace over the comingyear and set the stage for a strong rebound in2003, with growth rising to 3.9 percent. Non-oil exporters should see a substantial improve-ment in performance, as commodity marketsfirm and prices stabilize or even rise modestlyin real terms. By contrast, oil producers facesharply weaker export prices and decliningterms of trade. Significant new capacity, espe-cially in offshore development will help tooffset the negative impacts by allowing produc-tion and exports to increase. However, spill-overs to non-energy sectors will be limited andoil exporters’ growth is expected to slow as theboom unwinds.

Risks to the outlook

The specter of a sharper slowdown inindustrial countries haunts the outlook—Risks to this forecast are unusually high. Theterrorist violence in the United States in Sep-tember will undoubtedly have negative short-run consequences for the U.S. and global econ-omy. But it is difficult to predict the severity ofthe adverse effects because the response of con-sumers and businesses—and even future poli-cies—are unknown. These uncertainties overlaystructural risks that in other contexts would bemore manageable. U.S. consumers may be lessresponsive to interest rates than on previous oc-casions as the stock market falls, high consumerdebt, and heightened insecurity may renderthem more cautious; or foreign investors mightbecome concerned about the persistently highU.S. current-account deficit, and impose anabrupt adjustment; these events in turn woulddelay the recovery of investment and its implieddemand for high-tech imports. The Europeandownturn may become more severe once mar-ket sentiment deteriorates further, or monetarypolicy does not ease sufficiently or have the ex-pected effects. Japan’s structural reforms mayfalter or exact a higher toll on economic perfor-mance, and cause the dip in 2001 to last into


24

the next year. Thus, with the global economy in precarious balance, unforeseen shocks fromwhatever source are magnified and could pushthe global economy into recession.

What would be the consequences for the de-veloping countries of a further slowdown in theindustrial regions? We model simulations ofsynchronous downturns in the United States,Europe, and Japan. For each, the simulationassumes a decline in domestic investment of 2 percent of GDP, spread over four quarters,which is counterbalanced by monetary policyreactions, which leads to a shift in the businesscycle. The monetary reactions follow historicalpatterns, with the United States quickly react-ing to the fall in output with an accumulateddrop of 2.5 percentage points in interest rates.European policy, much more focused on infla-tion, is less aggressive, and interest rates fall by1 percentage point. In Japan, the scope for fur-ther lowering of interest rates is minimal asrates are close to zero in the baseline. The resultof the differences in policy reactions is a weak-ening of the dollar both against the euro andthe yen. Table 1.4 shows the first year effects ofthese simulated downturns on developing re-gions. East Asia is hardest hit followed by Sub-Saharan Africa. Indeed, the negative effects of a European recession on developing countries is generally larger than the impact of a U.S. orJapanese recession. A Japanese recession hasfewer repercussions, due in part to the smallersize of Japan in world trade (see box 1.1).

The impact of a U.S. recession is mitigatedby a strong monetary policy response and,more importantly, by the strong and wide-spread effects of that reaction. Latin Americancountries in particular may benefit from a

sharp decline in dollar interest rates. The eurointerest rate is less important than the dollarrate in the international financial system. Fur-thermore European trade linkages with Africa,Central Europe, and some Latin Americancountries are relatively strong. These featuresillustrate why the recent slowdown in Europe,on top of low or negative growth in the UnitedStates and Japan is especially worrisome fordeveloping countries. The negligible short-term impact of the U.S. shock on Latin Amer-ica as a whole is the outcome of very diversecountry-specific effects, strongly negative forMexico and positive for Argentina. The latterresult is mainly driven by the weakening of thedollar in the simulations. However, this posi-tive impact appears to be only temporary.

The medium-term dynamics of downturnsin the industrial countries differ markedly. Fig-ure 1.17 shows the impact on global GDP inthe years after the shock. For example, the firstyear after the U.S. shock, global GDP is 0.6 per-cent lower than the baseline, and three yearsafter the shock it has returned to baseline levels.So the impact is not a permanent change in thelevel of global GDP, but rather a shift in thetiming of the business cycle. While the reboundafter a U.S. downturn is likely to be quicker asa result of monetary easing, it may create ten-sions in the medium run because of the mone-tary impulses to the rest of the world. Lower in-terest rates potentially boost domestic demandin other countries to compensate for exportlosses. In the medium run this may result ininflationary tensions that give rise to a newdownturn. The dynamics after a Japanese crisisshow a different picture. Because of limited op-tions for monetary easing, it takes several years


25

Table 1.4 First year effects of a 2 percent of GDP decline in investment in the United States, Europe, and Japan(percentage points impact on regional GDP)

East Asia Latin America Sub-Saharan Europe and Middle East andand Pacific and the Caribbean Africa Central Asia North Africa South Asia

–1.5 –0.5 –0.9 –0.4 –0.4 –0.3

Source: Economic Policy and Prospects Group.

Table 1.5 Short-term claims ofinternational banks outstanding in selecteddeveloping regions(as of end December 2000; percent of annual imports ofdebtor countries)

NorthCreditor Japan America Europe Total

Debtor regionAfrica 2.7 4.6 33.6 40.9East Asia and

Pacific 3.8 1.5 11.9 17.2Europe and

Central Asia 0.9 2.0 26.4 29.3Latin America

and theCaribbean 1.8 10.8 36.9 49.5

Source: BIS; Economic Policy and Prospects Group.

to rebound, with a more protracted, but lesspronounced, impact on the global cycle. Theanalysis suggests that a European recessiongives rise to global dynamics somewhere in be-tween the other two. Again we see that a Euro-pean recession on top of a U.S. recession is po-tentially dangerous. It could lead to a moreprotracted rebound, while at the same time ag-gravating medium-term tensions.

—while financial instability is another riskThe previous analysis explored the effects ofslower growth through the main internationaltransmission mechanisms: trade and interna-tional interest rates. To illustrate the impor-tance of financial flows (here, bank lending),we simulated a temporary withdrawal of short-term bank lending from the three industrialregions, along with a general increase in emerg-ing market spreads and a country-specific in-crease in spreads, depending on the reduced netcapital inflows in terms of import coverage. Infour quarterly steps the short-term debt owedto industrial-country banks is halved, afterwhich the original debt is gradually restored.

Table 1.5 shows the short-term exposure of in-dustrial countries’ banks in selected developingregions as a percentage of the region’s annualimport bill. These economies account for two-thirds of all short-term borrowing by develop-ing countries from international banks.

The data show that the claims of Europeanbanks are six to seven times larger than the ex-posure of U.S. and Japanese banks. Moreoverlending by European banks is much more di-versified, while Japanese banks are focused onEast Asia, and U.S. banks on Latin America.Consequently, banking problems in Europe arepotentially more disruptive for a broad range ofdeveloping countries than similar problems inJapan or the United States, albeit that the prob-ability of European financial strain is muchlower than of escalating tensions in Japan. Thesimulation results highlight the dominance ofEuropean banks and the large negative impactof a withdrawal of their lending on GDP in allthe debtor countries considered (table 1.6).

Apart from the magnitude of the shock, do-mestic conditions in the borrowing countriesdetermine the impact. The shock is more detri-mental if reserves are low or foreign debt ishigh relative to exports. In general, the initialreduction in foreign funds is absorbed in threeways: by attracting alternative foreign capitalat the cost of higher interest rates; by improv-ing the current account at the cost of domestic


26

Figure 1.17 Global dynamics ofrecessions in industrial countries(percentage points cumulated impact on global GDP)


–0.80

UnitedStates

Europe

Japan

–0.60

–0.40

–0.20

0.00

0.20

year after shock

1 3 5 7 9

recession and by reducing foreign reserves atthe cost of becoming more vulnerable to fu-ture shocks. For example, the Republic ofKorea would replace, in the simulation, aquarter of the lost short-term capital by othercapital inflows, reducing its capital needs byroughly 10 percent of the shock, and absorb-ing the remaining 65 percent of the shock byselling foreign reserves.

For countries with a low initial level of for-eign reserves, such as Brazil, reducing reservesmuch further would not be a viable option.Therefore, the withdrawal of short-term lend-ing would directly translate into a domesticcredit crunch. For countries with high externaldebt, such as Indonesia, Argentina, or Brazil,an improvement of the current account is dif-ficult because higher spreads result in higherdebt service. This would put more weight onthe contraction of the domestic economy.

Long-term prospects: growth and poverty reduction

Despite the weakening of growth and uncer-tain present context, long-term prospects re-

main relatively promising for developing coun-tries. Moreover, it should be noted that the rate ofGDP growth established by developing countrieseven in the sluggish global year 2002 (3.7 per-cent), contrasts favorably with historic experi-ence—some 0.2 percentage points above the av-erage performance of the 1980s, and 0.5 pointsabove outturns for the 1990s. And longer termprospects hold the promise of continued better-

ing of historic performance, with advances in per-capita GDP rising to 3.6 percent over the periodfrom 2005–2015, two full percentage pointshigher than the experience of the 1990s.

While the near-term outlook for developingcountries is heavily influenced by the interna-tional business cycle and global environment,long-term development trends are more di-rectly the result of economic fundamentals—savings, investment, population growth, tradeand productivity improvements as well as pol-icy in the various regions. Analyzing these fac-tors allows us to study possible paths of devel-opment and ways developing countries mightinteract with the global economy over a longerperiod.9 To do so, we create a long-term growthscenario and analyze its consequences for devel-opment.10 This scenario allows us to test therealism of growth and poverty reduction objec-tives, given reasonable expectations about fun-damentals and current policies. The scenarioalso provides a baseline against which to simu-late policy changes. In chapter 6 we return tolong-run analysis and use the baseline to ana-lyze the effects of global reductions of barriersto trade.

Long-term growth: A baseline scenario Income growth in the developing countriesunder the baseline scenario for 2005–15 wouldbe 3.6 percent in per capita terms, more than 1 percentage point above the per capita growthrate of the high-income countries and 2 per-centage points higher than during the decade ofthe 1990s (table 1.7). Developing countries areexpected to benefit from reforms carried outover the past decade. The policy environment ismuch improved, especially in major countriesin virtually all of the regions. Tariffs have comedown sharply in the last decade, and as a resulteconomies are more open, with trade ratios 50 percent higher than a decade ago. Macro-economic policies are improved; because gov-ernment budget deficits are lower now than inthe late 1980s and median inflation rates havebeen halved. These efforts to improve poli-cies constitute investment in better long-termprospects, and will allow regions to take ad-


27

Table 1.6 Withdrawal of short-termlending by industrial-country banks toselected developing regions: the first-yearimpact on GDP

United States European Japanesebanks banks banks

East Asia –0.1 –1.4 –0.1Eastern Europe 0.0 –1.3 0.0Sub-Saharan Africa –0.1 –2.1 –0.1Latin America –0.4 –4.4 –0.1

Source: Economic Policy and Prospects Group calculations.

Table 1.7 Long-term prospects: forecast and scenariogrowth of world GDP per capita(annual average percentage change)

Forecast Scenario

Medium-term Long-term

1980s 1990s 2000–04 2005–15

World total 1.4 1.2 1.4 2.1

High-income countries 2.4 1.8 1.8 2.5OECD 2.5 1.8 1.8 2.4

United States 2.2 2.2 1.7 2.2Japan 3.4 1.1 1.1 2.6Euro Area 2.2 1.8 2.2 2.7

Non-OECD countries 3.7 3.8 2.3 4.2

Developing countries 1.5 1.6 2.8 3.6East Asia and Pacific 6.1 6.0 4.8 5.4Europe and Central Asia 2.7 –2.5 3.2 3.5Latin America and the Caribbean –0.9 1.6 1.5 2.6Middle East and North Africa –0.6 1.0 1.4 1.4South Asia 3.5 3.3 3.5 4.0Sub-Saharan Africa –1.2 –0.5 0.9 1.5

Memorandum itemsTransition countries of ECA 2.7 –3.2 3.7 3.5Developing countries,

excluding ECA 1.4 3.0 2.8 3.7excluding China and India 0.8 0.4 1.8 2.7

Note: Aggregations are moving averages, reweighted annually after calculations of growth in constant prices.Source: Economic Policy and Prospects Group.

vantage of underlying momentum on economicfundamentals—savings rates, educational in-vestments, population growth rates, and im-provements in productivity. And the externalenvironment is poised to provide a more sup-portive long-term context that redounds to thebenefit of the developing countries.

The acceleration of growth in the develop-ing countries seems, on first sight, somewhatmore spectacular than it actually is. First, ex-cluding the transition countries, the next fiveyears feature a decrease of 0.2 percentagepoints relative to the 1990s, before accelerat-ing by 0.9 percentage points to a 3.7 percentrate of per-capita growth. Second, about two-thirds of the acceleration is the result of so-called composition effects. Fast growing coun-tries such as China have now a larger weightin the total than they had ten years ago, in-creasing the growth rate of the developingcountries on aggregate, even without increas-ing its own rate of growth.

Internal factors and policies drive differingregional performance. East Asian countrieswould not be able to maintain the exceptionallyhigh growth rates of the 1980s and early 1990s,but, on the strength of high savings rates andproductivity, would continue its 30-year patternas the most rapidly growing region. China’sgrowth will naturally slow as its economy be-comes larger and more modern, but still hasscope to growth at 6 to 7 percent annually overthe period (see World Bank 1997: China 2020).The countries in East Asia—should their sav-ings rate persist at high levels—could well seecapital accumulation account for nearly two-thirds of their overall growth rate, with about30 percent generated by productivity increases.South Asia would follow a fairly similar pat-tern, although with somewhat more contribu-tion from labor supply growth and less fromtechnological improvement.

For Latin America, the scenario assumesthat the latent, but undeniable, growth poten-


28

tial in Mexico, Brazil, and Argentina, as wellas other economies, is progressively realized.Better fiscal management and greater hemi-spheric and global integration are likely toprovide powerful forces that reduce debt bur-dens which in the past have shackled growthon the one hand, and, on the other, can un-leash new productivity. The contribution ofcapital accumulation in Latin America will be about twice the contribution of productiv-ity, with the contribution from labor supplygrowth less than 15 percent on average.11

The countries of Eastern Europe and Cen-tral Asia are expected to grow quite rapidly,continuing a recovery from the transition-generated depression of the early part of the1990s. Further openness among Central andEastern European countries to trade and fi-nancial integration with the EU, together with the reestablishment of the conditions ofpeace in Southeastern Europe, should providea favorable context for these countries togrow. Both Eastern Europe and Central Asiawill rely extensively on productivity growth,with labor supply growth either stagnant or indecline.

While the Middle East and North Africawould improve rates of per capita growth rela-tive to the historic period, growth under thisbaseline scenario is likely to make only modestimpact on achieving the International Develop-ment Goals (IDG). Consistent with relativelyhigh population growth rates, growth in theMiddle East and North Africa will be ac-counted for by labor supply growth—between25 and 40 percent. Productivity growth willhave to be fairly sustained—between 35 and 60percent of total growth—to achieve the IDGGDP targets.

The external environment is likely to be sup-portive. Even though today’s environment isexceptionally weak, new technologies and fur-ther economic integration could indeed producehigher productivity-led per capita growth inhigh-income countries of 2.5 percent versus 1.8percent during the 1990s. The U.S. economy isexpected to recover to a long-term trend that issomewhat higher than in the medium-term fore-cast because of the effects of technology-driven

productivity growth. Europe, with a lower ini-tial level of integration, has somewhat greaterscope for productivity improvements as itadopts new technology and becomes more inte-grated. Japan is expected to emerge from itscurrent restructuring with a more efficient sys-tem of allocating capital, and this will allow itto regain a degree of growth momentum, eventhough its aging population profile adds moredrag to its growth. If this scenario for the in-dustrial countries is realized, capital flows to de-veloping countries could well resume within thecontext of a high productivity, low inflation,low interest rate environment.

Between 2000 and 2015 world incomewould, according to the scenario, expand by60 percent—some $18 trillion (in 1997 dol-lars) (figure 1.18). Income in the low- andmiddle-income countries would almost dou-ble, and account for over 37 percent of the in-crease in world output. Over 1 billion personswill be added to world population, reachingsome 7.1 billion. Over 97 percent of the pop-


29

Figure 1.18 Income and populationshares(income in billions of 1997 dollars using marketexchange rates, population in millions—percent)

Source: Economic Policy and Prospects Group andWorld Bank Data and Projections (Population).

Low and middle High income

0

2000 GDP 2000Population

2015Population

2015 GDP

7,500

24,200 35,300

880 910

5,170 6,200

14,50010

20

30

40

50

60

70

80

90

100

ulation increase will occur in low- and middle-income countries, with the high-income coun-tries expected to add only around 30 millionpersons in total.12

Poverty trendsGrowth will substantially reduce the numberof people living in poverty. With base casegrowth, the total number of destitute poor, liv-ing on less than $1 per day, would decline toabout 750 million persons in 2015, downfrom 1.15 billion in 1999 (table 1.8). Thenumber of people living on $2 per day or lesswould decline by 600 million, from 2.8 billionto 2.2 billion. While this rate of poverty re-duction would be sufficiently robust to achievethe target of reducing poverty by one-half in2015,13 not all regions would succeed. Sub-Saharan Africa would be far from reaching thegoal even under this favorable growth sce-

nario. Moreover, should growth in developingcountries turn out to be less than the 3.6 per-cent per capita of the baseline scenario, theworld as a whole would not reach the target.

Nonetheless, these projections would con-tinue the reduction of the number of people liv-ing in poverty that began roughly about 1980.Up through the 1970’s, long-term increases inpopulation swamped the growth effects in theglobal economy and the number of people livingbelow $1 day increased (figure 1.19).14 How-ever, since 1980 faster growth, particularly inChina and South Asia, has contributed for thefirst time in recent history to a steady decline inthe number living in destitute poverty. Thesenew projections confirm that trend.

The new projections represent slight reduc-tions in out-year poverty relative to last year’sforecast. The changes largely reflect updatedinformation on poverty and income distribu-


30

Table 1.8 Regional breakdown of poverty in developing countries

Number of people living on Number of people living onless than $1 per day (millions) less than $2 per day (millions)

Region 1990 1999 2015 1990 1999 2015

East Asia and Pacific 452 260 59 1,084 849 284Excluding China 92 46 6 285 236 93

Europe and Central Asia 7 17 4 44 91 42Latin America and the Caribbean 74 77 60 167 168 146Middle East and North Africa 6 7 6 59 87 65South Asia 495 490 279 976 1,098 1,098Sub-Saharan Africa 242 300 345 388 484 597

Total 1,276 1,151 753 2,718 2,777 2,230Excluding China 916 936 700 1,919 2,164 2,040

Head count index (percent) Head count index (percent)

Region 1990 1999 2015 1990 1999 2015

East Asia and Pacific 27.6 14.2 2.8 66.1 46.2 13.5Excluding China 18.5 7.9 0.9 57.3 40.4 13.3

Europe and Central Asia 1.6 3.6 0.8 9.6 19.3 8.7Latin America and the Caribbean 16.8 15.1 9.7 38.1 33.1 23.4Middle East and North Africa 2.4 2.3 1.5 24.8 29.9 16.7South Asia 44.0 36.9 16.7 86.8 82.6 65.5Sub-Saharan Africa 47.7 46.7 39.3 76.4 75.3 68.0

Total 29.0 22.7 12.3 61.7 54.7 36.3Excluding China 28.1 24.5 14.8 58.8 56.5 43.0

Source: World Bank staff estimates.

tion in several countries. The downward revi-sion in out-year poverty is despite the adverseeffect on poverty of somewhat lower long-term growth projections—the key economicdeterminant of poverty reduction. As discussedearlier in this chapter, the downgrading of theeconomic growth forecast reflects the effectsof lower growth in 2001 and 2002, as well asminor revisions in long-term prospects forsome countries.15

There are three factors influencing thecurrent poverty forecast, reflecting updatedinformation:

• The current forecast incorporates 31 newhousehold surveys leading to a reduction inthe assessment of the base-year level ofpoverty, with South Asia accounting for the greatest reduction, somewhat offset byhigher poverty levels in Latin America andthe Caribbean.

• Overall projected population growth in de-veloping countries is slower, in large partdue to the impacts of HIV/AIDS. This tragicepidemic particularly affects populationgrowth in Sub Saharan Africa, which ac-counts for a significant part of the reductionin this year’s poverty forecast.

• Revisions to the estimates of the relation-ship between economic growth and povertyreduction based on the new surveys, sug-gesting a stronger positive effect of growthon poverty reduction in several countries.16

The long-term projection underscores theimportance of achieving fast growth and dis-tributing the benefits of growth equitably.Even under this scenario, the harsh reality isthat over 2.2 billion persons will be livingbelow the $2 per day income level in the year2015—some 36 percent of developing countrypopulation. Without macroeconomic stability,improved governance and sustained structuralreforms, including for example, improvementsin the provision of public services and infra-structure, as well as enhancing the participa-tion of the poor in growth, the pattern ofgrowth that underlies the baseline scenariowill not be realized, and millions more peoplewill remain in poverty.

A faster rate of growth is possible. This re-port explores the potential for more rapidgrowth associated with an acceleration ofglobal integration. Reducing barriers to tradein merchandise and services can accelerategrowth if adequately supported by domesticpolicies and development assistance. Thesepolicies and their consequences, the focus ofthis report, are analyzed further in Chapter 6.

Under-5 mortalityOne of the most important international devel-opment goals for 2015 concerns infant andchild mortality. Are these goals likely to beachieved under the scenario of growth and ris-ing incomes? To project under-5 mortality, welink long-term growth and urbanization,shown to be effective predictors of child andmaternal health status and expected outcomesin under-5 mortality.17 Figure 1.20 presents thebaseline forecast and compares it with the offi-cial IDG target. The only region with a fore-cast achieving the goal is South Asia (SAS).Three of the other regions are likely withinrange of achieving the target: East Asia (EAP),Middle East and North Africa (MNA), and


31

Figure 1.19 World poverty, 1820–1998(Number of people living on less than $1 day, millions)

Source: Dollar (2001), Bourguignon and Morrisson (2001),and Chen and Ravallion (2000).

1820 1870 1910 1950 1970 1990800

Depression/World War II

Historical trend

1,000

1,200

1,400


32

Figure 1.20 Under-5 mortality—hopes and aspirations

Source: Economic Policy and Prospects Group; World Bank/Latin America Region staff.

Under-5 mortality rates—East Asia and Pacific

1990 1995 2000 2005 2010 2015

Hist + Forecast Target

0

10

20

30

40

50

60Under-5 mortality rates—Sub-Saharan Africa

180

160

140

120

100

80

60

40

20

01990 1995 2000 2005 2010 2015


0

10

20

30

40

50

60

70

80

0

20

40

60

80

100

120

140

1990 1995 2000 2005 2010 2015


Under-5 mortality rates—South Asia

1990 1995 2000 2005 2010 2015


Under-5 mortality rates—Middle East and North Africa

0

10

20

30

40

50

60

0

5

10

15

20

25

30

35

1990 1995 2000 2005 2010 2015


Under-5 mortality rates—Europe and Central Asia

1990 1995 2000 2005 2010 2015


Under-5 mortality rates—Latin America and the Caribbean

that was highlighted most recently by Ireland’s “no”vote on the Treaty of Nice (which makes changes to thevoting structure of the EU to accommodate a largermembership).

9. The main strategy in developing the baseline sce-nario is that GDP growth rates are given and the modelsolves endogenously for a technology parameter consis-tent with the GDP target. The following assumptionsunderlie the base-case scenario. The baseline assumesthat population and labor supply growth is exogenous.The latter is proxied by the growth of the populationaged between 15 and 65 years, and implicitly assumesthat participation rates are constant. Agricultural pro-ductivity is fixed at 2.5 percent per year. Manufacturingproductivity is assumed to be 2 percentage pointsgreater than services productivity. International trans-portation margins decline by 1 percent per year in thebaseline. Income elasticities are fixed at base year levels.This involves recalibrating the parameters of the con-sumer demand system between solution periods. Capi-tal accumulation is modeled as the previous period’sdepreciated capital stock augmented by the previousperiod’s level of investment (including net foreign in-vestment). The model tracks capital vintages with sub-stitution elasticities, typically lower for installed capitalthan for new capital. Countries with higher rates of in-vestment will exhibit more flexibility over time. Foreigncapital flows are fixed at base year levels (ensuring atleast their sustainability). Fiscal policies are unchangedat their base year levels, except for direct taxation thatadjusts to target a given fiscal deficit.

10. This is distinct from a forecast in the sense thatunforeseeable positive or negative shocks—from tech-nology, politics, or other sources—are virtually certainto occur, and will push up or down actual perfor-mance, especially at the regional level.

11. While one of the key outcomes of the baselinescenario is the endogenously determined productivity,many other variables of interest are generated endoge-nously in the baseline—relative factor prices, real ex-change rates, terms of trade, bilateral trade flows, andthe composition of demand and output.

12. The above analysis provides a framework forassessing the world distribution of income and rates ofconversion, but says nothing about how this outcomeis achieved or what policies are needed to help bringabout these outcomes or even improve them. Theanalysis relies to a large extent on an applied generalequilibrium model of the global economy. The modelreflects key facets of economic theory—the most im-portant being that supply equals demand. This frame-work ensures that all economic flows are fully consis-tent—at the individual, national, and global level. Themodel abstracts from some real world phenomenon,notably international financial flows are not modeled


33

Latin America (LAC). Europe and Central Asia(ECA) is not likely to achieve its target basedon this scenario. And Sub-Saharan Africa(SSA) is well off the target path. SSA has al-ready deviated significantly over the last dec-ade, and the current forecast foresees littleclosing of the gap.

Conclusions

Both the short-term outlook and the long-term analysis underscore the importance

of realizing accelerating growth. One way tocreate incentives to grow is for developingcountries to deepen their participation in theglobal economy. And that is the subject of theremainder of this report.

Notes1. Japan Financial Services Agency, January 2001,

and Japanese Banks 2000, Japanese Bankers Association.2. Source for data is U.S. Treasury. It should be

noted that the United Kingdom accounts for about 50percent of portfolio investment flows, channeling Eu-ropean and well as developing country and offshorefunds into U.S. assets.

3. For example, major shipping lines increasedfreight rates to South Asia by 10 to 15 percent.

4. Notably, the share of U.S. export value shippedby air has risen from 25 percent a decade ago to 40percent in 2001, with 75 percent of total high-tech ex-ports moving by air.

5. For example, around 65 percent of holidaysbooked for the Caribbean had been canceled in theweeks after the attack.

6. For example, the Brazilian real depreciated 27percent relative to the dollar in the first half of 2001,contributing to the 12.9 percent decline in soybeanprices and 11.6 percent drop in vegetable oil prices inthe same period. Indonesia’s currency depreciated 21percent (from December to April), which pushed dollarprices for palm oil and natural rubber down. Thailand,the world’s largest rice exporter, had a year-to-date cur-rency depreciation of 8 percent, contributing to a 9percent decline in rice prices.

7. In the U.S. Pacific Northwest, 1.6 million tons ofaluminum capacity has been closed—equivalent to 7percent of world capacity—because of the electricitycrisis in California.

8. Support for eastward expansion of the EU haswaned markedly in existing member countries, a trend


34

explicitly, allowing differential rates of return acrossnations. Nor are there linkages between monetary phe-nomena and the real economy, for instance, when themodel exhibits super-neutrality.

13. Reducing poverty by one-half in 2015 (com-pared with the 1990 level) is one of the key develop-ment goals (see for example http://www.paris21.org/betterworld).

14. Historical discussion based on David Dollar(2001), Bourguignon and Morrisson (2001) and Chenand Ravallion (2000).

15. The long-term per-capita consumption growthforecast for developing countries has dropped from3.5 percent to 3.4 percent (average per cent change perannum), though with variation across regions.

16. The household surveys and national income ac-counts on which forecasts are predicated are undergoingcontinual review and methodological changes, espe-cially for large countries, which can have important ef-fects on overall poverty assessments. For example, thepoverty levels for India may well be revised downwardeven further next year, once the new household surveyhas been thoroughly evaluated in conjunction with na-tional authorities.

17. This is based on the pioneering work initi-ated by Quentin Wodon of the World Bank’s LatinAmerican Region. We link long-term GDP forecasts toeconometrically estimated relations with selected Inter-national Development Goals (IDGs). The work under-taken in the Latin American Region has used panel es-timation techniques to fit a relation between the IDGsand GDP and the rate of urbanization, two importantdeterminants of health access. In order to allow forvarying elasticities (with respect to income and urban-ization levels), the LAC estimation procedure usedspliced data. The forecast presented here uses a logisticfunction that has continuously variable elasticities (al-though with constant signs). The estimation procedureis based on pooled data on a regional level. It is as-sumed that the relation between per capita GDP growthand the rate of urbanization is uniform across coun-tries within a region, although the elasticities them-

selves will be country-specific and related to the level ofeconomic development.

ReferencesBourguignon, François and Christian Morrisson.

2001. “Inequality among World Citizens:1820–1992.” DELTA, Paris. Processed. (Availableat http://www.delta.ens.fr/XIX/paper WD19.pdf).

Chen, Shaohua and M. Ravallion. 2000. “How did theWorld’s Poorest Fare in the 1990s?” World BankPolicy Department Working Paper No. 2409. August. Washington, D.C.

Deaton, Angus, and R. Miller. 1996. “InternationalCommodity Prices, Macroeconomic Performanceand Politics in Sub-Saharan Africa.” Journal ofAfrican Economies 5: 99–191.

Dollar, David. 2001. “Globalization, Inequality, andPoverty since 1980”. Processed. Development Re-search Group, The World Bank, Washington, DC.

Hoshi, Takeo. “What Happened to Japanese Banks?”Monetary and Economic Studies, Institute forMonetary and Economic Studies, The Bank ofJapan Discussion Paper Series No. 2000-E7:1–50,March 2001. Tokyo.

Kose, M. Ayan, and R. Riezman. 2000. “Trade Shocksand Macroeconomic Fluctuations in Africa.”Journal of Development Economics 65: 55–80.

Kouparitsas, Michael A. 1996. “North South BusinessCycles.” Federal Reserve Bank of Chicago Work-ing paper WP-96–9.

Mori, Naruki, S. Shiratsuka, and H. Taghuchi. 2001.“Policy Responses to the Post-Bubble Adjust-ments in Japan: A Tentative Review.” Monetaryand Economic Studies (Special Edition), February2001. Institute for Monetary and Economic Stud-ies, the Bank of Japan, Tokyo.

World Bank. 1997. China Engaged: Integration withthe Global Economy. World Bank, Wash. DC.

———. 2001. Global Development Finance 2001.World Bank WDC.

With the conclusion of the UruguayRound and a wave of unilateral re-forms, barriers to trade have fallen

substantially around the globe, spurring thegrowth of world trade. Developing countries asa whole gained significant market share—about7 percent—in world nonenergy merchandisetrade, thanks mainly to ambitious domestic pol-icy reforms in the 1990s.

Global protection hits the poor hardestHowever, progress in lowering barriers haslagged in two of the sectors with both the high-est protection and with the greatest impact onpoverty—agriculture and labor-intensive man-ufactures (such as textiles and clothing). Agri-culture and other labor-intensive products mat-ter to the world’s poor because they representmore than half of low-income countries’ ex-ports, and about 70 percent of least-developedcountries’ export revenues.

Developing countries themselves are part ofthe problem. Although South-South trade is amuch smaller share of total trade, average tar-iffs in manufactures are three times higher fortrade among developing countries than forexports to high-income countries. Taken to-gether and because of high protection for labor-intensive products around the globe, the world’spoor face tariffs that are, on average, roughlytwice as high as those imposed on the nonpoor.

Protection that affects the poor takes severalforms, including tariff peaks, quotas for textilesand clothing, tariff escalation, and agriculturalsubsidies in high-income countries. In textiles

and clothing, the opening of markets has beenslow, because the implementation of the WorldTrade Organization (WTO) agreement allowsimporters the leeway to select the products to be freed of quota restrictions. Thus despiteprogress made by the agreement, foregone ex-port earnings for developing countries are size-able. And due to still-high tariffs, market accesswill remain restricted even after the quotashave been abolished in 2005.

A “development round” would help—These issues provide fertile areas where recip-rocal negotiations in a “development round”could provide substantial benefits for develop-ment. Open trade in agriculture and labor-intensive manufactures would raise incomesamong the world’s poor.

—but effectiveness requires cooperativepolicies to complement negotiationsGlobal cooperation beyond negotiations couldalso expand trade. For example, most prefer-ential access schemes to high-income countries’markets only partly breach the walls of pro-tection. Their limited coverage and variousother impediments to trade undermine theirotherwise positive effects. The recent EuropeanUnion’s “Everything But Arms” initiative miti-gates these problems by removing barriers onexports from least-developed countries. Exten-sion of this initiative to the United States,Japan, Canada, and other higher-income coun-tries would greatly stimulate the exports andgrowth of the least-developed countries.

37

Market Access and the World’s Poor

2

Beyond these, “aid for trade” can helpcountries take advantage of new market open-ings. Providing assistance for countries to im-plementing WTO-sponsored reforms, design-ing programs that protect the poor duringreform, and upgrading work skills will helpensure that trade benefits the poor. Moreover,domestic reforms and assistance to improvebackbone services—such as transport, finance,and communications—can better link the poorto the global marketplace.

A changing landscape ofmerchandise trade

The 1990s witnessed a boom in worldtrade, with an average annual increase of

6.3 percent in the volume of global merchan-dise trade (1990–99)—outpacing global grossdomestic product (GDP) growth by an aver-age 4.2 percent per year over the same timeperiod. Exports grew faster than output inevery major region.

Developing countries gained market sharein world merchandise trade—The share of developing countries in globalexport markets rose by almost 7 percentagepoints, to about 25 percent of world non-energy merchandise trade, primarily on thestrength of superior performance in manufac-turing (figure 2.1). However the details behindthese headlines reveal divergent trends—withsome sectors and some countries enjoying ex-ceptional growth, while others remained al-most stagnant.

—but poor countries remained on the sidelines, dependent on slowgrowing commodities and labor intensive manufacturesDeveloping countries as a whole improvedtheir penetration of world markets, but the ex-port share of the 49 least-developed countries(LDCs) shrank from 3 percent in the 1950s toaround 0.5 percent in the early 1980s, and hashovered around this very low rate over the lasttwo decades (UNCTAD 2001). The least-

developed countries continue to be dependenton agriculture and labor-intensive manufac-tures, which together account for about 70percent of LDC exports.

The expansion of trade volumes in thesesectors did not keep pace with world tradegrowth, which has undermined the growthprospects of the LDCs and hindered the battleto reduce poverty. South-South trade repre-sents about 30 percent of low-income coun-tries’ nonenergy merchandise exports, and ismore important than for middle-income coun-tries. Exports of low-income countries to otherdeveloping countries increased rapidly, espe-cially in agriculture. In labor-intensive man-ufactures, South-South trade is far more important in textiles than it is in clothing, foot-wear, and leather, both for low-income and formiddle-income countries.

Moreover across products, the increase indeveloping countries’ exports was uneven. Inlabor-intensive manufactures, developing coun-tries’ market share increased sharply and nowsurpasses that of high-income countries. By con-trast, in agriculture, another labor-intensive sec-tor, developing countries’ market share rosemore modestly. This rise in market share wasdriven by South-South trade, with about one-third of all developing countries’ agriculturalexports now directed to other developing coun-tries—up from just about 20 percent in the early1990s. The slow increase of developing coun-tries’ share in world agricultural exports partlyreflects developing countries’ export diversifica-tion out of agriculture, and partly reflects sur-plus production from high-income countries.

Exports of the poorest countries are evenmore concentrated in agriculture and labor-intensive manufactures. Sub-Saharan Africanagricultural products provide about 60 per-cent of export revenues, with little contribu-tion from manufactures.1

Labor-intensive exports can spurpro-poor growth

In developing countries—in particular thepoorest where inexpensive labor is plentiful—


38

M A R K E T A C C E S S A N D T H E W O R L D ’ S P O O R

39

Figure 2.1 Changing global trade patterns

Source: World Bank staff calculations, based on U.N. Comtrade. Source: World Bank staff calculations, based on U.N. Comtrade.

Source: World Bank staff calculations, based on WTO data. Source: World Bank staff calculations, based on U.N. Comtrade.

0Manufactures

Oil and other

Mining products(including oil)

Agriculturalproducts

1

2

3

4

5

6

7

0Agriculture Clothing Textile Footwear &

Leather

2

4

6

8

10

12

14

In percent of world exports for each product group (left axis)In US$ billion (over bars)Average annual growth in volume terms, 1990–99, in percent

1991–92 1998–99 1991–92 1998–99 1991–92 1998–99

60212

125

193129

1263580

50

40

30

20

10

0

Total non-energymerchandise

Agriculture

Exports to developing countries

Exports from LDC

Exports fromMiddle-income countries

Agricultural products

Labor-intensivemanufactures

Exports from low-income countries

Exports to high-income countries

Labor-intensivemanufactures

1991–92

1991

–92

1998

–99

1991

–92

1998

–99

1991

–92

1998

–99

1991

–92

1998

–99

1991

–92

1998

–99

1998–99 1991–92 1998–99 1991–92 1998–99

Total non-energymerchandise

Agriculture Labor-intensivemanufactures

0

10

20

30

40

50

60

70

80In percent of total nonenergy merchandise exports for each country group

—and developing countries increased theirshare in the global market

Export growth outpaced growth of outputeverywhere—

—and poor countries remain dependent onthese sectors

The shares of labor-intensive products in worldexports declined—

Source: World Bank staff calculations. Source: World Bank staff calculations.

100

80

90

70

50

60

40

20

30

01970 1975 1980 1985 1990 1995

10

Percent of developing countries’ exports In percent of world exports for each product group

0

10

20

30

40

50

60

Manufactured exports have boomed— —but poor countries did less well

In percent of world nonenergy merchandise exports

Exports

Output

Manufactures

Agriculture

1991–92

1998–99

Sub-SaharanAfrica

LDC Low-income Middle-income High-income

export-led growth can accelerate the reductionof poverty. Faster export growth can boostincome growth of the poor, first, by stimulatingoverall economic growth. On average, everyadditional percentage point of growth in house-hold consumption reduces the number of peo-ple living on less than $1 a day by an estimated2 percent (World Bank 2000a). And among alldeveloping countries, successful integratingcountries—the top third of developing coun-tries ranked by an increase in trade-GDP ra-tios—grew faster (Dollar forthcoming). Duringeach of the past two decades, the developingcountries that have had fast export growth—leading to an increase in the share of nonenergymerchandise exports in GDP—have also had,on average, 1 percent higher real GDP growth(figure 2.2).

But if growth is necessary to reduce poverty,the pattern of growth also matters. Export-ledgrowth can reduce poverty more directly whenit fosters employment in labor-intensive sectors

where the poor have a stake. Capital-intensiveand import-substituting growth has generallynot been effective in alleviating poverty; agri-cultural growth, where there is a low concen-tration of land ownership and labor-intensivetechnologies are used, has almost always helpedto alleviate poverty (Gaiha 1993; Datt andRavallion 1998). Exports of textiles and cloth-ing have also spurred labor-intensive growth inmanufacturing, contributing to the reduction ofurban poverty, especially among women.

—Agricultural exports can reduce rural povertyRural poverty accounts for nearly 63 percentof poverty worldwide, reaching 90 percent inChina and Bangladesh, and between 65 and 90 percent in Sub-Saharan Africa (Khan 2000).Developing countries that have had more rapidagricultural export growth have also tended tohave more rapid growth of agricultural GDP(figure 2.3). Thus increased agricultural ex-ports contribute to increased agricultural in-come growth and reduced rural poverty.

The effects of trade growth on povertywould be muted if exports expanded at theexpense of domestic food production. But inmost cases, increased exports of nonfood agri-cultural commodities (such as coffee, cocoa, orcotton) provided hard currency to purchase in-puts for food crop production, which boostsoverall agricultural growth. In Vietnam, for ex-ample, nonfood crop production and U.S. dol-lar exports (primarily coffee) rose by about 15percent per year from 1990 to 1998, followingeconomic reforms. This boosted fertilizer useand contributed to a nearly 50 percent rise infood crop production over the same period.Agricultural GDP grew by 4.6 percent per year,and rural poverty fell to 45 percent in 1998—down from 66 percent in 1993 (World Bank2000b).

In Uganda, nonfood crop productionsurged following marketing liberalization inthe early 1990s. This surge was followed by atripling of fertilizer use and a rise in food cropproduction. Thus, increased exports (primar-ily coffee) boosted agricultural GDP growth


40

Figure 2.2 A rising share of exports inGDP is associated with faster growthAverage real GDP growth per year, percent

Decreasing exportshare in GDP

Increasing exportshare in GDP

Note: Sample includes only developing countries. Exportsrefer to nonenergy merchandise exports. Data fromnational accounts in constant 1995 dollars. Number ofcountries with increasing (decreasing) export share in GDP: 1980–89: 23 (63), 1990–99: 57 (29).

Source: World Bank staff calculations.

3.5

3

2.5

2

1.5

1

0.5

0

1980–89 1990–99

to about 4.4 percent per year, and eventuallycontributed to increased exports of other crops,creating a virtuous circle in agriculture. Ruralpoverty fell from 60 percent in 1992 to 39percent in 2000, and among the poorest quin-tile of population primary school enrollmentrose from 51 percent to 69 percent in the sameperiod (World Bank 2001a).

Cross-country comparisons confirm that in-creases in agricultural exports rarely occur atthe expense of food crop production. Ratherthan competing for scarce resources, the twoare positively correlated at the national level(figure 2.3). Thus increased agricultural ex-ports and increased food production are a win-win combination for developing countries.

Exports of textiles and clothing tend toreduce urban poverty—Many developing countries have become majorexporters of textiles and clothing (T&C), butothers, especially in Sub-Saharan Africa, haveyet to take advantage of this card. Low-costlabor and a competitive exchange rate are twoimportant enablers of T&C exports. Institu-

tional arrangements that give duty-free and ef-ficient access to inputs and foreign investors areno less important. Most success stories amongdeveloping countries confirm that booming ex-ports of textiles and clothing fostered broadoutput growth (table 2.1).

Increased T&C exports are associated withgrowth of local manufacturing, through de-mand linkages and increased purchasingpower among workers. In all successful textileexporters the share of private investment inGDP considerably increased during exportbooms. However, to benefit from backwardlinkages, the domestic suppliers of the T&Cindustry must be competitive and responsive.2

For example, Pakistan seems to be a case oflow industrial linkages and spillovers, as theincrease in the share of manufacturing valueadded in GDP was just about the same as thatof the T&C industry. Pakistan remained fo-cused on protective policies to boost the cot-ton-processing sector on the back of abundantdomestic cotton production (including, for ex-ample, export controls on cotton), rather thanrelying on globally integrated production


41

Figure 2.3 Increases in exports and agricultural production go hand-in-hand

Source: World Bank staff calculations, based on FAO data.

–2

0

2

4

6

8

Agriculture GDP vs. export growth

Agricultural GDP growth (percent/year, 1980–98) Food production growth (percent/year, 1980–99)

Food production vs. agriculture export growth

7

6

5

4

3

2

1

0–10 –5 0

Agricultural export growth (percent/year, dollars 1980–98)

5 10 –10 –5 0 5 10 15

using best-available materials. By contrast, inMauritius and Tunisia, T&C export growthwas accompanied by broad manufacturinggrowth.

Growth in textiles and clothing also bol-sters employment and real wages. In Mauri-tius, growing T&C exports had a tremendousimpact on unemployment, which was at 14percent before the export boom and wasvirtually absorbed by 1992. Eventually theshortage of labor became a constraint on theexpansion of output, bringing about a nearly50 percent wage increase. Part of Mauritius’T&C production moved thus to Madagascar.

Because of faster employment and wagegrowth for low-skilled workers in all countrieswith T&C export booms, poverty declined sig-nificantly (table 2.1). As T&C manufactur-ing is typically concentrated in urban areas,urban poverty was more drastically reduced. InBangladesh, one of the poorest countries withoverwhelming rural population, total povertydeclined slowly; however during the exportboom in clothing, urban poverty dropped byalmost one-third (World Bank 1999b). Thus to effectively contribute to the reduction ofpoverty, trade liberalization in agriculture andlabor-intensive manufactures must go hand inhand.

—but trade liberalization affects the poorin various waysDomestic trade policy reform lays the ground-work for better use of productive resources to

improve export performance. Poor workersand farmers will benefit from domestic tradepolicy reform, thanks to faster export growth,increased demand for their labor, and higherwages and producer prices. But trade liberal-ization can also affect the poor in the shortterm in complex ways that depend on countrycircumstances (see Winters 2000). These effectsare difficult to track because trade policy re-form is often undertaken in tandem with othermajor reforms that may also affect the poor—such as labor market reform, product marketderegulation, or public enterprise reform.

Trade policy does have important short-term effects on the poor through three chan-nels. Trade policy reform will, first, affect thepoor by changing the prices of their consump-tion basket. Trade liberalization will shift rel-ative prices, eventually increasing the prices oftraded relative to nontraded goods and reduc-ing the prices of imported relative to locallyproduced goods.

The overall impact on the poor through theprice channel depends both on the compositionof their consumption and on other reforms thatmay concurrently affect prices (such as thephasing out of subsidies and price controls). Onbalance, in net food exporting countries, whilepoor farmers may gain from higher producerprices, poor urban dwellers may suffer fromhigher food prices. In Ghana for example,while the rural sector gained from the reformand overall poverty was substantially reduced,living standards in Accra deteriorated in


42

Poverty rate2

Table 2.1 Major export booms in textiles and clothing and effects on economic performance and poverty

Bangladesh1 Madagascar Mauritius Pakistan Tunisia

Period 1975–80 1980–95 1992–95 1996–99 1980–85 1986–92 1980–85 1986–90 1980–86 1987–93

Share of T&C in exports (%) 0.2 39.3 7.7 19.1 27.7 47.8 36.5 53.7 19.3 34.7Real GDP growth per year (%) 3.3 4.7 1.2 3.6 2.2 7.4 7.4 6.0 3.9 4.3Share of manufacturing value

added in GDP (%) 16 16.4 14.3 15.0 16.9 23.9 15.6 16.9 13.5 16.6Total Head Count 58.5 53.1 60.2 — 19.5 10.6 49.6 33.9 19.9 14.1Urban Head Count 50.2 35.0 — — — — 38.2 28.0 12.0 8.9

Note: 1Exports of clothing. 2According to the national definition–end of period. For each country, the second column, indicates T&C export booms.Source: World Bank staff calculations.

1988–92. By contrast, in net food importingcountries, poor consumers may benefit fromlower domestic prices of imported food. Expe-rience from Haiti illustrates the complex impactof trade liberalization on the poor (box 2.1).

Second, wages and employment may notalways change as expected, depending on thepre-reform structure of protection. If for ex-ample, the protected sectors employ many ofthe poor, they may suffer in the transition toan open trade regime. This is more likely inmiddle-income countries, where sectors inten-sive in unskilled labor are often protected asthey face stiff competition from low-cost pro-ducers (Davis 1996; Wood 1997). For exam-ple, in Mexico, a country that implemented anambitious trade policy reform program from1985 to 1988, the nominal tariff and importlicense coverage in apparel and footwear wasamong the highest in manufacturing (Revenga

1995). A similar pre-reform pattern of protec-tion was also found in Morocco (Currie andHarrison 1997). A more common pattern isthat the politically connected sectors that re-ceive the most protection are the ones em-ploying workers with higher wages.

A third channel is through the effects ofgovernment taxing and spending. Institutionaldisruptions can mitigate the benefits of tradeliberalization for the poor. The abolition of themarketing boards for export crops sometimesled to abandoning key services that they oftenprovided—such as research, quality monitor-ing, maintenance of rural roads, and credit tosmall farmers (Winters 2000; World Bank2000a). In Zambia, for example, the abolitionof the marketing board led to abandoning thepurchase of maize in remote areas. There isalso concern that, in the absence of reforms tobroaden the tax base, reduced government rev-


43

The bold steps to liberalize trade in Haiti begin-ning in 1986 that continued throughout the

1990s have not produced rising incomes or reduc-tions in poverty. Today with per capita income ofless than $500 and about two-thirds of the peopleliving in rural areas, and more than 80 percent of the rural population living below the poverty line,Haiti remains the poorest country in the WesternHemisphere.

Prior to trade liberalization, the agricultural sec-tor of Haiti was highly protected through tariffs (40to 50 percent) and subject to many nontariff barriersand import prohibitions. Reforms brought down tar-iffs on rice, an important food staple, to 3 percent.The real price of rice to consumers was reduced by50 percent and imports of rice jumped from zero toabout half of domestic demand. Domestic rice pro-duction also fell—by more than 40 percent com-pared with the 1985–90 levels.

Does this mean that the poor suffered from thetrade reform as some have contended (Oxfam Inter-national 2001)? Not necessarily. To be sure, some

Box 2.1 The aftermath of trade liberalization inagriculture: lessons from Haiti

poor, small farmers were forced out of rice produc-tion. On the other hand, many urban and rural poorwere better off, because most of Haiti’s poor werenot producers of rice, but rather consumers who hadbeen paying a high tax on a very basic food staple,curtailing their rice consumption. When rice becamemore affordable, national consumption doubled, andmost of the poor were better off.

Yet this is only part of a story that does nothave a happy ending. Severe governance problemseroded macroeconomic stability, discouraged invest-ment, and undermined the capacity of the govern-ment to provide meaningful assistance for the poor,much less build infrastructure and institutions tosupport and sustain trade capacity. The eventual vir-tual collapse of the state has left Haiti mired inpoverty. This underscores the lesson that trade policycannot substitute for good governance and a pro-poor development strategy.

Source: Oxfam International 2001; IMF Staff Reports for the1999 and 2000 Article IV Consultations; World Bank staff.

enues from trade-related taxes may trigger adecrease in social expenditures targeted for thepoor. For example, Tanzania trade policy re-form in the mid-1980s shifted income towardthe largely untaxed small farmers, small enter-prises, and the informal sector, thus reducingthe domestic tax ratio (Kanaan 2000).

In sum the evidence is clearer on the long-term consequences for the poor: on average, in countries where outward orientation has in-creased, income growth of the poor has keptpace with mean income growth (figure 2.4).3

And on average, globalizers have grown faster,thus witnessing accelerated reduction of poverty.By contrast, countries where outward orienta-tion has decreased have seen slower growth,and the poor in those countries have alsofallen behind. Nonetheless the transition tothese higher growth rates can take time andreform can impose short-term costs on thepoor in some countries. Hence, governmentshave to design trade reforms carefully, provide

adequate social protection, and ensure maxi-mum access to retraining opportunities.

Market access barriers limit export opportunities ofdeveloping countries

The Uruguay round of trade negotiationsmade a significant contribution toward

lowering global barriers to merchandise tradeon two fronts: improving market access, thanksto the reduction of tariffs and quantitativerestrictions on a number of products; and ex-tending multilateral disciplines to previously ex-cluded sectors—particularly agriculture, textiles,and clothing. As a result of multilateral trade ne-gotiations and unilateral reforms, average tariffrates have been halved—although they still re-main high in South Asia and in the Middle Eastand North Africa (figure 2.5).4 Progress in low-ering tariff barriers has been particularly im-portant for more skill-intensive manufactures,on which an increasing number of developingcountries in East Asia, Eastern Europe and Cen-tral Asia, and Latin America rely for exports.For example, the largely duty-free trade in in-formation technology products that came intoforce with the “Information Technology Agree-ment” of the Uruguay Round strongly boostedSouth-North trade in the information and com-munications technology sector.

Tariff walls are high, especially in labor-intensive productsHowever despite progress, labor-intensiveproducts still remain extensively protected.Tariff protection for agricultural commoditiesis higher than for manufactures, both in indus-trial and in developing countries. But in high-income countries the average tariff rate onagriculture is almost double the tariff for man-ufactures. Applied tariffs on labor-intensivemanufactures also largely surpass the averagefor industrial goods. Compared to industrialproducts as a whole, labor-intensive manufac-tures are again more protected in high-incomethan in developing countries, by an estimatedone-third.


44

Figure 2.4 In globalizing economies thepoor participate in stronger growthPercent of change per year

Note: Sample includes 129 time periods, based ondeveloping countries’ household surveys. Outward orientation is measured by the share of trade flows(the sum of exports and imports) in GDP. Periods of increasing outward orientation are those when the share of trade flows in GDP increases by at least 0.5percentage points per year.


0.0Increasing

outward orientation

Average income growth

Income growth of the poorest20 percent of the population

Decreasingoutward orientation

0.5

1.0

1.5

2.0

2.5

3.0


45

Figure 2.5 Tariffs still impede trade

Source: World Bank, based on WTO data.Source: World Bank, based on WTO data.

Source: World Bank, based on WTO data. Source: World Bank.

Average MFN tariffs (unweighted in percent) Average MFN tariffs in 1997–99 (unweighted in percent)

—but tariff protection in agriculture is higher than inmanufactures.

In a decade, average tariffs have been almosthalved—

—but tariff escalation is also common in developingcountries

Tariffs escalate steeply in the Quad—especially in agriculture—

Source: World Bank staff estimates, based on WTO data. Note: Tariff peaks are defined as tariffs greater than 15 percent.

Source: World Bank, based on OECD tariff files.

Average MFN tariffs in 1997–99 (unweighted, in percent) MFN tariff lines in tariff peak (in percent for each product group; 1999)

Labor-intensive manufacturers are alsosheltered—

—as widespread tariff peaks shelter agriculture andlabor-intensive manufactures in the Quad

Average unweighted tariffs in percent (1998–99) Average unweighted tariffs in percent (1998–99)

0

10

20

30

40

50

60

70South Asia

E. Asia

Latin Americaand theCaribbean


AfricaMiddle EastandNorth Africa

E. EuropeandCentral Asia

E. Asia

E. EuropeandCentral Asia

1986–88

1993–95

1997–99Developing

High-income

Africa

Developing

High-income

0

5

10

15

20

25

30Agriculture Manufactures

South Asia

Middle EastandNorth Africa

05

1015202530354045


East Asia

EasternEurope

FootwearIndustrialproducts

Textile andclothing

Developing

Industrial

South Asia Middle EastandNorth Africa

01020304050607080

All goods


Primary food Processedfood

Textile andclothing

Footwear

EU Japan USA Canada

0


United

States

Europe

an

Union

Canad

a

Japa

nUnit

ed

States

Europe

an

Union

Canad

a

Japa

n

Industrial products

2

46

810

1214

16First stageSemi-processedFully processed


Industrial products

0Developing High-income Developing High-income

5

10

15

20

25

30First stageSemi-processedFully processed

Trade barriers on labor-intensive productsare commonly raised through tariff peaks (tar-iffs exceeding 15 percent) on imports of “sensi-tive commodities.” Imports at tariff peaks rep-resent about 5 percent of total Quad (Canada,European Union (EU), Japan, and United States)imports from developing countries, and morethan 11 percent of total Quad imports fromLDCs (Hoekman, Ng, and Olarreaga 2001).

Within the Quad, tariff peaks are wide-spread but their pattern differs (figure 2.5). InNorth America, tariff peaks are commonlyfound in industrial goods, particularly on im-ports of textiles and clothing. By contrast, tar-iff peaks in the EU and Japan are common inagriculture—especially on imports of processedfood, and tariff peaks on imports of footwearare widespread across all Quad markets andsurpass those found in textile and clothing. Indeveloping countries, tariff peaks are prevalentalso, because applied tariffs are close to the tar-iff peak threshold.

Tariff escalation is a major concern fordeveloping countries Tariffs often rise significantly with the level ofprocessing (tariff escalation) in many high-income and developing countries. Tariff esca-lation in high-income countries has the poten-tial of reducing demand for processed importsfrom developing countries, hampering diver-sification into higher–value added exports(Blackhurst, Enders, and Francois 1996).

In high-income countries, tariffs escalatesteeply, especially on agricultural products (fig-ure 2.5). In the Quad, tariffs on more processedagricultural commodities are comparativelyhigher in the EU and Japan, while in the UnitedStates there is evidence of reverse escalation be-tween unprocessed and semiprocessed com-modities. Though less prevalent, tariff escalationalso affects imports of industrial products—es-pecially at the semiprocessed stage. Examples ofsuch products, in which many developing coun-tries have a comparative advantage, include tex-tiles and clothing; leather and leather products;wood, paper, and pulp; furniture; rubber prod-ucts; and metals.

In developing countries, too, the average tar-iff for fully processed agricultural products andmanufactures is higher than on unprocessedproducts. The reduction of tariff peaks in theQuad and other countries would mitigate tariffescalation. In the EU and Japan, for example,tariff peaks are more widespread on imports ofprocessed food than on primary food imports(figure 2.5). Trade of products where moreprocessed exports from LDCs have a chance ofbreaking through would thus receive a boost.

Despite progress, trade in agricultureremains heavily distortedThe Uruguay Round Agreement on Agriculture(URAA), which came into force in 1995,marked an important step in improving accessto sheltered agricultural markets in high-income countries. A wide range of nontariffbarriers was abolished, including quantitativeimport restrictions, variable import levies, anddiscretionary import licensing. These barrierswere converted to ordinary tariffs (tariffica-tion). Existing and new tariffs were bound, andthese bindings were subject to reduction. De-veloping countries were allowed more compli-ance flexibility through longer implementationperiods and lower reduction commitments.

Because international agricultural prices inthe base period for the URAA (1986–88) wereway below high domestic prices supported byquotas, the conversion of quotas into tariffequivalents resulted in high rates of tariff pro-tection (OECD 2001a; World Bank forthcom-ing). Moreover tariff reduction commitmentsinvolved a simple average across products, cre-ating much leeway to spread reductions un-evenly, with lower cuts in more sensitive com-modities. Hence scheduled tariff reductions overthe URAA implementation period may not havereduced protection enough to significantly im-prove market access and boost agriculturaltrade (Diakosavvas 2001).

Tariff peaks in agriculture occur frequentlyon processed products and temperate commodi-ties. They are less common on unprocessed fruitsand vegetables and tropical commodities, whichare not produced in high-income countries but


46

are major export crops of least-developed coun-tries. Thus tariff peaks could be seen as not tar-geting developing countries in particular, sincesuch tariff peaks can be found where marketshares of developing countries in Quad importsare comparatively low. However, many devel-oping countries in temperate zones have thepotential of competing as lower-cost producersin temperate commodities. Hence besides pro-viding sizeable market price support to high-income countries’ producers, developing coun-tries’ exporters may be displaced by high tariffpeaks, especially in the EU where intra-EU tradeis duty-free. Indeed, intra-EU trade in productgroups with a high share of tariff-peak lines isprevalent, at about 70 percent of EU countries’agricultural imports. By contrast, when tariffpeaks are less widespread, non-EU suppliersseem to have more opportunities.

Concerns about market access also arisefrom the poor performance of tariff quotas(TRQs) introduced by the URAA with the aimof securing a minimum level of market access.5

The average fill rates of TRQs have been lowand declining, from 67 percent in 1995 to 63percent in 1998, while about a quarter of tar-iff quotas were filled to less than 20 percent.Evidence as to whether the method of adminis-tration of tariff-quota allocations may have aninfluence on the fill rates is still unclear (WTO2001; OECD 2001a). But the low fill ratecould reflect high “in-quota” rates; in someQuad markets in-quota rates are above the av-erage for agriculture (OECD 1999a). And, forspecific products, over-quota rates skyrocket—such as the EU 130 percent tariff for above-quota bananas.

Support to agriculture is sizable and growing At an estimated $245 billion in 2000—aboutfive times the level of international developmentassistance—support to agricultural producers inhigh-income countries remains sizeable (OECD2001b). Total support to agriculture (as definedby the OECD) is even higher, at about $327 bil-lion in 2000—or 1.3 percent of OECD coun-tries’ GDP.6

Support is often rationalized on the non-economic benefits of agriculture, which are not properly valued by the market—such as environmental protection, food security, andmaintenance of rural communities (Winters1990; Maier and Shobavashi 2001). But exten-sive support may be counterproductive forthese goals because subsidies, in addition to ac-counting for the “multifunctionality” of agri-culture, have a number of side effects. For ex-ample, production-linked subsidies encourageenvironmentally unsustainable farming prac-tices, boosting the use of chemicals, fertilizer,and fuel in order to produce additional outputbeyond what competitive conditions woulddictate. Agriculture now thus contributes aboutone-fifth of global greenhouse gases—50 per-cent of methane and 70 percent of nitrousoxide—while high-income countries accountfor the major share of global agricultural green-house gas emissions (OECD 1999b).7 Enhanc-ing the environmental performance of agricul-ture remains a challenge, but efforts should relyon appropriate incentive policies, tailored tolocal environmental circumstances and de-mands (OECD 2001d).

Production-related support in high-incomecountries also distorts agricultural commod-ity trade and affects developing countries. Itboosts production of agricultural commodi-ties and reduces agricultural imports, thus dis-placing developing-country exports in high-income countries’ markets. The case of theU.S. subsidies to sugar producers illustratesboth the pernicious impact of support on de-veloping countries’ exporters, and the largecosts borne by high-income countries’ con-sumers and taxpayers (box 2.2).

The unwanted production surpluses aredumped into world markets with the aid ofexport subsidies, depressing prices for manytemperate agricultural commodities (Burfisher2001). The case of growing EU exportablesurpluses of wheat illustrates the potential dis-tortions to trade (box 2.3). The incidence isgenerally negative for agricultural exporters—especially developing countries that exporttemperate commodities or have the capacity of


47

becoming low-cost exporters. There are also,however, benefits for net food-importing devel-oping countries from lower import prices forfood (Freeman and others 2000).

The URAA also covered trade-distortingmeasures of support and export subsidies (box2.4). The value of support subject to reductioncommitments in OECD countries declined sig-nificantly, to about 65 percent of its level inthe base period. However during the imple-mentation period, this was largely offset by in-creased support under measures exempt fromreduction commitments, so that in 1997 over-all support was practically unchanged from its

base-period level.8 Subsidies that were exemptfrom reduction commitments now account forabout 60 percent of total OECD-country agri-cultural support, even though some of thesesubsidies may affect production and trade(OECD 2001a).

The overall level of support to producers—asmeasured by the OECD’s producer support esti-mates (PSE)—has further increased since 1998,in response to the decline in world commodityprices, and now represents about 35 percent ofgross farm receipts (figure 2.6).9 And becausesupport is counter-cyclical, it insulates farmersin high-income countries from changes in world


48

The United States began to directly intervene tosupport agricultural commodity prices in 1933

with the introduction of the Agricultural AdjustmentAct. The Act has been modified many times, but isstill the basis of most of the U.S. agricultural policy.Sugar is one of the most protected commoditiesunder U.S. policy (see figure).

The United States is the world’s largest con-sumer of sweeteners, with the equivalent of 142pounds of raw sugar consumed per person per year.The U.S. sugar industry is heavily subsidized, withabout half of sugar producers’ revenues coming fromgovernment support. U.S. sugar producers have beenprotected from lower world market prices since theearly 1980s, by successive farm legislations that pro-vided price supports through restrictive import con-trols. On average, U.S. sugar producers have received2.6 times the world market price for sugar since themid-1980s (see figure).

Apart from protecting sugar production, domes-tic support to sugar also provides higher than worldmarket prices to corn syrup producers. This has en-couraged the development of an important HighFructose Corn Sweetener (HFCS) industry that nowsupplies half of the country’s sweetener consumption,especially in products such as soft drinks. HFCS pro-duction is now four times higher than in 1980, andsurpasses sugar production, which has increased byabout 50 percent (according to the U.S. Departmentof Agriculture). Sugar imports by the United States

Box 2.2 U.S. sugar policy and its impact on imports

fell by one-half over the period, from 4.3 milliontons in 1980 to slightly less than 2 million tons in1998. The sugar policy costs foreign sugar producersan estimated $1.5 billion in lost sales.

Source: World Bank staff, based on Sheales and others 1999.

Steady support to U.S. sugar producers

Source: OECD; World Bank.

Ratio of U.S. sugar priceto free-market price

PSE refined sugar equivalent

U.S. sugar price

PSE total agriculture

0

1986 19901988 1992 19961994 1998 2000

10

20

30

40

50

60

70

80

0

0.5

1

1.5

2

2.5

3

3.5

4

Producer support estimate(PSE), in percent of grossfarm receipts

prices and makes production less responsive toswings in demand. As a result, world commod-ity prices become more volatile, and duringdownturns the burden of adjustment is shifteddisproportionately to producers in developingcountries who enjoy much lower levels of sup-port (Tyers and Anderson 1992; Winters 1994).

Over the past 15 years support to agriculturein high-income countries has declined only mar-ginally as a share of gross farm receipts. Theoutlook is unclear, because the reduction com-mitments are sectorwide, allowing governmentsmuch leeway to target the reductions, while in-

creasing support for specific “sensitive” com-modities. Many commodities of export interestfor developing countries remain heavily subsi-dized—such as, for example, rice and sugar,where support covers as much as 80 and 45 per-cent of gross farm receipts (OECD 2001b).

Export subsidies are particularlydamagingThe effectiveness of URAA in disciplining ex-port subsidies is also questionable. Because ex-port subsidies in the 1986–88 base period weresizeable, the limited reduction commitments


49

Agriculture was given a central role when theoriginal European Economic Community (EEC)

established the Common Agricultural Policy (CAP)in 1957. The basic market support set out in theTreaty of Rome remains much the same today, de-spite successive reforms to the CAP since the early1990s. The CAP was very successful at achieving itsgoals of food self-sufficiency and stable producerprices. In fact, it was so successful that it encouragedfarmers to produce more than was needed, whichcaused intervention stocks to build and commoditiesto be exported using export refunds. Wheat produc-tion is a case in point.

The first nine countries to join the EEC accountfor nearly 90 percent of EU wheat production. Thesecountries have adjusted to the high and stable wheatprices established by the CAP, and they have re-sponded by increasing yields by 2.5 percent per yearsince 1970, compared to only 1 percent per year forthe United States, the world’s largest wheat exporter.Domestic support for wheat (as measured by theOECD’s producer support estimates) remains size-able in the EU despite several reforms to the CAP.From 52 percent of gross farm receipts on average in1986–88, it declined only marginally to an estimated48 percent in 1998–2000.

The impact of high wheat prices was not only toincrease production, but also to reduce demand andfurther contribute to the surpluses. Net exports ofwheat surged to 22.8 million tons in 1992, and thendeclined somewhat due to CAP reform measuresduring the 1990s (see figure). One of the consequences

Box 2.3 Wheat production with CAP support

of the CAP was that lower cost producers were de-prived of a market for their products. Argentina forexample, is a low cost producer that could supplywheat to the EU. With more than 50 percent of itsexports concentrated on agricultural products andagro-processing manufactures, Argentina in particu-lar may be suffering from trade distorting subsidies(see Nogues 2000).

Source: World Bank staff.

EU wheat production and net importsMillion tons

–401960 1970 1980

Production

Net imports

1990 2000

–20

0

20

40

60

80

100

taken in the URAA leave broad margins forcontinued subsidization. Thus for a number ofproducts, permitted subsidized exports duringURAA implementation were larger than actualsubsidized exports in the first half of the 1990s(OECD 2001a; World Bank forthcoming). Andthe share of subsidized exports has even in-

creased for many products of export interest todeveloping countries. For example, subsidizedexports of wheat represented 25 percent of totalwheat exports in 1998, up from 7 percent in1995, while subsidized exports of sugar rose to31 from 19 percent in the same period (Ingcoand Winters 2001).


50

Akey objective of the URAA was to reduce trade-distorting support to agriculture, while

creating room for government policies to design ap-propriate nondistorting support schemes, in responseto country-specific circumstances. Three maincategories of support were distinguished:

a) Trade-distorting support (often referred to as“amber box” measures), such as market price–support through administered prices supported by restrictive trade measures and production-related subsidies (based on output or on the useof inputs).

b) Support with no, or minimal, distorting effect ontrade (often referred to as “green box” measures).These may include a vast array of programs, suchas decoupled income support measures; paymentscovering services for research and development;pest and disease control; infrastructural services;domestic food aid; structural adjustment and re-gional assistance; and environmental programs.

c) A category of direct payments under production-limiting programs—the so-called blue box mea-sures—was also distinguished.

Reduction commitments were scheduled ontrade-distorting support, expressed in terms of a “totalaggregate measurement of support” (AMS). Under theURAA, developed countries are required to reducetotal base-period AMS by 20 percent over a period ofsix years. Developing countries with AMS commit-ments are subject to a 13 percent reduction over 10years. Measures in the “green box”—and also, undercertain conditions, in the “blue box”—have beenexempt from URAA reduction commitments.

Box 2.4 Bringing support to agriculture and export subsidies under multilateral rules:A long-awaited endeavor

Export subsidies in agriculture allow countries toexport production surpluses to the world market atprices below the high prices prevailing in their domes-tic markets. Export subsidies were about $7 billion onaverage in 1995–98, of which 90 percent was grantedby the EU. In the URAA high-income countries agreedto reduce base-period subsidized exports by 21 per-cent, in equal steps over six years—and to cut the cor-responding budgetary outlays by 36 percent. Develop-ing countries agreed to a 14 percent reduction insubsidized export volumes over a 10-year period.

Source: OECD 2001a; WTO 2001; World Bank forthcoming.

Billions of dollars

01986–88 1995 1996 1997

50

100

150

200

250

300

Aggregate measure of supportBlue box Green box

In the EU, the Agenda 2000 Common Agri-cultural Policy (CAP) reform marked a step inthe right direction to reduce the need for ex-port subsidies by cutting the support prices forcereals, beef, and dairy, but it is unlikely to be sufficient to eliminate the EU exportablesurpluses in the years ahead. In addition to di-rect export subsidies, officially supported ex-port credits have expanded during the 1998Asian financial crisis, and are largely used inthe United States. By resulting in targeted costdiscounts for buyers, export credits might havesimilar distorting effects on trade as direct ex-port subsidies. The URAA called for negotia-tion of export credit disciplines, which has notyet been achieved.

Due to remaining restrictions on textilesand clothing, developing countries foregosizeable export earningsThe Uruguay Round Agreement on Textilesand Clothing (ATC) provides for the gradualphaseout of the multifiber arrangement (MFA)country–specific quotas over a 10-year period,ending in 2005 (box 2.5). The ATC was an im-

portant step to improve developing countries’access to high-income countries’ markets, be-cause it became very difficult for the importersto introduce new quotas. Moreover, the ATCabolished voluntary export restraints in re-sponse to pressure from developing countries.These measures were identical in form with theMFA quotas.

However the effectiveness of ATC in freeingup markets has been limited by two main short-comings. First, scheduled quota integration is“back-loaded,” with quota-free market accessfor nearly half of all imports due only at the endof the transition. Hence the transition is un-likely to be smooth for currently shielded pro-ducers. This could disrupt the post-ATC regimeby encouraging calls for higher tariff protection,or for more intensive use of contingent protec-tion measures (box 2.6). And in textiles, afterthe Uruguay Round, the use of contingent pro-tection measures has increased faster than inother sectors. In 1998–99, initiations of an-tidumping investigations in textiles represented11 percent of total, up from only about 5 per-cent, on average, in 1990–92 (WTO 2001).


51

Figure 2.6 Support to agriculture in theQuad is growing . . .

. . . partly due to the fall in commodityprices

Source: OECD. Source: World Bank; OECD.

Producer support estimate in percent In U.S. billionsof gross farm receipts (left axis) (over bars)

Total food prices inconstant dollars(weighted index; 1990=100)

Producer supportestimate in percent

of gross farm receipts(total OECD countries)

0Japan EU Canada United

States

10

20

30

40

50

60

7056

105

451

52

98

6

39

1986–901991–941995–971998–2000

20

25

30

35

115

Producer supportestimate (right)

PSE trend

Food prices (left)

110

105

100

95

90

85

80

1986 1988 1990 1992 1994 1996 1998 2000

40

45

Second, the ATC rules for the removal ofquotas are framed in terms of overall importshares in textiles and clothing, rather than interms of the number of quotas. This allowsimporting countries the leeway to select theproducts to be freed of quota restrictions ineach step, which slows the pace of liberali-zation.10 Up to 2000, more than 33 percent of trade was integrated, fulfilling the mini-mum ATC requirements. But products thathave been freed of quotas by the EU and theUnited States represent only small shares oftheir total textile and clothing imports—about6 percent of 1995–97 imports for the UnitedStates and less than 5 percent for the EU(ITCB 1999). Moreover, the products of inter-est to developing countries that were inte-grated tend to have low value added—such astops, yarns, and fabrics—with clothing repre-senting only a small share of the total.

Due to the slow pace of the liberalization,potential benefits for developing countries arebeing eroded, and foregone export earnings aresizeable. For example, on current trends, theshare of intra-EU trade in textiles and clothingcould further decline from 49 to around 43 per-cent of total EU countries’ imports by the ATCexpiration in 2005. Assuming a twice-as-fastdecline under a more ambitious liberalization,this share could drop by an additional 7 per-cent. Thus foregone export earnings for re-strained developing countries in the EU couldbe as high as $10 billion a year. In the UnitedStates, after the creation of the North AmericanFree Trade Agreement, restrained suppliers weredisplaced by booming textile and clothing ex-ports from Mexico, which grew by about 35percent per year. Despite these trade diversioneffects, the sharp increase in Mexican exportsillustrates the potential for other restrained low-


52

The Multifiber Arrangement (MFA) that enteredinto force in 1974 (like its predecessors the

Short- and Long-term Cotton Arrangements between1961 and 1973) established rules for the impositionof country-specific quotas, either through bilateralagreements or unilateral actions. This conflicted withthe General Agreement on Tariffs and Trade (GATT)principle of nondiscrimination against trading part-ners. As of 1995, only the United States, EU,Canada, and Norway continued to use quotas to re-strict their imports of textiles.

The return to GATT rules has two components:(1) a schedule for freeing textiles and clothing fromimport quotas (the “integration” component of theATC); (2) additional provisions for acceleratedgrowth of remaining non-integrated quotas (the so-called liberalization component of the ATC). Prod-ucts remaining under restriction will be allowed anadditional increase in quota growth rates—above thegeneral 6 percent annual growth agreed under theMFA. Such products will have their quota increased

Box 2.5 A primer on the agreement on textiles and clothing

by an additional 16 percent in the first step, 25 per-cent in the second, and 27 percent in the third.

The ATC is being implemented in four steps. Inthe first step, which took effect on January 1, 1995,WTO members had to secure quota-free market ac-cess matching, at a minimum, 16 percent of the totalvolume of their 1990 imports. In the second step,which started on January 1, 1998, an additional 17percent of total 1990 imports had to be integrated,followed by an additional 18 percent in the thirdstep, which commences on January 1, 2002. Finally,on January 1, 2005, quota-free access correspondingto the remaining 49 percent of total 1990 importsmust be secured.

The choice of products to be integrated is left tothe importing country, but they must cover at leastone item from each of four major product groups:yarns and tops, fabrics, made-ups, and clothing.

Source: Based on ICTB 1999.

cost producers to expand their exports, shouldmarket-access obstacles be removed.

Evaluating the impact of MFA quota aboli-tion requires a model comprehensive enoughto take into account the interplay betweensuppliers, as well as the sectoral interactions of each economy (see also chapter 6, andKathuria and others (2001) for South Asia).Given the equally slow pace of liberalization inNorth America, a rough estimate of foregoneexport earnings for developing countries could

be twice the estimated amount in the EU—equivalent to about 12 percent of total devel-oping countries’ textile and clothing exports.

Market access in textiles and clothing willremain restricted even after the MFA-relatedquotas have been abolished, because tariff bar-riers are high. While 90 percent of total high-income countries’ imports of manufactures facetariff rates below 10 percent, only about halfof textile and clothing imports face such lowtariffs. Moreover 28 percent of total OECD


53

Import-competing firms are often tempted to resortto antidumping laws—which are permitted by

WTO rules—to allege unfair trade practices by for-eign competitors. A firm is said to be dumping if itsexport price is less than either the price in its homemarket or the average cost of production. Antidump-ing laws enable nations to impose offsetting dutieson imports found to be both dumping products onthe domestic market and causing “material injury”to a domestic industry. The main users of these lawswere developed countries, but increasingly develop-ing countries have taken recourse to these laws (seeFigure). Industrial and developing nations areequally targeted by antidumping actions.

In addition, some nations take action againstimports that they suspect may have been subsidizedby another government. These so-called countervail-ing duty cases are also allowed under WTO rulesand, if an investigation reveals that allegedly subsi-dized imports have injured a domestic industry, thena tariff can be placed on the products in question.Both antidumping laws and countervailing duty lawsare referred to as “unfair trade laws,” reflecting theview that dumping and subsidization tilt the com-mercial playing field towards foreign firms. However,the more widespread resort to “unfair trade laws” isdiluting the gains from trade liberalization.

Disrupting surges in imports can be far betterhandled through the use of safeguard measures.These afford domestic firms the chance to adjust togreater competition from abroad, but do so only fora fixed period of time. WTO rules allow members toimpose temporary restrictions on imports that are

Box 2.6 Anti-dumping—and better alternatives

causing serious injury to a domestic industry. Be-cause the import protection is temporary, tradingpartners know that their market access has not beenpermanently reduced. By contrast, the antidumpingand countervailing duty laws are often implementedin such a way that the tariffs once imposed they arealmost never withdrawn. Worse still, if nations be-lieve that the market access obtained during a tradenegotiation are going to be permanently eroded bythe use of the unfair trade laws, then they will be lessinclined to start trade negotiations in the first place.


Developing countries are victims andplayers in the rising game of antidumpingAntidumping cases initiated by developed and developingcountries, 1986–1998

01986 1988 1990 1992 1994 1996 1998

20

40

60

80

100

120

140

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180

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220

Developed

Developing

countries’ imports of textile and clothing stillface tariff peaks, down only marginally from35 percent in the pre–Uruguay Round regime(OECD 2001c).11

Preferential market access for developingcountry exportsPreferential access schemes to high-incomecountries’ markets, such as the generalized sys-tem of preference (GSP) and the LDC regimes,aim to partly mitigate the effects of high most-favored nation (MFN) tariffs on export prod-ucts of developing countries. The United Na-tion’s 48 least-developed countries benefit fromLDC preferential access in all Quad countries,where 75 percent of their exports are sold.12

Even though on average, these preferentialschemes look relatively generous (Hoekmanand others 2001), a number of factors erodetheir effectiveness in reducing trade barriersfaced by poor countries. First, preferencesmainly apply to products that already face rel-atively low MFN tariffs (below 10 percent).The margins of preference on tariff peaks aresignificantly lower—with the exception of theEU, where the LDC preference margin for tar-iff peak products is about 70 percent. Thismargin is only 25 percent in Canada and 30percent in Japan and the United States. Reflect-ing the selectivity of preferences and the struc-ture of LDC exports, high tariffs are thus com-mon in some Quad markets on products onwhich LDC beneficiaries reveal some compara-tive advantage (figure 2.7).

Second, tariff preferences under GSP andLDC regimes can also be easily eroded by non-tariff measures, such as antidumping, safe-guards, rules of origin, and graduation mecha-nisms. The case of the safeguard measuresapplied by Japan on imports of Shiitake mush-rooms from China illustrates this point (box2.7). Finally, the GSP (and LDC regime implic-itly) have graduation mechanisms that are re-lated to income and market shares. They aretime-bound and subject to (uncertain) renewal.Countries graduate if they pass a certain percapita income threshold and if they expandtheir exports of products beyond a certain im-

port share in the market of the GSP-grantingcountry.

There is evidence that tariff preferences helpthe least-developed countries take advantage ofbetter export opportunities in Quad markets. Inthe post–Uruguay Round period, LDC exportsto the EU that receive high preferences, havegrown by about 8 percent per year on average,outpacing growth of LDC exports that receivemedium or low preferences (figure 2.8). A sim-ilar pattern is seen in Canada and Japan.13

On balance, global tariffs penalizedeveloping countries—The post–Uruguay Round tariff structure penal-izes developing countries as a whole becausetheir exports tend to be concentrated in prod-ucts where market access is highly restricted.Trade-weighted applied tariffs convey a sense oftariff incidence across countries and productgroups (figure 2.9).14 In manufactures, develop-ing country exporters face, on average, highertrade-weighted tariffs than other suppliers, bothin high-income and in developing countries’markets. Tariff walls faced by developing-


54

Figure 2.7 Despite preferences, LDCexports to the Quad often face high tariffsIn percent of LDC exports to each market (1996–99)


0

20

40

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Low tariffs<5%

Medium tariffs5–15%

Tariff peaks>15%

EU

Japan

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Canada

country exporters of manufactures in develop-ing countries’ markets are about three timeshigher than in high-income countries’ markets.

In agriculture, developing-country suppliersface lower trade-weighted tariffs than do otherexporters, both in high-income and in develop-ing countries’ markets. This is because tradepreferences to some extent mitigate the impactof tariff protection on developing countries,while a large share of developing countries’exports is in tropical commodities, for whichtariff protection is relatively low. By contrast,high-income countries’ agricultural exports aremainly concentrated in temperate agriculturalcommodities and dairy products, which facewidespread tariff peaks.

Because average applied tariffs in agricul-ture are higher in developing countries, South-South trade of agricultural commodities faceshigher trade-weighted tariffs than exports fromthe South to the North (South-North trade).With an increasing share of developing coun-tries’ manufactured and agricultural exportsbeing directed toward other developing coun-

tries, high levels of tariff protection in the Southmay also impede prospects for export-ledgrowth. Trade in agriculture may suffer morefrom high levels of protection in middle-incomedeveloping countries because markets in thesecountries are growing fast, reflecting fast popu-lation and income growth. High tariff protec-tion in middle-income developing countries mayalso damage the export opportunities of low-income countries, especially in agriculture andin textiles where the export market shares oflow-income countries have increased rapidly.

—and denies the world’s poor access tothe global marketsBecause developing countries are home to theworld’s poor—56 percent of the world’s pop-ulation defined as those living on less than $2 per day (World Bank 2000c)—high tariffbarriers on developing countries’ exports actas a roadblock to market access by the poor.Compared with the nonpoor of the world,poor people are more exposed to high penal-ties of the global system of protection.


55

Shiitake mushroom are among the most popularmushrooms in Japan, where an estimated 30,000

farmers grow them. Japanese trading companiesbegan in the early 1990s to encourage Chinese farm-ers to use Japanese spores and modern cultivationtechniques to improve the quality of Chinese mush-rooms to Japanese standards. The effort was a hugesuccess. In the humid mountainous climate of Fujianprovince, as well as in Shandong, farmers quicklyadapted and China became a global mushroomgiant. The same techniques were applied to othermushrooms, and exports climbed to $120 millionper year. Farmers’ incomes in Fujian and Shandongrose, and consumers in Japan seemed happy to getthe shiitake mushrooms at one-third the price ofdomestically produced shiitakes.

But Japan’s shiitake farmers feared for their jobsand sought protection from the government. Thegovernment responded. Japan at first threatened to

Box 2.7 Mushroom warsuse inspection requirements as a veiled form of pro-tection. But since April 17, 2001, imports over 8,000tons face a tariff of 266 percent, while an amend-ment to the tariff code imposed temporary emer-gency import curbs. The import curbs will be imple-mented for up to 200 days through November 8. Itis the first time Japan has invoked import curb mea-sures under the WTO’s ordinary safeguard mecha-nism designed to slow imports to allow a specificindustry to adjust to heightened competition fromforeign suppliers. The Chinese government urgedJapanese officials to reconsider the action, to noavail. China has retaliated by imposing punitiveduties on several Japanese exports. It is likely thatthe mushroom war is not over.

Source: The Economist, February 8, 2001; The Guardian, April19, 2001; Peoples’ Daily, April 17, 2001; Financial Times, June20, 2001.

The world’s poor generally earn their livingin the rural sector and other labor-intensiveactivities—such as light manufacturing, infor-mal services, and construction. When theseproducts find their way to the world markets,they face high tariff barriers—such as thosefaced by agricultural commodities and labor-intensive manufactures. Labor services faceparticular restrictions—for example, restric-tions on temporary cross-border movementsof workers for the provision of constructionservices (see chapter 3).

One way to quantify the incidence of pro-tection—albeit in rough fashion—is to look ateffective tariffs faced by the different incomegroups in access to the world markets. Despitethe existing preferential access schemes for de-veloping countries’ exports, the world’s poorface tariffs that are more than twice as high asthe nonpoor face (box 2.8). This fact is inde-pendent of their position in the relative scaleof poverty. Making world merchandise tradework for the world’s poor would require boldsteps to remove this disparity.

Liberalizing trade to promotedevelopment

Removal of trade barriers on labor-intensiveproducts will generate shared benefits,

both for high-income and developing countries(these are quantified in chapter 6). Benefits fordeveloping countries would include greater ac-cess to high-income countries’ agricultural andapparel markets and more buoyant demand inindustrial countries as a result of lower pricesto consumers. Middle-income countries thathave access to international capital marketsbut still depend greatly on exports of protectedproducts (for example, Argentina), could pos-sibly see a decline in the risk premia they face,because more buoyant growth of export rev-enues could make their balance of paymentsless vulnerable to economic swings. With bet-ter access to global markets, domestic policyreforms become important to create exportopportunities and absorb the dynamic gainsfrom trade.


56

Figure 2.8 LDC exports can grow fastwhen tariff preferences are significantLDC export growth

Note: Rankings of LDC preference margins on GSP tariffs: >10 percent = high preference; 3–10 percent = mediumpreference; <3 percent = low preference.

Source: World Bank staff calculations, based onU.N. Comtrade.

–15

–10

–5

0

5

10

15

20

25

30

Highpreference

Mediumpreference

Lowpreference

EU

Canada

JapanUnited States

(1996–99, average per year, in percent)

Figure 2.9 Opposite patterns of tariff incidence in manufactures andagricultureTrade-weighted tariffs (average 1998–99), in percent

Note: Trade-weighted tariffs, using 1997 applied tariffsand trade weights: excluding intra-EU trade.

Source: Based on IMF-WB 2001.

0

5

10

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Manufactures

Expor

ter

high-

incom

e

Expor

ter

deve

loping

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ter

deve

loping

Expor

ter

high-

incom

e

Agricultural commodities

Importer high-incomeImporter developing

Domestic policies to create export opportunitiesDeveloping countries have gone a long way to-ward removing many of the domestic obstaclesto export-led growth. Tariffs are lower every-where, the anti-export bias embedded in thedomestic trade regimes and sectoral policieshas been reduced, while more sound macro-economic policies have led to more competitiveexchange rates. However, while macroeco-nomic policy and trade policy reforms were

ambitious, the pace of agricultural reforms has been uneven both at the commodity andcountry levels (Townsend 1999; Shepherd andFarolfi 1999; Akiyama and others 2001).Moreover a number of structural impedimentshamper export diversification into manufac-tures in the poorest countries—especially inSub-Saharan Africa (Fosu and others 2001).

Deepening the reform process in two direc-tions is key to realizing the trade promise forgrowth and poverty reduction: (a) reducing


57

Effective tariffs faced by people in different in-come groups convey a sense of uneven access to

the world markets (see figure). For people in eachincome group, effective tariffs are calculated on thebasis of the trade-weighted tariffs faced by exports of their home countries. For simplicity, it is assumedthat all poor can be found in labor-intensive mer-chandise production, while the nonpoor earn theirliving across the whole array of economic activities.Thus calculations of effective tariffs on those livingon less than $2 per day are based on trade-weightedtariffs faced by countries for exports of agriculturalproducts and labor-intensive manufactures. Calcula-tions of effective tariffs on the nonpoor are based ontrade-weighted tariffs faced by countries across ex-ports of all goods. Trade-weighted tariffs are calcu-lated from using 1998 applied tariffs and tradeweights.

Effective tariffs faced by each income group arecalculated as the sum of trade-weighted tariffs facedby the exports of different countries, using asweights the share of each country’s population ineach income group (based on 1998 poverty data).Since by global standards even the relatively poor inall high-income countries have consumption greaterthan $2 per day, the whole population of these coun-tries is in the nonpoor group.

Due to their size, China and India are the twosingle countries that weigh more in these calcula-tions. The trade-weighted tariff on exports of labor-intensive products from China is 15.5 percent andfor India 15.1 percent. China accounts for 29 and 21 percent respectively of the world’s poor anddeeply poor (those living on less than $1 a day).

Box 2.8 Calculating effective tariffs faced by the poor

India represents 27 and 40 percent of poor people ineach of the two groups. The trade-weighted tariffson labor-intensive exports from China and India aremultiplied by these population shares to determinethe contribution of the two countries in the effectivetariffs faced by each of the two groups of poor. ButChina and India also account for 19 and 4 percent,respectively, of the world’s nonpoor. These popula-tion shares, along with the “all-inclusive” trade-weighted tariffs faced by China and India (estimatedat 8.3 and 8.5 percent) are used in the calculation ofeffective tariffs faced by the nonpoor.


The poor face high tariffsEffective tariff faced by income groups (in percent, 1997–98)

0

2

4

6

8

10

12

14

16

Deeply poor<$1/day

Poor $1–$2/day Nonpoor>$2/day

further tariff and non-tariff barriers to trade ina context of supportive policies that link thepoor to expanded market opportunities andcushion transitional costs for any displacedgroup; and (b) building trade capacity by up-grading “behind-the-border” institutions, rang-ing from customs and ports to telecommunica-tions and domestic transport.

Reducing tariffs and other barriers totrade can increase incomes, butadjustment costs cannot be ignoredReducing tariffs and other trade barriers willnot automatically lead to higher growth. Tradepolicy cannot substitute for a developmentprogram. However trade reform is an impor-tant component of a development strategy, anddeveloping countries, with average tariff levelsthree times that of the high-income countries,have ample scope for capturing further gainsfrom trade reform. Most analyses suggest thatunilateral reduction in barriers can produce the greatest and quickest gains. Several coun-tries have realized this and undertaken impor-tant domestic trade policy reforms—includingChile, China, and Costa Rica.

Improving integration into the world trad-ing system involves lowering trade barriersand reforming domestic institutions in waysthat may initially hurt low-income consumers,unskilled workers in sheltered industries, andpreviously shielded producers—especially sub-sistence farmers in remote areas with deficientrural infrastructure. Producers of import-com-peting commodities that receive dispropor-tionate support may suffer from lower levelsof protection, at the same time that poor con-sumers benefit from lower prices.

Even though the benefits from trade inte-gration would eventually outstrip the costs,deployment of temporary safety nets—such assupport to displaced producers and retrain-ing—would help cushion the costs of disloca-tion for specific groups, and would ensure thattrade-led growth is pro-poor (World Bank1997, box 2.9). Efforts would also be neededto cushion the consequences for affected coun-tries of the reorientation of export flows,

should the preferential market access regimesfor specific commodities be discontinued. Thiswould require increased donor support. At thesame time, policy should remove distortions,with the aim of facilitating the redeploymentof labor and released resources from the in-dustry that enjoyed support. Although labormarkets are inherently more flexible in devel-oping countries, distortions—linked, for ex-ample, to state enterprise employment—oftenobstruct labor markets and hold back the ad-justment to reforms.

Building trade capacity by upgrading“behind-the-border” institutionsIf a country’s investment climate is poor and itsinstitutions and infrastructure are weak, sim-ply changing relative price incentives throughtrade policy may do little to promote sustainedgrowth. In several cases, as for example, inHaiti (box 2.1), failure to respond to opportu-nities created by trade liberalization has beenrelated to poor macroeconomic policies thathave fed volatility and discouraged investment.Weakness of “behind-the-border” institutionscan have a similar dampening effect, as occursin transport, utilities, and communications.Improving regulation and competition in thesesectors would strengthen the export responseby reducing the cost of exporting. In agricul-ture, this is key to ensuring competitiveness in rapidly expanding markets for high-valuedcommodities where competition is stiff—suchas, for example, fruits, vegetables, meats, andcut flowers.

Effective duty drawback and indirect taxrebate mechanisms, are important to over-come the anti-export bias often embedded intrade regimes. Export finance is often a majorconstraint inhibiting exports in many low-in-come countries. Inadequacies may result fromthe overall weakness of the financial sector ormay reflect difficulties in assessing creditwor-thiness of traders. While ensuring availabilityof trade finance is a matter that needs to beleft to the private sector, any effort to expandexports and to promote increased opportuni-ties for the poor in the export sector needs


58

complementary policies to help overcomecredit bottlenecks. Appropriately managedmatching grants can be an effective instrumentto assist small firms to penetrate export mar-kets. Product standards based on interna-tional norms facilitate market linkages, andact as safety, health, quality, or environmentalsafeguards. Developing countries face a diffi-cult challenge in this area, as they need to es-tablish efficient testing, certification, and lab-oratory accreditation requirements to attainsanitary, phytosanitary, and product stan-dards. Low-income developing countries needboth technical and financial assistance to meetthis goal. Marketing of exports is a challeng-ing task for all low-income countries, because

they have to improve information on marketopportunities; overcome problems of productand country brand; and meet concerns aboutquality. Foreign partners and FDI can be help-ful in providing needed contacts and expertise.But local associations of exporters or produc-ers can also help. Cooperatives and similarventures can help improve marketing whileensuring that benefits from exports accrue tosmall poor farmers. However, transparencyand competition in these institutions is impor-tant, or poor farmers may receive lower pricesfor their outputs.

In agriculture, in particular, where the stakesfor poverty reduction are high, additional com-panion policies and institutions would be


59

Since segments of the poor may be hurt by tradeliberalization in the short run, determining the in-

cidence of the tariff structure on the poor, and de-ploying appropriately tailored safety nets is impor-tant to ensure that subsequent growth is inclusive,and secure domestic support for reform. Deploymentof safety nets raises two broad policy options: Em-ploy general social safety nets, or establish safetynets targeted to those who are harmed by the tradereform (World Bank, 2001c).

Country-wide safety nets seem more appropriatethan special safety net programs for trade-relatedproblems. Fundamentally, it is difficult to justifysafety net programs to poor people who suffer fromtrade reform and deny assistance to other poor peo-ple who suffer from unemployment from other dis-ruptions, such as technological change, or domesticdemand shifts. As the main need for the poor duringa difficult transition period is likely to be food, oneapproach is a time limited food subsidy and distribu-tion program. However, targeting a food subsidy isdifficult, and often subject to abuse, while the bene-fits may also spillover to middle and upper incomegroups. An alternative is an untargeted subsidy oninferior goods, as has been pursued in Egypt (Adams,2000).

Box 2.9 Designing appropriate safety nets to ensuretrade reforms are pro-poor

Direct income support tends to be the most effi-cient type of social safety net. But proper manage-ment of means-tested programs of support requiresimportant administrative capabilities, which poorcountries often do not possess. One approach, whichwas employed successfully in Jordan, is to initiallyprovide a money payment to a wide range of house-holds, and subsequently narrow the program to onlylow-income families. Because distinguishing the poorfrom the non-poor may be difficult, workfare pro-grams may be more generally applicable, and havebeen proven effective under certain circumstances(Ravallion, 1999), as individuals can self-identify forthese programs.

The World Bank’s Poverty Reduction StrategySourcebook outlines best practices for deploying so-cial safety nets in event of dislocation. In addition,the Bank is working with other donors through theIntegrated Framework studies to ensure that bestpractices are tailored to local capabilities and institu-tions. But there are no easy answers as liberalizationaffects the poor differently depending on country cir-cumstances. The Bank intends to further deepen itsknowledge and provide policymakers with analyticaltools needed to answer some key questions.


needed to improve the supply response to mar-ket incentives. Some of these policies demandconsiderable up-front mobilization of resources,and should be backed by donor support. Exam-ples include stepped up investment in rural in-frastructure, which is a key enabler of agricul-tural exports in developing countries. Securingsufficient supply of credit at competitive condi-tions is important to encourage private sectorinvestment into storage, transportation, andmarketing of agricultural products. Increasedinvestment in skills through education andtraining in rural areas is needed to bolster pro-ductivity in agriculture, and to enhance the abil-ity of absorbing emerging technologies—espe-cially those stemming from the biotechnologyrevolution.

But other initiatives in agriculture wouldneed to improve the regulatory and policy en-vironment. Continued trade policy reformsshould redress the still remaining anti-exportbias in developing countries’ agriculture. Re-forms of pricing policies should be stepped up,because in a number of LDC producer pricesare still compressed compared to border prices,thus limiting export incentives.

Efficient land policies and land tenure insti-tutions are also key to improving the function-ing of land markets, securing property rights to farmland, and supporting the emergence ofmore efficient farm structures. Enhancing landrights and transferability can increase a farm-er’s ability to produce both for subsistence andfor income, improve their incentives to invest,and enhance their ability to obtain credit (seealso Freeman and others 2000).

High-income countries can helpDomestic policies in developing countries havea greater chance of success if high-incomecountries realize their interest in developmentsuccess. One policy high-income countries canadopt is following the lead of the EuropeanUnion. Its “Everything but Arms” proposalgrants duty-free and quota-free access in allbut 25 lines related to arms trade.15 OtherQuad countries have also announced initia-

tives that extend existing preferential access toLDC or African countries, but they all fallshort of a full coverage.16

A number of studies have found that theexport growth gains for LDCs could be signif-icant if all Quad markets granted duty-free ac-cess to LDC (Hoekman and others 2001; Ian-chovichina and others 2001; UNCTAD 2001).The projected trade diversion and decline inother developing countries’ exports are negli-gible, since LDCs represent only a small partof world merchandise trade, and other devel-oping countries’ exports are more diversified.According to a study (Hoekman and others2001), even if all Quad members were to grantLDCs duty-free access for only tariff-peakitems, non-oil LDC exports would increase byan estimated 11 percent, while other develop-ing countries’ exports would decline only mar-ginally—by an estimated 0.1 percent.

Extending duty-free market access to allLDC exporters would also help mitigate thedrawbacks of current preferential accessschemes targeted on specific beneficiaries.These schemes often distort trade, because theydisplace low-cost producers elsewhere in thedeveloping world. The case of the EU prefer-ential regime for bananas illustrates this point(box 2.10). Moreover, preferential access tohigh-income country agricultural markets withhighly subsidized domestic prices provides apremium over world prices to the countriesreceiving the preferences. This form of “aid-through-trade” is not an efficient way of pro-viding aid because it creates dependence and is targeted to particular economic activitiesrather than to identified areas of need.

High-income countries can also provide“aid for trade.” This could include increasedgrant aid for trade policy analysis (such as inthe integrated framework program discussedin chapter 6), technical assistance on imple-mentation of standards, and aid for aspects ofdevelopment that affect the “soft infrastruc-ture” of the investment climate, such as gov-ernance. No less important is disciplining theburgeoning recourse to contingent protection.


60

Open regionalism could promote trade creation—Regional arrangements continue to proliferate,and are likely to remain an enduring feature of the trade panorama. Smaller membershipsmake it easier to negotiate the increasingly im-portant issues inherent in trade and regulatoryregimes, while small countries often can exer-cise greater influence in regional arrangements.

“Open regionalism” holds the potential tostimulate global trade and improve the effi-ciency of regional producers. But regionalarrangements can also become a vehicle forprotection, trade diversion, and unintended in-efficiency. Key conditions to benefit from ex-panded trade and investment include loweringcommon external trade barriers, stimulating

competition, reducing transaction costs, andreinforcing nondiscriminatory investment andservices policies (World Bank 2001b).17

North-South regional agreements are morelikely to improve welfare than South-Southarrangements, because they usually result inlower trade barriers with less trade diversion,and because the greater structural differencesin North-South economies produce greatergains from trade creation (World Bank 2000d).Although South-South arrangements can bemade to work, a number of regional integra-tion agreements have had negative or ambigu-ous effects on income. In particular, agree-ments between richer and poorer developingcountries are likely to generate losses for thepoorer ones when their imports are diverted


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Bananas are almost exclusively exported by devel-oping countries to high-income countries, with

the four dominant exporters (Ecuador, Costa Rica,Colombia, and the Philippines) accounting for three-quarters of global exports. The two major importers,the United States and the EU, cover approximately60 percent of the world market, currently estimatedbetween $5 and $6 billion.

During the 1990s, bananas were a source oftrade dispute, often termed the “transatlantic bananatrade war.” The trade dispute reflects primarily EUimport policies. In 1997, 40 percent of the EU ba-nana market was supplied by domestic productionand duty-free imports from African, Caribbean, andPacific (ACP) countries, with the rest being importedfrom non-ACP banana producers (the so-called “dol-lar bananas,” primarily from Latin America), whowere subject to quotas and tariffs.

By restricting imports from non-ACP exporters,the EU import regime causes its domestic bananaprices to be much higher than other markets—onaverage, about two-thirds higher than in the UnitedStates. Furthermore, the regime de facto guaranteeshigh prices to EU and ACP producers, which hasbeen the political justification for such intervention.

Box 2.10 The banana dispute: good intentions . . .bad policies?

Apart from the income transfer from EU con-sumers to ACP and EU banana producers, a numberof other effects are in place. High prices lower EUbanana demand. If EU per capita banana consump-tion was the same as in the United States, total ba-nana consumption in the EU would increase by morethan 10 percent. This additional demand would raiseworld prices, while lower-cost banana producerswould export more. The current quota/tariff combina-tion is an inefficient and expensive way to provide aid.Borell (1999), for example, reported that for everydollar that ACP producers receive as aid throughhigher banana prices, EU consumers pay $5.30.

Ecuador, Guatemala, Mexico, and the UnitedStates brought a complaint before the WTO in 1997.The panel ruled against the EU banana importregime. The EU has recently reached an agreementwith the United States and Ecuador that allows moreimport licenses, based on historical allocation, until2006 when ACP preferences will be retained onlythrough tariff protection.


toward the richer members whose firms arenot internationally competitive.

Reflecting large differences in costs betweenhigh-income and developing countries, North-South arrangements hold also the greatestpromise for trade creation in agricultural prod-ucts and labor-intensive manufactures. By con-trast, a regional approach—even on a South-South basis—seems promising in the regulationof services, when combined with a nondiscrim-inatory approach to liberalization (Subraman-ian and others 2000). Possible areas of cooper-ation—by pooling resources and expertise andby upgrading and harmonizing standards—would include domestic regulation in sectorssuch as financial services, telecommunications,power, and transport.

—but multilateral policies hold the key to a sustained improvement in market access—The next trade round has the potential to im-prove access for developing countries’ mer-chandise exports to high-income markets, par-ticularly in agriculture and labor-intensivemanufactures, where the stakes for the reduc-tion of poverty are high. The Quad countries—the United States, EU, Japan, and Canada—would serve their interest in expanding tradeand development well if they put serious con-cessions on the table in these areas.

Offering to link “aid for trade” to progressin reforms in developing countries would alsoserve the interest of development well. Thetrade round should also provide more interna-tional aid and technical assistance in key sec-tors, such as agriculture, where the poor coun-tries need to build trade capacity.

Developing countries too (especially themiddle-income countries) should join multilat-eral efforts to further liberalize merchandisetrade if they want to maximize the benefitsfrom freer global markets. Because merchan-dise trade among developing countries is set toaccelerate further, outpacing the growth ofworld trade, reducing trade barriers in devel-oping countries holds a key promise in in-creasing the development impact of trade.

An agenda of multilateral trade policy op-tions to make merchandise trade work for thepoor would need to respond to three mainchallenges.

—reducing distortions in agricultural trade—Removal of distortions to agricultural trade re-quires coordinated efforts in different direc-tions. As a first priority, MFN-applied tariffsshould be reduced, on average by half in high-income countries, and by one-third in develop-ing countries. Agricultural tariff peaks in high-income countries should be phased out. Tariffsshould also become more transparent by limit-ing the use of specific and compound tariffs.The EU and Japan should take the lead becausein these countries tariff peaks on agriculturalimports and specific tariffs are more prevalent.The size of tariff quotas should be increasedand the “in-quota” tariff rates should be elimi-nated to improve the very low tariff quota fillrates, and the over-quota tariffs should be con-siderably cut to expand market access. Re-moval of tariff peaks in the Quad will help re-duce the tariff escalation that hampers trade in more processed agricultural products andhigher value-added manufactures. But multilat-eral surveillance should also be enhanced, toprogressively eliminate tariff escalation in bothhigh-income and developing countries.

As a second step, agricultural tariffs shouldbe bound to levels close to MFN-applied rates,particularly in developing countries wherebound rates are very high. Binding of tariffrates will improve the predictability of theglobal tariff system. High bound tariffs createample scope for tariff protection to rise withoutinfringing WTO commitments. Investors’ riskscould thus increase, limiting the benefits frommore open trade.

The third step would require a much bolderoverhaul of the system of support provided byhigh-income countries to agriculture. Morebinding disciplines should be introduced onproduction-affecting support, also encompass-ing subsidies that are currently exempt fromURAA reduction commitments (“Blue Box,”


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“Green Box,” and “de minimis” measures).As a benchmark, the producer support esti-mate in high-income (OECD-member) coun-tries should be cut on average by half as ashare of gross farm receipts. This should becoupled with an accelerated phaseout of ex-port subsidies—especially in the EU, wheretheir usage continues to be widespread. Tolevel the playing field, officially supported ex-port credits—which are more prevalent in theUnited States—should also be brought undermultilateral disciplines.

—expanding access in labor-intensivemanufactures—The phaseout of the remaining quantitativerestrictions in textiles and clothing should bestepped up, ahead of the ATC expiration in2005, because the removal of quotas has been“back-loaded.” But this will not be enough toimprove market access for developing countries.Applied tariffs in textiles and clothing remainexcessively high and should be cut on averageby half in high-income countries, and by one-third in developing countries. Tariff peaksshould be phased out—especially in the UnitedStates and Canada where they are prevalent.Tariffs on footwear should be reduced across allQuad countries.

To build confidence that trade in textilesand clothing will be freed up in the post-ATCregime, the increasing trend in the use of con-tingent protection (especially in textiles)should be halted. Reducing the wide discrep-ancies between bound and applied tariffswould help build trust, because these discrep-ancies provide the scope for using tariffs assafeguards or for balance-of-payments reasons(Laird forthcoming). And multilateral surveil-lance should be enhanced, to eliminate tariffescalation on labor-intensive manufactures inboth high-income and developing countries.

—and eliminating tariff peaks andescalation on all productsEliminating tariff peaks that now discriminateagainst labor-intensive products would add con-siderably to the export potential of developing

countries. Similarly, reducing escalation in tar-iff codes in the developed and developingcountries alike will produce more efficient, usu-ally pro-poor growth.

Notes1. Moreover, in Sub-Saharan Africa agricultural

exports are concentrated in five major crops (cocoa,coffee, cotton, sugar, and tobacco), which, in 1990–95,accounted for an estimated 62 percent of total agri-cultural exports. Export concentration has hardlychanged over time, since these same five crops repre-sented 63 percent of total agricultural exports in the1970s (Ingco and others 2001).

2. Export processing zones (EPZs) were often usedextensively—for example, in Tunisia, Bangladesh, andMauritius—to overcome the anti-export bias of do-mestic trade policy regimes and support export-ori-ented T&C industries. But their effectiveness in pro-moting spillovers to the rest of the economy has beenquestioned. By creating economic enclaves, EPZs oftenimpair backward linkages with the rest of the econ-omy, as the supply chain of exporting firms may relymore on imported, duty-free, intermediate goods thanon local producers. Such impediments to local produc-tion linkages could be seen, for example, in the case ofBangladesh (World Bank 1999a).

3. The data on income distribution for the countriesincluded in the sample are from household surveys re-ported in Deininger and Squire 1996, but in some coun-tries household surveys measure expenditures, while inothers they measure income. When household surveysreport expenditure (47 out of 129 observations), con-sumption growth of the poorest 20 percent of the pop-ulation is compared to growth in average per capitaconsumption—otherwise it is compared to growth in percapita GDP. Time periods span irregular intervals foreach country—depending on the availability of house-hold surveys of acceptable quality. To smooth out short-run fluctuations in income or expenditure, time periodsspan at least 3 years, with an average duration of 6.8years. The geographical breakdown of the sample is: EastAsia—31; Latin America and the Caribbean—50; Mid-dle East and North Africa and Europe and CentralAsia—15; South Asia—18; Sub-Saharan Africa—15.

4. In developing countries, applied tariffs are, onaverage, about three times higher than in industrialcountries, partly because developing countries rely moreon trade-related taxes to raise revenue. In developingcountries, the coverage of nontariff barriers, includingstate trading monopolies, has also been considerablyreduced (Martin forthcoming).

5. Tariff quotas allow a lower-tier, or “in-quota,”rate to be set at low levels, with the second-tier, or


63

“over-quota,” rate set at a higher level—close to thelevel of protection enjoyed before the URAA. The dis-tribution of TRQs among countries and product groupsreflects the incidence of tariffication. More than one-quarter of all tariff quotas apply to fruits and vegetables,with the next four more important groups being meat,cereals, dairy products, and oilseeds (WTO 2001).

6. Support to agricultural producers refers to theproducer support estimate (PSE) computed by theOECD. The PSE is an indicator of the annual monetaryvalue of gross transfers from consumers and taxpayersto farmers, measured at the farmgate level, arising frompolicy measures that support agriculture. These trans-fers include both government subsidies to agriculture(taxpayer transfers) and effective market price supportthrough trade policies to restrict imports (transfers fromconsumers). A wider indicator of support, calculated bythe OECD, is the total support estimate (TSE). In addi-tion to transfers included in the PSE, the TSE also in-cludes an estimate of general services support providedto agriculture—for example, public research and devel-opment, agricultural schools, inspection services, andinfrastructure.

7. To be sure, the global impact of subsidy reductionin OECD countries on agricultural greenhouse gas emis-sions is uncertain, as production could increase in coun-tries with higher emission intensity per unit of output.

8. In the EU and Japan, production-related total ag-gregate measurement of support (AMS) and “blue box”measures still account for the majority of support (83percent in the EU and 53 percent in Japan), while in theUnited States support is now provided mainly under“green box” measures (84 percent).

9. Domestic support to agriculture is also high out-side the Quad. For example, in the Republic of Korea, atan estimated $17.3 billion on average during 1998–2000, the PSE covered 66 percent of gross farm receipts,and was more than four times higher than in Canada(OECD 2001b).

10. For example, in 1990 only about 58 percent ofEU imports were under quota restrictions, which leftmuch room to defer the “integration” of restrainedproducts.

11. These high levels of protection also have a largecost for high-income countries’ consumers. Accordingto a study, in 1997, quotas and tariffs on textiles andclothing cost to EU consumers about $10 billion, whilethe loss of production efficiency due to the sheltering ofdomestic production will have cost another $10 billion(Francois, Glismann, and Spinanger 2000). Hence, eachjob saved through the delayed freeing up of the EU tex-tiles and clothing market costs an estimated $24,000per year in textiles and $35,000 per year in clothing.

12. Other preferential schemes offer better access tosome developing countries, such as those received by

African, Caribbean, and Pacific, southern Mediter-ranean and Eastern European countries in the Euro-pean Union; and those received by Mexico, Israel, An-dean countries, and the Caribbean Community in theUnited States.

13. LDC exports to the United States show an op-posite pattern. However, high-preference exports rep-resent less than 1 percent of LDC exports to the UnitedStates, which suggests that the outcome could be sensi-tive also to other barriers—such as standards, rules oforigin, antidumping, safeguards, distribution, and soforth.

14. Trade-weighted applied tariffs may to some ex-tent underestimate the degree of tariff protection, sincehighly restrictive tariffs, which are likely to reducetrade flows, receive small weights in the constructionof the index.

15. However, for three sensitive agricultural prod-ucts—bananas, rice, and sugar—the liberalization willbe phased in during a rather lengthy transition period,to be completed by 2009 for rice and sugar, and 2006for bananas.

16. Japan’s “99 percent Initiative on Industrial Tar-iffs” does not cover agricultural products where tariffbarriers are particularly high. The U.S. “African Growthand Opportunity Pact” that grants duty-free and quota-free access to the United States does not include sensitiveagricultural products (for which there are tariff quotas),nor apparel and clothing, which have their own prefer-ential regime—including quotas and relatively restrictiverules of origin.

17. For example, Harrison, Rutherford, and Tarr(1997) estimate that Chile was able to profit from itsfree trade agreement with MERCOSUR due to the factthat it lowered its external uniform tariff from 11 to 6 percent.

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Services are vital for economicdevelopment—Services are the fastest growing sector of theglobal economy, and trade and foreign directinvestment in services have grown faster thanin goods over the past decade. Developingcountries have witnessed even faster growthrates, and their share in world services exportsincreased from 14 percent in 1985–89 to 18percent in 1995–98. Technological progresshas greatly enhanced the scope for trade inconventional services, such as education and fi-nance, and also created a host of new tradableservices, such as software development and In-ternet access. Moreover, liberalization in manycountries is leading for the first time to the pri-vate and foreign provision of services such astelecommunications, transport, and finance.

In virtually every country, the performanceof the services sectors can make the differencebetween rapid and sluggish growth (box 3.1).Developing countries, in particular, are likelyto benefit significantly from further domesticliberalization and the elimination of barriersto their exports. The income gains from a re-duction in protection to services are estimatedto be multiples of those from trade liberaliza-tion in goods.

—but the benefits from liberalization arenot automaticFlawed reform programs can substantially re-duce gains. The largest gains come from elim-inating barriers to entry, but many developing

countries have given priority to a change inownership through privatization, while retain-ing limitations on new entry. Effective regula-tion ranging from prudential regulation of fi-nancial services to procompetitive regulationof telecommunications is critical to the successof liberalization, but regulatory weaknessesare too prevalent in developing economies.Liberalization also frequently requires com-plementary policies to help improve access toessential services for the poor. The experienceof several countries has demonstrated thatuniversal service goals can be achieved in com-petitive markets.

Multilateral engagement can be animportant catalyst for liberalizationEven though governments can initiate reformsof services individually, multilateral engage-ment can help in two ways. First, negotiationsunder the General Agreement on Trade in Ser-vices (GATS) could help accelerate domesticreform and improve access to foreign marketsfor developing countries. However, for thesenegotiations to be fruitful, both developed anddeveloping countries must recognize mutualinterests in reciprocal liberalization. In particu-lar, developed countries must see the advan-tages of allowing the temporary movement ofindividual service providers. Developing coun-tries must see the advantages of multilateralagreements to increase competition, enhancecredibility of potential domestic reform, andstrengthen domestic regulation. Recognizing

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Trade in Services:Using Openness to Grow

3

these potential mutual gains will allow recip-rocal “concessions” that benefit both.

In parallel, global cooperation is needed toprovide support for developing countries atfour levels: in devising sound policies, strength-ening the domestic regulatory environment,enhancing their participation in the develop-ment of international standards, and in ensur-ing access to essential services in the poorestareas.

Surging trade and investment in services

Trade in services: four modes of supplyServices include activities as disparate as trans-port of goods and people, financial interme-diation, communications, distribution, hotelsand restaurants, education, health care, con-struction, and accounting. In contrast to mer-

chandise trade, services are often intangible,invisible, and perishable, and usually requiresimultaneous production and consumption.1

The need in many cases for proximity betweenthe consumer and the producer implies thatone of them must move to make an interna-tional transaction possible. Since the conven-tional definition of trade—where a productcrosses the frontier—would miss out on a wholerange of international transactions, it is nowcustomary to define “trade in services” to in-clude four modes of supply:

• Mode one: cross-border supply, which isanalogous to trade in goods; arises whena service crosses a national frontier, forexample, the purchase of software or in-surance by a consumer from a supplierlocated abroad.

• Mode two: consumption abroad; occurswhen the consumer travels to the terri-


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In developing countries, the average share of ser-vices in GDP increased from around 40 percent in

1965 to around 50 percent in 1999, while in theOECD countries the average share increased over thesame period from 54 percent to over 60 percent.Among the fastest growing sectors in many countriesare services such as telecommunications, software,and finance.

Efficient services not only provide a direct bene-fit to consumers, but also help shape overall eco-nomic performance. An efficient and well-regulatedfinancial sector leads to the efficient transformationof savings to investment, ensuring that resources aredeployed wherever they have the highest returns; andfacilitates better risk-sharing in the economy. Im-proved efficiency in telecommunications generateseconomywide benefits, because this service is a vitalintermediate input and also crucial to the dissemina-tion and diffusion of knowledge. The spread of theInternet and the dynamism that it has lent toeconomies around the world is telling testimony tothe importance of telecommunications services. Simi-

Box 3.1 Why do services matter for development?larly, transport services contribute to the efficient dis-tribution of goods within a country, and are particu-larly important in influencing a country’s ability toparticipate in global trade. Although these are themore prominent services, others are also crucial.Business services such as accounting and legal ser-vices are important in reducing transaction costs—the high level of which is considered one of the mostsignificant impediments to economic growth inAfrica. Education and health services are necessaryin building up the stock of human capital. Retail andwholesale services are a vital link between producersand consumers, and influence the efficiency withwhich resources are allocated to meet consumerneeds. Software development is the foundation of themodern knowledge-based economy. Environmentalservices contribute to sustainable development byhelping alleviate the negative impact of economic ac-tivity on the environment.


tory of service supplier, for example, topurchase tourism, education, or healthservices.

• Mode three: commercial presence; in-volves foreign direct investment, for ex-ample, when a foreign bank or telecom-munications firm establishes a branch orsubsidiary in the territory of a country.

• Mode four: movement of individuals; oc-curs when independent service providersor employees of a multinational firm tem-porarily move to another country.2

Services have been among the fastest grow-ing components of world trade over the last15 years. Over the period 1985–99, the com-pound annual growth rate for services exportson a balance-of-payments basis—which coversprimarily cross-border supply and consump-tion abroad—was over 9 percent per annum,compared to 8.2 percent per annum for mer-chandise (figure 3.1 left). As a result, servicestrade more than trebled its size in fifteen years

to $1.2 trillion in the year 1999, and now ac-counts for a quarter of all cross-border trade.3

Developing countries as a group have wit-nessed an even more rapid (nearly four-fold)increase in their services exports, and a conse-quent increase in their share in world servicetrade from 14 percent in 1985–89 to 18 per-cent in 1995–98 (figure 3.1 right). From a re-gional perspective, Europe and Central Asia(ECA) and East Asia and Pacific (EAP) in-creased their services exports by a factor of six;South Asia (SAR) and Latin America and theCaribbean (LAC) kept up with world growth;and Sub-Saharan Africa (SSA) and the MiddleEast and North Africa (MNA) lagged behind.Even so, most trade in services still takes placebetween rich countries.

Over the last two decades, there has been asignificant decline in the relative importance oftransport services in total services exports—from around one-third to around one-fifth oftotal exports—which may in part reflect a de-cline in the relative price of transport services

T R A D E I N S E R V I C E S : U S I N G O P E N N E S S T O G R O W

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Figure 3.1 Trade in services has grownfaster than trade in goods—

—and developing countries share in world exports have increased, 1986–98

Note: Population estimate from a sample of 100 countries forperiod 1985–98. Figure for 1999 is estimate from 69 countries.World trade defined as (X+|M|)/2Source: IMF BoP Rev. 5, through SIMA; EPPG staffcalculations.

Note: Population estimate from a sample of 100 countries.Source: IMF BoP Rev. 5, through SIMA; EPPG staffcalculations.

(compound growth, 1985=1) Percent

3.5Services

Goods

3.0

2.5

2.0

1.5

1.0

1985 1987 1989 1981 1993 1995 1997 1999

10.0

1986 1990

18.0

20.6

14.0

18.3

13.7

17.518.0

22.0

1995 1998

12.5

15.0

17.5

20.0

22.5

25.0

GoodsServices

(figure 3.2). While the 1980s witnessed agrowth in the relative importance of travel, the1990s witnessed a significant increase in theshare of other commercial services. Detailed in-formation on this last category is not availablefor most countries. Estimates suggest that fi-nancial services are probably the most impor-tant, followed by construction, communications,and computer and information services.

Most FDI in services goes to OECD economies— A large amount of “trade” in services takesplace through an established presence, for ex-ample through foreign direct investment (FDI).The available evidence suggests that commer-cial presence has been the most dynamic modeof services supply in recent years.4 This may re-flect the fact that there has been far greater lib-eralization of foreign investment than of cross-border supply of services, which was eitheralready open or did not witness significant newopening. At the level of individual sectors, de-spite the growing use of information and com-munications technology, commercial presence

is the dominant mode of supply in all sectorsexcept transport, and to a more limited extenttelecommunications.5

—but the growth rates of FDI flows todeveloping countries are higherThe limited evidence available suggests that thebulk of FDI stocks are in the Organisation forEconomic Co-operation Development (OECD)countries (figure 3.3). However, over the pe-riod 1988–97, stocks in developing countrieshave witnessed much faster rates of growth,increasing ten-fold in EAP, seven-fold in SSA,and five-fold in LAC, compared to a three-foldincrease in the OECD.6 The only exceptionsare the three countries in SSA for which dataare available, where the stock declined by ahalf. In all regions except SSA, the services sec-tor now accounts for nearly half of the entireFDI stock—from 1988 levels of less than one-fifth in LAC and less than one-third in SAS.The limited information on sectoral composi-tion of FDI stocks suggests that nearly half thestock in SAS is in financial services, whereasthe stocks in EAP and LAC are more uniformly


72

Figure 3.2 Transport has declined, while“other” services have increased

“Other” services

Note: Population estimate from a sample of 89 countries.Source: IMF BoP Rev. 5, through SIMA; EPPG staffcalculations.

Source: Trade Handbook, based on IMF BoP rev. 5.

Percent of world total services exports

Communications5% Construction

7%Insurance

5%

Financial10%

Personal, cultural,and recreational

3%

Computer andinformation

5%

Royalties andlicense fees

12%

Otherbusinesses

53%

0Transport Travel Other

10

20

30

40

50

198019901998

distributed across finance, transport, storageand communications, hotels and restaurants,real estate, and other business services.

Developing countries are becoming playersin exporting servicesWhile some developing countries are increas-ingly investing in other countries to exportservices—for example, Malaysia in environmen-tal services, and South Africa in telecommunica-tions—most supply services via cross bordersales (for example, data processing), to visitingforeign consumers (for example, tourism), andthrough the movement abroad of individualservices providers (for example, professionalservices). Developments in information andcommunication technology have dramaticallyincreased the scope for cross-border exports ofservices, ranging from software development inthe Philippines to data processing in Barbados.Rough estimates suggest that the size of the po-tential market for developing-country exports oflong-distance services could be in the range of 1to 5 percent of the total employment in servicesin the seven richest economies—implying ex-

ports valued at between $40 billion and $120billion (World Bank 1995). This mode of deliv-ery is still free of explicit barriers, though regu-latory barriers may impede trade (see box 3.2).

One of the most striking recent examples of a developing-country service export successstory is the Indian software industry. Indiansoftware exports grew from $225 million in1992–93 to $1.75 billion in 1997–98 (at anannual growth rate of approximately 50 per-cent).7 A recent report projects annual rev-enues of $87 billion, 2.2 million jobs, and amarket capitalization of $225 billion for theIndian information technology (IT) sector bythe year 2008.8 By the same year, the IT sectorcould account for 35 percent of India’s ex-ports and attract $5 billion of FDI per year.

These figures are not implausible becauseIndia still accounts for only half a percent ofthe world software market, and there are stillwide differences across countries in the cost of software development and support. The av-erage cost per line of code in Germany (themost expensive country) exceeds by more thanfour times that of India (the cheapest country)


73

Figure 3.3 FDI in services is concentratedin the OECD countries—

—but the growth rates are higher formany developing countries

Source: UNCTAD, FDI/TNC database.

Billions of dollars Simple average compound annual growth rates

0Sub-Saharan

AfricaSouthAsia

LatinAmericaand the

Caribbean

East Asiaand

Pacific

OECD

911.4

304.5

8.9

10146.6

9.47.21.2 0.6 0.8

10.39.5

46.4

38.1

28.3

–4.2

15.3

–2.2

31.7

25.7

100

200

300

400

500

600

700

800

900

1,000

0

Sub-SaharanAfrica

LatinAmericaand the

Caribbean

SouthAsia

East Asiaand

Pacific

OECD–10

10

20

30

40

5019881997

ServicesAll industry


74

Domestic regulations that affect trade pose themain challenge to ensuring open conditions for

electronic delivery of services. Two examples illus-trate how difficult it is to distinguish between regula-tions that incidentally impede trade in the pursuit oflegitimate objectives and regulations that deliberatelydiscriminate against foreign provision for the sake ofprotection.

PrivacyAn issue that could have a profound effect on elec-tronic commerce is privacy. In late 1998, the Euro-pean Union issued a wide-ranging directive that aimsto safeguard the privacy of personal data of EU citi-zens and prevent its misuse worldwide. It is backedby the power to cut off data flows to countries thatthe EU judges not to have adequate data protectionrules and enforcement. The directive caused frictionswith the US, which accused the EU of trying to im-pose laws beyond its own frontiers. A compromisewas reached under which the US agreed to set up ar-rangements for the processing by companies ofpersonal data from the EU, but the issue has notbeen fully resolved.

The issue could have an impact on developingcountries exports of data processing services, andposes a difficult choice for these countries. If theychoose not to enact laws deemed adequate, theycould be shut off from participation in this growingmarket. In the absence of such laws and given theweakness of local legal systems, it might be difficultfor private firms in developing countries to emulateUnited States firms like Microsoft and credibly com-mit to meet the required high standards.

If they do enact stringent laws, it is unlikely thatthey could be made specific to trade with particularjurisdictions, and so the result could be an economy-wide increase in the costs of doing business. For in-stance, if private sector estimates generated in theUnited States are to be believed, information sharingsaves the customers of 90 financial institutions(accounting for 30 percent of industry revenues),$17 billion a year ($195 per average customerhousehold) and 320 million hours annually (4 hoursper average customer household) (Glassman, 2000).

Box 3.2 Whose regulations and for what purpose?Challenges in electronic commerce

It is of course true that reporting of personal credithistories is critical to consumer credit, and, even intheory, excessively, strict privacy laws could createsignificant asymmetries of information and affect theefficiency of markets (Kitchenman, 1999). This isnot to suggest that there might not be good reasonsto protect privacy. However, achieving diverse na-tional objectives without creating unnecessary im-pediments to trade is ideally accomplished through amultilateral process in which developing countriesparticipate.

Offshore financial servicesSeveral Caribbean countries have become off-shorefinancial services centers. However, in recent years,their tax and regulatory regimes have drawn fire andelicited increased scrutiny. For example, the FinancialStability Forum (FSF), which assesses conformity withinternational regulatory standards (including cross-border cooperation) placed many of the Caribbeanoffshore centers in the lowest category; the FinancialAction Task Force (FATF), which is concerned withprotecting financial systems from money launderingand criminal use, placed a number of Caribbean cen-ters in its list of “non-cooperative jurisdictions,” fromthe standpoint of willingness to cooperate with theFATF on the basis of a list of its own criteria; and thecountries also attracted the attention of the OECDfor tax practices deemed harmful.

While the regulatory objectives are legitimate,several concerns have been raised about these initia-tives. First, most developing countries have not par-ticipated in the development of the standards thatare being applied. Second, the standards are not al-ways applied uniformly. For example, the FATF ap-plies the FATF 40 Criteria when conducting mutualevaluations of its members, but uses a different stan-dard, the FATF 25 Criteria, to assess jurisdictionsthat are not FATF members. Third, in some cases theassessment processes are not transparent. For exam-ple, the FSF does not specify how a country classifiedin a low category can improve standards and gradu-ate to a higher category. And FATF deliberations de-termining “non-cooperative jurisdictions” are held inclosed sessions. Finally, the evaluation processes are

(figure 3.4). Against the background of a totalmarket for software services worth about $58billion in the United States, $42 billion in Eu-rope, and $10 billion in Japan, cost savingscould well be substantial.9 Other gains fromtrade liberalization include a more competitivemarket structure for software services, increasedchoice (because countries may develop a specialexpertise for certain development or supportservices), and greater diffusion of knowledge.

The movement of service-supplying person-nel remains a crucial means of delivery. Eventhough the share of on-shore services in totalIndian software exports has been in continu-ous decline (in 1988, the percentage of on-sitedevelopment was almost as high as 90 per-cent), about 60 percent of Indian exports arestill supplied through the temporary movementof programmers to the client’s site overseas.10

Barriers to mode four deprive both homeand host country of benefits Many more developing countries could “ex-port” at least the significant labor componentof services such as construction, distribution,environmental, and transport with greater lib-eralization in the movement of individuals(mode four). If the movement is temporary,then we can be fairly confident that both thehost and home country will gain. For export-ing countries, it is clear that both the financialand knowledge benefits would be greatest ifservice suppliers return home after a certainperiod abroad.11 For importing countries, such

temporary movement should create fewer so-cial and political problems than immigration.

Today, many different barriers constrain themovement of individuals. The most obviousbarriers are explicit quotas or economic needstests—for example, requirements that employ-ers take timely and significant steps to recruitand retain sufficient national workers in thespecialty occupation and that no worker hasbeen laid off for a certain period preceding andfollowing the filing of any work permit or visaapplication.12 Then the many formalities (for


75

Figure 3.4 Software is cheaper todevelop in IndiaCost per line of code (dollars)

Source: Adapted from Rubin (1999).

$25

$15

$10

$5

$0India

$5

$10 $10

$18

$22

$.30 $.60 $.60 $1.10 $1.30

Italy Ireland UnitedStates

Germany

$20

DevelopmentSupport

in some instances not voluntary and involve a “nameand shame” approach to induce compliance.

These issues have provoked continuing discus-sions in the international financial institutions andother fora, but much work needs to be done beforeinternational consensus can be established. The Bankand the Fund are assisting many jurisdictions to as-sess their compliance with international standards

Box 3.2 (continued)

with the aim to help them address any underlyingweaknesses. Key in this is the Bank-Fund Compre-hensive Financial Sector Assessment Programs andthe recent IMF-led program of voluntary off-shore fi-nancial center assessments. Several Caribbean off-shore financial centers have endorsed these initiatives.

Source: Bank staff.

example, to obtain a visa) make red tape re-lated to FDI seem trivial by comparison. Theentry of foreigners can be impeded by non-recognition of their professional qualifications,burdensome licensing requirements, or by theimposition of discriminatory standards on them.The requirement of registration with, or mem-bership of, professional organizations can alsoconstitute an obstacle for a person wishing toprovide the service on a temporary basis.

Health services could be an area ofcomparative advantage—Health services are another area in which de-veloping countries could become major ex-porters, either by attracting foreign patients todomestic hospitals and doctors, or by tem-porarily sending their health personnel abroad.In Cuba, the government’s strategy is to convertCuba into a world medical power. SERVIMED,a trading company created by the government,prepares health and tourism packages. During1995–96 25,000 patients and 1,500 studentswent to Cuba for treatment and training re-spectively, and income earned from sales ofhealth services to foreigners was $25 million.Cost savings for patients and health insurerscan be significant. For example, the cost ofcoronary bypass surgery could be as low as70,000 to 100,000 Indian rupees in India, about5 percent of the cost in developed countries.Similarly, the cost of a liver transplant in India isone-tenth of that in the United States (UNCTADand WHO 1998).

—but will require greater portability ofinsuranceA major barrier to consumption abroad (modetwo) of medical services is the lack of portabilityof health insurance. For example, U.S. federal orstate government reimbursement of medical ex-penses is limited to licensed, certified facilities inthe United States or in a specific U.S. state. Thelack of long-term portability of health coveragefor retirees from OECD countries is also one ofthe major constraints to trade. In the UnitedStates for instance, Medicare covers virtually noservices delivered abroad. Other nations may

extend coverage abroad, but only for limited pe-riods (two or three months). This constraint issignificant because it tends to deter some elderlypersons from traveling or retiring abroad. Thosewho do retire abroad are often forced to returnhome to obtain affordable medical care. If indi-vidual concerns about the quality of care re-ceived abroad are addressed, then the potentialimpact of permitting portability could be sub-stantial. If only 3 percent of the 100 million el-derly persons living in OECD countries retiredto developing countries, they could bring withthem possibly $30 to $50 billion annually inpersonal consumption and $10 to $15 billion in medical expenditures (UNCTAD and WHO1998).

Service reforms can promoteefficiency and growth

Liberalization of trade in services, accom-panied by the reform of complementary

policies, can lead to sectoral and economy-wide improvements in performance.

At the sectoral level—Removing barriers to trade in services in a par-ticular sector is likely to lead to lower prices,improved quality, and greater variety. As in thecase of trade in goods, restrictions on tradereduce welfare because they create a wedgebetween domestic and foreign prices, leading toa loss to consumers that is greater than theincrease in producers’ surplus and governmentrevenue.13 Several empirical sectoral studiessupport this contention.14 Because many ser-vices are inputs into production, the inefficientsupply of such services acts as a tax on produc-tion and prevents the realization of significantgains in productivity. As countries reduce tariffsand other barriers to trade, effective rates ofprotection for manufacturing industries may be-come negative if they continue to be confrontedwith input prices that are higher than theywould be if services markets were competitive.15

A major benefit of liberalization is likely tobe access to a wider variety of services whoseproduction is subject to economies of scale.


76

Consumers derive not only a direct benefit fromdiversity in services such as restaurants and en-tertainment, but also an indirect benefit becausea wider variety of more specialized producerservices, such as telecommunications and fi-nance, can lower the costs of both goods andservices production (Ethier 1982; Copeland2001). In such circumstances, smaller marketscan be shown to have a strong interest in liber-alizing trade in producer services, since this canoffset some of the incentives that firms have tolocate in larger markets (Markusen 1989).16

—and economywide—Estimates of benefits vary for individual coun-tries—from under 1 percent to over 50 percentof gross domestic product (GDP)—dependingon the initial levels of protection and the as-sumed reduction in barriers.17 In simulations ofglobal service trade liberalization, developedcountries gain more in absolute terms—whichis not surprising given the relative size of theireconomies—but developing countries also seesignificant increases in their GDP. One modelpredicts gains of between 1.6 percent of GDP(for India) to 4.2 percent of GDP (for Thailand)if tariff-equivalents of protection were cut byone-third in all countries (Chadha and others2000). The gains from liberalizing services maybe substantially greater than those from liberal-izing trade in goods (box 3.3), because currentlevels of protection are higher and because lib-eralization would also create spillover benefitsfrom the required movement of capital andlabor. For instance, one model finds that thewelfare gains from a 50 percent cut in servicessector protection would be five times largerthan those from nonservices sector trade liber-alization (Robinson and others 1999). Theseresults are particularly striking because they arederived from models that do not fully allow forthe temporary movement of individual servicesuppliers—potentially a major source of gain.

—with accelerator effects on growthCertain services industries clearly possessgrowth-generating characteristics (see box 3.1).Furthermore, barriers to entry in a number of

services sectors, ranging from telecommunica-tions to professional services, are maintainednot only against foreign suppliers but alsoagainst new domestic suppliers. Full liberal-ization can, therefore, lead to enhanced com-petition from both domestic and foreign sup-pliers. Greater foreign factor participation andincreased competition together imply a largerscale of activity, and hence greater scope forgenerating the special growth-enhancing ef-fects.18 Even without scale effects, the importof foreign factors that characterizes servicessector liberalization could still have positiveeffects because they are likely to bring tech-nology with them.19 If greater technologytransfer accompanies services liberalization—either embodied in foreign direct investmentor disembodied—the growth effect will bestronger.20

Econometric evidence—relatively strong forthe financial sector and less strong but nev-ertheless statistically significant for the tele-communications sector—suggests that opennessin services influences long-run growth perfor-mance (figures 3.5 and 3.6). After controllingfor other determinants of growth, countries thatfully liberalized the financial services sectorgrew, on average, about 1 percentage pointfaster than other countries. An even greater im-petus on growth was found to come from fullyliberalizing both the telecommunications andthe financial services sectors. Estimates suggestthat countries that fully liberalized both sectorsgrew, on average, about 1.5 percentage pointsfaster than other countries. While these esti-mates indicate that there are substantial gainsfrom liberalizing key services sectors, it wouldbe wrong to infer that these gains can be real-ized by a mechanical opening up of servicesmarkets.

A flawed reform program can underminethe benefits of liberalizationIf privatization of state monopolies to privateowners (sometimes foreigners) is conductedwithout concern for creating conditions ofcompetition, the result may be merely transfersof monopoly rents to private owners. Similarly,


77

if increased entry into financial sectors is notaccompanied by adequate prudential supervi-sion and full competition, insider-lending andpoor investment decisions may result. Also, ifpolicies to ensure universal service are not put

in place, liberalization need not improve accessto essential services for the poor. Managing re-forms of services markets therefore requires in-tegrating trade opening with a careful combi-nation of competition and regulation.


78

The implications of services liberalization for theTunisian economy have been analyzed by Konan

and Maskus (2000) using a computable general equi-librium model. Using actual data as the foundation,they analyze the effect of liberalizing six service sec-tors: communications, construction, transportation,business and insurance, distribution, and finance.The Tunisian economy is relatively closed, and alsofaces constraints on its exports through the move-ment of individuals. The model is developed so as toconsider three different modes of liberalization: “im-port” liberalization of cross-border trade and theright of establishment by foreign investors, as well asincreased “exports” through cross-border movementof natural persons.

The main finding is that services liberalizationcould provide significant gains to Tunisia, with wel-fare gains equivalent to 7 percent of GDP. These aretwice as large as the gains the model predicts forTunisia from its preferential agreement with the EU.The largest benefits come from the liberalization offoreign investment in financial services, communica-tions, and transportation. Liberalization vitalizes theeconomy by eliminating inefficiency through in-creased international competition. Services are avail-able not only at lower prices but also in greater vari-eties through an increase in the number of firms thatwould operate in Tunisia. More efficient financial,communications, and transportation sectors are alsolikely to attract foreign firms to other industries inTunisia. As more and more foreign firms start to op-erate in Tunisia, the number of varieties of goodsand services made available to consumers and pro-ducers also increases, which further improves wel-fare. The possible cost in terms of restructuring theeconomy turns out to be small. For example, it ispredicted that a mere 3 percent of the workforcewould have to change sectors—a much lower figure

Box 3.3 Welfare gains from service liberalization:The case of Tunisia

than the 6.6 percent adjustment the model predictsas a consequence of the Tunisia-EU free trade agree-ment on goods trade. The gentler impact on thelabor market is a consequence of the fact that ser-vices liberalization induces foreign investment, sothat workers simply change employers within thesame sector. Finally, if Tunisia were to obtain a 20 percent increase in overseas permits for its guestworkers in foreign markets, then there would be anadditional gain in welfare equivalent to 0.4 percentof GDP.

Source: Konan and Maskus 2000.

Percentage change in GDP resulting fromliberalization of selected service sectors

Source: Konan and Maskus 2000.

0.0

Comm

unica

tions

Constr

uctio

n

Trans

porta

tion

Busine

ss

Distrib

ution

Financ

e

0.5

1.0

1.5

2.0

2.5

3.0

South Africa’s experience with liberalizingtelecommunications services is instructive. Thegovernment recognized the need for a moreefficient supply of services. It decided to sell a30 percent equity stake of the public incum-bent, Telkom, to a strategic investor and togrant the newly privatized entity a five-yearmonopoly period for fixed-line telephone ser-vices. It was hoped that market exclusivitywould facilitate rapid infrastructure rollout topreviously underserviced areas, but the pro-gram has had mixed results. Even though net-work growth picked up, Telkom did not meetits rollout obligations and sought to renegoti-ate the targets specified in its monopoly li-cense. The cost of the fixed-line monopolywas also reflected in Telkom’s rising price-costmargin, with gains in productivity leading tohigher margins rather than lower prices (Hodge1999). Finally, despite some improvement, la-


79

Figure 3.5 Services liberalization indices: telecoms & financial services

Note: The openness index for telecommunications captures the degree of competition, restrictions on ownership and theexistence of an independent regulator (needed to enable competitive entry), and draws on an ITU-World Bank database for 1998.The index for financial services captures the restrictions on new entry, foreign ownership and capital mobility, and draws primarilyupon commitments made by countries under the GATS, which are known to reflect closely actual policy, and data in the IMF’sAnnual Report on Exchange Arrangements and Exchange Restrictions.Source: Mattoo, Rathindran, and Subramanian 2001.

South Asia (3)

East Asia and Pacific (5)FinancialServices

Telecoms

0.0

Less restrictive

2.0 4.0 6.0 10.08.0

Eastern Europe and Central Asia (3)

South Asia (5)

East Asia and Pacific (8)

Latin America and Caribbean (21)

High Income (21)

Eastern Europe and Central Asia (3)

Latin America and Caribbean (18)

High Income (26)

Sub-Saharan Africa/Middle East and North Africa (17)

Sub-Saharan Africa/Middle East and North Africa (42)

�

Figure 3.6 Greater liberalization in services is associated with more rapid growthGrowth rate (adjusted for other factors)

Source: Mattoo, Rathindran, and Subramanian 2001.

–.024

Composite services liberalization1 8.5

.059

Linear prediction

ITA

NZL

SLV

PAN

PRT

FIN

ISL

ARG

CHE

ESP

BEL NLD

NOR USA

CAN SGP

EGY

FRA

SWE

GRC

GUY

AUS

GBR

AUT

CYP JAM

BOL

DNK

MLT

MWI

CRI

ZAF

TUR

MOZ

KEN

IND

MAR

VEN

MEX

PHL

NIC CHL

URY KOR

PER

MYS

ECU

AGO

THA

HND

COL

TUN LKA

BRA

IDN

DOM

bor productivity was only a quarter that of lead-ing international operators, with the lack ofcompetition in the domestic market identifiedas a major contributing factor. Continued re-strictions on domestic and foreign entry ap-pear to have prevented the realization of thefull benefits of competitive markets.

In addition to competition, the institutionaland regulatory framework plays a critical role.For example, in the 1990s financial reformswere introduced in many African countries,but have been less successful than expected(World Bank 2001a). Some of the reasons forthe disappointing results are directly related to the financial system, while others pertain to the general economic environment. The re-structuring of state-owned banks was not suf-ficient to change the behavior of the financialinstitutions. Public authorities still pressuredthese institutions to lend money to loss-mak-ing public enterprises. Liberalization failed totrigger competition in the banking sector andgovernments were generally reluctant to closedown distressed state banks. Furthermore, lib-eralization of interest rates in a setting charac-terized by uncontrolled fiscal deficits had a per-nicious effect on domestic public debt, which inturn led to larger deficits. Finally, and crucially,there was a lack of adequate regulation and su-pervision mechanisms to monitor the function-ing of the financial system.

The collapse of the Republic of Korea’s econ-omy in 1997 also reveals the precariousness offinancial liberalization in an imperfect policyenvironment. Korea did liberalize its financialmarkets substantially, but it encouraged thedevelopment of a highly fragile financial struc-ture.21 By liberalizing short-term foreign bor-rowing, the Korean authorities made it possi-ble for the larger and better-known banks andconglomerates (chaebols) to assume heavy in-debtedness in short-term foreign currency debt.Meanwhile, the second tier of large chaebolsgreatly increased their short-term indebtednessin the domestic financial markets (funded indi-rectly through foreign borrowing of the banks).The funds borrowed were being invested in theover-expansion of productive capacity. At the

same time, financial regulation and supervisionwere fragmented with responsibilities spreadunclearly between the Bank of Korea and sev-eral parts of the Ministry of Finance. In addi-tion, Korea had a restrictive regime in terms offoreign bank entry. Until the 1997 crisis, theKorean banking system was virtually closed toforeign banks, in contrast to some other EastAsian economies, such as Hong Kong (China),which was almost completely open for all fi-nancial services. This restrictive regime impededthe development of the local institutions, andmay have contributed to the large capital out-flows as foreign creditors refused to rollovertheir loans.

Liberalization could increase prices ofsome services for the poor—Opening up essential services to foreign or do-mestic competition could have an adverse ef-fect on the poor—which is often cited as a rea-son for the persistence of public monopolies.However, a more efficient solution is to haveregulations with a social purpose.

If a country is a relatively inefficient pro-ducer of a service, liberalization and the resul-tant foreign competition are likely to lead to adecline in domestic prices and improvement inquality. But there is a twist. Frequently, theprices before liberalization are not determinedby the market but set administratively, and arekept artificially low for certain categories ofend-users or types of services products. Thusrural borrowers may pay lower interest ratesthan urban borrowers, and prices of local tele-phone calls and public transport may be keptlower than the cost of provision.22 This struc-ture of prices is often sustained through cross-subsidization within public monopolies, orthrough government financial support.

Liberalization threatens these arrangements.Elimination of restrictions on entry imply anend to cross-subsidization, because it is nolonger possible for firms to make extranormalprofits in certain market segments. New en-trants may focus on the most profitable mar-ket segments (“cream-skimming”), such asurban areas, where network costs are lower


80

and incomes higher. And privatization couldmean the end of government support. The re-sult is that even though the sector becomesmore efficient and average prices decline, theprices for certain end-users may actually in-crease or availability decline, or both.

The evidence on the relationship betweencompetitive market structures and wider ac-cess to services is mixed. In some cases, a pos-itive relationship has been observed in servicessuch as basic telecommunications, especiallyin countries where initial conditions are fee-ble, as exemplified by a low teledensity or ser-vice rationing (long waiting lists for obtainingconnections). However, there is also evidencethat financial services liberalization in somecountries has had an adverse affect on accessto credit for rural areas and the poor.23 Thesepoint to the need to create mechanisms to en-sure that the poor have adequate access to ser-vices in liberalized markets.

—and entail adjustment costs Different modes of supply have different ef-fects on factor markets. Cross-border tradeand consumption abroad resemble goods tradein their implications. The impact of the move-ment of factors depends critically on whetherthe factors are substitutes or complements fordomestic factor services. Given the structure offactor prices in poor countries, we would typi-cally expect liberalization to lead to an inflowof capital and skilled workers. Such inflowswould tend to be to the advantage of the un-skilled poor, increasing their employment op-portunities and wages.24 Interestingly, it hasbeen shown that even when foreigners com-pete with local skilled workers in a services sec-tor, the productivity boost to the sector fromallowing foreigners access could lead to an in-crease in the demand for domestic skilledworkers—the scale effect could outweigh thesubstitution effect (Markusen, Rutherford, andTarr 2000). Given these predictions, why areworkers in developing countries sometimesskeptical about the benefits of liberalization?One concern is the possible reduction in em-ployment in formerly public monopolies that

have frequently employed surplus labor. Forexample, Alexander and Estache (1999) findthat the privatization of electricity distributionin Argentina led to a 40 percent reduction inthe workforce after privatization.

But there is also evidence that pessimismmay not always be justified. For example, anumber of developing countries have managedto maintain or even increase employment intheir liberalized telecommunications sectors.Since many developing countries have low tele-densities (in the vicinity of five lines per 100people), roughly 70 percent of telecom invest-ment in developing countries is directed to-ward building wire line and mobile networks,which are labor intensive and hence help main-tain or raise employment levels. Petrazzini andLovelock (1996) find in a study of 26 LatinAmerican and Asian economies that telecommarkets with competition were the only onesthat consistently increased employment levels,while two-thirds of the countries with monop-olies saw considerable declines in their telecomworkforce.25 Nonetheless, reform programs willgenerally require complementary policies to miti-gate any social and economic costs of adjust-ment in factor markets.

Domestic policy: emphasizingcompetition and regulation

Increasing competition is the first order of businessMany developing countries have moved awayfrom public monopolies in sectors such as com-munications, financial, and transport services,but are still reluctant to allow unrestricted newentry. Privatization does not axiomatically meangreater competition. Restrictions on foreignpresence assume particular significance in thecase of services where cross-border delivery isnot possible, because consumer prices then de-pend completely on the domestic market struc-ture. Several studies have concluded that largerwelfare gains arise from an increase in competi-tion than from a simple change in ownershipfrom public to private hands (Armstrong and


81

others 1994). Foreign investment clearly bringsbenefits even in situations where it does not leadto enhanced competition. Foreign equity mayrelax a capital constraint, can help ensure thatweak domestic firms are bolstered (for example,via recapitalizing financial institutions), andserve as a vehicle for transferring technologyand know-how, including improved manage-ment. However, if restrictions on competitionartificially inflate the returns on investment, thenet returns to the host country may be negative.

Are there good reasons to limit entry? Insome cases, technical limitations may preventcompetition—such as those imposed by thescarcity of radio spectrum needed for the pro-vision of mobile telecommunications services,and scarcity of space for department stores orairports in a city. More generally, entry restric-tions might be justified by the existence of sig-nificant economies of scale. For example, ifthere are substantial fixed costs of networks,competitive entry could lead to inefficient net-work duplication.26 However, entry restrictionsare increasingly hard to defend in principle, inthe face of technological change and in the faceof mounting evidence that competition works.

First of all, entry restrictions change the na-ture of interaction between incumbents andmay well make collusion more likely. Second,such restrictions dampen the impact of compe-tition on productive efficiency. Third, the reg-ulator is usually not better placed than thecompetitive process to determine the optimalnumber of firms in the market, especially giventhe difficulty of obtaining information aboutthe cost structure of firms and other sources ofregulatory failure. Furthermore, technologicaladvances have significantly lowered networkcosts in a unisector such as telecommunica-tions, and vertical separation (for example,through network unbundling) has widened thescope for competitive entry (Smith 1995).Therefore inefficiencies introduced by duplica-tion of networks may be small compared tooperational inefficiencies that can result froma lack of competitive pressure.27 For example,even in telecommunications, a sector where

fixed costs are significant, countries in LatinAmerica that granted monopoly privileges totelecom operators of six to ten years to the pri-vatized state enterprises saw connections growat one and a half times the rate achieved understate monopolies, but only half the rate inChile, where the government retained the rightto issue competing licenses at any time (Welle-nius 1997). A recent study of countries in Asiafound that the largest increases in mainlinepenetration and productivity were witnessedin countries where a change of ownership wasaccompanied by the introduction of competi-tion and the strengthening of regulation (Finkand others 2001).

Efficient regulation: Making competition workRegulation in services, as in goods, arises es-sentially from market failure, which is attrib-utable to the problems of natural monopolyand inadequate consumer information, andfrom considerations of equity and protectingthe poor.

The existence of natural monopoly or oli-gopoly is a feature of the so-called locationalservices. Such services require specialized dis-tribution networks: roads and rails for landtransport, cables and satellites for communica-tions, and pipes for sewerage and energy dis-tribution (UNCTAD; and World Bank 1994).

Many countries have instituted indepen-dent regulators for basic telecommunicationsservices to ensure that monopolistic suppliersdo not undermine market access by chargingprohibitive rates for interconnection to theirestablished networks (see box 3.4).28 A simi-lar approach is being taken in a variety ofother network services, including transport(terminals and infrastructure), and energy ser-vices (distribution networks).

Regulation of the interconnection price maynot, however, be sufficient. Small markets maynot be able to create conditions for effectivecompetition in the supplies of certain telecom-munications, transport, and financial services,even if they eliminate all barriers to entry—for


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two related reasons. First, with services, unlikein the case of goods, national markets are oftensegmented from the international market dueto the infeasibility of cross-border delivery. Sec-

ond, changing technologies may have reducedthe optimal scale of operation as well as sunkcosts in these sectors, but not enough for smallmarkets to sustain competitive market struc-


83

It is now widely recognized that in basic telecom-munications procompetitive regulation is needed to

deliver effective competition and gains from liberal-ization. But the experience of different countries re-veals a range of political and economic difficultiesthat are only gradually being overcome.

In India a conflict between the department of telecommunications (DOT) and the regulatoryagency, Telecommunications Regulatory Authority ofIndia (TRAI), as it was initially constituted, hamperedprogress toward an efficient telecom infrastructure.Underlying a number of these problems was theDOT’s joint role in awarding licenses for both basicand cellular services while remaining as the maintelecommunications service provider. Absent an inde-pendent regulator, empowered to rebalance tariffs,enforce fair interconnection agreements, and ensurerapid, equitable issuance of radio spectrum, the bene-fits of a sector opened to allow private participationand foreign investment were significantly limited.

The government announced a new telecom-munications policy on March 26, 1999 that ad-dressed several of these key outstanding issues. TheDOT’s policymaking and service provision functionswere separated, and the operations arm was corpora-tized. TRAI was reconstituted in 2000, and its dis-pute resolution powers are now vested in a newquasi-judicial agency. The authority announced a newtelephone tariffs decision that will substantially re-structure telephone service prices over a three-yearperiod, significantly improving incentives for localnetwork investment. The regulator has also pro-grammed an agenda of activity to address severalother important regulatory matters, such as intercon-nection arrangements; a numbering plan; quality ofservice; rules of business; and customer satisfaction.

For smaller countries, a different problem arises:the creation and operation of an efficient regulatoryagency involves substantial fixed costs that could

Box 3.4 Challenges in implementing procompetitive regulation

place a significant resource burden. Apart from spec-trum monitoring equipment, computers, and pro-grams, there is the cost of professional assistance foractivities such as interconnection, cost estimation, andspectrum management. For example, the total cost of government in Dominica is $41 million a year,whereas the budget of the U.S. telecom regulator (theFederal Communications Commission) runs to $210 ayear. It is estimated that even a bare-bones regulatoryauthority is likely to cost in the region $2 million eachyear, or 5 percent of Dominica’s government budget.

In response to these problems, in May 2000, St Lucia, Dominica, Grenada, St Vincent and theGrenadines, and St Kitts and Nevis set up, withWorld Bank support, the Eastern Caribbean Tele-communications Authority (ECTEL), the first re-gional telecommunications authority in the world.ECTEL is in the process of developing from a legalentity into a functioning institution. Although themember countries will retain their sovereign powerover licensing and regulation, ECTEL will providetechnical expertise, advice, and support for nationalregulations. Apart from the economies of scale in es-tablishing a common regulator, there are at leastthree other advantages. It will promote the develop-ment of harmonized and transparent regulation inthe region, allow for a greater degree of indepen-dence (and hence credibility) in regulatory advice,and enhance bargaining power in negotiations withincumbents and potential entrants. In fact, there isevidence that the creation of ECTEL, along withother reforms, has already prompted a decline in theprices of telecommunication services in the region.One example is that the per-minute cost of a daytimecall to the United States has fallen between 24 and42 percent in these countries.

Source: DeFreitas, Kenny, and Schware 2001; and World Bankstaff.

tures. Some form of final price regulation may,therefore, be unavoidable. In some cases, suchregulation can be implemented at the nationallevel although, in practice, many developingcountries today lack the means to do so. Inother cases, the limited enforcement capacity ofsmall states strengthens the case for multilat-eral initiatives.29

Regulation to remedy inadequateconsumer information In many intermediation and knowledge-basedservices, consumers have difficulty securing fullinformation about the quality of service they arebuying (UNCTAD and World Bank 1994). Con-sumers cannot easily assess the competence ofprofessionals such as doctors and lawyers, thesafety of transport services, or the soundness ofbanks and insurance companies. When such in-formation is costly to obtain and disseminate,and consumers have similar preferences about therelevant attributes of the service supplier, the reg-ulation of entry and operations in a sector couldincrease social welfare. However, the establish-ment of institutions competent to regulate well isa serious challenge, as is revealed by the difficul-ties in the financial sector—not only in a numberof developing countries but also in the UnitedStates, Sweden, and Finland in the 1980s and1990s. The fact that regulatory inadequacies can-not be quickly remedied raises the issue of howdifferent elements of reform—particularly pru-dential strengthening and trade and investmentliberalization—are best sequenced (see box 3.5).

A separate problem is that domestic regula-tions to deal with the market failure may them-selves become impediments to competition andtrade, as a result of differences across jurisdic-tions in technical standards, prudential regula-tions, and qualification requirements in profes-sional, financial, and numerous other services(see box 3.2). In many cases, the impact ontrade is an incidental consequence of the pur-suit of a legitimate objective, but in some casesregulation can be a particularly attractivemeans of protecting domestic suppliers fromforeign competition.30 The issue of how multi-lateral trade rules might sift the legitimate from

the protectionist is an issue to which we returnin the final section of this chapter.

Regulation to ensure universal service Reform programs can accommodate universalservice obligations by imposing this require-ment on new entrants in a nondiscriminatoryway. Thus such obligations were part of thelicense conditions for new entrants into thefixed network telephony and transport in sev-eral countries. However, subsidies have oftenproved more successful than direct regulationin ensuring universal access (Estache and oth-ers 2001).31 In 1999, Peru adopted a universalservice levy of 1 percent to finance a fund ded-icated to providing universal access in remoteareas. Funds were allocated through a com-petitive bidding process that encouraged oper-ators to adopt the best technology and othercost-saving practices at minimum subsidy. TheChilean government adopted a similar schemethat permitted it to leverage over $2 million inpublic funds into $40 million in private in-vestment; this resulted in installation of tele-phones in 1,000 localities at about 10 percentof the costs of direct public provision. House-hold ownership of a telephone in Chile in-creased from 16 to 74 percent from 1988 to2000, and all but 1 percent of the remaininghouseholds were provided with public accessto telephones.

Public subsidies may also be directed to theconsumer rather than the provider (Cowheyand Klimenko 1999). Governments have ex-perimented with various forms of vouchers,from education to energy services. This last in-strument has at least three advantages: first, itcan be targeted more directly to those who needthe service and cannot afford it; second, itavoids the distortions that arise from artificiallylow pricing of services to ensure access; and fi-nally, it is an instrument that does not discrim-inate in any way between providers. Of course,no single approach will fit all sectors and coun-tries, and the appropriate model to ensure ser-vice delivery to low-income groups will dependon local circumstances, particularly regulatorycapacity.


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85

Financial reform is especially complicated. It isuseful to distinguish three types of financial liber-

alization and the scope of each.

• Domestic financial liberalization allows marketforces to work by eliminating controls on lendingand deposit rates and on credit allocation and,more generally, by reducing the role of the state inthe domestic financial system.

• Capital account liberalization removes controls on the movement of capital in and out of acountry and restrictions on the convertibility ofcurrency.

• Internationalization of financial services eliminatesdiscrimination in treatment between foreign anddomestic financial services providers, and removesbarriers to the cross-border provision of financialservices.

Internationalization has raised several fears: thethreat to the survival of local banks and financialcompanies; the loss of monetary autonomy; and theincreased volatility of capital flows. Many of theseconcerns do not relate just to internationalization offinancial services, but also to the processes of finan-cial deregulation and capital account liberalization.But the extent of benefits and costs of international-ization depends, to a great extent, on how it isphased in with these other two types of financial re-form, and, in particular, the strengthening of pruden-tial regulation and supervision.

Many countries that have successful experiencesopening up to foreign financial firms (Brazil, Chile,Hungary, Ireland, Poland, Portugal, Spain, and others)also engaged in a process of domestic deregulationand, consequently, reaped substantial gains (WorldBank 2001b). The experience of the countries acced-ing to the EU suggests that internationalization anddomestic deregulation can be mutually reinforcing.Increased foreign entry bolstered the financial sectorframework by creating a constituency for improvedregulation and supervision, better disclosure rules, andimprovements in the legal and regulatory frameworkfor the provision of financial services. It also added tothe credibility of rules. These benefits of opening up toforeign entry followed from both top-down actions onthe part of government, as well as from bottom-up

Box 3.5 Financial sector liberalization:the need for policy coherence

pressures from the market as best international prac-tices and experiences were introduced.

While the two reform processes (international-ization and domestic financial deregulation) are mu-tually reinforcing, they are not sufficient in them-selves. More than in other sectors, the gains andcosts of financial reform depend on the regulatoryand supervisory framework, (Barth and others2001). Experience shows that it is vital to strengthenthe supporting institutional framework in parallelwith domestic deregulation and internationalization.In the absence of such strengthening, foreign entrymay entail risks. Foreign bank entry can destabilizelocal banks by taking away the lowest risk busi-ness—including large, exporting firms—leaving localbanks to venture further out on the risk frontier.Also several countries, especially in Africa, discov-ered with the failure of banks—such as BCCI andMeridien—that a foreign name did not guaranteesafety and soundness even when these foreign bankswere operating in industrial economies or had someownership links with reputable foreign sources.

Having a supportive institutional framework iseven more obvious when it comes to capital accountliberalization. Experiences in the past, most recentlyin Asia, have shown that achieving the potentialgains, and avoiding the risks, of capital account liber-alization depend to a great extent on whether domes-tic institutions and prudential authorities have devel-oped sufficiently to ensure that foreign finance will bechanneled in productive directions (Eichengreen forth-coming). Recent experiences also shows the potentialbenefits of foreign financial institutions in stabilizingcapital flows. Several countries with significant for-eign presence, such as Argentina and Mexico, bene-fited from the access of these institutions to foreigncapital during periods of economic presence (Dages,Goldberg, and Kinney 2000). More generally, studiesshow that diversity in ownership contributes togreater stability of credit in times of crises (Barth andothers 2000a; b); and La Porta and others 2000). Inso far as foreign presence leads to a stronger regula-tory and supervisory framework, it contributes tomaking capital account liberalization and internation-alization mutually reinforcing.


Multilateral engagement:Buttressing domestic reforms

In principle, a country can liberalize its mar-kets and strengthen its regulatory institu-

tions unilaterally, but four types of issues cre-ate benefits from multilateral engagement.First, liberalization may be constrained by do-mestic opposition from those who benefit fromprotection. Second, a country cannot on itsown improve access for its exports to foreignmarkets. Third, a small country may not beable to deal adequately with anticompetitivepractices by foreign suppliers. Finally, a coun-try may lack the expertise and resources to de-vise and implement optimal policy, especiallyin the area of domestic regulation.

The WTO is the natural forum to pit thefirst two elements—opposition to reform athome and barriers to access abroad—againsteach other constructively through the processof mercantilist negotiations. But there is also a need for complementary multilateral efforts

to ensure that the gains from liberalization are not undermined by inadequacies in policychoice and regulation.

Using the current round of GATSnegotiations to deliver liberalization athome and access to markets abroadThe General Agreement on Trade in Services(GATS) had a deliberately symmetric struc-ture, encompassing the movement of bothcapital and labor for services provision. In the-ory, developed and developing countries couldindeed bargain to exploit their modal compar-ative advantage: improved access for capitalfrom developed countries being exchanged forimproved temporary access for individual ser-vice providers from developing countries. Inpractice, all countries have been unwilling togrant greater access for foreign individuals(except for the limited class of skilled intra-corporate transferees), and a tradeoff betweenmodes of delivery simply has not occurred


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Figure 3.7 WTO members have been reluctant to make market access commitments on themovement of natural persons (Mode 4)

0

Note: Calculated on the basis of a sample of 37 sectors deemed representative for various services sectors.Source: See WTO Document S/C/W/99, March 2, 1999.

LegendThe upper part of each bar represents partial commitments, the lower part full commitments.DC = Developed countriesLDC = Developing and transition economiesAC = Acceding countries

DC LDC ACMode 4

DC LDC ACMode 2

DC LDC ACMode 3

DC LDC ACMode 1

10

20

30

40

50

60

70

80

90

100

(figure 3.7). Moreover, even the negotiatinglinks across services sectors and between ser-vices and goods sectors do not seem to havebeen particularly fruitful. And so, since gov-ernments could not demonstrate improved ac-cess to foreign markets as a payoff for domes-tic reform, GATS commitments reflect for themost part the existing levels of unilaterally de-termined policy—rather than liberalizationachieved through a reciprocal exchange of“concessions.”32

This may change with time. With severeshortages of skilled labor in the United Statesand Europe and the powerful constituency ofhigh-technology companies lobbying for re-laxation of visa limits, the prospects for seri-ous intermodal tradeoffs—such as obtainingtemporary labor movement in return for al-lowing greater commercial presence for for-eign service providers—are now greater. Thechallenge is, first, to devise mechanisms thatprovide credible assurance that movement istemporary rather than a stepping-stone to mi-gration; and second, to devise negotiating for-mulae that credibly link Mode 4 liberalizationto reductions in restrictions in other areas.

Strengthening GATS rules and commitmentsIn line with the WTO’s central concern withsecuring market access, it would also be nat-ural to use the GATS to enhance the credibil-ity of policy at home and security of access tomarkets abroad through legally binding com-mitments; to ensure that domestic regulationssupport trade liberalization; and to prevent dis-crimination between trading partners by ensur-ing effective application of the most-favorednation (MFN) principle.33

First, the GATS could help secure access tomarkets that are already open. Trade in elec-tronically delivered products, in which moreand more developing countries are beginningto participate, must continue to remain free of explicit barriers—should such barriers everbecome feasible. It would be far more effectiveto widen and deepen commitments under theGATS on cross-border trade (see box 3.6).

At home, policies that are believed in aremost likely to succeed. Developing countriesthemselves could take greater advantage of theopportunity offered by the GATS to lend credi-bility to reform by committing to maintain cur-rent levels of openness or to greater levels of fu-ture openness. In basic telecommunications, theone sector where countries have been willing tomake such commitments, there is evidence thatthe commitments have facilitated reform.

Developing countries have much to gainfrom stronger multilateral rules on domestic reg-ulations. Such rules can play a role in promotingand consolidating domestic regulatory reform,as happened to some degree in the telecommu-nications negotiations. The rules are also neededto equip developing-country exporters to ad-dress regulatory barriers in foreign markets inthe form of burdensome licensing and qualifica-tion requirements for professionals, or restric-tive standards in electronic commerce.

It is desirable also to remedy the currentweaknesses in the application of the MFNprinciple in the GATS. One obvious problemis the explicit departure from the MFN obli-gation through numerous MFN exemptionslisted by countries. Less visible, but potentiallymore serious, is the possibility of implicit dis-crimination through preferential recognitionagreements and allocation of quotas. Rules inthese areas need to be clarified and strength-ened to protect developing countries bothfrom discrimination in their export marketsand from pressure to grant particular foreignsuppliers privileged access to their markets—as, for instance, is reported to be happening inthe Chinese insurance market.

Dealing with anticompetitive practicesAnticompetitive practices that fall outside thejurisdiction of national competition laws maybe important in sectors such as maritime, airtransport, and communication services. Thecurrent GATS provision in this area providesonly for information exchange and consulta-tion. Strengthened multilateral rules are neededto reassure small countries with weak enforce-ment capacity that the gains from liberaliza-


87


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Trade in electronically delivered prod-ucts, in which more and more develop-

ing countries are beginning to participate,and which offers an increasingly viablealternative to the movement of individuals,is today largely free of explicit barriers. Themain concern should be preventing the in-troduction of new barriers if they becometechnically feasible. What is the best routeto preventing the imposition of explicit re-strictions, such as tariffs and quotas? (Theissue of regulatory barriers is discussed inbox 3.2.)

WTO Members have so far focused onprohibiting the imposition of customs du-ties on electronically delivered products. Itis ironic that considerable negotiation en-ergy has been invested in prohibiting theeconomically superior (and probably notfeasible) instrument of protection whereaslittle attention has been devoted to inferior(and possibly more feasible) instrumentssuch as quotas and discriminatory internaltaxation. In any case, since the bulk of suchcommerce concerns services, open tradingconditions are more effectively securedthrough deeper and wider commitmentsunder the GATS on cross-border trade re-garding market access (which would pre-clude quantitative restrictions) and nationaltreatment (which would preclude all formsof discriminatory taxation).

There is considerable scope for an im-provement in such commitments. For instance indata processing, of the total WTO Membership ofover 130, only 66 Members have made commit-ments; and only around two-thirds of these commit-ments guarantee unrestricted market access. Manydeveloping countries have not made sectoral commit-ments, but the commitments of the few which have,are frequently superior to those of developed coun-tries. It is particularly striking that in some of thecore financial services, about a third of the develop-ing countries which have made commitments guaran-tee unrestricted cross-border supply, whereas none ofthe 26 developed countries does so. Developingcountries have also been more forthcoming than de-veloped countries in audiovisual and entertainmentservices. One possible approach to improving com-

Box 3.6 Ensuring barrier-free trade in electronicallydelivered products

mitments would be for all Members to agree that norestrictions would be imposed on cross-border deliv-ery, either of all services or of a bundle whose com-position could be negotiated.

These commitments have additional value be-cause other GATS disciplines, for example, on do-mestic regulations, would only meaningfully kick inonce these commitments are in place. For instance, ifthere were excessively restrictive regulatory barriersto cross-border trade in the core banking services indeveloped countries, it would be difficult today tochallenge them, since these countries have not evencommitted to provide market access and nationaltreatment.

Source: Mattoo and Schuknecht 2000.

Commitments on cross-border supply in selectedservices sectors

Source: World Trade Organization.

*Number of countries with commitments.Full Partial

Dataprocessing services

Voicetelephone services

Online info anddatabase retrieval

Audiovisualservices

Retailingservices

Adulteducation

Non-lifeinsurance

Acceptanceof deposits

Lending ofall types

Trading insecurities

Entertainmentservices

News agencyservices

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100%

26

C

DC

LDC 40

DC

LDC

25

51

DC

LDC

26

39

DC

LDC

4

40

DC

LD

25

19

DC

LDC

18

13

DC

LDC

26

48

DC

LDC

25

55

DC

LDC

25

54

DC

LDC

26

45

DC

LDC

17

22

DC

LDC

22

3

*

tion will not be appropriated by internationalcartels. For instance, the United States and theEU could begin by ending the exemption ofcooperative price-setting and related practicesin maritime transport from the scope of theircompetition law. Ending the exemption wouldenable a careful assessment by competition au-thorities of the social costs and benefits of thesecollusive arrangements. Competitive disciplinecould also be strengthened by creating a rightfor foreign consumers to challenge anticompet-itive practices by services firms in the nationalcourts of countries whose citizens own or con-trol these firms—a variant of the precedent inthe WTO rules on intellectual property and gov-ernment procurement.

Global cooperation to supportliberalizationBeyond WTO negotiations multilateral sup-port is needed at four levels: in devising soundpolicy, strengthening the regulatory environ-ment, enhancing developing country partici-pation in the development of internationalstandards, and ensuring access to essential ser-vices in the poorest areas.

While there is growing consensus on thebenefits of liberalization, there is less agree-ment on the precise route to liberalization.Certain issues have prompted differing strate-gies. Should all barriers to entry be eliminatedin sectors with significant economies of scale?How far should trade and investment liberal-ization be conditioned on strengthened pruden-tial regulation? Developing countries in partic-ular could benefit from the experience of othercountries on these issues—but the experienceswith electricity in California and rail transportin Britain suggest that there is scope for learn-ing in all countries. More work is needed at thenational and international levels to take stockof individual and cross-country experience toidentify the areas where there are clear pre-scriptions for policy and those where there is aneed for further research, and therefore for hu-mility in policy advice and formulation.

Sound domestic regulation—ranging fromprudential regulation in financial and profes-

sional services to procompetitive regulation ina variety of network-based services—is criticalto realizing the benefits of services liberaliza-tion. We have also seen that devising and im-plementing such regulation is not easy, andthat there are acute regulatory problems inmany developing countries. Regulatory insti-tutions can be costly and may require sophis-ticated skills. To some extent such costs can berecovered through fees or regional coopera-tion—but external assistance could help en-sure that adequate regulation is in place. Sometechnical assistance is already being provided,but often on an ad hoc basis either bilaterallyor through international organizations. Moresystematic efforts—along the lines of the Inte-grated Framework for least-developed coun-tries—are needed to assess the needs of indi-vidual developing countries and to ensure thatthe most appropriate assistance is provided inkey sectors.

Improvements in domestic standards andqualifications are also needed in order to ex-port services. For example, in the case of pro-fessional services, low standards and dispari-ties in domestic training and examinations canbecome a major impediment to obtaining for-eign recognition. Thus inadequacies in domes-tic regulation can legitimize external barriersto trade. At the same time, developing coun-tries need to participate more actively in thedevelopment of international regulations andstandards, especially in new areas such as elec-tronic commerce. Otherwise, standards couldevolve to reflect the concerns only of devel-oped countries and impede the participationof developing countries in services trade.

There will remain certain poor countries, orcertain regions within poor countries, whereimprovements in services policy and regulationwill not be sufficient to ensure access to es-sential services. The criterion for determiningwhether assistance is needed could be the ab-sence of private sector provision despite com-prehensive policy reform. International as-sistance effectiveness could be maximized byallocating it in a manner similar to that useddomestically by countries such as Chile and


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Peru to achieve universal service. For instance,once a country (or a region within a country)has been selected for assistance, funds—such asthose provided by certain countries to bridgethe digital divide—could be pooled and allo-cated through international competitive tendersto the firm that offers to provide the necessaryinfrastructure at least cost. Providing inter-national assistance in meeting the costs of therequired subsidy programs could increase thebenefits of, and facilitate, liberalization by en-suring that the needs of the poor would be met.

Notes1. There are, however, exceptions to each of these

characteristics of services: a software program on adiskette or an architect’s design on paper are both tan-gible and storable, many artistic performances are vis-ible, and automated cash-dispensing machines makeface-to-face contact between producers and consumersunnecessary. These exceptions do not, however, detractfrom the usefulness of the general definition of servicespresented above.

2. This view of trade originated in Bhagwati 1984and Sampson and Snape 1985, and has been formal-ized in the General Agreement on Trade in Services(GATS).

3. The invisibility and intangibility of most servicesimply that when they are delivered across borders, their passage is not recorded by a customs official. Dataon services are therefore unreliable and volatile. Fur-thermore, statisticians in most countries do not keeptrack of the sales of services by foreign investors or for-eign individuals who stay for longer than a year. Despitethese difficulties, it is possible to put together a roughpicture of trade in services by drawing on three com-plementary sources. The International Monetary Fund(IMF) balance of payments statistics are the only ser-vices trade statistics available on a global basis, andcapture cross-border supply, consumption abroad (aspart of the category “travel”), and some temporarymovement of service suppliers. The more limited UnitedNations Conference on Trade and Development (UNC-TAD) data on FDI in services capture the flows throughwhich commercial presence is established. Finally, theUnited States is the only country that has regularly col-lected data on the sales of services by foreign affiliates.

4. The United States is the only country that hasregularly compiled data on sales of services to foreignpersons by majority-owned foreign affiliates of U.S.companies, and on sales of services to U.S. persons by

majority-owned U.S. affiliates of foreign companies. Acomparison of the balance of payments and foreign af-filiates transactions reveals in broad terms the relativeimportance of sales through cross-border delivery andcommercial presence.

5. It must be borne in mind, though, that the rela-tive importance of trade by different modes in a par-ticular sector reflects the choices of economic agentsgiven the constraints of both technological feasibilityand policy restrictions.

6. The FDI data are extremely thin, with data miss-ing for many countries and only available for three SSAcountries.

7. See the National Association of Software andService Companies (NASSCOM) Web site <http://www.nasscom.org>. These exports consist mainly of stan-dardized coding and testing services.

8. This report was prepared by McKinsey andCompany for NASSCOM.

9. These figures were computed from WTO 1998,table 3. Data refer to 1997.

10. See http://www.nasscom.org. The dominance ofon-shore delivery is due, among other things, to a re-duction in information asymmetries with regard to theperformance of programmers, the need for continuousclient-developer interaction, and demands by Indianprogrammers to be sent abroad, in part to improvetheir skills and expose themselves to international mar-kets (see Heeks 1998).

11. With permanent movement, the gains to thehost country must be weighed against the possible costto the home country in terms of “brain drain.” Over 50 percent of all migrating physicians come from de-veloping countries. In Ethiopia, for example, during1984–94, 55.6 percent of the pathology graduates fromthe Addis Ababa Faculty of Medicine left the country.In Ghana, of the 65 who graduated from the MedicalSchool in 1985, only 22 had remained in the country by1997. If these countries had adequate medical staff athome, these figures would be less cause for concern.

12. Other barriers to movement of natural personsinclude double taxation, wage-matching requirements(wages paid to foreign workers should be the similar tothose paid to nationals in that profession, eliminatingthe cost advantage for foreigners), and local trainingrequirements (to replace foreign with national laborwithin a certain time frame).

13. This is strictly true in static models withoutmarket imperfections—such as monopolistic marketstructures, internal and external economies of scale, orother distortions. The presence of imperfections opensup a plethora of possibilities in which the effects oftrade policies are typically indeterminate, dependingon the prior distortion.

14. See Hoekman and Braga (1997) for a review.


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15. Consider, for instance, the case of the Arab Re-public of Egypt, where the import-weighted tariff was31 percent in 1997, and the average manufacturing-wide effective rate of protection (ERP) was much higherat 70 percent (Hoekman and Djankov 1997). However,services inputs used by Egyptian industry, including con-struction, communications, financial, business, distribu-tion, transport, and storage, were more expensive thanthey might have been if competition had been allowed.If it were assumed that prices were higher by, say, 15percent, then the average ERP for manufacturing wouldnot only be lower, but negative for several industries(chemicals, crude petroleum, and other extractive in-dustries), implying that the tariff on intermediate goods,together with the implicit tariffs on services inputs, out-weighed the tariff protection on the final goods.

16. If no trade in either goods or services is possi-ble, the production of final goods is cheaper in largermarkets, because a larger market can support a greatervariety of services. If trade in only goods is possible(for instance if services must be supplied through alocal establishment), then goods production tends toagglomerate in the larger country. The large countrygains from this as productivity increases since a largerfinal goods sector can support a wider variety of inter-mediate goods production. For the same reason, thesmaller country can lose from goods trade as final goodsproduction shrinks. However, if there is free cross-border trade in services, then all countries have accessto the full range of producer services. As a result, pro-ductivity in final goods production increases in allcountries, and so all countries gain from trade.

17. The last few years have seen a profusion ofnational and global computable general equilibriummodels seeking to estimate the economywide effects ofservices liberalization. The models suffer from weak-nesses, particularly the inadequate treatment of differ-ent modes of supply, the poor data on the levels of pro-tection in different services sectors, and an inability tocapture the regulatory institutional detail that is a keydeterminant of the consequences of services liberaliza-tion. The models are, nevertheless, useful in providinga rough idea of the costs of maintaining services barri-ers and the corresponding welfare gains from theirremoval.

18. As pointed out by Rodriguez and Rodrik (1999),there are two contradictory impulses on growth ema-nating from the scale effect described above. Protectinga sector increases its size, leading to higher growth, butit also creates a wedge between domestic and foreignprices imposing a production inefficiency that rises overtime exerting a negative impact on growth. The largerthe size of the protected sector the larger this impact. Bycontrast, liberalization of the services sector, in whichthe country is assumed to have a comparative disadvan-

tage, will also lead to increased static efficiency. Thiswill strengthen the growth impact of liberalization.

19. For example, there is evidence to suggest thatforeign bank entry qualitatively changed Turkish bank-ing by introducing financial and operations planningand improving the credit evaluation and marketing sys-tem (Denizer). Foreign banks also took the lead inspreading electronic banking and introduced new tech-nologies. They raised the human capital level of Turk-ish workers through domestic training programs, andby sending local recruits to training centers abroad.

20. Coe, Helpman, and Hoffmaister (1999) andLumenga-Neso and others (2001) are among thosewho present empirical evidence demonstrating the im-pact of technology diffusion—in their case throughtrade in goods—on total factor productivity growth. Inprinciple, the same should hold true for technologythat is diffused through factor flows

21. In terms of the financial instruments employed(too much reliance on short-term bills), in terms of thefinancial intermediaries that were unwittingly encour-aged (lightly regulated trust subsidiaries of the banks,and other newly established near-bank financial inter-mediaries), and in terms of market infrastructure de-velopment (failure to develop the institutions of thelong-term capital market). See, for instance, Claessensand Glaessner (1999)

22. Sometimes the object is to ensure access to allconsumers at the same price, irrespective of the cost ofprovision (for example, in transport and postal ser-vices). At other times, the object is ensure cheaper ac-cess for certain categories of users (for example, in fi-nancial services).

23. Mosely (1999) estimates the impact of financialliberalization on access to rural credit in four Africancountries Uganda, Kenya, Malawi, and Lesotho. Usingsample survey data, Mosely reports that between 1992and 1997, the percentage of sampled households withaccess to rural credit rose in Kenya and Uganda from13.1 percent and 9.2 percent to 25 percent and 21 per-cent respectively. However, in Malawi, there was in adecline in the corresponding number from 12 to 8 per-cent. Access to credit of the poorest 10 percent (by in-come) remained unchanged in Uganda and Kenya, butin the case of Malawi and Lesotho declined from 1.9 and 2 percent to .9 and 1.9 percent respectively.Mosely’s study also shows that financial reform by wayof financial innovation in rural areas and developmentof financial institutions catering to the poor has strongand significant effects on improving access to ruralcredit and lowering poverty. But simply privatizingstate micro-finance agencies has proven to be unsuc-cessful, as illustrated by the experience of Malawi.

24. The poor are likely to be unskilled, so the ques-tion arises as to the services sectors in which they are


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likely to be employed. Unfortunately, data on the skillcomposition of the workforce in services sectors areonly available for some OECD countries and that at arather aggregate level. Still a certain pattern can be in-ferred. Construction, distribution and personal servicestend to be unskilled–labor intensive, whereas commu-nications, financial and business services tend to beskilled–labor intensive.

25. In India, the incumbent operator—the depart-ment of telecom expanded its workforce over the1996–2000 period. In the face of competition, it wasforced to improve its marketing strategy, expand itsnetwork and opened up thousands of public call officesall over India.

26. One such possibility is the case of “nonsustain-ability” of natural monopoly. This could arise, for in-stance, under some natural monopoly cost conditions,when there exist no prices that will not attract entry,even though single firm supply is efficient. Armstrongand others (1994, p. 106) conclude that, “Notwith-standing the logical possibility of this happening, we are doubtful whether it provides a good case forentry restrictions in the utility industries, which are not for the most part remotely contestable and wherethere is little evidence that cost conditions give rise tononsustainability.”

27. Interesting evidence in this context is availablefrom the Indian telecommunications sector. Das (2000)estimates a frontier multi-product cost function of theincumbent fixed-line operator, covering 25 years from1969 to 1994. The study finds the existence of veryhigh economies of both scale and scope in the technol-ogy used—the parameter estimates even suggest thattelecommunications in India is a natural monopoly.However, the incumbent operator displays great ineffi-ciency, leading to a 26 percent increase of the opera-tor’s cost of production. Based on these findings, Dasconcludes that India’s market liberalization program,started in the mid-1990s, is justified, but he argues thatthere may be a need to regulate entry in order to reduceunnecessary duplication of common costs. Moreover,with continued improvements in technology, the fixedcosts of entrants are likely to fall, reducing losses ofscale economies and thus increasing the costs of entryrestrictions.

28. Several countries have found it difficult to createan open, competitive telecommunications sector be-cause of a weak regulatory environment. Poland openedup its telecommunications sector to private competitionas early as 1990. There was a rush to invest, and about200 licenses were awarded in the first six years of thenewly liberalized regime. The dominant state operator,operating in a weak regulatory system, limited access toits network and benefited from unequal terms for rev-enue sharing, however. By 1996, only 12 of the 200 li-

censes were still being used by the few competitive op-erators who had managed to survive.

29. Studies of Argentina show that all incomeclasses gain from services reforms but that the rich (andthe foreign investors) gain relatively more if the regula-tor is weak and that the poor win relatively more if theregulator is effective in ensuring that the rents of thesector are shared with the rest of the economy (Chisariand Romero 1999; and FIEL 2000). The additionalgains from good regulation are estimated to be about0.35 percent of GDP on an annual basis.

30. As UNCTAD and World Bank (1994) argue, “Service providers are likely to prefer the higher in-comes that result from control of entry into their occu-pation, or form restrictions on competition betweenthose who are admitted to it . . . whenever regulation isjudged necessary, a major concern must be to ensurethat regulatory powers are not captured by the exist-ing providers of a service and used to further theirinterests.”

31. In some cases, though, where the cost of raisingrevenue is very high, the direct regulation route may bepreferable.

32. Hoekman 1996.33. For a detailed treatment see Mattoo 2000 and

forthcoming.

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Fink, C., A. Mattoo, and R. Rathindran. 2001. “Lib-eralizing Basic Telecommunications: The AsianExperience.” Paper presented at a workshop on“Trade, Investment and Competition Policies inthe Global Economy.” Hamburg Institute of In-ternational Economics. January.

FIEL (Fundacion de Investigaciones Economicas Lati-noamericanas). 2000. “La Regulacion de la Com-petencia y de los Servicios Publicos: Teoria y ex-periencia Argentina Reciente.” Buenos Aires.

Glassman, C. A. 2000. “Customer Benefits from Cur-rent Information Sharing by Financial ServicesCompanies.” A study for the Financial ServicesRoundtable. December.

Heeks, R. 1998. “The Uneven Profile of Indian Soft-ware Exports.” Working Paper No 3, Institute forDevelopment Policy and Management. Universityof Manchester, U.K.

Hodge, J. 1999. “Liberalizing Communications Ser-vices in South Africa.” Trade and Industrial Pol-icy Secretariat, Johannesburg.

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Hoekman, B., and S. Djankov. 1997. “Effective Pro-tection and Investment Incentives in Egypt andJordan: Implications of Free Trade with Europe.”World Development 25: 281–91.

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Kitchenman, W. F. 1999. “U.S. Credit Reporting: Per-ceived Benefits Outweigh Privacy Concerns.” TheTower Group.

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Markusen, J., T. F. Rutherford, and D. Tarr. 2000.“Foreign Direct Investment in Services and theDomestic Market for Expertise.” Policy ResearchWorking Paper No. 2413, World Bank, Washing-ton, D.C.

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———. Forthcoming. “Shaping Future Rules for Tradein Services: Lessons from the GATS.” In T. Ito,and A. O. Krueger, Trade in Services. Cambridge,Mass.: NBER.

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High transport costs are a barrier to trade—The costs of international transport servicesare a crucial determinant of a developing coun-try’s export competitiveness. Shipping costsoften represent a more binding constraint togreater participation in international trade thantariffs and other trade barriers. Across econ-omies, a doubling of shipping costs is associ-ated with slower annual growth of more thanone-half of a percentage point. Transport costsdetermine the potential access to foreign mar-kets, which, in turn, explains up to 70 percentof variations in countries’ gross domestic prod-uct (GDP) per capita.

—reflecting geography and income—Transport costs depend on a mixture of geo-graphic and economic circumstances. Adversegeographic locations and low-income levels—the latter being associated with poor infra-structure and low traffic volumes—pose an in-herent challenge for many countries’ trade anddevelopment prospects—at least in the shortto medium term.

—but also competitive forces in service marketsPublic trade barriers and private commercialpractices hamper the provision of internationalmaritime and air transport services. Policies to-ward maritime transport, such as cargo reser-vation and limitations on the provision of portservices, often protect inefficient service pro-viders and unduly restrain competition. At the

same time, competition restraining practicesamong shipping lines and port terminal opera-tors around the world pose the risk that thebenefits of government reforms will be cap-tured by private firms. International air trans-port is one of the services sectors most pro-tected from international competition. Thecurrent regime of bilateral air service agree-ments largely denies access to efficient outsidecarriers. International airline alliances, whileenhancing network efficiency, can also be detri-mental if they impede effective competition.

Policy reform can lower costs—In most countries, policy can make better useof existing transport resources and signifi-cantly improve the efficiency of services. At thedomestic level, targeted infrastructure invest-ments, regional cooperation on transportation,and trade facilitation initiatives can play animportant role in improving the transportcompetitiveness of exporters. As discussed inchapter 3, liberalizing services policy can pro-duce substantial cost reductions and widen theavailability and choice of services. The prepon-derance of anticompetitive practices by trans-port service providers also demands the de-velopment of efficiency-oriented competitionpolicies.

—and multilateral policies can besupportive of domestic reformsMultilateral negotiations on transport servicesunder the General Agreement on Trade in Ser-vices (GATS) Agreement have, so far, not un-

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Transport Services:Reducing Barriers to Trade

4

leashed substantial liberalization, nor havecountries bound existing policies to gain cred-ibility in their domestic reforms. Indeed, thenegotiations on maritime transport were theonly post–Uruguay Round services negotia-tions that completely failed. International airtransport services are largely outside the scopeof the GATS. The new round of services ne-gotiations offers the possibility of creating arules-based services regime for maritime trans-port, as well as an opportunity to develop aframework under which a multilateral regimefor air transport services could be phased in.Moreover, the multilateral trading system canplay a useful role in developing procompeti-tive regulatory principles for the transport sec-tor, and in fostering international cooperationon competition policy matters more generally.

High transport costs penalize exports

High transport costs push down profitsand wagesThe efficiency of transport services greatly de-termines the ability of firms to compete in for-eign markets. For a small economy—for whichworld prices of traded goods are largelygiven—higher costs of transportation feed intoimport and export prices. To remain competi-tive, exporting firms that face higher shippingcosts must pay lower wages to workers, acceptlower returns on capital, or be more produc-tive. The pressure on factor prices and produc-tivity is even higher for industries with a highshare of imported inputs. In these cases, smalldifferences in transport costs can easily deter-mine whether or not export ventures are at allprofitable. In developing countries, for labor-intensive manufacturing industries such as tex-tiles, high transport costs most likely translateinto lower wages, directly affecting the stan-dard of living of workers and their dependents.

The cost structures of firms are equally af-fected by the quality of transport services. If ser-vices are unreliable and infrequent, or if a coun-try lacks third party logistics providers who

efficiently handle small shipments, firms arelikely to maintain higher inventory holdings atevery stage of the production chain. The costsof financing large inventories can be significant,especially in countries with high real interestrates. Gausch and Kogan (2001) find that in-ventory holdings in the manufacturing sector in developing countries are two to five timeshigher than in the United States, and estimatethat cutting inventory levels in half could reduceunit costs of production by over 20 percent. Atthe wholesale and retail levels, firms dependgreatly on high quality transport services in dis-tributing products to geographically dispersedmarkets. For example, seamless transport ser-vices were critical to Kodak’s decision to inte-grate once-separate national warehousing oper-ations in the Mercosur countries into one tradebloc–wide operation located in Brazil, thus reap-ing economies of scale in distribution.1

Long journeys have a similar effect. Theydelay payments if goods are exported on acost, insurance, and freight (c.i.f.) basis or im-porters may demand a time discount if goodsare delivered free on board (f.o.b.). If productsare perishable (such as food) or subject to fre-quent changes in consumer preferences (suchas high-fashion textiles), longer journeys leadto additional losses in terms of a product’sshortened lifetime in the export market. Box4.1 illustrates the complex logistical arrange-ments that ensure the timely delivery ofKenyan cut flowers to European consumers.One recent estimate, based on comparisons be-tween air and ocean freight rates for U.S. im-ports, puts the per day cost for shipping de-lays at 0.8 percent of the value of trade formanufactured products. Only a small fractionof these costs can be attributed to the capitalcosts for the goods during the time they are onboard the ship.2 Delivery time is found to havea more pronounced effect for imports of inter-mediate products (Hummels 2000), suggestingthat the fast delivery of goods is crucial for themaintenance of multinational vertical productchains. Quality aspects of transportation arethus likely to be an important factor in the lo-cation decisions of multinational companies.


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Shipping costs often represent a greaterburden than tariffs—Transport costs are important relative to othertrade barriers. Figure 4.1 compares countries’transport cost incidence for exports to theUnited States (the share of international ship-ping costs in the value of trade) and their tariffincidence (the trade-weighted ad valorem dutyactually paid). For 168 out of 216 U.S. tradingpartners, transport cost barriers outweigh tar-

iff barriers. Only a few developing countries—including, among others, Bangladesh, the ArabRepublic of Egypt, Lesotho, Mauritius, Mon-golia, Nepal, Pakistan, and Sri Lanka—aremore constrained by trade taxes than by ship-ping costs. For the majority of Sub-SaharanAfrican countries, the tariff incidence typicallyamounts to less than 2 percent, while the trans-port cost incidence often exceeds 10 percent.Most striking is the example of Benin, where

T R A N S P O R T S E R V I C E S : R E D U C I N G B A R R I E R S T O T R A D E

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Kenyan exports of cut flowers to Europe havegrown remarkably in recent years, increasing by

217 percent in value from 1992–98. The competi-tiveness of Kenyan cut flower exports stems fromfavorable climatic conditions, the use of modernfarming technology and skilled manpower, and theircounter-seasonality to the patterns of production inWestern Europe. Although a wide range of flowervarieties are cultivated in Kenya, the industry’sgrowth in the 1990s was primarily due to expandedrose production—sparked by strong consumer de-mand and relatively high prices in Europe.

Cut flowers are highly perishable commodities,having a vase and marketable life ranging from a fewdays to not more than two weeks. Internationalflower trade demands cold storage and transporta-tion facilities, efficient inland and air-freight shippingarrangements, and mechanisms for rapid distributionin the export markets. Prior to packing, harvestedflowers are placed in solutions to maintain post har-vest quality, then graded, bunched and placed in coldstorage. Refrigerated or insulated trucks carry theflowers to specialized freight handlers, which consoli-date consignments from various growers, palletizethem, record temperatures, and load them directlyonto commercial or charter airlines. They also facili-tate customs, inspections, and proper documentation,which serves as the basis for claims should flowersarrive in Europe at exceedingly higher temperatures.

Import functions at the European end (cutting,rehydrating, and repacking) are typically handled byindependent agents, who also provide a wider arrayof services including consultancy and product andmarketing information. Several large Kenyan pro-duces have established forward linkages with freight

Box 4.1 The Kenyan-European cut-flower supply chainfirms and clearance and import agents, in order toensure supply continuity and gain greater controlover production, distribution, and sales.

About 40 percent of Kenyan flowers enter Euro-pean wholesale markets through one of the sevenflower auctions in the Netherlands. Dutch auctionstrade, on average, 15 million flowers and pottedplants daily, with total sales amounting to $1.9 bil-lion in 1998. After the flowers are collected andchecked for quality, ripeness, grading, and packing,selling takes place with the help of computerized“auction clocks,” which provide information on thegrower, product, quality, unit of currency, and mini-mum purchase required. The financial transactionsare settled immediately following the auction process,and flowers are then distributed to the buyers, whorepackage and box the flowers for further air or landtransport.

Aside from the Dutch auction system, importersare directly sourcing cut flowers from Kenyan grow-ers for European supermarkets and traditional retail-ers. In the United Kingdom, for example, supermar-kets have contractual arrangements with Kenyanexporters (via import agents) and send daily ordersto growers, which form the basis for harvesting, pro-cessing and shipping schedules. Through fully inte-grated supply chains, products can be harvested andon U.K. supermarket shelves within 24 hours fromharvest. The final retail price in the United Kingdomis more than four times the farm gate price in Kenya,with the difference between the two prices accountedfor by freight charges, fees and commissions, retailmargin, and value-added tax.

Source: Thoen and others 2000.

exports faced duties equivalent to 0.6 percentof total exports, but shipping costs represented22.7 percent of trade. Amjadi and Yeats (1995)confirm that freight rates for African exportsto the United States are considerably higherthan on similar goods originating in othercountries—contributing to the region’s lacklus-ter trade performance over the last two orthree decades.3

In interpreting the relative importance oftransport costs and tariffs, several pointsshould be kept in mind. First, the freight ratecalculations, based on c.i.f/f.o.b. comparisons,understates the true door-to-door shippingcost, because only the international leg of thetransport journey is considered. The impor-tance of port and inland transportation costsvary substantially by country and exporter lo-cation, but can take up as much as two-thirdsof the total door-to-door costs (see below). Sec-ond, the U.S. tariff schedule is lower comparedto other countries, and exporters face otherpolicy-induced barriers to trade besides tariffs.4

Indeed, for some product groups, restrictionsimplied by standards or domestic regulationsrepresent a bigger obstacle to trade than importtaxes. Third, it is somewhat arbitrary to lookonly at transport services and ignore the costsof other producer services critical to the supplyof foreign markets. High costs of communica-tions, legal assistance, or export finance, forexample, represent other sources of inefficien-cies that may erode exporters’ competitive-ness.5 Finally, transport costs—as distinct fromtariffs—cannot be brought down to zero.

One recent estimate finds that a doublingof the ad valorem freight rate leads, on aver-age, to a fall in aggregate import values be-tween five- and six-fold.6 These are rough cal-culations, however, and the effect is likely tovary substantially across countries and indus-tries. Much depends on the degree to whichhigher shipping costs are directly passed on toconsumer prices. Another factor is the pricesensitivity of final demand and the degree towhich imports from one location can be sub-stituted with imports from another location,or from domestic sources. If final demand ishighly price sensitive, and goods from differ-ent locations are good substitutes, small changesin shipping costs can have a substantial effecton bilateral imports.7

—and restrain trade in services—Transport costs also represent a barrier totrade in services. Though difficult to quantify,this is important for developing countries thatrely heavily on tourism services as a source offoreign exchange (figure 4.2). Tourists are sen-sitive to travel costs, especially where closesubstitute destinations exist. Estimates varysubstantially across locations, but a doublingin travel costs may reduce tourism demand asmuch as eight-fold.8 More than 90 percent oftourists arrive in developing countries by air,underscoring the importance of efficient airtransport services for this export industry. For example, air transport costs in East andSouthern Africa are reported to be up to tentimes higher than for Florida, in the UnitedStates, limiting the pool of lower- and middle-


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Figure 4.1 Transport costs are oftenhigher than tariffsNominal tariff

Note: Data refer to 1998. Five countries (Benin, Guinea,Solomon Island, Togo, and Western Samoa) exhibit atransport cost incidence greater than 20 percent and arenot shown.

Source: U.S. Bureau of Census.

00 2 4 6 8 10 12 14 16 19 20

45°

2

4

6

8

10

12

14

16

18

20

Transport cost

income tourists able to afford a holiday inthese regions.9 The price of international pas-senger transport also dictates the extent towhich firms can afford business trips neces-sary to maintain ties with foreign companiesand to gather information about market de-mand in other countries. In addition, the mo-bility of businesspeople is key to the formationof multinational production networks, whichhave emerged as a dynamic driver of worldtrade over the past decades.

Transport costs affect growth rates—Shipping costs can affect economic growth inseveral ways. First, higher transport costs re-

duce rents earned from the exports of primaryproducts, lowering an economy’s savings avail-able for investments. They push up importprices of capital goods, directly reducing real in-vestments. Second, all things being equal, coun-tries with higher transport costs are likely to de-vote a smaller share of their output to trade.Those countries are also less likely to attractexport-oriented foreign direct investment (FDI).Since trade and FDI are key channels of inter-national knowledge diffusion, higher transportcosts may lead an economy to be farther re-moved from the world technology frontier andslow its rate of productivity growth.10 Third,transport costs determine a country’s selection


101

Figure 4.2 Tourism earnings in developing countries, 1998

Source: World Bank Development Indicators.

Tanzania

Jordan

Croatia

Dominican Republic

Belize

Dominica

Fiji

Jamaica

Malta

Barbados

Seychelles

Aruba

Maldives

East Asia and Pacific

Europe and Central Asia


Middle East and North Africa

Sub-Saharan Africa

South Asia

0 10 20 30 40 50 60 70 80 90

Travel services as a percent of GDP

Travel services as a percent of total exportsof goods and services

of trading partners. If export markets largelyconsist of poor, slow-growing markets andthere are significant costs (including transporta-tion) of switching to new, richer, and faster-growing markets, countries may be constrainedin their growth potential. This dilemma may beespecially severe for small landlocked countriesfar away from major economic centers.11

Controlling for a large number of socioeco-nomic, geographic, and institutional factors,Radelet and Sachs (1998) find that developingcountries with lower shipping costs experi-enced more rapid growth of manufacturingexports relative to GDP in the period from1965 to 1990. In addition, when exploring therelationship between shipping costs and over-all economic growth across economies, thestudy concludes that a doubling of the cost oftransportation is associated with slower an-nual growth of slightly more than one-half ofa percentage point.

—and help to explain regional variationsin incomeTransport costs—as opposed to tariffs facedby exporters—vary widely across trading na-tions. The availability, price, and quality oftransportation services therefore have strongimplications for what countries produce andwith whom they trade.

In a theoretical analysis, Venables andLimão (1999) find that transport costs maycause the world to be divided into “zones ofspecialization.” The more transport-intensive agood is, the more likely it is that it is exportedby countries that exhibit lower shipping coststo the economic center. By contrast, exceedinglyhigh shipping costs to a major economic centercan lead a country to be self-sufficient in a par-ticular good—despite the fact that it may nothold a comparative advantage in its productionsolely based on its factor endowments. Coun-tries with higher transport costs but identicalfactor endowments also exhibit lower real in-comes, as more resources are devoted to trans-portation and the gains from trade are smaller.

Redding and Venables (2001) estimate thepotential access of a country’s manufacturing

goods to the domestic and foreign markets, asdetermined by shipping costs.12 This measureof market access explains up to 70 percent ofvariations in countries’ GDP per capita in1996 (figure 4.3). Admittedly, the study lendsstrong causative weight to transport costs, asother factors explaining income variation—notably capital accumulation—are taken,themselves, to be determined by market access.At the same time, the inclusion of characteris-tics of physical geography and social, political,and institutional variables does not fundamen-tally alter the study’s result. While more re-search is necessary to verify and refine thesefindings, they support the view that a country’sdevelopment prospects are greatly affected bytheir economic geography, of which shippingcosts are an important determinant.

As much as transport costs explain the lo-cation of production across countries, they are


102

Figure 4.3 Potential market accessexplains variations in incomeIncome per capita (log)

Note: Countries’ potential access to the domestic andforeign markets are estimated by a gravity equation,whereby bilateral trade flows are explained bycharacteristics of the importing and exporting countries,as well as bilateral transport costs.

Source: Redding and Venables 2001.

13

10

9

8

7

6

15 17

Potential market access (log)

19 21 23

equally important in affecting the location ofexporting firms within countries. As foreigntrade barriers are removed, firms have an in-centive to move to regions with good access toforeign markets, such as border areas or portcities—especially if exports account for a largefraction of total sales. For example, closer tiesbetween the United States and Mexico causeda rapid expansion of manufacturing employ-ment in northern Mexico at the expense of theMexico City manufacturing belt.13 Agglomer-ation forces may create a self-reinforcing pro-cess, whereby entire industries move towardexporting centers, causing sharp regional in-equalities in production and income. The sever-ity of this process depends on the efficiency ofinternal transport systems—as illustrated in box4.2 on China.14

Transport services thus matter for tradecompetitiveness. Even if tariff and nontariffbarriers to trade were removed, cross-countryevidence suggests that the penalty of high ship-ping costs will continue to hold down growthrates and income of countries with poor inter-national transport links. Furthermore, ineffi-cient internal transport systems can sharpeneconomic inequalities within countries, withhinterland regions being disconnected from in-ternational commerce. Two questions that im-mediately arise in this context are why somecountries pay more for transport services thanothers, and what governments can do to im-prove the transport competitiveness of tradingfirms.

Why some countries pay more for transport services: geography and income

International transport costs vary dramaticallyTransport costs vary widely across countries.According to the price quotes of one U.S. freightforwarder, it costs $1,000 to ship a 40-footcontainer from Baltimore to Dar es Salaam, thelargest port city in Tanzania (figure 4.4). Yet theprice of shipping the same container to Durban

(South Africa) is $2,500 and goes up to $4,000for Vienna (Austria), $6,500 for Asunción(Paraguay), $7,800 for Yerevan (Armenia),$10,000 for Bujumbura (Burundi), and $13,000for Kathmandu (Nepal). The geographic dis-tance from Baltimore alone cannot explain thesedramatic price differences. Transport costs aredetermined by factors that can be changed in theshort run by policy, and those that cannot. Thissection concentrates on the second set of de-terminants. Despite advances in transport tech-nology, a large number of developing coun-tries continue to be challenged by geography interms of being landlocked or far away from the world’s economic centers. In addition, poorphysical infrastructure and thin traffic densities,typically associated with low-income econ-omies, represent additional impediments totransport competitiveness (although policy canalter these constraints in the longer term). Thus,high shipping costs undeniably represent a con-straining factor in the trade and developmentprospects of many developing countries.

Advances in transport technology—Innovations in transportation have been an im-portant factor in the globalization of goodsmarkets observed in the late twentieth century.An examination of ad valorem freight rates forU.S. imports, for which detailed data are avail-able, suggests that the share of shipping costsin the value of trade in 1998 was smaller for allmajor commodity groups compared to 1938,and for all but two goods classes compared to1974 (see table 4.1).15 However, declining advalorem freight rates may also be due to changesin the composition of trade or in unit values oftraded commodities, due, for example, to im-provements in the quality of goods.

Ocean, air, road, and railway shipping haveeach seen a different mix of technological andinstitutional innovations, with profound impli-cations on how traded goods are shipped fromone location to another.16 Ocean shipping is arelatively mature industry, yet there have beenimportant advances in maritime transport tech-nology over the past decades. Specialized shipshave emerged for dry bulk commodities, oil,


103


104

Aremarkable feature of China’s dramatic expan-sion in international trade over the past two

decades has been the concentration of export-orientedindustries in coastal regions. The four main coastalprovinces (Guangdong, Jiangsu, Fujian, and Shangkai)have been the main recipients of outward-oriented for-eign investment, with the remaining portion going toeither other coastal provinces or regions adjoiningcoastal areas. The provinces in the central core—usu-ally referred to as lagging provinces—barely benefitedfrom the incoming investment. While dispersion ofexport-oriented units have narrowed coastal incomedisparities—with the south coast regions catching upwith the hitherto affluent east coast—the export boomhas exacerbated the coastal-inland gap. Thus, whileChina’s economic reforms have been successful in rais-ing living standards for a considerable share of thepopulation, a large number of Chinese people ininland provinces still live below the poverty line.

Another contributing factor to coastal agglomera-tion has been various inefficiencies in China’s internaltransport systems. Transport infrastructure disparitiesbetween the coastal and inland provinces narrowedconsiderably following policies aimed at promotingmore regionally balanced economic development since 1990. However, indications of increasing inter-provincial trade between inland regions, and betweeninland and coastal regions, suggests that it is not theavailability of transport infrastructure per se that haveprecluded inland provinces from actively participatingin foreign trade. Rather the inadequacies associatedwith transport services are the more binding constraintto better integrating China’s hinterland economy.

The compositional shift of exports from low-value raw materials to high-value manufactured goodshas made transport increasingly suitable for container-ization. Though there has been significant increase inthe volume of container traffic in China since 1990,the increase is largely confined to coastal regions, andassociated with the oceangoing leg of travel. Containertraffic in inland areas is much less, with no significantchange in the percentage of sea-borne containers trav-eling beyond port cities and coastal provinces. Truckrates for moving a container 500 kilometers inland areestimated to be about three times more, and the trip

Box 4.2 Inefficient internal transport systemscontribute to the concentration of China’s exportindustries in coastal regions

time five times longer, than they would be in Europeor the United States. China’s railways still charge what is, in effect, a penalty rate for moving containers.Priority on the congested rail network is still given tolow-value bulk freight (mostly coal), rather than tohigh-value freight, such as containers.

Surveys based on major foreign shippers, shippinglines, and freight forwarders based in the United States,Japan, and Hong Kong (China) indicate that China’stransport systems, particularly inland transport, arewell below international standards. First, respondentspointed to the lack of container freight stations, yards,and trucks in inland regions. Second, border proce-dures were perceived to be cumbersome and time-consuming, due to the many certification requirementsand duplication of documents—in part, a consequenceof the lack of coordination between the different gov-ernment agencies involved in the various modes oftransport. Third, container-tracking capability wasparticularly poor, with shippers often unaware of theircontainers’ whereabouts. Shippers attributed this topoorly trained staff, the lack of a reliable recovery sys-tem, and the poor accountability system in governmentagencies. Fourth, the intermodal transport system wasfound to be poorly integrated, with no streamlinedprocedures to support the continuous movement ofcontainers between the coast and inland.

Another source of inefficiencies is the dominanceof state-owned enterprises and the lack of competitionin transport service markets. Since pricing in many ofthe intermediate transport service activities is con-trolled, the companies have little incentive for aggres-sively pursuing cost-cutting methods. Due to a lack ofcompetition, intermediate service providers representthe interests of transport operators. Hence value-addedservice and reliability, hallmarks of winning businessconfidence in a modern economy, are not practiced bymost participants. Investment by foreign enterprises orjoint ventures between foreign and domestic enterprisesin intermediate transport services is limited in inland re-gions. Though foreign investment is not prohibited,there are restrictions on investors’ activities.

Source: Atinc 1997; Graham and Wada 2001; Naughton 2001;and World Bank 1996.

chemicals, automobiles, forest products, andother goods. Probably the most far-reaching de-velopment in maritime transport has been thegrowth of containerized cargo shipping, whichhas allowed investments in larger and fasterships. Today, more than 60 percent of globalgeneral cargo trade moved by sea is carried incontainers. On trades between industrializedcountries the percentage is just over 80 per-

cent.17 However, evidence from major developed-country shipping routes suggests that the realprice of ocean liner shipping has not declinedover the past decades, while tanker and trampshipping has arguably become cheaper (Figure4.5). Unfortunately, no information is availableto assess the development of real ocean freightrates for developing country routes in pastdecades.


105

Figure 4.4 Shipping a container from Baltimore, Maryland, around the world: Distance isonly half the costs story

Note: Shipments refer to loosely packed freight and do not include insurance costs.

Source: Limão and Venables 1999.

Brasilia (Brazil)$4,000

Vienna (Austria)$4,000

Lima (Peru)$4,000

La Paz (Bolivia)$6,500

4,500 5,500 6,500 7,500 14,500

kilometers

Mbabane (Swaziland)$12,000

Dar es Salaam (Tanzania)$1,000

Kathmandu(Nepal)$13,000

Niamey (Niger)$7,000

Asunción(Paraguay)

$6,500

Ankara (Turkey)$4,000

Yerevan(Armenia)

$7,800

Ashkhbad(Turkmenistan)

$13,000

Beijing (China)$13,000

Bujumbura(Burundi)$10,000

Durban(South Africa)

$2,500

13,50012,50011,50010,5009,5008,500

Baltimore

Table 4.1 Ad valorem freight rates for U.S. imports: 1938, 1974, and 1998(As percent of total import values)

All countries Developing countries

1938 1974 1998 1938 1974 1998

Foods 9.3 9.4 7.0 12.5 8.3 8.4Agricultural raw material 7.5 11.4 6.5 10.3 14.3 10.2Crude materials and ores 65.2 44.5 12.0 57.3 30.4 13.9Fuels 14.3 7.7 7.8 21.5 13.0 9.3Chemicals 10.4 14.3 3.3 6.7 16.0 6.4Metals 10.0 7.7 5.2 10.2 6.8 5.5Other manufactures 10.1 10.6 4.6 5.2 7.5 4.5

Note: Ad valorem freight rates are based on comparisons between f.o.b export and c.i.f. import values, as reported by U.S.customs. They therefore do not include inland transportation costs and charges incurred at the port of exportation.

Source: Yeats 1981 for 1938 and 1974; and U.S. Bureau of Census for 1998.

—have boosted air transport—Air transport is still a relatively young industrythat has gained in significance only after theemergence of long-distance jet airliners in thelate 1950s and the introduction of the wide-body jet in 1967. The liberalization of air trans-port services, starting domestically with theUnited States in 1978, provided an additionalimpetus to the industry’s growth, as airlineswere granted greater freedom in determiningtheir routes and schedules, and service competi-tion intensified. Since 1980 airlines’ freight op-erating revenues per ton-kilometer have fallenby 55 percent in real terms. As air shippingprices have fallen relative to prices for oceantransport, the share of world trade shipped byair has continuously grown over the pastdecades—from 7 percent in 1965 to 30 percentin 1998 in terms of value for U.S. imports.18 Interms of ton-miles shipped worldwide, air cargoshipping has grown by almost 10 percent annu-ally from 1970–96, compared to only 2.6 per-cent growth for ocean shipping.19

Air passenger transport has also experienceda dramatic real price decline, which has led to asharp increase in international air travel, grow-ing at an average annual rate of 5.8 percent interms of passenger-kilometers since 1980.

—and have improved the quality of servicesDue to the introduction of faster ships and thegrowth of air transport services, the averagetime of cargo delivery has fallen sharply in thepast decades—from an estimated 40 days in1950 to 14.3 days in 1998 in the case of U.S.imports.20

Managerial innovations and closer integra-tion of transport services into production, in-ventory, and distribution systems have beenadditional drivers of change in the interna-tional transport industry. Just-in-time deliveryof intermediate inputs, for example, has al-lowed firms to outsource certain stages of pro-duction, cut inventories, and geographicallydisperse production. Better management of the


106

Figure 4.5 Ocean freight rates, 1970–99

Note: The liner trade series is based on freight rates observed in Germany seaborne trade and deflated by the German consumer price index (CPI). Freight rates are typically quoted in U.S. dollars, but shippers often apply currency adjustments to compensate for fluctuating exchange rates. using the U.S. CPI, the overall trend in prices is very similar, although freight rates would decrease over the 1970–99 period due to higher U.S. inflation. The tramp tanker and tramp dry cargo (trip charter) seriesare deflated by the U.S. CPI, since charter prices are typically quoted in U.S. dollars and set in highly competitive markets.

Source: UNCTAD Review of Maritime Transport (various issues), based on data from the German Federal Statistical Office (for liner trade) and Lloyd’s ship manager (for tanker and dry cargo).

0

20

40

60

80

100

120

140

160

180

200

1970 1973 1976 1979 1982 1985 1988 1991 1994 1997 1999

Liner trade

Tramp tanker

Tramp dry cargo

supply chain has enabled producers of perish-able commodities to compete in distant con-sumer markets. These managerial changeshave, in turn, led many transport operators tobecome multidimensional providers of logis-tics services—including packing and labeling,freight forwarding, insurance and banking, theprocessing of border formalities, tracking ofshipments, and other services. The growth ofthese services has, in part, been propelled bythe falling cost and increasing power of com-munications and computing, as logistics pri-marily involves the processing of information.

Geography continues to exert its own tyranny—Despite technological advances, however, geog-raphy continues to be an important determi-nant of international variations in transportcosts. The distance between the origin anddestination points of a transport journey di-rectly affects the variable cost of shipping inthe form of fuel, wear and tear of vehicles, andthe amount of time that goods are traveling.

Due to the existence of fixed costs of trans-portation, however, the effect of distance ontransport costs is less than proportionate, sug-gesting that distance matters more where thecosts of packaging, documentation, port ser-vices, and other distant-invariant activities aresmall.21 Typically, a 1 percent increase in dis-tance causes trade volumes to fall by slightlymore than 1 percent—although this large ef-fect is also due to factors other than transportcosts.22 Countries that share a common bor-der are found, on average, to trade signifi-cantly more than countries without a commonborder, which can in many instances be attrib-uted to more integrated transport networksand the existence of bilateral customs agree-ments that reduce transit times.

—especially for landlocked countriesThe effect of distance depends greatly, how-ever, on the mode of transport. By one esti-mate, an additional kilometer of overlandtransport adds seven times more to transportcosts than an additional kilometer by sea.23 It

is thus not surprising that landlocked countriespay, on average, more for shipping exports andimports than coastal economies. Multiple stud-ies have documented the “penalty” of beinglandlocked, and estimates usually put the addi-tional cost of transportation at more than 50percent of that paid by countries with maritimeports.24 For many shipments to landlockedcountries this “penalty” is likely to be higher.For example, the price quotes for containershipments from Baltimore reveal that the costof shipment to Durban (South Africa) is$2,500, whereas the cost to Mbabane (Swazi-land) via Durban comes to $12,000—a land-locked “penalty” of 380 percent (figure 4.4).Aside from longer overland distances, traffic toand from landlocked economies often suffersfrom higher transaction costs due to the com-plexities of coordinating multimodal transportjourneys and the crossing of multiple borders.

It is thus not surprising to find that land-locked countries have only 30 percent of thetrade volume of average coastal economies;that none of the 15 developing countries withthe fastest export growth is landlocked; andthat all 15 of those economies are located ei-ther directly on major shipping routes or closeto a major developed-country market.25 Thestudy by Redding and Venables (2001) pro-vides additional proof of the burden of geog-raphy: access to the coast raises per capita in-come by 64 percent, while halving the distanceto all trading partners increases per capitaincome by 74 percent. While these figures pro-vide a pessimistic view on the trade and devel-opment prospects of geographically disadvan-taged countries, in the long run new economiccenters emerge. High-income landlocked econ-omies such as Switzerland, or the state of Col-orado in the United States demonstrate thatsuch disadvantages need not be permanent.

Infrastructure links the hinterland to the world—Transport infrastructure, encompassing road,railway, and internal waterway networks, sea-ports and airports, warehousing facilities, andsupporting communications systems, is a key


107

prerequisite to efficient transport services. Whengoods originate or terminate in remote regions,inland shipping accounts for a substantial shareof the total door-to-door transport charge (fig-ure 4.6). If internal transportation networksare dense, remote regions are in a better posi-tion to supply foreign markets. In countrieswith well-developed infrastructures, exporterscan typically choose among alternative modesof transport (truck, railroad, or internal water-way) and alternative seaports and airports toship their goods abroad. Aside from greaterflexibility, increased modal and port choicedirectly promotes competition and limits thepotential abuse of market power by transportoperators serving chokepoints. Based on anindex that captures the densities of coun-tries’ road, railway, and telecommunicationsnetworks, Limão and Venables (1999) confirmthat better infrastructure translates into signif-icantly lower transport costs.26 Moreover, ahigher infrastructure density in transit coun-tries reduces transport costs to landlocked econ-omies. Both own and transit country infra-

structures are found to be important determi-nants of bilateral trade flows.27

—and poor countries are at adisadvantagePoor infrastructure conditions are often the di-rect result of low income levels, as the resourcesavailable for infrastructure investments are lim-ited. Nonetheless, governments play an impor-tant role in expanding the reach and improvingthe quality of existing infrastructure. Invest-ments in transport infrastructure often take asignificant share of developing countries’ GDP.28

Governments in many countries—in part dri-ven by the need to cut public expenditures—have increasingly turned to the private sectorfor financing such large investments. Successfulinvolvement of private investors necessitates anattractive investment climate, transparent andcarefully designed concession contracts, and a credible overall policy regime.29 Yet wherecommercial risks are too high, public sector in-vestments are still required—especially in thepoorest countries that are typically not able toattract private investment. Governments alsoplay a crucial role in infrastructure planning.Road, railway, and port capacities need to ac-commodate projected growth in trade. The de-sign and construction of transport networksneed to be coordinated with neighboring coun-tries, which is especially important for smalland landlocked economies.

Economies of scale and scopeThere are large economies of scale in the provi-sion of shipping services. Greater transporta-tion flows allow service providers to operatelarger vehicles and to spread fixed route costsover a larger number of shipments. The capac-ity of containerships operating on the majorEast-West trading routes is several times that ofthose operating on North-South routes, wheretraffic density is substantially smaller. Control-ling for other determinants of liner freightprices, shipments from the port of Lagos, Nige-ria, to southern California would be 24 percentcheaper, if traffic on this route would be thesame as from the port of Hong Kong (China)


108

Figure 4.6 Decomposing the costs ofdoor-to-door shipmentsU.S. dollars

Note: Costs refer to the cheapest route of shipment.Insurance and bank processing charges are excluded.Source: Subramanian and Arnold 2001.

0Containerized carpet

shipment fromKathmandu (Nepal)

to Munich (Germany)

Tea shipment(8.4 tons) from

Karimganj (India)to Liverpool (UK)

500

1,000

1,500

2,000

2,500

3,000

Ocean freightCustoms inspectionCargo handling and transferDocumentation & forwardingInland transport

to the same region.30 Furthermore, due to rela-tively low trading volumes, developing coun-tries often face longer travel times and less fre-quent services, as ocean carriers require a largernumber of stops to fill vessels.31

At sufficiently large traffic volumes, trans-port operators can reap economies of scope byoffering services on connected routes. Throughhub-and-spokes systems, maritime and oceantransport operators have been able to cut costs,while at the same time offering transport linksbetween a larger number of locations at higherfrequencies. The overwhelming share of inter-continental ocean trade is today delivered byhub-and-spoke systems, through major portssuch as Hong Kong (China), Los Angeles, Rot-terdam, or Singapore. By contrast, most oceancarriers serving the routes to and from WestAfrica still operate under so-called multipleports of call systems. However, given currenttraffic levels, commodity mix, port infrastruc-tures, and inland transportation systems, Páls-son (1997) finds that the adoption of a hub-and-spoke system would not systematicallyyield substantial cost savings. Future growth intrade as well as infrastructure improvementsmay change this calculus. Yet the implementa-tion of a hub-and-spoke system would still re-quire the willingness of the spoke countries toaccept lower traffic volumes to the benefit ofthe hub port.

Why some countries pay more:policy-driven factors

Government policy can inadvertently in-flate transport costs. Most developing

countries enact rules that detract from usingexisting transport resources efficiently. Theserules drive up transport-related transactioncosts and often preserve monopolies in servicemarkets.

Reducing high transaction costs in-country—High costs of transport-related transactions—such as frequent reloading of goods, customsclearance, fulfillment of documentation require-

ments, and others—add to the overall logisticalcosts of international shipments. Uncertaintyabout the enforceability of legal documents(such as bills of lading or letters of credit) in-creases the risks faced by importers and ex-porters as well as transport operators. Onestudy on Brazilian ports reports the averagecosts per container related to administrationand customs clearance at $1,727, which couldbe reduced to $320 according to internationalbest-practice estimates (figure 4.7).32 In manycases, transport-related transaction costs donot even show up in the final freight bill, buttake up a firm’s resources that could be usedmore productively.

Multiple changes of transport modes dur-ing the transport journey create costs in theform of frequent reloading of goods, coor-dination problems that result in shipment de-lays, and the need to contract several trans-port operators instead of a single door-to-doorservice provider—often exacerbated by legalprovisions preventing foreign multimodal oper-


109

Figure 4.7 Potential door-to-door costsavings on containerized imports inBrazilU.S. dollars

Note: Figures are based on the port of Santos. Insurancecharges are excluded. Potential costs are estimated basedon international best practice.

Source: World Bank 1997.

0Actual costs Potential costs

500

1,000

1,500

2,000

2,500

3,000

3,500

4,000

4,500

5,000Administration/customsBonded warehouseInland transportPort chargesOcean freight rate

ators from undertaking door-to-door contracts.Containerization has substantially reduced thereloading costs of multimodal journeys, as goodsare packed once at the factory’s door and un-packed at the importer’s site. Indeed, con-tainerization has fostered the integration oftransport service providers toward multi-modal operations, which internalizes transac-tion costs resulting from modal switches. Eventhough containerization of general cargo hastaken hold in many developing country–ports,containers are less frequently used for inlandtransport (especially in Africa)—obviating oneof the main cost-saving characteristics of con-tainer shipping.33 The main reasons for thisare long inland turnaround times for contain-ers, risks of loss or damage to containers, andinadequate road infrastructure unsuited to con-tainer loads. Limitations on the cross-borderprovision of trucking services create bottle-necks at the border, because goods have to bereloaded onto different carriers. Different na-tional standards regarding safety requirements,vehicle sizes, railway gauges, or coupling andbraking systems similarly constrain the smoothcross-border movements of goods.

Although official customs fees are typicallyonly a small portion of overall transportationcosts, inefficiency in customs procedures can re-sult in congestion and long queues at the bor-der. For example, at the key border crossing-point between India and Bangladesh as many as1,500 trucks queue up on both sides of the bor-der, and waiting times vary between one andfive days.34 Inefficiencies often are the resultof understaffing, burdensome documentationrequirements, poorly defined procedures, andthe need to obtain approval from many offi-cials. High trade protection typically results inmore complex customs requirements—for ex-ample, through the need to obtain import li-censes before goods are shipped. Corruption isendemic in many developing country portsand is more widespread the more opaque arethe customs procedures, and the greater thediscretion of customs officials.

Advances in information technologies havecreated a large scope for reducing transport-

related transaction costs. The development ofthe electronic data interchange (EDI) system,for example, has substituted the traditionalpaper documentation routines for customsclearance. Through the global positioning sys-tem, firms can monitor the location of vehiclesand better time loading and reloading. TheInternet has opened new ways of organizingtransport movements, creating more flexibleand efficient transport markets with reduceduncertainty regarding the quality of shipments.Yet use of these technologies is still primarilyconfined to developed countries and largeports. Lack of communications infrastructureand the necessary skills, as well as an inade-quate legal framework for electronic signatures,often present obstacles to the dissemination oftransport-related information technology in thedeveloping world.

—requires coordinated government actionThere is much that governments can do to re-duce transport-related transaction costs, usu-ally under the umbrella of so-called trade facil-itation initiatives. Such programs can result insignificant reductions in direct and indirectshipping costs in relatively short time periods.They are most effective if implemented in part-nership with the private sector (box 4.3). An-other role for governments is to create an ap-propriate legal and regulatory framework formultimodal transport, which often representsone of the most pressing constraints to the pro-vision of efficient door-to-door services. Coop-eration on standard-setting and the conclusionof mutual-recognition agreements with neigh-boring countries can facilitate the cross-bordermovement of goods by trucks. While countriesshould remain free to adopt their preferred reg-ulatory standards, it is important to ensurethat such standards do not unnecessarily dis-criminate against foreign–service providers (seechapter 3).

From public monopoly to private competitionFor a long time the provision of many trans-port services was the domain of public monop-


110

olies, and indeed state-owned enterprisescontinue to be a dominant force in many coun-tries’ transport sectors. Public monopolies wereoften justified by natural monopoly argu-ments, such as in the case of port operations,which require large infrastructure investments.Prestige arguments (for example, the desire tooperate a national flag airline) and securityconcerns (self-sufficiency in times of war) af-forded a justification for limiting the participa-tion of foreign service providers in domestictransport operations. Such arguments are be-coming increasingly harder to defend. Privateentry and competitive market structures haveproved to be feasible for virtually all transportservices and, to a large extent, have led to effi-ciency gains and lower prices for consumers.Moreover, the principle of comparative advan-

tage fully applies to the provision of transportservices, as it does to other traded commodi-ties. By opening up domestic markets to for-eign competition, shippers can choose among abroader spectrum of services and opt for ser-vice operators with superior technologies orlower operating costs.

Maritime transport—Due to differences in commodity type as wellas to technological improvements in the ship-ping industry—most importantly, container-ization—international maritime freight trans-port has developed specialized branches. Linershipping, meaning maritime transport of com-modities by regular lines, which publish in ad-vance their calls in different harbors, is dis-tinct from tramp shipping, which refers to


111

Just years before joining the North American FreeTrade Agreement, Mexico introduced a series of

customs reforms as part of its ongoing trade reformin 1989. An important part of the modernization ini-tiative was reducing customs clearance time, throughrisk management and selective testing of cargo, inline with similar initiatives in North America andAustralia.

Prior to 1989, customs procedures were highlycentralized, a reflection of the then inward-orientedbias of the economy. The directorate general of cus-toms (DGC)—part of the ministry of finance—hadunlimited authority over customs, with little account-ability enforced on customs officials. The import-export guidelines were either not published ahead oftime, or subject to frequent and arbitrary revisions.Adjudications of customs-related disputes were time-consuming. The approval of customs brokers’ licenseswas strictly regulated, thereby providing incentivesfor collusion between customs officials and customsbrokers.

As part of the reform program, DGC was di-vested of all ancillary functions and the customs ad-ministration was decentralized. To ensure trans-parency, the rights and obligations of the traderswere widely published. Traders under the new guide-

Box 4.3 Lessons from customs reforms in Mexicolines were required to pay tariffs through commercialbanks that opened branches in customs facilities. Animportant component of the modernization programwas targeting enforcement efforts on mainly “highrisk” consignments, while allowing the cargo of usu-ally compliant importers with minimum or no inspec-tion. Customs uses a random system that determineswhether or not goods will be inspected. This systemrelies on data—including the country of origin, im-porter or exporter, type of merchandise, tariff itemnumber, and other variables—to determine whether aparticular passenger or consignment is to be in-spected. The system is not entirely random, becauseit uses information in its database to determine thelevel of risk. Upon completion of customs formalitiesin respect of a passenger or a consignment, the sys-tem is interrogated by pressing the appropriate but-ton. In 90 percent of the cases the green light flashesindicating that no further formalities are required.

The benefits of the reforms, reduction in cus-toms transit time and attendant reductions in thecosts of interest, storage, and transport, as well aslower broker fees, were estimated to be about 5 per-cent of the total value of the merchandise.

Source: World Bank 1997.

transport performed irregularly, depending onmomentary demand. Typically, liner carrierstransport commodities with a higher degree ofindustrial processing using containers, whilenoncontainerized raw materials (such as crudeand refined oil, iron ore, grain, coal, or baux-ite) tend to be carried in tramp carriers.

—is affected by government policies—Tramp shipping is generally believed to be ahighly competitive market that is, as a rule,free from restrictions.35 Prices are set in spotmarkets based on either time charter or voyagecharter contracts. In contrast, liner shippinghas traditionally been subject both to trade re-strictions and private cooperation. The mostimportant policy-imposed barriers applied tointernational maritime transport have beenvarious cargo reservation schemes. These re-quire that part of the cargo carried in tradewith other states must be transported only byflagships (ships carrying a national flag) orships interpreted as national by other criteria.

Cargo reservation takes various forms. Itcan be imposed unilaterally if ships flying na-tional flags are given the exclusive right totransport a specified share of the cargo passingthrough the country’s ports. An alternativeform involves cargo sharing with trading part-ners on the basis of bilateral or internationalagreements. A specific form of multilateralcargo reservation scheme is the United NationsConference on Trade and Development (UNC-TAD) Liner Code of Conduct, which was con-ceived to encourage the development of theshipping industry of developing countries byguaranteeing domestic lines a minimum (40percent) share of traffic, and ensuring their par-ticipation in international liner conferences.36

Cargo reservation schemes have probablydeclined in significance, as more and morecountries have phased them out. In addition,the increased transfer of ships to open reg-istries to enable the ship owners to benefitfrom more efficient cost conditions has furtherdiluted the importance of cargo sharing. TheUNCTAD Liner Code, which was never ap-plied on a large scale, is even less visible today,

being applied mostly to routes between WestAfrica and Europe (box 4.4). Nevertheless,countries ranging from Benin to India stillhave in place reservation policies that at leastnominally restrict the scope for trade.

—and the practices of ocean carriersCompetition-restraining practices in linertransport take the form of cooperative agree-ments among maritime carriers on technical or commercial matters. Carriers’ cooperativehabits are deeply rooted in the history of mar-itime transportation. The first shipping cartels,covering the routes between the United King-dom and Calcutta, India, date back to 1875.By joining carrier agreements, shipping compa-nies retain their juridical independence, butconsent to common practices with the othermembers regarding pricing, traffic distribution,or vessel capacity utilization. One of the mostcommon types of agreement are liner confer-ence agreements, which typically provide forthe fixing of and adherence to uniform freighttariff rates and conditions of service. Liner con-ferences also employ exclusive contracts andother loyalty-inducing instruments to deterentry of outside shipping lines.37 Another typeof carrier agreement includes cooperative work-ing and discussion agreements, which establishexclusive or preferential working relationshipsbetween shipping lines, and provide a forumfor information sharing but do not necessarilyengage in unique price setting. A more recentform of private cooperation is strategic alliances,which aim at closely integrating vessel opera-tion activities and service networks.

It has been frequently pointed out that inrecent years the power of liner conferences and other cooperative arrangements has beeneroded. In the 1990s efficient outside shippinglines were able to gain a significant share of themarket on many routes. Moreover, more liberalregulations affecting international shippinghave weakened the command of rate-fixingagreements. For example, the Ocean ShippingReform Act of 1998 in the United States intro-duced the confidentiality of key service contractterms, allowing greater scope for price com-


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West Africa has lagged behind the rest of Africaand the world in terms of growth of sea-borne

trade over the last two decades. Sea-borne transportincreased by an average annual growth rate of 1.2percent since 1990. This compares to 1.6 percent forall developing countries in Africa and just over 3percent for total world sea-borne trade. Between1980 and 2000, West Africa averaged about 4 per-cent of total goods loaded in the world’s seaports.For goods unloaded, the region averaged about 2percent of world sea-borne trade.

West African nations adopted the UNCTADLiner Code in the 1980s and rapidly expanded theirfleets, hoping to be in a position to take full advan-tage of the code’s cargo sharing formula. However,most of the shipping lines based in West Africa eithercollapsed or went bankrupt. Today the market shareof West African lines is very slim in the containerizedtrade to and from Europe, with five national linesmustering up about 6–7 percent of total capacity of-fered. They run a fleet of small and generally old ves-sels and offer exclusive service between their homecountries and Europe, consequently limiting them-selves to a small cargo base. Low traffic levels inWest Africa restrict the number of regional carriersthat can be sustained and limit market entry by com-mercially oriented carriers.

Due to low volumes, there is also concern aboutabusive practices by private operators. Interestingevidence on such practices was revealed in the Associ-ated Central West Africa Lines (CEWAL) liner confer-ence court case, which was initiated by the EuropeanCommission (EC) against three liner shipping confer-ences operating on routes between continental NorthSeaports and West Africa. Although European Union(EU) regulations provide for a block exemption forliner conferences, the abuse of a conference’s domi-nant position still falls under the realm of the compe-tition rules provided in the EC’s treaty of Rome.

The members of the CEWAL conference werefound to have abused their collective dominant posi-tion in several ways. First, the conference establisheda system of loyalty agreements, whereby loyal ship-pers received rebates on routes between NorthernEurope and Zaire, while disloyal shippers were“blacklisted” and could no longer count on “nor-

Box 4.4 Maritime shipping in West Africamal” services from CEWAL members. Second, aspecial agreement with the Zairian Maritime FreightAdministration granted the conference the power toprevent any intrusion of competition on its marketand allowed it to monitor sea-borne trade. Third,the conference employed “fighting ships” to elimi-nate competition from its most direct competitorand potential market entrants. “Fighting ships” were identified as those vessels that sailed at datesclose to the sailings of its principal competitor.Special freight tariffs—identical or less than thoseoffered by the competing line—were established for those ships.

These agreements and practices enabled the con-ference to maintain a high market share, which con-trasts with other Euro-African trades for which themarket share of the conferences is sometimes lessthan 60 percent. After the court hearing, members ofthe CEWAL conference had to amend the terms oftheir loyalty contracts to prevent infringement of ECcompetition rules. Moreover fines were imposed onseveral members of the conference. The CEWAL casedemonstrates the positive spillover of competitionlaw enforcement by a large trading bloc, such as theEU. Since the final decision by the European Courtof Justice in March 2000, liner transport prices onroutes between northern Europe and West Africahave reportedly fallen.

Notwithstanding the dominance of certain linerconferences, there is growing competition from inde-pendent service providers in specific port to portmarkets, including niche operators (operating in spe-cial, well defined market segments, sometimes withspecial equipment) and operators without vesselswho rely on chartering space from liner companies—so-called non-vessel-owning common carriers. Thesecorporations frequently keep at arm’s length fromthe large operators and can be quite successfulwithin their particular markets. In view of WestAfrica’s stagnant trade volumes, however, there iscontinued need to closely monitor competitive condi-tions in this critical trade-supporting industry.

Sources: Audige 1995; European Union 1999 and 2000; Pálsson1997; and WTO 2000.

petition. It is also important to recognize thatprivate cooperation can bring benefits to con-sumers of shipping services—notably due toimproved network coordination, which cangenerate economies of scope and a wider choiceof services available to shippers.

Yet one recent study, which examines theimpact of price-fixing and cooperative work-ing agreements on liner freight rates for U.S.imports, concludes that private practices con-tinue to exercise a significant influence onliner freight rates, and that the hypotheticalbreakup of carrier agreements could lead tocost savings of as much as 20 percent (see box4.5). In practice, the extent to which linerfreight rates are pushed up by private anti-competitive practices is likely to differ acrossroutes. Developing country routes are arguablymore prone to such practices, since low overalltraffic volumes limit the number of competi-tors that can be commercially sustained (seebox 4.4).

Seaport services are increasingly driven byprivate capital and competition—In performing their function as the interfacebetween various modes of transport, seaportsprovide multiple services. The management ofships in ports requires a mixture of services re-lated to berthing, including pilotage, towing,and tug assistance. Cargo handling is the mostimportant service in moving goods throughseaports, accounting for 70 to 90 percent oftotal port charges. Other services related tocargo manipulation include customs clearance,storage, and warehousing. Specialized agentsor consignees take on the paperwork and allmatters related to the use of port facilities bya ship. Finally, there is a series of ancillary ser-vices to crew members and ships, includingprovisioning, fueling and watering, garbagecollecting, and repair facilities.38

The last decades have seen profoundchanges in the organization of seaports—thegeneral trend being toward increased privatesector participation and greater competitionwithin and between ports. A variety of owner-ship and operational structures have emerged

with regard to port management and coor-dination, the provision of infrastructure, andthe supply of services. For example, under theLandlord Port concept—which is becomingwidespread worldwide—the public Port Au-thority owns the basic infrastructure—land,access, and protection assets—and leases itout to private operators on a long-term con-cession basis. Under the Tool Port concept thePort Authority owns the infrastructure, the su-perstructure, and heavy equipment, and rentsit to private operators, which carry out com-mercial operations under licenses. The PortAuthority usually retains all regulatory func-tions in the case of landlord and tool ports. Inonly a few ports in the world has port landbeen sold to private operators, and all publicmanagement and regulatory functions beentransferred to the private sector.39

—but smaller ports are at a disadvantage—The feasibility of competitive provision of portservices, especially cargo handling, depends onseveral factors. The availability of port spaceposes a constraint to the number and the de-gree of specialization of port terminals. Sec-ond, traffic levels have to be sufficiently large,such that it is feasible to operate several termi-nals at full capacity. Experience has shown thatthe operation of more than one container ter-minal only becomes viable if port traffic ex-ceeds 150,000 twenty-foot equivalent units(TEUs) per year. Third, competition betweenports depends on geographic factors, the den-sity and quality of inland transport networks,and overall traffic volumes in the greater portregion. In practice, competitive forces arelikely to lead to a cost-efficient provision ofservices only in large seaports and regionalhubs. For smaller ports, ex ante competition,in the form of auctions where private firms bidfor the right to operate a terminal, can extractpotential monopoly or oligopoly rents thatservice providers expect to generate. Further-more, it is necessary to accompany private portparticipation with appropriate regulation overtariffs charged by service providers. Indeed, the


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Arecent study by Fink and others (2001) hasattempted to quantify the absolute and relative

importance of public and private barriers to trade inmaritime services. Using data on liner transportcharges for U.S. imports, broken down to the six-digit Harmonized System commodity level, the studyestimates a model that explains port-to-port linerprices with their standard determinants, rangingfrom distance to containerization, as well as variousproxies for public and private restrictions that existacross countries and on different routes. Publicpolicy restrictions include cargo reservation and theextent to which certain port services, such as pilotageand towing, are mandatory for incoming ships.Private restrictions considered are price-fixing andcooperative working agreements on routes betweenU.S. trading partners and selected U.S. coastaldistricts.

Box 4.5 How important are public and privatebarriers to trade in maritime services?

The econometric results show that both publicpolicy and private practices exercise a significant in-fluence on liner transport prices. Of public restric-tions, the cargo reservation policies that proliferatedin the 1970s and 1980s seem to be largely ineffec-tual, but restrictiveness in the form of mandatoryport services significantly raises prices. Most strikingis the even more powerful effect that private carrieragreements have in keeping prices high. The tablebelow presents the estimated reductions in transportprices due to policy liberalization and the hypotheti-cal breakup of private carrier agreements. While portliberalization would lead to an average reduction intransport prices by 8 percent and cost savings of upto $850 million, the breakup of private carrier agree-ments would cause prices to decline further by 20percent and there would be additional cost savings of up to $2 billion on U.S. routes.

Estimated reductions in liner transport prices

1. Average percentage price reduction 8.27 5.29 15.73 20.05 26.37

2. Projected total savings for all U.S. imports(in millions of dollars) 850.4 544.1 1618.4 2063.0 2712.5

Liberalizationof port services

Breakup ofcooperativeworkingagreements

Breakup ofprice-fixingagreements

Cumulative effectof the breakup ofprivate carrieragreements

Cumulativetotal effect

Note: The average percentage price reductions are computed from the sample of 59 countries included in the study, while the projected totalsavings apply to all U.S. trading partners. Given the functional form of the underlying regression equation, the individual effects do not sumto the cumulative effects. See Fink and others 2001 for additional explanatory notes.

While the study provides important evidence on the forces constraining competition in maritimetransport, several important questions fall outsidethe scope of the empirical analysis. First, the overallrestrictiveness of the port services regime is only im-perfectly captured by the extent to which certainport services are mandatory for incoming ships. Theefficiency of cargo handling—the most importantservice in bringing moving goods through ports—isnot considered in the analysis. Moreover, the dataemployed only capture inefficiencies in the provisionof port services to the extent that they push up linerfreight rates. More research is needed to evaluate

how public and private restrictions directly affectcharges for port and auxiliary services. Second, dueto data availability, the study only considers linertraffic to the United States, where recent reformshave increased the scope for price competition,potentially reducing the role of private carrieragreements. Evidence for other routes involvingdeveloping countries is needed to evaluate howpublic and private barriers to competition affectmaritime shipping.

Source: Fink and others 2001.

creation of regulatory capacity is an importantelement in every port reform package—notonly to monitor and set tariffs, but also to en-sure the safety and quality of services supplied.

With few exceptions, such as Singapore,public port monopolies are typically associatedwith inefficient and expensive services; experi-ence has shown that liberalization programscan, in principle, greatly improve performance(see box 4.6). Yet achieving successful liberal-ization is a complex task—even in developedcountries. To attract long-term private inves-tors, the overall policy regime has to be credi-ble and consistent over time. At the same time,governments need to ensure that efficiencygains are passed on to port users, which re-quires carefully designed concession contractsex ante and appropriate regulatory mechanismsex post. Thus a country with weak institutions,high overall economic uncertainty, a reputationfor policy reversal, and limited regulatory ca-pacity arguably faces a significantly more diffi-cult task in managing the liberalization process.Another frequently encountered obstacle in re-forms is the adjustment to the labor force inport. Due to technological progress, port oper-ations have, over the past decades, becomemore capital-intensive, such that moderniza-tion typically requires the reduction of excesslabor. Forming consensus with workers on thedesign of reforms, retraining programs, andmeasures to soften the social impact of labor re-ductions can overcome some of the resistanceof often-powerful port unions.40

—and powerful operators are emerging atthe global levelOpening port services to the participation offoreign operators can bring special benefits, asmultinational companies often bring technol-ogy, experience, and managerial know-how.Large global port operators can also offer aloyal customer base, networking possibilities,and access to finance. Yet a number of ob-servers have voiced concerns about the risingglobal concentration of the industry. A rela-tively small group of port operators has estab-lished a regional or worldwide presence; by one

estimate this small group now accounts forabout 40 percent of the world’s annual con-tainer liftings.41 While consolidation may bringbenefits to port users, there is the danger thatdominant operators may abuse their marketpower—for example, by offering exclusive con-tracts to shipping lines if they use their world-wide facilities. Such practices may pose the riskthat the benefits from port liberalization are tosome extent captured by foreign firms.

International air transport services areheavily restricted—International air transport is divided into sched-uled passenger, freight, and mail services, andchartered services that depend on momentarydemand. In 1998, scheduled services repre-sented 87 percent of revenues, of which theoverwhelming share (88 percent) came fromthe movement of passengers.42 Internationalairfreight transport can be further divided intopassenger belly-hold freight and dedicatedfreight services. Passenger belly-hold freight istypically cheaper, because freight rates are setat marginal cost, whereas dedicated freightservices need to recover the full costs of oper-ating the aircraft.

Trade in international air transport servicesis heavily restricted by governments around the world—more so than international mari-time transport. Market access of foreign pas-senger and cargo carriers is largely determinedthrough a complex system of bilateral air ser-vice agreement (ASAs), which typically desig-nate the airlines allowed to operate on bilateralroutes, the number and frequency of flightsthey operate, what types of aircraft they use,and how much they charge.43 ASAs also deter-mine the traffic rights of airlines operating onbilateral routes, which are defined by so-calledfreedoms of the air. Under third and fourthfreedom rights, airlines are allowed to carrytraffic between their home countries and for-eign countries. Fifth freedom rights permit anairline of one country to carry traffic betweentwo other countries, provided the flight origi-nates or terminates in its own country. Themost liberal—yet rarely granted—traffic rights


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As part of its overall program of macroeconomicstabilization, liberalization, and public sector

reform, in the 1990s the government of Argentinainitiated a comprehensive reform of the port sector.The reform was a major success, in that it greatlyimproved the performance of Argentina’s largest sea-ports, sustaining a rapid expansion in the volume ofsea-borne trade, growing more than four times from249,000 in 1990 to 1,070 million twenty-foot equiv-alent units (TEUs) in 2000.

Before 1990, Argentinean ports were character-ized by institutional inadequacies, including a majorcorruption problem, inefficient cross-subsidization,and insufficient investment in the modernization ofthe sector. Tariffs charged by the publicly operatedports were reportedly among the highest in theworld. Total cargo moved in the ports fell by 10 percent between 1970 and 1989, with the port of Buenos Aires alone experiencing a 52 percentreduction in traffic.

The overall reform program consisted of a com-bination of devolution of most port responsibilitiesto the provinces, private sector participation, andpromotion of service competition. Provinces weregiven the freedom to operate, concession, or closeports, with the exception of large ports, for whichthe creation of independent autonomous companieswas foreseen. In the case of the port of Puerto Nuevo(Buenos Aires), six terminals were competitively con-cessioned to the private sector, with a payment of aleasing fee to the government for use of infrastruc-ture assets—following the landlord port model. Toimprove the contestability of port operations, thegovernment also established free entry into the sectorby allowing any operator to build, manage, and op-erate a port for public or private use. A new regula-tory agency (Autoridad Portuaria Nacional) was cre-ated under the ministry of the economy. Finally, therestructuring process included a major labor reformthat eliminated restrictive work regulations and soft-ened the social impact of labor reductions.

The main economic effect of the overall reformswas to transform Argentinean ports from the mostexpensive ones in Latin America into the cheapestones—as illustrated in the table below for the port of

Box 4.6 Lessons from reforming Argentina’s portsBuenos Aires. Private investment picked up signifi-cantly in the second half of the 1990s, leading to asubstantial expansion in capacity. Productivity haspicked up sharply, significantly reducing operationalcosts and duration of stay in ports. Combined withmore intense competition between port serviceproviders, this has resulted in a reduction in overallcontainer terminal handling prices.

Improved performance in the port of Buenos Aires

Indicator 1991 1997

Cargo (thousand tons) 4,000 8,500Containers (thousand TEUs) 300 1,023Capacity (thousand TEUs) 400 1,300Cranes 3 13Productivity (tons per employee) 800 3,100Average container time at port (days) 2.5 1.3Charges per container ($/TEU) 450 120

Despite these impressive achievements, unre-solved issues from the first wave of port reforms aswell as changes in the competitive environment inthe sector, although not pressing, demand solutionsin the long run. While intraport competition isworking effectively, the likelihood of future mergersbetween terminal operators at the port of BuenosAires raises the risk of collusion. Improved monitor-ing and benchmarking mechanisms, as well as thefine-tuning of price regulations, may be necessary toensure that services continue to be provided on acost-efficient basis. Inefficient customs operationspose a key constraint toward further productivitygains in the sector and represent a priority for futurereform. Finally, some aspects of Argentina’s portpolicy, such as restrictions on the circulation of con-tainers, are reported to restrain intermodal integra-tion. Addressing this issue in the context of the widerpolicy framework on multimodal transport wouldcontribute to a better performance of the transportsystem nationwide.

Source: Trujillo and Nombela 1999; and Trujillo and Estache2001.

are seventh freedom rights, which allow an air-line of one country to operate flights betweentwo other countries without the flight originat-ing or terminating in its own country.44

—but bilateral arrangements arebecoming more liberal—Over time, ASAs have become increasinglymore liberal. For example, so-called Bermuda-type agreements do not regulate capacity oneach route, but leave it to the designated air-lines to negotiate the number and frequency of flights. “Open skies” agreements are aneven less restrictive type of ASA, which origi-nally emerged on selected routes to and fromthe United States. Under a multiple open skiesagreement, airlines can typically fly on allroutes between two countries without any exante controls on capacity or fares, and aregranted unrestricted fifth freedom rights. Do-mestic reforms, especially the entry of secondand third carriers to compete with the formernational flag carriers have also led to more in-tense competition on a considerable numberof international routes. In addition, unilateraland bilateral policies toward air cargo servicesare, in most countries, more liberal than pas-senger services. Governments have often beenwilling to authorize dedicated freight serviceswhen demand for services exceed what na-tional flag carriers could provide.45

Another noteworthy development is theconclusion of liberal regional air service agree-ments that, at least partially, attempt to over-come the distortions introduced by bilateralpreferences. These are often linked to regionaltrade agreements, such as in the case of thecommon aviation market in the EU or the An-dean Pact open skies agreement. The “Ya-moussoukro Declaration” adopted by Africancountries provides for liberalization of airtransport on the continent by 2002. The fore-seen regime would replace bilateral air ser-vices arrangements and eliminate all restric-tions in traffic rights up to the fifth freedom.

Privatization of state-owned airlines hasalso progressed in the 1990s. More than 70percent of airline companies now have a ma-

jority of private capital. In addition, govern-ments have become less willing to come to therescue of distressed national flag carriers. In-deed, selected countries—notably in the devel-oping world—have allowed the bankruptcyand closure of national carriers. While privati-zation is frequently driven by short-term fiscalneeds, there is growing recognition that director indirect subsidies to national flag carriersdistort the allocation of resources. The tight-ening of competition policies in relation tostate aids has also contributed to a more com-mercially oriented climate in which airlinesoperate today.

Besides restrictive bilateral agreements,market access of foreign airlines is sometimeslimited due to regulatory standards and re-quirements. While it is legitimate for more de-veloped countries to seek higher safety andenvironmental standards, they can potentiallyhave adverse effects on air services with devel-oping countries, which should be taken intoaccount when adopting new standards (box4.7). International cooperation on technicalstandards, for example under the umbrella ofthe International Civil Aviation Organization(ICAO), can play a useful role in forming con-sensus about what are legitimate safety or en-vironmental concerns and what can be consid-ered unnecessarily discriminatory.

—fostering consolidation—A large number of studies have documentedthe benefits of liberal international air servicemarkets in developed economies. In principle,competition between airlines has been shownto result in overall lower prices, and an in-creased range and quality of services.46 Littleformal research has been conducted to evalu-ate the effects of air service liberalization indeveloping countries, but anecdotal evidencepoints to significant inefficiencies as a result of restrictive air service policies. At the sametime, the experience of developed countrieshas shown that liberalization may foster con-solidation in the industry, as airlines seek toexpand the reach of their networks to generatehub-and-spoke economies.


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A regional market with limited traffic mayonly sustain a number of airlines that is smallerthan the number of states in the region. Someobservers have, for example, pointed out thatconsolidation would be a likely consequence ifair services were further liberalized in Africa.Consolidation may be in the consumer’s bestinterest, if economies of scale and scope resultin lower airfares and freight rates, yet it alsoraises the danger that “spoke” routes with thintraffic densities will become monopolized andairfares increase once price and capacity con-trols are removed.47 Achieving successful liber-alization may require the regulation of pricesand the imposition of service requirements onthin routes—at least temporarily until compe-tition has sufficiently intensified.

—and increasing the relevance of private practices. A related concern stems from the emergenceof a large number of airline alliances and code-sharing agreements between airlines of differ-ent countries. One of the main rationales ofthese arrangements has been to expand thereach of existing networks in an environmentwhere cross-border trade and direct invest-ments are restricted by bilateral ASAs.48 Inaddition, regulation and market structure inindustries upstream or downstream from airservices can strongly affect competitive condi-tions for both passenger- and cargo-transport.Chiefly, the allocation of landing and takeoffslots at airports can be used to favor domesticincumbents and lead to a high concentration


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The EU has been continuously framing regula-tions to curb noise pollution within the Com-

munity caused by older types of civil jet aircrafts. Atrade dispute between the United States and the EUhas thus been brewing over the issue of hushkits—retro-fitted noise muffling systems used extensivelyin U.S. carriers to bring older aircraft in conformitywith ICAO standards. The hushkits law, effectivefrom April 2002, would ban all non-EU aircraftwith built-in hushkits that are not already flying inthe EU.

The IL76, an aircraft with high cross-countrycarrying capacity will be prevented from operatingas a result of these regulations. According to one airtransport operator, almost 90 percent of all humani-tarian and disaster relief operations around theworld are performed by the IL76. Such aircrafts playa role in the advancement of emerging industries bycarrying maintenance equipment and spare partsworldwide. They have also been used widely in ser-vicing regions such as Kazakhstan, which lack suffi-cient infrastructure to support Western aircrafts.

Box 4.7 EU noise regulations and their potentialeffect on air service to Central Asian countries

The noise level near airports is determined notonly by the fleet mix serving the airport, but also bythe quantity of aircraft movements. A regulation thatbans such aircrafts in populated areas but not inareas with low population density is an alternativethat can be applied for a limited period until the air-crafts are re-engineered in accordance with the envi-ronmental standards. That could also imply channel-ing some of the air cargo through specialized remotecargo airports.

The negative implications for developing nationsare evident. Delays in urgent relief could have cata-strophic results. Cargo traffic between developingcountries and the EU would also be adversely af-fected, as the costs of maintaining a fleet that is inline with stricter noise regulations would increase.Taking into account the implications for developingcountries when setting environmental laws and regu-lations would make better development policy.

Source: Council of the European Union 1999; and www.coyneair.com.

of services in city-specific markets. Similarly,passenger carriers need access to computerreservation systems, which are provided glob-ally by only a small number of operators.

Unleashing competition ininternational transport: policy implications

Domestic policy action is needed—Government policies can play an importantrole in improving the efficiency of interna-tional transport services. Creating a favorableclimate for private investments, targeted pub-lic infrastructure investments, and regionalcooperation on transport matters can serve to lessen constraints imposed by adverse geo-graphic or economic circumstances. As pointedout in chapter 3, the liberalization of servicemarkets should focus on the removal of entrybarriers in the form of public monopolies orspecifically government policies that directlylimit competition. Such policy-imposed re-strictions are present in a large number ofcountries and can apply to virtually all trans-port services, ranging from public shippinglines, port monopolies, and national flag aircarriers, to controlled freight forwarding, andagency and third party logistics markets.49

Cargo reservation in maritime transport,while still applied in a number of developingcountries, has arguably become less relevant.Liberalization of port services is a much newerphenomenon, but has proved to be a success-ful strategy in improving the performance ofport operations in both developed and devel-oping economies.

Notwithstanding the recent progress to-ward more commercially oriented and liberalair service markets, the current system govern-ing international air transport remains onethat essentially grants preferential access toairlines that reside at one end of an interna-tional route. Even the most liberal bilateralopen skies agreements and regional accords donot grant seventh freedom rights. Preferential

liberalization entails costs, in that market ac-cess may be denied to the world’s most effi-cient airlines, unless those airlines fall underthe ambit of a bilateral agreement. Despite thespread of airline alliances, which has led toimproved international network coordination,limitations on foreign ownership of airlinessimilarly prevent foreign airlines from fullyintegrating service networks and achievingeconomies of scale and scope. In the long term,the goal should be to move toward a nondis-criminatory trade and investment regime in airtransport. Further liberalization at the domes-tic level would contribute to an environment inwhich such a regime would become feasible inthe future.

—as well as a strong regulatory andcompetition policy frameworkLiberalization needs to be accompanied by thedevelopment of appropriate regulatory mecha-nisms. Regulatory intervention is necessary toremedy market failures, to protect consumerinterest and the environment, and to ensure thesafety of services supplied. Good regulation isoften the key to successful liberalization. Al-though there is no unique model of a good reg-ulator, experience has shown that clearly de-fined responsibilities, institutional and somedegree of financial independence, well-trainedstaff, and credibility in the market are impor-tant ingredients to the regulator’s effectiveness.Assistance from bilateral or multilateral donorscan be supportive, especially for newly createdagencies with limited resources.

An adequate competition policy frameworkis needed to address potentially anticompeti-tive business practices by operators, and to en-sure that the gains from policy liberalizationare passed on to consumers of services. In prin-ciple, greater scrutiny of private carrier agree-ments by competition policy would not auto-matically imply the breakup of all forms ofprivate cooperation, but would require a staticand dynamic efficiency test as to whether car-rier agreements, alliances, and other privatepractices—whether in maritime or air trans-


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port—seek to lower operational costs or workto the detriment of consumers.

Yet effective application of competitionpolicy may be difficult— Many developing countries lack an adequatenational competition policy framework to dealwith private practices by transport operators.Although a large number of countries haverecently adopted antitrust laws, examinationand enforcement capabilities often remainweak and take time to develop. There are alsosignificant extraterritoriality problems relatedto the application of national laws to transportservices that are inherently international. Largestates can probably tackle such practices uni-laterally, but small states with limited enforce-ment capacity are at a disadvantage. Coopera-tion on antitrust matters (such as the collectionof evidence) can help in pursuing multijurisdic-tional practices, but, again, such cooperationcurrently is most pronounced only among de-veloped countries.

—in part due to developed countryantitrust exemptionsUndoubtedly antitrust scrutiny of internationaltransport operators in big trading nations, suchas the United States and the EU, is likely to gen-erate positive spillovers for developing coun-tries; yet such positive spillovers are likely to belimited, for several reasons. First, the UnitedStates, the EU, and other countries have histor-ically exempted—at least partially—shippingconferences from the realm of antitrust law, onthe grounds that they provide price stabilityand limit uncertainty regarding available ton-nage.50 In some countries, governments evenfacilitate price-fixing by requiring ocean carri-ers to officially file their rate and schedule in-formation. Similarly, the United States has ex-empted selected airline alliances from the realmof its antitrust law—justified by airlines’ needto share scheduling and pricing information,which could be challenged under existing com-petition regulations. Second, developed coun-try competition laws typically do not take into

account the interests of foreigner consumers,and foreign persons usually do not have stand-ing in developed country courts.

A case can therefore be made to reviewcompetition regulations—including sectoralexemptions—in the major industrial countriesin terms of their potential development impli-cations. This would not only make for betteroverall development implications, but in manycases it could lead to better outcomes in de-veloped countries.

Multilateral negotiations can besupportive of domestic reforms—Reform programs aimed at improving the per-formance of transport services are primarily a challenge for domestic policy. Nonetheless,multilateral agreements can help in severalways to achieve good policy—as chapter 3 hasdiscussed in greater detail. Transport servicesfall under the scope of the General Agreementon Trade in Services (GATS), which was one of the outcomes of the Uruguay Round oftrade negotiations. Measures listed in membercountries’ specific commitments include, forexample, quotas such as cargo reservation poli-cies, foreign ownership limitations of serviceproviders, requirements regarding the legal formof commercial presence, discriminatory taxesand subsidies, restrictions on the hiring of for-eign crew members, and the terms of access toport services and other essential facilities such ascomputer reservation systems.

—but little has been achieved so far—Notwithstanding the broad coverage of theGATS, relatively little has been achieved to dateon disciplining transport services by multilat-eral trade rules. Take the case of maritimetransport services, where negotiations stretchedover a period of nearly ten years.51 Liberaliza-tion was a central concern in the UruguayRound, but at the end of the process only 39WTO–Member countries were willing to offercommitments, most with significant limitations.As in other sectors, such as telecommunicationsand financial services, it was decided to extend


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negotiations in this sector until the end of June1996. However, no agreement could be reachedand negotiations were suspended. Thus eventhough the maritime transport sector is an inte-gral part of the GATS, it is not subject to themost favored nation (MFN) rule, and existingcommitments are limited to those that certainMembers have been willing to make unilater-ally. The suspension of the MFN obligationwas prompted by the difficulty in eliminatingMFN-inconsistent measures in the maritimesector. Examples of such measures are thebilateral cargo-sharing arrangements under the UNCTAD Liner Code of Conduct, and cer-tain unilateral retaliatory actions—such as thosemaintained by the United States—against trad-ing partners who are perceived to resort to re-strictive foreign trade practices.

Liberalization of air transport servicesunder the GATS has also been very limited.Current commitments only apply to three an-cillary services—aircraft repair and mainte-nance services, selling and marketing services,and computer reservation services. The GATSexpressly excludes the core issue of air trafficrights. Because the bilateral structure of theinternational air service regime is fundamen-tally at odds with the MFN principle of theWorld Trade Organization (WTO), exclusionwas preferred to the possibility of scheduling alarge number of MFN exemptions. Several de-veloped countries—in part supported by theirairlines—also preferred to pursue the liberal-ization of air services in a bilateral context.The fact that these countries can obtain a rapidand timely resolution of disputes under the ex-isting bilateral system contributed to the lackof enthusiasm for a strong GATS framework.

—leaving the door open for mutuallybeneficial negotiations in the new roundIn 2000, new negotiations on services wereinitiated, as called for in the GATS. If a broadernew round were to be launched at the Minis-terial Meeting in Doha, Qatar, in November2001, the scope for intersectoral bargainingwould substantially widen and encourage a

broader and deeper exchange of commitmentsby Members. Although specific negotiating in-terests on transport services are likely to varyfrom country to country, there are generalguiding principles that would arguably con-tribute to beneficial outcomes. First, develop-ing countries are likely to gain credibility intheir domestic reforms by binding existingtransport policies in a multilateral commit-ment. Holding on to commitments that are“below” actual policy—for example, moti-vated by the desire to preserve future negoti-ating leverage—entails significant costs, inthat investors may be deterred by the risk of policy reversal. In maritime transport, theprospects for locking in existing policies havearguably improved since the last round of ne-gotiations, as unilateral liberalization in thissector has gathered steam, and a larger num-ber of countries appreciate that restrictions on maritime trade impose a significant cost onthe whole economy.52

Second, developing countries should usethe negotiating process to advance liberaliza-tion of transport services—especially in sec-tors where there are powerful interest groups,such as in port services, which resist reforms.At the same time, market access demands bytrading partners need to be reconciled withdomestic reform priorities and overall devel-opment objectives. This “balancing act” re-quires careful analysis prior to negotiations,which should be supported by bilateral andmultilateral development agencies.

Third, and specifically regarding the cover-age of air transport services under the GATS, astronger multilateral framework for aviationwould, in principle, be desirable and couldcontribute to a more level playing field forsmaller countries. Realistically, application ofthe MFN principle to air transport—for exam-ple, by substituting bilateral quotas with non-discriminatory taxes—would require majorchanges in the way the industry is currentlygoverned, which seems unlikely in the short to medium term. One way forward would beto negotiate the inclusion of air cargo and so-


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called express integrated cargo services, whichare already relatively more liberal than air pas-senger services. In the long term, multilateralrules for these subsectors can create the mo-mentum for a more comprehensive treatmentof air transport under the GATS.

Finally, it may be beneficial to create mul-tilateral disciplines on transport regulation andmeasures that address anticompetitive businesspractices. Such disciplines could unleash adeeper exchange of liberalization commitments,as countries would be more confident that mar-ket access concessions are not reversed by regu-latory barriers and that the gains from more lib-eral policies are not captured by private parties.The Reference Paper on Regulatory Principles,which is part of the 1997 GATS Agreement onBasic Telecommunications, has demonstratedthat multilateral disciplines can play a positiverole in this regard, without aiming at harmoniz-ing regulatory standards or practices. The expe-rience with these behind-the-border issues in theWTO is still young; further work is necessary toevaluate possible options in the transport sector.For example, extending nondiscrimination prin-ciples under the GATS to essential facilities intransportation, such as seaports and airports, orcomputer reservation systems, could make apositive contribution toward a secure tradingregime for transport services. Competition dis-ciplines could call for an end to exemptions ofparticular sectors—such as air and maritimetransport—from domestic antitrust law. An-other useful role the WTO might play in this re-gard is to uncover anticompetitive practices, forexample in the context of the already existingtrade policy reviews mechanism, or in the formof dedicated competition assessments. Develop-ing countries that have limited resources avail-able for this kind of analysis would likely be themain beneficiaries.

Notes1. See Lakshmanan 2001.2. If one assumed a 6.26 interest rate (the average

U.S. Treasury Bill rate in the year of estimation), the

daily capital would be 0.017 percentage ad valorem,roughly 47 times smaller than the measured cost.

3. Amjadi and Yeats (1995) also show that Africancountries use a larger share of their foreign exchangeearnings on net payments for transport services com-pared to other developing country regions.

4. Hummels (1999a) makes similar comparisonsbetween freight rates and import tariffs for severalLatin American countries and, in many cases, findsthat tariffs do exceed transport costs, especially amongmanufactured goods.

5. Note that insurance services are included in thedefinition of freight rates shown in figure 4.3.

6. See Limão and Venables 1999. Geraci and Prewo(1977) estimate a similar elasticity of trade with respectto shipping costs.

7. Hummels (1999a) directly estimates the degreeof goods’ substitutabilities, controlling for the trans-port and tariff incidence on import prices. The studysuggests an even larger trade-inhibiting effect of trans-port costs for individual product categories than theaggregate estimate by Limão and Venables 1999.

8. For an overview of travel cost elasticity estimatesof tourism demand, see Witt and Witt 1995.

9. See Christie and Crompton 2001.10. A recent study on productivity spillovers in Or-

ganisation for Economic Co-operation and Develop-ment countries finds that foreign research and develop-ment (R&D) stocks in distant economies have a muchweaker effect on domestic total factor productivity thando R&D stocks in closer economies (Keller 2001).

11. Indirect evidence for the role of export marketchoice on growth is provided by Vamvakidis 1998.This study finds that the size of open neighbors’ marketand their level of economic development has a positiveeffect on home country economic growth, although afaster growth rate of the neighboring economy wasfound to not provide any positive spillovers.

12. Since direct data on transport costs are unavail-able, Redding and Venables (2001) use geographic dis-tance and the existence of a common border to ap-proximate the effect of shipping costs. Estimations areperformed for a group of 101 developed and develop-ing economies, using 1994 bilateral trade data.

13. See Hanson 1998.14. Interesting new work even suggests that trans-

port costs—as an element of trade costs—help explaina variety of puzzles in the field of international macro-economics. Their role in explaining countries’ homebias in consumption may be the most straightforward,but Obstfeld and Rogoff (2000) also demonstrate thattrade costs can be an explanatory factor of why savingsin most countries are typically invested domestically, oreven why exchange rates are excessively volatile.


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15. It should be pointed out that 1974 is an unfor-tunate year for comparisons, however, because freightrates were pushed up by the oil price shock in the pre-ceding years. Based on similar data from New Zealand,Hummels (1999b) finds that freight costs increased byat least 30 percent between 1973 and 1974, such thatthe decline in ad valorem freight rates between 1974–98would be nearly eliminated.

16. Most of the discussion on ocean and air trans-port is based on Hummels 1999b. This study providesan excellent treatment of available evidence on the evo-lution of international shipping costs.

17. See World Bank 2000.18. See Hummels 2000.19. These estimated growth rates are based on

Hummels 1999b.20. See Hummels 2000. Based on an estimated

daily ad valorem cost of 0.8 percent of the importvalue, this study concludes that, “. . . the advent of rel-atively fast shipping is equivalent to reducing tariffsfrom 32 to 11.4 percent.”

21. In the case of maritime transport, Fink and oth-ers (2001) estimate that a 1 percent increase in distancepushes up liner transport prices by 0.2 to 0.3 percent.Besides fixed transport costs, it is also possible that dif-ferences in the variable costs of shipping across shipsand routes cause freight rates to increase less than pro-portionately with distance.

22. See, for example, Rose 2000 or Limão and Ven-ables 1999.

23. See Limão and Venables 1999.24. See, for example, Radelet and Sachs 1998, and

Limão and Venables 1999.25. See Radelet and Sachs 1998, and Limão and

Venables 1999.26. Improving the infrastructure density index in

the export destination country by one standard devia-tion reduces transport costs by the equivalent of 6,500kilometers by sea or 1,000 kilometers by land.

27. Raising infrastructure density of the medianlandlocked economy to the 25th percentile reduces thedisadvantage of being landlocked by 12 percentagepoints; improving the infrastructure of the transit econ-omy reduces the disadvantage by a further 7 percent-age points.

28. For example, one study for Latin America esti-mates investment needs of $18 billion annually in LatinAmerica for 2000 to 2005, in order to bring road in-frastructure to the upper-middle-income country aver-age of 2.32 kilometers per capita. See Fay 2000.

29. For a more detailed discussion of the role of theprivate sector in transport infrastructure investments,see Estache 1999.

30. This estimate is based on the empirical model ofocean liner shipping by Fink and others 2001.

31. See Hummels 2000.32. Admittedly, such best-practice estimates are

often crude and sometimes do not fully take into ac-count that practices or technologies employed abroadmay not be applicable at home. Moreover, the study isbased on the performance of Brazilian ports in 1997.Since then, port charges have been significantly reducedthrough the concessioning of private container termi-nals to private operators.

33. See Pálsson 1997.34. See Subramanian 2001.35. See World Trade Organization 1998a.36. The UNCTAD Liner Code was adopted in 1974

and entered into force in 1983 through its ratificationby more than 70 countries. Signatories are required todivide the cargo transported according to the followingrule: 40 percent for ships belonging to the exportingcountry, 40 percent for ships belonging to the import-ing country, and 20 percent for ships belonging toother countries.

37. Marín and Sicotte (2001) provide historical ev-idence of how the stock returns of ocean lines respondto anticipated changes in the legal treatment of exclu-sive contracts.

38. See Trujillo and Nombela 1999.39. For a more detailed description of port owner-

ship and management structures, see World Bank 2001a.40. See World Bank 2001b.41. See World Bank 2000.42. These shares were computed from operating

revenue data published in the Statistical Yearbook ofthe International Civil Aviation Organization. Theyrefer to the revenue of scheduled airlines, which in1996 accounted for more than 97 percent of all carrierrevenue.

43. With some exceptions, chartered air servicesremain outside the scope of the bilateral ASAs. Theirauthorization remains largely at the discretion of indi-vidual countries; airlines must satisfy the charter re-quirements of both the origin and destination countriesbefore commencing services.

44. First and second air freedoms grant the right tofly over another country’s territory or to land in an-other country for nontraffic purposes such as refuelingor maintenance. Sixth freedom rights are a combina-tion of two sets of third and fourth freedom rights—they allow an airline of one country to carry traffic be-tween two other countries via its own country.

45. See WTO 1998b.46. See, for example, Dresner and Tretheway 1992,

Gillen and others 1999, Gonenc and Nicoletti 2000,and Productivity Commission 1998.

47. For example, Brueckner and Spiller (1994) sim-ulate the effect of industry consolidation based onstructural estimates of cost and demand parameters in


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the U.S. domestic market. They find that a merger oftwo carriers who share the same hub results in a fareincrease for passengers traveling on routes where pre-viously only the merging carriers operated. Fares onroutes that remain competitive after the merger, how-ever, fall, indicating that density gains compensate forthe loss of competition. Because the merger leads to asubstantial increase in total airline profit, its net wel-fare effect is positive.

48. A recent study on global airline alliances con-cludes that, while the existing alliances are not stableenough to threaten competition of global airline mar-kets, individual alliances may be able to dominate cer-tain hubs or even city pairs (Laaser and others 2000).

49. For example, one study on container transport inChina identified ineffective competition for freight for-warding services—with 80 percent of the market beingcontrolled by two state-owned enterprises—as a reasonfor limited inland container use (World Bank 1996).Similarly, entry restrictions in the provision of thirdparty logistics providers in Brazil are found to adverselyaffect Brazil’s distribution economy (World Bank 1997).

50. The exemptions from competition law in theUnited States and the European Union are arguablyaccompanied by a strong regulatory framework andmechanisms that monitor competitive conditions in theaffected transport markets. At the same time, the inter-ests of foreign consumers are either not or only margin-ally taken into account by authorities in these countries.

51. See Mattoo 2001.52. See WTO 1998b.

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Intellectual property rights can promotedevelopment—One of the most fundamental changes in globalcommercial policy set out by the UruguayRound of trade negotiations was the commit-ment by all World Trade Organization (WTO)Members to adhere to the requirements of theAgreement on Trade-Related Intellectual Prop-erty Rights (TRIPS). TRIPS defines minimumstandards of protection for intellectual propertyrights (IPRs) and their enforcement. IPRs seekto balance the incentives necessary to encour-age future innovations (such as the ability to re-coup the costs and risks of development, andstill earn a profit) against the desire to providewide access to those products in a competitivemarket. Because the overwhelming majority of intellectual property—new inventions, pro-prietary commercial information, digital enter-tainment products, software, trade names, andthe like—is created in the industrialized coun-tries, TRIPS decidedly shifted the global rules of the game in favor of those countries. None-theless, TRIPS may lead to several long-runbenefits for countries that take advantage of itsstandards in an appropriate and flexible man-ner, while complementing those standards withbroader development and competition regimes.

—but should be appropriate to localcapacities and benefits—Developing countries went along with the TRIPSagreement for a variety of reasons, ranging fromthe hope of additional access to agriculturaland apparel markets in rich nations, to an ex-

pectation that stronger IPRs would encourageadditional technology transfer and innova-tion. However, the promise of long-term ben-efits seems uncertain and costly to achieve inmany nations, especially the poorest coun-tries. In addition, the administrative costs andproblems with higher prices for medicines andkey technological inputs loom large in theminds of policy makers in developing coun-tries. Many are pushing for significant revi-sion of the agreement.

There are reasons to believe that the en-forcement of IPRs has a positive net impact on growth prospects. On the domestic level,growth is spurred by higher rates of innova-tion—although this tends to be fairly insignifi-cant until countries move into the middle-income bracket. Nonetheless, across the rangeof income levels, IPRs are associated withgreater trade and foreign direct investment(FDI) flows, which in turn translate into fasterrates of economic growth.

—so the poorest countries may requireassistance and time—The most appropriate level of IPRs enforce-ment therefore varies by income level. In par-ticular, poorer countries—which are less ableto absorb the associated costs, and least likelyto benefit from domestic innovation—mayfind it advantageous to stage implementationof some aspects of IPRs. Since industrial coun-tries are the main beneficiaries of IPRs, andgiven the challenges facing developing coun-tries, the former may find it in their interest to

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Intellectual Property: BalancingIncentives with Competitive Access

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provide assistance to the poorest countries forthe implementation of TRIPS.

—and they also may require special consideration in the case of essential medicinesThe least-developed countries face critical needsfor access to new drugs and vaccines that maybe developed for treating human immunode-ficiency virus/acquired immune deficiency syn-drome (HIV/AIDS), malaria, tuberculosis, andother diseases. Patent protection will raise in-centives marginally for drug firms to invent suchtreatments but could also support considerablyhigher prices. A mechanism needs to be foundto reward innovation in this area while provid-ing new medicines to poor countries at low cost.

Intellectual property rights and development

RationaleAt their most basic level, intellectual propertyrights exist to strike a balance between theneeds of society to encourage innovation andcommercialization of new technologies, prod-ucts, and artistic and literary works, on the onehand, and to promote use of those items, onthe other. Intellectual property takes severalforms (box 5.1). The need for intellectual prop-erty protection arises from the fundamentalcharacteristics of information. It is often costlyto develop new technologies and products,requiring considerable investment in researchand development (R&D) with uncertain pay-offs. The investment extends further to thecosts of bringing new ideas to the marketplace.

These costs must be recovered through atemporary ability to set prices above marginalcosts of production. If an intellectual creation ispotentially valuable but easily copied and usedby others, there will be free riding by competi-tive rivals. Such behavior would quickly drivethe price to marginal production cost and pre-vent the inventor from recouping investmentcosts, thereby discouraging innovation. Societyhas a dynamic interest in limiting free riding to

benefit from the introduction of new productsand technologies. This goal is achieved by theexclusive market positions afforded by IPRs.

At the same time, society has an interest inpromoting widespread access to new productsand information. Countries therefore limit thescope and duration of protected exclusivity inorder to place goods into the public domainafter an adequate expected return has beenearned. There is an obvious tension betweeninvention and dissemination.

Despite the inherent difficulty of measure-ment,1 a growing body of empirical work sug-gests that IPRs, as represented by legislatedpatent rights, influence international eco-nomic activity and growth performance.2

Like other economic policies, IPRs are cho-sen by governments in response to competinginterests. Thus the strength of intellectualproperty protection depends on economic andsocial circumstances, which in turn affect per-ceptions of the appropriate tradeoff betweeninvention and dissemination. Historically,countries have adopted stronger IPRs onlywhen domestic interests in their favor becamesufficiently strong to decide policy. This is fur-ther supported by the wide variation in stan-dards across countries. The stronger the capa-bilities of a nation’s enterprises to developdistinctive products and new technologies, thegreater the preferences of consumers for qual-ity guarantees among similar products; thewider the markets in which artists wish to selltheir music and literature, and the easier it is tomisappropriate the returns to invention throughimitation, the more pronounced will be inter-ests in protection.

Enforcement of rights increases with income—Several stylized facts emerge from the litera-ture about the level of development and IPRs.First, countries with a high ratio of R&D ingross domestic product (GDP) or a high pro-portion of scientists and engineers in the laborforce have markedly stronger patent rightsthan others. Clearly such countries desire toprotect returns to inventive activity.


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I N T E L L E C T U A L P R O P E R T Y

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At the broadest level, intellectual property has tra-ditionally been divided into industrial property,

or inventions and identifying marks that are usefulfor industry and commerce, and artistic and literaryproperty, or works of culture. This distinction re-flected a perception that cultural creations differedfundamentally from functional commercial inven-tions. However, this distinction has blurred consider-ably in the age of information technology and digitalproducts.

There are four primary forms of industrial prop-erty rights. First, a patent awards an inventor theright to prevent others from making, selling, or usingthe protected product or process without authoriza-tion for a fixed period of time within a country. Inreturn, society requires that the application be pub-lished in sufficient detail to reveal how the technologyworks, thereby increasing the stock of public knowl-edge. The minimum period of protection requiredunder TRIPS is 20 years from the date an applicationis filed. Many countries recognize utility models orpetty patents, which award rights of shorter durationto small, incremental innovations requiring someinvestment in design and development.

A second form is industrial designs whichprotect the aesthetic aspects of a useful commercialarticle. TRIPS requires that designs be protected fora minimum of 10 years.

A third mechanism includes trademarks andservice marks, which protect rights to use a distinc-tive mark or name to identify a product, service, orfirm. The fundamental objective of these marks is toreduce consumer search costs and remove consumerconfusion over product quality and origin.

A related device is geographical indications,which certify that such products as wines, spirits,and foodstuffs were made in a particular place andembody quality characteristics of that location.

Artistic, musical, and literary works are pro-tected by copyrights, which grant exclusive rights tothe particular expression of the work for a period of time, typically the life of the creator plus 50 years(70 years in the United States and the EuropeanUnion). Copyrights cover only expressions ratherthan ideas, and therefore provide thinner protectionthan patents. Rights extend to the duplication, dis-play, performance, translation, and adaptation of the

Box 5.1 An overview of intellectual property rightsworks. The primary limitation on copyright protec-tion stems from the fair-use doctrine, which definesconditions under which copying for noncommercialpurposes is permitted.

TRIPS requires that computer programs beprotected, at least by copyrights, under the principlethat software code is a literary expression. However,countries may vary in the degree to which reverseengineering of computer programs is permitted underthe fair-use doctrine.

Because computer programs may constitute acommercially useful process, a number of developedcountries permit firms to patent them. This policy ispushing patent protection more deeply into newareas, including methods of doing business on theInternet. A similar evolution explains the tendencytoward awarding patents for biotechnologicalresearch tools.

For some technologies sui generis, or special,protection regimes exist. One is the design of inte-grated computer circuits. These are more than literaryexpressions, but the inventive step is often minimal,suggesting a compromise between patent and copy-right. Indeed, a 10-year protection term is providedand requires only novelty in expression. Another isplant breeders’ rights (PBRs), which permit develop-ers of new, distinctive, and genetically stable seed va-rieties to control their marketing and use for a fixedterm. Many countries limit these rights by permittingan exception for farmers to use seeds for subsequentreplanting, and for researchers to study the seeds.

Although not literally IPRs, a related area ofbusiness regulation lies in defining the boundaries ofprotection for proprietary trade secrets of rival firms.A production process or formula may be kept secretwithin the firm, but if a competitor learns the confi-dential information through legitimate reverse engi-neering, the originator has no rights to exclude itsuse. Unfair competition includes such activities asindustrial espionage, inducing employees to revealtrade secrets, and encouraging defection of technicalemployees to produce their own versions of a prod-uct based on proprietary information. However,there is considerable variability in such definitionsacross countries.


Second, the evidence suggests that interestsin encouraging low-cost imitation dominatepolicy until countries move into a middle-income range with domestic inventive and ab-sorptive capabilities.3 Only at high incomelevels do patent rights become strongly pro-tective. These findings may be explained bythe nature of technological development.Least-developed countries devote virtually noresources to innovation and have little intel-lectual property to protect. As incomes andtechnical capabilities grow to intermediatelevels, some adaptive innovation emerges butcompetition flows primarily from imitation.Thus, the majority of economic interests pre-fer weak protection. As economies mature tohigher levels of technological capacity and de-mands shift toward higher-quality products,domestic firms come to favor protective IPRs.Finally, the strength of IPRs shifts upward atthe highest income levels (Evenson and West-phal 1997). Not only do legislated IPRs be-come stronger, but enforcement and compli-ance also rise with income levels.

—and with greater openness of tradeThird, countries that are more open to tradetend to have stronger patent rights. This resultsuggests that trade interacts positively withthe demand for intellectual property protec-tion and, possibly, domestic innovative efforts.Finally, the size of an economy, as measuredby absolute GDP, has no detectable correla-tion with patent rights. Thus, even in large de-veloping countries such as India and China itmay be some time before patent rights are ef-fectively enforced.

IPRs and international economic activityIn strengthening their IPRs regimes—eitherunilaterally or through adherence to TRIPS—developing countries may be able to attractgreater inflows of technology. The three chan-nels through which technology is transferredacross borders include international trade ingoods and services, foreign direct investment,and contractual licensing of technologies.

IPRs can boost trade volumes—Imports of goods and services can transfer anddiffuse technology. For example, imports ofcapital goods and technical inputs could reduceproduction costs and raise productivity. An im-portant question is whether IPRs affect suchtrade flows. Maskus and Penubarti (1995,1997) estimated changes in imports of manu-facturing goods and high-technology manufac-tures that could be induced by stronger patentrights. A patent index from Rapp and Rozek(1990) was increased by various amounts fordifferent countries to reflect roughly the com-mitments required by TRIPS. The anticipatedimpacts on trade volumes depended on the ex-tent of patent revisions, market size, and reduc-tions in the imitation threats from complyingwith TRIPS. Estimated effects on trade rangedfrom small impacts in the United States andSwitzerland, which were not required to under-take much legal revision, to substantial in-creases in imports in China, Thailand, Indone-sia, and Mexico, which must adopt strongerrights.4 Mexico updated its IPRs regime earlybecause of commitments made under NAFTA.

The study found significant impacts ofIPRs change on import volumes of developingcountries. For example, there was an antici-pated increase in manufactured imports intoMexico of $6.3 billion, amounting to 9.4 per-cent of its real manufactured imports in 1995.Thus, evidence suggests that the long-run im-pacts could be substantial. The estimated in-crease in China’s high-technology imports was$2.8 billion, or just under 2 percent of its totalimports in 1995. Note that Coe, Helpman,and Hoffmaister (1997) found that total fac-tor productivity (TFP) is enhanced in develop-ing nations through such imports. In principlethere could be a notable bonus to productivityperformance.

However, most of the largest predicted im-pacts were in nations with strong imitationcapacities, such as Argentina and Brazil. Incontrast, India and Bangladesh would experi-ence relatively weak, though positive, tradeimpacts.5


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Table 5.1 TRIPS: who gains?Estimated changes in Payments for Technology and in FDIFlows for selected countries for full application of TRIPS(millions of 2000 dollars)

U.S. receipts fromNet Unaffiliated

patent U.S.-owned Royalties andCountry rents FDI Assets License Fees

United States 19,083 n/a n/aGermany 6,768 –1,180 100Switzerland 2,000 –102 0France 3,326 n/a n/aAustralia 1,097 –279 2Ireland 18 –267 14New Zealand –2,204 –83 4Portugal –282 97 n/aGreece –7,746 51 n/aNetherlands 241 –1,503 32Spain –4,716 –341 47Japan 5,673 –2,533 783United Kingdom 2,968 –1,369 29Canada –574 –2,396 69Panama n/a 309 n/aIsrael –3,879 6 0.6Colombia n/a 1,190 n/aSouth Africa –11 25 11Rep. of Korea –15,333 270 388Mexico –2,550 3,465 148India –903 139 63Brazil –530 3,505 124Argentina n/a 721 64Chile n/a 1,062 n/aChina –5,121 687 n/aIndonesia n/a 1,966 181

Source: World Bank staff and Maskus (2000a). Figures for netpatent rents update McCalman’s (2001) coefficients applied to1995 data. Calculations for the stock of FDI assets use coeffi-cients from an econometric analysis of the impacts of patentrights on patent applications, affiliate sales, exports, and affili-ate assets, using data over 1986–94 for the foreign operationsof U.S. majority-owned manufacturing affiliates in several de-veloped and developing countries. These coefficients were ap-plied to 1994 asset stocks and updated to year 2000 dollars.Computations for royalties and license fees use coefficientsfrom an econometric analysis of the effects of patent rights on U.S. licensing volumes in manufacturing for 26 countriesin 1985, 1990, and 1995. These coefficients were applied to1995 royalty fees and updated to year 2000 dollars.

—and attract FDI inflows and licensesA primary channel of technology transfer isFDI. IPRs should have varying importanceacross sectors with respect to encouragingFDI. Investment in low-technology goods andservices should depend less on the strength ofIPRs and more on input costs and market op-portunities. Investors with technologies thatare costly to imitate also would pay little at-tention to local IPRs. However, firms with eas-ily copied products and technologies, such aspharmaceuticals and software, would be quiteconcerned about the ability of the local IPRssystem to deter imitation. Firms consideringinvesting in a local R&D facility would payparticular attention to protection of patents andtrade secrets (Mansfield 1994, 1995).

Thus, the strength of IPRs and the ability toenforce contracts could have important effectson decisions by multinational firms in certainsectors on where to invest and whether totransfer advanced technologies. Table 5.1 re-ports results from the econometric estimationof a model of FDI and patent rights (Maskus1998).6 Using the Ginarte-Park index, therewas a negative elasticity of FDI assets with re-spect to patents in high-income economies, buta strongly positive elasticity among developingeconomies. Applying these impacts to antici-pated changes in patent laws from TRIPS gen-erates the estimated impacts on asset stocks incolumn 2. Reductions in asset stocks in Japanand Canada would amount to over $2 billion,for example.7 However, FDI assets would risesignificantly in Brazil, Mexico, Chile, and In-donesia as a result of stronger patents. Indeed,the increase in the Mexican FDI assets wouldbe 2.6 percent of the 1994 stock of U.S.-ownedassets in that country, and in Brazil that wouldbe 7.4 percent. Note that these figures relatedsolely to U.S.-owned assets. If multinationalfirms headquartered in other developed nationswere to react similarly, there would be evenlarger increases in overall inward FDI stocks.

Other studies of FDI and intellectual prop-erty protection bear mixed messages. Lee andMansfield (1996) statistically related the in-

vestment decisions of U.S. multinational en-terprises to their perceptions of the weak-nesses of IPRs in a sample of developing coun-tries. They found that FDI is negativelyaffected by weak protection. Using firm-leveldata, Smarzynska (2001) discovered that for-eign investors considering operations in thecountries of Eastern Europe and the Former


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Soviet Union pay attention to patent rights. Inparticular, investment in technology-intensivesectors is deterred by weak protection; in allsectors weak protection discourages invest-ment in production facilities but does notdeter investment in distribution. Smith (2001)also found that international FDI flows arepositively related to IP protection. Using a dif-ferent econometric approach, however, Fink(1997) could not detect a significant impact of patent rights on various measures of FDIactivity by U.S. or German multinational en-terprises. Thus, there remains statistical am-biguity about the nature of the relationshipsbetween IPRs and FDI, though most studiessuggest it is positive.

Yang and Maskus (2001) studied technol-ogy licensing. The figures in the last column oftable 5.1 update their results of estimating theimpacts of international variations in patentrights on the volume of unaffiliated royaltiesand licensing fees (a measure of arm’s lengthtechnology transfer) paid to U.S. firms. Japanhad a large absolute response, reflecting theimportance of licensing in the Japanese econ-omy. However, large impacts were also dis-covered in the Republic of Korea, Mexico,Brazil, and Indonesia. Indeed the analysis sug-gested that licensing volumes would double inMexico and India, and would go up by a fac-tor of nearly five in Indonesia.

The findings discussed here are economet-ric predictions of long-run impacts of patentreforms on imports, FDI, and market-basedtechnology transfer. The figures are not defin-itive but do support the view that strongerIPRs could have potentially significant andpositive impacts on the transfer of technologyto developing countries. This conclusion isstrongest for middle-income developing coun-tries. The results are less positive for the least-developed economies, where the potential formarket-power effects looms larger.

IPRs and innovation in developing countriesDeveloping nations also hope that strongerintellectual property protection could encour-

age domestic innovation, product development,and technical change. It is possible to structureIPR systems in ways that promote dynamiccompetition through technology adaptation,learning, and follow-on innovation. However,many developing countries have regimes thatfavor imitation of foreign products and tech-nologies and discourage domestic technicalchange. Indeed, inadequate IPRs can limit in-novation even at low levels of economic devel-opment. This is because much invention andproduct development are aimed at local mar-kets and could benefit from domestic protec-tion of patents, utility models, and trade secrets(see box 5.1). In the vast majority of cases, in-vention involves minor adaptations of existingtechnologies and products. The cumulative im-pacts of these small inventions can be critical forgrowth in knowledge and productive activity.

An example is that protection for utilitymodels (or “petty patents”)—minor adap-tations to existing technologies—improvedproductivity in some countries (Evenson andWestphal 1997). In Brazil, utility modelshelped domestic producers gain a significantshare of the farm machinery market by en-couraging adaptation of foreign technologiesto local conditions. Utility models in thePhilippines encouraged successful adaptive in-vention of rice threshers.

In another example, the Japanese patent sys-tem (JPS) affected postwar Japanese technicalprogress (Maskus and McDaniel 1999). TheJPS in place over the period 1960–93 was de-signed to encourage incremental and adaptiveinnovation and diffusion of technical knowl-edge into the economy. It stimulated large num-bers of utility model applications, which werebased in part on published prior applicationsfor invention patents. In that study utility mod-els had a strongly positive impact on real TFPgrowth over the period, because they were animportant source of technical change and infor-mation diffusion. It is interesting to note that asJapan has become a global leader in technologycreation, its patent system has shifted awayfrom encouraging diffusion and more towardprotecting fundamental technologies.


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If constructed well, IPRs also stimulate ac-quisition and dissemination of new informa-tion. Patent claims are published, allowingrival firms to use the information in them todevelop further inventions. A recent study ontrademark use in Lebanon suggests that inno-vation through product development and the entry of new firms is motivated in part bytrademark protection, even in poor nations(Maskus 2000b). Firms in the Lebanese ap-parel industry are capable of designing cloth-ing of high quality and style aimed at MiddleEastern markets. Their efforts have been frus-trated by trademark infringement in Lebanonand in neighboring countries. Firms in thefood products sector suffered from rivals pass-ing off goods under their trademarks. Theproblem has restrained attempts to build mar-kets for Lebanese foods in the Middle East andelsewhere. Related difficulties plagued innova-tive producers in the cosmetics, pharmaceuti-cals, and other sectors. Thus, product develop-ment and enterprise growth have been stifled bytrademark infringement targeted largely at do-mestic enterprises.8

Copyright protection can induce investmentsin creative activities and also stimulate innova-tion. Where protection is weak, such copyrightindustries as publishing, entertainment, andsoftware are dominated by counterfeiting ratherthan domestic creation. Thus, lower-qualitycopies are widely available, but the economy’scultural and technological development may behampered. For example, Lebanon has a smallbut vibrant film and television industry thatcould successfully export to neighboring econ-omies if those countries adopted stronger copy-right protection (Maskus 2000b). In the face ofdifficulties in expanding their markets, Chinesesoftware enterprises are now playing a role inpromoting enforcement (Maskus, Dougherty,and Mertha 1998). Finally, work in such coun-tries as Jamaica and Senegal shows that weakcopyrights and the absence of supporting insti-tutions, such as professional collection societies,significantly reduce incentives for local musi-cians to record and market their compositions(World Bank 2000).

At the same time, in many poor countries,the effectiveness of all types of intellectualproperty instruments is held back by inade-quate administration and enforcement proce-dures. These inadequacies may be due to cor-rupt and inflated bureaucracies or weaknessesin the legal system at large—frequently affect-ing also the security of real and physical prop-erty rights. Hence, a weak overall governancestructure typically poses one of the biggestchallenges to harnessing the positive contri-bution IPRs can make to the developmentprocess.

IPRs can boost growth prospectsThe analysis reviewed here suggests that se-lecting appropriate IPRs systems could boosteconomic growth. History does not providestrong guidance on this hypothesis. At differ-ent times and in different regions of the world,countries have realized high rates of growthunder varying degrees of IPRs protection.

Two recent empirical studies have consid-ered this question in a cross-country econo-metric framework. Gould and Gruben (1996)related economic growth rates across manycountries to a simple index of patent strengthand other variables. They found no strong di-rect effects of patent rights on growth, but therewas a significantly positive impact when thoserights were interacted with a measure of open-ness to trade. The impact of stronger patentlaws in open economies was to raise growthrates by 0.66 percent, on average. This suggeststhat market liberalization and IPRs jointly in-crease growth.

Park and Ginarte (1997) studied how IPRsaffect growth and investment. They found nodirect relation between patent strength andgrowth, but there was a strong and positiveimpact of patent rights on physical investmentand R&D spending, which in turn raised growthrates.

While these results are encouraging, the linkbetween IPRs and long-term economic growthremains poorly understood, and is likely to re-main controversial. More research is necessaryto provide better guidance to policymakers.


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Costs of enforcing IPRs

While developing countries may enjoylong-run gains from strengthening their

systems, the transition to stronger protectioninvolves short-run costs that are not trivial.

Administrative costsIt is costly to develop the administrative and en-forcement mechanisms necessary to support amodern system of intellectual property protec-tion. Costs include upgrading offices for regis-tering and examining patents and trademarks,and for accepting deposits of plant materials;training examiners, judges, and lawyers; im-proving courts to manage intellectual propertylitigation; and training customs officers and un-dertaking border and domestic enforcement ac-tions. The United Nations Conference on Tradeand Development (UNCTAD 1996) providedsome estimates of the administrative costs ofcomplying with TRIPS in various developingcountries. In Chile, additional fixed costs fromthis upgrade were estimated at $718,000 andannual recurrent costs at $837,000. Egyptianfixed costs would be perhaps $800,000, withadditional annual training costs of around $1million. Bangladesh anticipated one-time costsof administrative TRIPS compliance (draftinglegislation) amounting to $250,000, and over$1.1 million in annual costs for judicial work,equipment, and enforcement efforts. If trainingcosts were included it is likely that a compre-hensive upgrade of the IPRs regime in the poor-est countries could require an up-front expen-diture of $1.5 to $2 million, plus recurrent costs.Finger and Schuler (1999) report World Banksurveys finding that these costs could be farhigher.

Given other pressing needs in education,health, and policy reform it is questionablewhether the least-developed countries would bewilling to absorb these costs, or indeed whetherthey would achieve much social payoff frominvesting in them. Moreover, note that poorcountries are extremely scarce in trained admin-istrators and judges, suggesting that one of thelargest costs would be to divert scarce profes-sional and technical resources out of potentially

more productive activities. Indeed, in manypoor countries, devoting more resources to theprotection of tangible property rights, such asland, could benefit poor people more directlythan the protection of intellectual property.

Three factors could help offset these costs.First, intellectual property offices may chargefees to defray their costs. Fees should be set to meet the innovation and commercializationneeds of each country. Second, poor countriesmay petition for technical and financial as-sistance from industrial countries and fromthe World Intellectual Property Organization(WIPO) and the WTO. Unfortunately, the re-sources available are small in relation to theunderlying needs. Third, authorities may takeadvantage of cooperative international agree-ments to reduce administrative costs. Mem-bership in the Patent Cooperation Treaty, forexample, provides significant economies be-cause examiners may read the opinions madeby major patent offices about novelty and in-dustrial applicability, rather than undertake suchtechnical examinations themselves.

Rent transfersPatents are overwhelmingly owned by inven-tors in the industrialized countries. For examplein Mexico in 1996, only 389 patent applica-tions came from domestic residents, while over30,000 came from foreign residents, mostly inthe United States and the EU. Brazil’s domesticapplications were just 8 percent of total appli-cations in that same year. In the poorest coun-tries virtually no patents are granted to domes-tic residents. As patent rights are strengthened,this relative imbalance could be reversed tosome degree, particularly in countries that de-velop innovation systems and inventive enter-prises. However, inventors from developed coun-tries are expected to apply for most patents forthe foreseeable future.

As patents and trade secrets are better pro-tected, imitation costs rise and the ability ofpatent holders to set higher prices and licenseand royalty fees is enhanced. Thus, one impactof TRIPS will be to transfer economic rents fromtechnology importers to technology developers.


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Suggestive evidence is provided in table 5.1.Firms own patents in various countries, thevalues of which depend on local protectionand market size. In an interesting study, Mc-Calman (2001) used an econometric model tocompute the value of these patents in 1988.World Bank staff used his methods and regres-sion coefficients to compute the values of in-ternational patents among 28 nations in 1995,using the Ginarte-Park patent index, patentapplications, and GNP levels. Note that bothpatent applications and GNP had reached farhigher levels in the later year, thereby raisingthe value of patent portfolios. To assess thechange in patent rents associated with strongerIP protection, the index for each country wasincreased to reflect obligations accepted in theTRIPS Agreement.

The figures in the first column of table 5.1show that overwhelmingly the United Stateswould gain the most income in terms of staticrent transfers, with a net inflow of some $19.1billion per year. U.S.-headquartered firmsowned numerous patents in many countriesthat were required by TRIPS to strengthentheir intellectual property protection, whileU.S. law was subject to little change. Germanywould earn an additional net income of $6.7billion on its patent portfolio. Many countrieswould experience a rising net outflow of pa-tent rents because they tend to be net technol-ogy importers. Korea would register the larg-est net outward transfer of some $15.3 billionbecause of the large rise in volume of patentsregistered there. Developing countries alsowould pay more on their patent stocks, withChina experiencing a net outward transfer ofaround $5.1 billion per year. These calcula-tions are static and ask only what the addi-tional income on existing patents would havebeen under TRIPS. They suggest that TRIPScould have a significant impact on net incomesearned from foreign patents.

Prices of patented drugsBy January 1, 2005, developing countries mustprovide patents for new pharmaceutical prod-ucts and most have already implemented pa-

tents or exclusive marketing rights. Nothing is more controversial in TRIPS. It is conceiv-able that patent protection will increase incen-tives for R&D into treatments for diseases ofparticular concern to poor countries. Howeverbecause purchasing power is so limited in thepoorest countries, there is little reason to ex-pect a significant boost in such R&D. Accord-ingly, many developing countries see little po-tential benefit from introducing patents.

In contrast, potential costs could be signif-icant. Pharmaceutical supplies in many devel-oping countries often come from domestic orimported generic competition. Such competi-tion for drugs on patents in the industrializedcountries helps sharply lower drug costs in de-veloping nations with active pharmaceuticalindustries. In the future, enterprises in thesecountries must wait until patent expiration be-fore they can compete with generic versions,or else must produce under license to patentholders. It should be noted that if firms choosenot to register patents in certain countries, thisissue will not arise.

There is some scope for stronger patents toencourage local firms to develop patentabledrugs themselves. Several Indian enterprisesclaim to be developing treatments that may be patentable abroad, although they currentlyrefuse to place them on the Indian market forfear of imitation.9 In most cases, however,local enterprises will come under pressure toclose down or form alliances with larger firms,resulting in a concentration of the industry.There is evidence that patents generate consid-erably higher prices for protected drugs thanfor copied and generic drugs (Lanjouw 1998;Fink 2001). Watal (1999) computed that sta-tic price impacts of patent coverage in Indiacould raise average patented drug prices by atleast 26 percent from a 1994 base.

In light of this possibility, developing coun-tries need to gird themselves with policies that,while consistent with TRIPS, bear potential tomoderate the price impacts of new patents. Re-cent attempts by South Africa and Brazil to pushthe boundaries of TRIPS in this regard haveproven contentious, as discussed in box 5.2.


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In response to TRIPS, South Africa and Brazil re-cently introduced new laws bearing directly on the

ability of those countries to react to price increasesthat may emerge from patents. The greatest spur tothese attempts to limit patent rights came from a de-sire to procure AIDS drugs at affordable prices inorder to manage that enormous health-care crisis.Both laws are controversial.

South African Medicines LawIn November 1997 South Africa enacted significantamendments to the Medicine and Related SubstancesControl Act. The amendments permit the healthminister to revoke pharmaceutical patent rights inSouth Africa if he deems the associated medicines tobe too expensive. They further empower the ministerto order compulsory licensing if the patentee engagesin abusive practices, defined basically as a failure tosell a drug in adequate amounts to meet demand, ora refusal to license the product on reasonable termsso that domestic firms may meet demand. They alsopermit parallel importation (imports of original orgeneric versions without the authorization of theSouth African patent holder) of drugs, and allow thehealth minister to override regulatory decisions con-cerning the safety and registration of medicines. Thelaw requires pharmacists to employ generic substitu-tion (prescribe generic versions of patented drugs)unless the doctor or patient forbids it, sets limits onpharmacy markup rates, and bans in-kind induce-ments from drug manufacturers to physicians.

While it may be a heavy dose of regulation,South Africa’s law is probably consistent with TRIPS(Abbott 2000). While some legal scholars claim thatpatent rights necessarily extend to an ability to pre-clude parallel imports, the bulk of opinion is thatArticle Six of TRIPS provides full latitude for eachcountry to choose its own policy on exhaustion. Be-yond this issue, Article 31 of TRIPS provides amplegrounds under which compulsory licenses may be is-sued, subject to certain conditions (Watal 2001). Inparticular, licensing may be compelled where aprospective user has failed to achieve a license fromthe patent holder on reasonable commercial termswithin a reasonable period of time, so long asmarket-based compensation is paid. Compulsory

Box 5.2 Pharmaceutical policies and the limits of TRIPS

licenses may be issued without observing even theseconstraints in cases of national emergency. Finally,the price-control provisions of the South Africanamendments do not seem to be restrained by TRIPS,which does not address domestic health regulation.

Brazilian Industrial Property LawBrazil passed an industrial property law (Law No.9,279) that came into effect in 1997. The law up-dated most aspects of Brazil’s industrial propertyregime to comply with TRIPS. It provides patents forpharmaceutical products as required. However, itpermits the issuance of compulsory licenses in caseswhere patent holders choose to supply the marketthrough imports rather than local production. Thatis, Brazil’s law does not recognize imports as amethod for meeting its “working requirements” onthe Brazilian market. The legislation explicitly de-fines “failure to be worked” as “failure to manufac-ture or incomplete manufacture the product” or“failure to make full use of the patented process.”While the Brazilian industrial property law refers toall patents, its most aggressive use is aimed at trans-ferring production of AIDS drugs to domestic firmsand government agencies in order to reduce theirprices below those on the U.S. and European mar-kets. Media reports indicate that this active interven-tion has dramatically reduced treatment costs inBrazil.10 In combination with prevention programsand effective methods for distribution and clinicalstays, the country has limited AIDS mortality to farlower levels than those in Sub-Saharan Africa.

It remains to be seen whether Brazil’s insistenceon local production as a working requirement maybe sustained within TRIPS. Because it applies to allpatented items and not solely to medicines, the lawmay generate less sympathy among the WTO mem-bership than the South African law, despite its evi-dent value as a threat to bring down prices. In nego-tiating TRIPS, patent advocates strongly favored anend to domestic production requirements, lendingsupport to the American view on their inconsistency.


Agricultural inputs Under TRIPS, patents must be awarded toagricultural chemicals and biotechnological in-ventions, and effective protection must be pro-vided for plant breeders’ rights (PBRs). Becausefarming is the mainstay of economic activity in many developing countries, policies that in-crease costs of key agricultural inputs could bedamaging. Plant strains bioengineered for pest-and drought-resistance are of particular inter-est to many developing countries. Note thatplant patents preclude the breeder’s researchexemption and, unless explicitly allowed for inthe rules, also the farmer’s privilege to retainseeds for replanting. Experience from LatinAmerica suggests that providing PBRs whileretaining this privilege does not much disad-vantage farmers (Maskus 2000a).

Genetic materials and indigenousknowledgeBecause firms can attain patents in some in-dustrialized countries on products developedfrom plant and animal resources they findanywhere, incentives exist to extract such ma-terials as sources for new drugs, food prod-ucts, and cosmetics. New patents in develop-ing countries will increase such incentives.This “bioprospecting” raises several concerns.First, foreign patents have been awarded toproducts and formulas that were alreadyknown in the source countries, or were simpleimprovements, preventing those with the orig-inal know-how from marketing abroad (Duranand Michalopoulos 1999). Second, genetic ma-terials often do not bear adequate propertyrights. Plants may be extracted from publiclands or from farms and villages that cannotassert ownership or represent collective inter-ests. The resources may be acquired withoutcompensation or attention to socially optimalextraction rates.

There is much know-how in developingcountries among tribes, villagers, and other col-lective units about how to produce foodstuffs,apparel designs, and artistic works. Because theknowledge is a collective good, and therefore ofuncertain ownership, it has proven difficult to

apply standard intellectual property tools to itsprotection. Many such products and designshave found their way into international com-merce under protection in foreign countries,however, as firms abroad copy and register them.

These problems point to a shortcoming inTRIPS. That agreement makes it clear that in-ventions from genetic resources are patentableexcept in unusual circumstances. However, itis silent on the issue of how nations may reg-ulate their extraction, an issue in which IPRsare only one consideration. Similarly, it con-tains no provisions for defining and protectingrights in collective knowledge. It is importantfor the global community to work out appro-priate mechanisms for ensuring the appropri-ate valuation of resources and knowledge andfor effecting payments that both conserve thematerials and provide incentives for efficientinnovation.

IPRs policies for promotingdevelopment

Despite the significant costs, stronger intel-lectual property protection could produce

gains in the long run through greater domesticinnovative activity and cultural creation, prof-itable international exploitation of that activity,enhanced structural transformation, and in-creased technology transfer. These gains aremore likely to materialize if countries adoptstandards and supporting policy regimes thatpromote competitive processes on their markets.

IPRs standards at varying levels of development—TRIPS prevents countries from discriminatingbetween domestic and foreign firms in thetreatment of IPRs. Beyond this basic stipula-tion, however, TRIPS contains considerableflexibility in implementing and enforcing stan-dards that are conducive to development. Oneimportant principle of a pro-competitive devel-opment of IPRs policy is that the standardsadopted tilt the balance in favor of second-coming rival firms. A second principle is thatgovernments should not discourage inward


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transfer of technology and should not suffo-cate innovative efforts of domestic firms. Theessential goal is to move local entrepreneursfrom “free-riders” to “fair-followers” in Reich-man’s apt phrase.11

Table 5.2 divides developing countries intothree types and lists IPRs standards that arelikely to be most appropriate for each group.12

The first country type is low-income nations,or the least-developed countries and some coun-tries in transition, which have weak environ-ments for advanced invention but some capa-bility at small-scale innovation and culturalcreation. The second is middle-income nations,which have a strong imitative capacity and areasonable degree of human capital. Suchcountries need to encourage technology adop-tion and incremental innovation. The third ishigh-income nations, which have a strong hu-man capital stock and a growing capacity forinnovation. It is evident that as countries be-come more developed they may choose tostrengthen their IPRs. Table 5.2 is only a guide-line; individual countries may choose to pur-sue their own standards as interests require.This section analyzes possibilities for the low-income and middle-income nations.

—allowing poor countries the possibilityof exemptionsWhile countries must meet the general obliga-tions of TRIPS, there are some areas in whichpoor nations are afforded special status.Under Article 66, those least-developed coun-tries experiencing difficulties in implementinglegislation may petition the TRIPS Council fortime extensions, and there is no specified limiton the number of such petitions. While it isimportant to consider carefully the signals adelay would send to the global community,some countries may wish to take advantage ofit, particularly as regards the complex and con-troversial subject of patents.

Both low-income and middle-income coun-tries would benefit from greater flows of tech-nical and financial assistance to develop, im-plement, and enforce IPRs. Poor developingcountries also should push the developed coun-

tries to do more to encourage private technol-ogy transfer. The weakness of such action todate remains a sore point leading some ob-servers to question the balance of interests inTRIPS.

AdministrationAdministration and enforcement are costly.Authorities in low-income nations couldachieve some gains by publicized raids andconsumer awareness programs. While such ac-tions would face opposition among infringingenterprises, they would signal some commit-ment to IPRs and also encourage domesticcreative interests to become more active. Theawareness itself may be the most valuable, andauthorities could limit economic damages byimposing moderate penalties for first offenses,with the severity of the fines rising with the ex-tent of the piracy and the number of violations.

Low-income countries cannot readily affordpatent examination offices and should rely onpatent registration instead. However, authori-ties need to consult international patent officesand databases to see if applications were de-nied elsewhere. Thus, developing countrieswould benefit from the cost savings of usingforeign sources of information, such as thePatent Cooperation Treaty. Countries couldalso gain from adherence to regional examina-tion systems. Electronic access to internationalpatent and trademark registries also cuts costsof performing prior art examinations. As coun-tries grow richer and technologically more so-phisticated, the patent system could move to-ward domestic examinations.

Application and renewal fees for patentsand trademarks may be set to cover the costsof administering those regimes. It is sensible toselect fees in ways that promote desirable in-novation and use of IPRs. It is possible, for ex-ample, to set lower patent application fees forsmall and medium enterprises than for largefirms. Patent renewal fees may rise over timein order to encourage firms to let protectionlapse on less-valuable inventions. This can bean important means of pushing technologiesinto the public domain.


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General transitionperiods

Assistance

Technology transfer

AdministrationEnforcement andcustoms

Judiciary

PatentsAdministration

Standards and scope

Compulsory licenses

Working requirements

Utility models

Industrial designs

Plant breeders’ rights

Consider Article 66 extensions inpatents, trade secrets

Push for technical and financialassistance, including aninternational fund

Push for fulfillment of technologytransfer commitments

Reduce piracy and counterfeitingthrough raids and awareness

Moderate fines and civil penaltiesTrain customs officers for periodic

inspectionsUpgrade professionalism

No special IP courtTraining for judges and attorneys

Registration system

Rely on international grants dataRapid and full disclosurePost-grant oppositionDifferential fees by applicant size

Rising renewal fees

Fullest exemptions from patenteligibility

High inventive step using rigorousinternational examinations

Oral prior art consideredNarrow claimsNarrow or no doctrine of equivalentsPermit experimental use

National emergency usePublic non-commercial useAntimonopoly tool

Permit imports to satisfyLiberal definition of demand

Recognize utility models

Recognize design rightsOriginality requirementSupplement with copyrightsNonvoluntary licenses of right

Provide PBRsRecognize farmers’ privilegePermit breeders’ exemptionUPOV 1978 model with national

treatmentPublic research and extension

Push for technical and financialassistance

Reduce piracy and counterfeitingthrough raids and awareness

Stronger fines and civil penaltiesTrain customs officers for inspections

on demand

No special IP courtTraining for judges and attorneys

Registration or limited examinationsystem

Rely on international grants dataRapid and full disclosurePre-grant oppositionDifferential fees by applicant size

Rising renewal fees

Broad exemptions from patenteligibility

High inventive step

Oral prior art consideredNarrow claimsNarrow doctrine of equivalentsPermit experimental use

National emergency usePublic non-commercial useAntimonopoly tool

Permit imports to satisfy

Recognize utility models

Recognize design rightsOriginality requirementSupplement with copyrightsNon-voluntary licenses of right

Provide PBRsRecognize farmers’ privilegePermit breeders’ exemptionUPOV 1991 model

Public research and extension

Consider providing technologytransfer

Full enforcement

Deterrent penalties

Consider special IP court

Examination system

Consult international grants dataFull disclosurePre-grant oppositionMore uniform feeStructureRising renewal fees

Consider appropriate exemptions

Moderate inventive step

Oral prior art consideredBroader claimsBroader doctrine of equivalentsPermit experimental use

National emergency use

Antimonopoly tool

Limited working requirements

Recognize design rightsOriginality and noveltySupplement with copyrightsNonvoluntary licenses of right

Consider patentsLimited exemptions for farmersPermit breeders’ exemptionUPOV 1991 model or patents

Extension services

(continued)

Table 5.2 TRIPS-consistent IPRs standards: options for developing countries

Area of TRIPS Low-Income Middle-Income High-Income


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Biotechnology

Integrated circuits

Trademarks

GeographicalIndications (GI)

Copyrights

Trade secrets and test data

Maintain exemptions frompatentability

Strict standards for patent eligibilityNarrow claimsContracts for efficient and equitable

extraction

TRIPS minimum standards

Indefinite registration with risingrenewal fees

Registration contingent on use after 3 years

Fair use of descriptive termsRegister service marksDefine sector broadly for which

trademark is “well-known”Limits on protecting marks against

dissimilar goodsProtect domain names

List generic and semi-generic namesRegistration system for indications to

be protectedOppose or cancel registration of own

GI abroadPush for common WTO list for wines

and spiritsExpand TRIPS protection for relevant

products

Reduce piracy and raise awarenessTRIPS minimum periodLiberal fair use and compulsory

licenses for education, researchReverse engineering in softwareNon-voluntary licenses of right in

softwareEstablish collection societies,

contracts, infrastructureIdentify copyrightable worksCompliance with minimum standards

in WIPO treatiesRequire creativity for data

compilations

Minimum definition of unlawfuldisclosure methods

Limit employment restraints in hiring

High standard for defining” newchemical entity”

No period for excluding priorapplicant’s test data

Maintain exemptions frompatentability

Weaker standards for patent eligibilityBroader claimsContracts for efficient and equitable

extraction

TRIPS minimum standards

Indefinite registration with risingrenewal fees

Registration contingent on use after 3–5 years

Fair use of descriptive termsRegister service marksNarrower definition

Protect domain names

List generic and semi-generic namesRegistration system for indications to




products

Reduce piracyTRIPS minimum periodLiberal fair use and compulsory

licenses for education, researchReverse engineering in softwareNon-voluntary licenses of right in

softwareImprove infrastructure

Compliance with minimum standardsin WIPO treaties

Require creativity for datacompilations

Moderate definition of unlawfuldisclosure methods

Limit employment restraints in hiring

High standard for defining” newchemical entity”

Short period for excluding priorapplicant’s test data

Limited exemptions from patentability

Weaker standards for patent eligibilityBroader claims

TRIPS standards plus possible patents

Indefinite registration

Registration contingent on use after 5 years

Register service marksNarrower definition

Protect domain names

List generic and semi- generic namesRegistration system for indications to




products

Liberal fair use

Permit patents undertight criteria

Adopt WIPO treaties

Require creativity for datacompilations

Moderate definition of unlawfuldisclosure

More permissive toward employmentrestraints

Longer period for excluding priorapplicant’s test data


Table 5.2 TRIPS-consistent IPRs standards: options for developing countries (continued)

Area of TRIPS Low-Income Middle-Income High-Income

Encouraging innovationFor reasons of promoting dynamic competi-tion, developing countries should requirerapid publication of patent applications (mostof which will have been published elsewherein any case), with full disclosure of the techni-cal processes involved in producing the inven-tions, and how to reduce them to commercialpractice. This should encourage local firms toinvent around patents and use the disclosedknowledge to improve their manufacturingmethods. Countries with a registration systemshould permit active opposition after grantsare made, in order to invalidate inappropri-ately awarded patents. Those countries thatundertake examination could permit pre-grantopposition.

Developing countries could permit oralprior art to defeat claims of novelty. They couldalso provide a limited grace period in order tomaximize the inventions available in the publicdomain to domestic firms. Authorities couldalso preserve the rights of prior users of newlypatented inventions to continue to use themwith appropriate license fees.

For patents, countries could set high stan-dards for the inventive step, thereby prevent-ing routine discoveries from being patented.Regarding patent scope, it is sensible to exer-cise strict claims and discourage multiple claimsin patent applications.

Under limited circumstances governmentsmay resort to compulsory licensing to promotethe public interest in health, welfare, security,competition, and other grounds. Low-incomecountries may wish to ensure that their patentlegislation and health regulations permit theissuance of compulsory licenses in patentedmedicines under sharply defined conditions. Inaddition to being consistent with the require-ments of TRIPS, compulsory licensing shouldbe transparent and not arbitrary in order toavoid discouraging entry of foreign firms anddevelopment of new technologies by domesticfirms. Compulsory licenses are available alsoas a primary restraint on monopolistic behav-ior. Indeed, the United States has an extensiverecord of compelling licensing from technology

owners to rival firms as a remedy for anticom-petitive activity.

Protection for industrial designs can alsopromote innovation in developing countries.Providing rights to registered designs with asmall novelty requirement, for a limited timeperiod, can promote product innovation. Suchrights may be supplemented in two ways. First,designs may be protected under copyright law,even without registration. Second, countriescould experiment with systems in which, aftera shorter defined period of protection, rivalsare able to acquire licenses to use the designs intheir own work.

Protection of plant varieties remains contro-versial. When establishing PBRs, poor coun-tries would be advised to follow the UPOV1978 model,13 providing the farmers’ privilegeand a wide exemption for rival breeders to useprotected seeds to develop their own strains.There is a role for public agencies to undertakeresearch and disseminate new seed varieties.Middle-income economies are seeing develop-ment of plant breeders, and there are potentialgains from protection.

In biotechnology, lower-income economiesmay prefer to recognize narrow patent claimsand retain exemptions from patentability whereallowed by TRIPS. Countries with stronger in-dustries, such as China and Brazil, might awardstronger protection in order to promote tech-nology transfer and domestic invention.

Recognition of trademarks can promote do-mestic enterprise development. In developingcountries it is often domestic entrepreneurswho are frustrated in building their enterprisesbecause their marks are infringed by inferiorproducts. This problem raises confusion on thepart of consumers about the inherent qualityof commodities they wish to purchase. Thus,recognition of trademarks can be an importantdevelopment spur, even for poor countries.

Geographical indications may be of particu-lar interest to numerous developing countries.Again, such indications reflect the quality char-acteristics of products coming from a particu-lar location. Because many developing nationshave a comparative advantage in agricultural


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products and processed foods and beverages,significant gains could be realized from regis-tration of such place names. This is one area inwhich developing countries might be advisedto push for extended global standards.

Cultural resources—including folkloric arts,designs, and traditional remedies—could beprotected by a combination of copyright andtrademark principles. The difficulty here is thatsuch resources are often collective knowledgeand effectively in the public domain. Efforts areneeded to work out appropriate standards forprotecting such knowledge and the economicadvantages that can be earned from it.

A distinction should be made betweenstraightforward duplication of published andrecorded goods—also called piracy—and ac-cess to new information. While the former ac-tivities only yield short-run benefits, they dolittle to enhance the technological capabilitiesof copying nations.

Countries are free to determine the fair-useexceptions they will permit in the copyrightarea. Copyrighted materials may be madeavailable on a limited and noncommercial basisfor use in teaching, research, libraries, muse-ums, and charitable organizations. Indeed, thepreamble to the 1996 WIPO Copyright Treatycontains language promoting this balance ofinterests and encouraging nations to carry for-ward such limitations into the digital networkenvironment.

TRIPS requires copyright protection fordata compilations. The EU has gone well be-yond TRIPS’ standards in specifying strongprotection for databases even when theircompilation involves no creative step. Devel-oping countries should insist upon a demon-stration of creativity before recognizing suchprotection.

Recognition of the need to protect confi-dential business information can also be pro-competitive. A natural lead-time is provided tothe owners of trade secrets because rivals mustinvest in learning the technical informationthey embody. This effort can contribute to thetechnical knowledge capital of an economyand encourage follow-on innovation. Follow-

ers may prefer to acquire trade secrets by pur-chasing licenses from the originator, therebypaying some share of the invention rents andraising incentives for future inventive activity.Trade secrets are also instrumental in encour-aging technology transfer from abroad.

Poor nations would be advised to adopt theleast stringent regulations set out in the ParisConvention and perhaps also actively encour-age technology transfer. Middle-income coun-tries could establish more protective regimes,for example by imposing more stringent re-quirements on technical employees who areinduced to change employment.

Governments have some obligation to pre-vent the public disclosure of confidential testdata submitted for approval of medicines andagricultural chemicals for some period. Devel-oping countries could establish a high standardfor what constitutes a new chemical entity anddeny such protection to simple reformulationsor repackaging. For those submissions meetingthe originality test, data need to be protected,even though denying such information to rivalswould extend the time before generic competi-tion ensues.

Other policies can supporttechnological progress

While the standards sketched above areimportant in promoting competition

and innovation, simply adopting a stronger setof IPRs cannot be sufficient to ensure a posi-tive outcome. Intellectual property protectionis but a component of broader business regu-lation, innovation promotion, and consumerprotection that must be conjoined in an effec-tive overall system.14

Perhaps the most important complemen-tary factor is a commitment to education,training, and skill development. The positiverole of educational attainment in economicgrowth is well established empirically. It isplausible that a positive relationship exists be-tween the strength of IPRs and the level (orgrowth) of human capital, given the results re-viewed earlier.


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Economies that are more open to tradeand FDI experience a growth premium fromstrengthening their IPRs relative to closedeconomies. Competitive markets help limit thescope of intellectual property rights to their in-tended function, which is to encourage invest-ments in new products but not to prevent fairentry. In addition, a liberal stance on inwardtrade and FDI improves a country’s access toavailable international technologies, intermedi-ate inputs, and producer services. As discussedearlier, IPRs are a factor that encourages in-ward FDI under appropriate conditions.

Making IPRs stronger invites considerationof competition rules to discipline anticompeti-tive practices. To abuse an intellectual propertyright is to try to extend its exclusive use beyondpermissible limits. Claims that a rights holderhas engaged in anticompetitive behavior arecomplex, and resolving them requires signifi-cant judicial and legal expertise. Administrativecosts may limit a country’s ability to undertakecompetition enforcement but the issue is suffi-ciently important to merit a high priority.15

IPRs need to be supplemented by programsto promote national technical change. How-ever, there are opportunity costs to the alloca-tion of scarce budgetary resources to R&Dprograms. To the extent that investment inproduct development is underprovided by theprivate market, there is a rationale for publicassistance. The limited R&D could be causedby such factors as an inadequate environmentfor risk-taking, taxation systems that fail torecognize R&D as a business cost, and miss-ing information about technological opportu-nities. Policies could aim to relax such re-straints. This could be particularly importantfor small- and medium-size enterprises, whichremain the source of much innovation in de-veloping countries.

Multilateral actions and IPRs in adevelopment round

The TRIPS Agreement ushered in a newglobal regime for protecting intellectual

property. There are numerous means by which

developing countries may benefit from thischange, at least in the long run, although thereare bound to be significant short-run costs.However in the short run, the developed coun-tries are likely to be the primary beneficiaries.Moreover the introduction of global IPRs intosuch areas as pharmaceutical products, agri-cultural inputs, biotechnology, environmentaltechnologies, and electronic databases has seri-ous development consequences that merit care-ful consideration. This situation suggests poli-cies in three general areas:

1. Collective international actions that can becombined with the new protection regimeto help achieve important public goods

2. Ways developed countries can ease the tran-sition burden for poor countries

3. Approaches to IPRs that developing coun-tries could take in the “Development Round”

International collective goodsThe new global IPRs system could affect thewillingness and ability of the internationalcommunity to find effective solutions to anumber of critical public-goods problems.Consider three of the most important issues.

First, the health status of impoverished people in the least-developed countries con-tinues to deteriorate. Beyond the debilitatingcosts diseases impose on patients, medical sys-tems, and government budgets, it has spill-over effects on other countries through expo-sure to infection and reduced productivity. Arole for public intervention exists in resolvingthe crisis.

By requiring countries to provide patentsfor new pharmaceutical products, TRIPS setsup incentives that may work at cross-pur-poses. By slowing down generic competition,patents could raise prices of new drugs in de-veloping countries and reduce the ability ofpatients to acquire drugs at reasonable cost.At the same time, the promise of wider andstronger patent protection could raise incen-tives for private pharmaceutical firms to en-gage in more R&D into the diseases of poverty.There is little private research undertaken in


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such diseases (Sachs and others 1999). This sit-uation stems from both the absence of patentprotection and the extremely low purchasingpower of patients in poor countries. TRIPSaffords a solution to the former problem butnot to the latter. Consequently, TRIPS couldraise costs without providing much incentivefor innovation.

Effectively addressing the diseases endemicto poor countries requires separation of thedynamic incentives for R&D from the needfor widespread distribution at low cost.

Any comprehensive solution to the prob-lem requires significant increases in foreignassistance from industrialized countries andfinancial support from multilateral organi-zations and private donors. These resourceswould be used for two purposes. One is toprovide an incentive to firms to engage inR&D into new and effective vaccines andmedicines. This incentive could involve pur-chasing targeted drugs at negotiated prices orpaying royalties for licenses that permit desig-nated countries to produce and distribute them.By their recent actions in the area of HIV/AIDS drugs, pharmaceutical firms have indi-cated a willingness to sell medicines cheaply,provided that exports back to developedcountries, where prices would be higher, areprevented. The other task is to fund the devel-opment of effective health-care delivery sys-tems in poor countries.

A second issue relates to incentives set up byTRIPS to extract biogenetic resources from de-veloping countries. In principle contracts couldbe devised to manage extraction of genetic ma-terials. However it is not easy to determine ap-propriate royalties when the resources are de-veloped in areas without clear rights in naturalproperty. Ownership may be collective within avillage or even undefined.

Thus contracts need to be developed thatpay attention to both private incentives andpublic objectives. A role for governments ariseshere to ensure equitable and efficient sharingof the economic rents to IPRs earned on prod-ucts from extraction of domestic resources.For example, some countries now require firms

to demonstrate that they have attained theapproval of local villages before going bio-prospecting or removing resources.

A third issue is how TRIPS affects incentivesto develop new transgenic crops throughbiotechnological research. Widespread intro-duction of new crops raises concerns aboutbiodiversity. The rapid increase in output of ge-netically modified plants attests to their advan-tages in terms of enhanced disease resistance,reduced use of chemical inputs, and higheryields. It also suggests that traditional varietiescould be pushed out of the market. IPRs pro-vide incentives for producing better crops butultimately might limit consumer choice.

It makes little economic sense to retard in-centives for developing new plants and foodproducts by restricting exploitation of IPRsbeyond their usual limitations. A more prom-ising and direct approach would be labelingprograms that permit consumers to expresspreferences for traditional crops and providemarket incentives to sustain their production.Further if the disappearance of plant varietieswere seen as potentially damaging in environ-mental terms, an argument would exist for domestic and international public agencies tostockpile such strains for purposes of keepingthem alive as a form of social insurance.

To some extent the global IPRs system is inconsistent with public interests in resourceconservation and biodiversity. For example,the United Nations Convention on BiologicalDiversity stipulates that countries have sover-eign rights over biological resources, whileTRIPS recognizes private rights to own mi-croorganisms and microbiological processes.Developing countries that are the sources ofgenetic resources and natural plant strainsneed to assess their interests in revising TRIPSto deal with this inconsistency. If Article 27 ofTRIPS (dealing with patents in life forms andprotection for plant varieties) is revised, manydeveloping countries should push for a resolu-tion of the concept of resource rights and col-lective ownership, along with the obligationsof firms that extract resources. Thus for ex-ample, countries could push to forbid patents


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on plant-based products obtained from ma-terials in international germplasm banks andother deposit institutions.

In many of these new areas, the legal andtechnical expertise needed to design carefullybalanced intellectual property and related reg-ulations is likely to exceed the capacities ofleast-developed countries and even middle-income countries. Multilateral assistance canplay an important role in ensuring that poli-cies promote development and in complement-ing direct funding for research on technologiesaddressing poor country needs.

Policy options for developed countries on TRIPSTechnology-exporting countries have a stronginterest in sustaining TRIPS. Because of systemicdifficulties among developing countries in ad-justing to the new obligations and concernsabout its implications, industrialized nationscould consider several options to make the agree-ment more directly supportive of development.

First, in recognition of extreme budgetaryand institutional difficulties, least-developedcountries should be afforded latitude in exercis-ing delays in implementation of TRIPS, espe-cially in the technically complex and controver-sial areas of pharmaceutical patents and plantprotection. Similarly, noncompliance problemsshould not be the subject of dispute resolutionunless they constitute willful departures frombasic TRIPS obligations.

Second, it should be recognized that devel-oping countries need to have lower and moreflexible IPRs standards than do their devel-oped counterparts. TRIPS provides such flexi-bility in many areas and the developing coun-tries should be afforded the opportunity tooperate at the lower limits if it is in their de-velopment interests to do so.

Third, developed countries could go a longway toward raising enthusiasm for TRIPS ifthey would actively implement their “best ef-forts” commitments to encourage technologytransfer to the least-developed countries and toprovide technical and financial assistance fordeveloping countries. While some assistance is

on offer now, it is insufficient for the major jobof reforming IPRs administration. The currentapproach, whereby grants are made to suchorganizations as WIPO and UNCTAD for un-dertaking specific projects, is inadequate givenvarious bureaucratic constraints.

A valid justification for expanding assis-tance is found in the asymmetric costs andbenefits from TRIPS. Intellectual property de-velopers in rich countries stand to be the pri-mary gainers from the new systems, whilethere is little promise of gains for poor coun-tries, at least for a considerable period of time.It could also be a wise investment in promot-ing compliance with TRIPS and enforcementof IPRs, which might otherwise emerge onlyslowly. Thus, developed countries could con-vert their “best efforts” promises to bindingcommitments, with benefits on both sides.

Finally, the most important action devel-oped countries could take to affirm confidencein TRIPS is to meet and expand their obliga-tions to provide greater market access for theexports of developing countries. Especially im-portant would be new attempts to reduce bar-riers to agricultural trade, which would greatlybenefit many developing nations. Moreover,agricultural liberalization would raise the in-centives of firms in developing countries to in-vest in new agricultural technologies protectedby IPRs, thereby cementing faith in TRIPS.

Developing countries and TRIPS reformThe interests of developing countries in alter-ing or extending TRIPS vary greatly because,in part, they have different levels of incomeand technological sophistication. To rebalancethe agreement in some measure toward the in-terests of the poorest countries, while allowingfor the quite diverse circumstances of coun-tries, would help promote development.

First, extending the transition periods beyond2005 for the least-developed countries wouldease their administrative burdens. Although theyhave a limited opt-out procedure as discussedearlier, a general recognition by the WTO mem-bership of needs for extensions could be benefi-cial in avoiding disputes. Such extensions should


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be accompanied by serious commitments towork toward ultimate implementation.

Second, the low-income and middle-incomecountries should weigh carefully the introduc-tion into TRIPS of significant new protectionfor IPRs that would reduce their access to in-formation and technology. Extending patents inbiotechnology to additional life forms and toplant variety protection could impose signifi-cant costs on developing countries, as wouldany attempt to globalize the highly protectivedatabase systems in place in the EuropeanUnion or under contemplation in the UnitedStates. Another form of protection to weighcarefully is patents for software and methodsfor doing business. Similarly, erecting global re-straints on parallel trade might have adversepotential competitive effects on future prices.On the other hand, many developing countrieshave economic interests in extending protectionfor geographical indications to their food prod-ucts and handicrafts. This may help to ensurethat valuable geographic indications do not be-come generic terms. Further, there are soundreasons for introducing the WIPO Copyrightand Phonograms Treaties into TRIPS obliga-tions, so long as they retain flexibility for estab-lishing liberal fair use of Internet transmissions.

Third, despite proposals to remove from pa-tent eligibility those drugs that are on, or willbe on, the WHO “Essential Drugs” list, it isunlikely that such discrimination by productwould be acceptable and, moreover, it couldsignificantly reduce incentives to develop crit-ical new drugs. A better alternative, discussedabove, is to use public funds to purchase drugsor licenses. So long as the financial offerscover anticipated R&D costs the incentives todevelop new drugs would improve.

Fourth, current TRIPS rules may not allowgovernments to grant a compulsory license toforeign firms, and may not permit firms pro-ducing under compulsory licenses to exportmuch of their production.16 This situationthreatens to raise the costs of drugs in countrieswhere domestic production capacities cannotensure adequate supply of essential medicines.A revision of the Agreement in this regard may

be necessary to permit small, poor, countriesthe right to import from foreign producers of-fering low-cost or generic products prior topatent expiration. Such a provision would pro-vide greater flexibility in addressing publichealth crises. Even if such licenses may not ac-tually be granted, the option itself would likelyincrease the bargaining power of governmentswith regard to pharmaceutical multinationals.

Fifth, many developing countries are inter-ested in establishing new forms of IPRs overcollective and traditional knowledge. Suchknowledge covers literary creations, such asoral histories, artistic works, music, designs,pharmaceutical preparations, and methods ofproduction. It is difficult to protect these itemswith traditional IPRs precisely because they aretraditional (and therefore not novel) and col-lectively known, without easily assigned prop-erty rights. Thus, development of new rights,combining elements of trademarks, copyrights,and trade secrets along with sui generis recog-nition of traditional practices, could be benefi-cial. A global principle that patents are notavailable for items that had been known to thepublic by means of oral tradition or writtendescription also would be beneficial for poorcountries. Coordinated public efforts may berequired to catalogue these pieces of tradi-tional information.

As these final comments suggest, IPRsevolve dynamically over time to meet the needsof inventors and creators in market economies.The TRIPS Agreement significantly increasedthe requirements for protecting intellectualproperty incumbent upon nations that wish tobe part of the global trading system. Whilepromising some eventual benefits, the newregime is asymmetric in its likely effects acrosscountries. Low-income economies may expectto incur net costs for some time, suggestingthat patience and assistance are needed, alongwith programs to limit potentially negative ef-fects in such areas as new medicines. The pic-ture in middle-income economies is more com-plex as they feature a mix of interests betweenintellectual property developers, users, and im-itators. Experience with the negotiation and


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implementation of TRIPS should improve theability of developing countries to participateeffectively in the further evolution of interna-tional norms.

Notes1. It is difficult to quantify the strength of IPRs be-

cause they are rules concerning conditions of dynamiccompetition rather than taxes or subsidies applied toparticular sectors. Moreover, those rules have differentimpacts under different economic circumstances.

2. This material is summarized from Maskus 2000a.3. Controlling for other influences, there is a qua-

dratic (U-shaped) statistical relationship between thestrength of patent rights and real per capita GDP.Specifically, patent rights become weaker as incomesgrow to a level of approximately $2,000 per capita in1985 international dollars ($3,000 today assuming anaverage growth rate of 2.5 percent), then become in-creasingly stronger as countries get richer.

4. China has largely met TRIPS requirements in itslegislation in anticipation of joining the WTO.

5. Smith (1999) found a similar outcome.6. The figures in column 2 of table 5.1 use coeffi-

cients developed in a four-equation simultaneous deci-sion framework, which incorporated the impacts ofpatent rights on patent applications, affiliate sales, ex-ports, and affiliate assets. The model was estimatedwith data from 1986 to 1994 for the foreign operationsof U.S. majority-owned manufacturing affiliates in sev-eral developed and developing countries. The assetsequation had a negative coefficient on patent rights,suggesting that, on average, across countries strongerpatents would diminish the local asset stock. However,there was a large positive coefficient on patents inter-acted with an indicator variable for developing coun-tries, resulting in a positive and significant net impactin those nations. This result likely means that at lowprotection levels internalization decisions encourageFDI as patents get stronger. However, as protection ex-ceeds some level there emerges a substitution effect fa-voring licensing over investment.

7. One possible explanation for this negative impactis that firms may exploit their IPRs in richer countriesrelatively more through arm’s length licensing relation-ships. Indeed, economic theory suggests that as IPRs arestrengthened, firms would choose to substitute licensingcontracts for FDI (Horstmann and Markusen 1987).

8. Similar problems exist in China (Maskus,Dougherty, and Mertha 1998). Interviews suggestedthat trademark infringement negatively affected inno-vative Chinese enterprises. Numerous cases were citedof difficulties facing Chinese producers of consumergoods. Establishing brand recognition in China requires

costly investments in marketing and distribution chan-nels; enterprises that achieved it found their trademarksapplied to counterfeit products. Such products were oflower quality and damaged the reputation of the legiti-mate enterprise. This problem deterred enterprise de-velopment and prevented interregional marketing.

9. The Economist, June 22, 2001.10. New York Times, “Look at Brazil,” January 28,

2001.11. See Reichman 1996/1997, which provides the

basis for some of the analysis in this section. See alsoWatal 2001.

12. Evenson and Westphal (1997) provide a morenuanced categorization of countries but provide littleconcrete guidance regarding IPRs.

13. UPOV refers to a series of revisions of a treatyfor the protection of plant varieties, which is known byits French acronym. The 1978 revision serves as a modelfor developing countries, but is not now available for ac-cession. The 1991 version provides stronger protectionfor breeders and is available for membership.

14. Maskus 2000a provides extensive discussion.15. The papers in Anderson and Gallini 1998 pro-

vide an excellent and comprehensive overview.16. The European Union submitted a paper to the

WTO TRIPS Council arguing that such licenses are ac-ceptable under the Agreement (“Paper Submitted bythe EU to the TRIPS Council for the Special Discussionon Intellectual Property and Access to Medicines,” 20June 2001, IP/C/W/280), but legal opinion is divided.

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Gould, David M., and W. C. Gruben. 1996. “The Roleof Intellectual Property Rights in EconomicGrowth.” Journal of Development Economics48: 323–50.

Horstmann, Ignatius, and J. R. Markusen. 1987. “Li-censing Versus Direct Investment: A Model of In-ternalization by the Multinational Enterprise.”Canadian Journal of Economics 20: 464–81.

Lanjouw, Jean O. 1998. “The Introduction of Phar-maceutical Product Patents in India: HeartlessExploitation of the Poor and Suffering?” NBERworking paper 6366, Cambridge, Mass.

Lee, J.-Y., and E. Mansfield. 1996. “Intellectual Prop-erty Protection and U.S. Foreign Direct Invest-ment.” Review of Economics and Statistics 78:181–86.

Mansfield, Edwin. 1994. “Intellectual Property Protec-tion, Foreign Direct Investment, and TechnologyTransfer” International Finance Corporation Dis-cussion Paper 19. Washington, D.C.

———. 1995. “Intellectual Property Protection, DirectInvestment and Technology Transfer: Germany,Japan, and the United States.” International Fi-nance Corporation Discussion Paper 27. Wash-ington, D.C.

Maskus, Keith E. 1998. “The International Regulationof Intellectual Property.” Weltwirtschaftliches Ar-chiv 134: 186–208.

———. 2000a. Intellectual Property Rights in theGlobal Economy. Washington DC: Institute forInternational Economics.

———. 2000b. “Strengthening Intellectual PropertyRights in Lebanon.” In B. Hoekman, and J. E.Zarrouk, editors, Catching Up with the Competi-tion. Ann Arbor: University of Michigan Press.

Maskus, Keith E., S. M. Dougherty, and A. Mertha.1998. “Intellectual Property Rights and EconomicDevelopment in China.” Manuscript prepared forthe Southwest China Regional Conference on In-tellectual Property Rights and Economic Develop-ment. Chongqing. September.

Maskus, Keith E., and C. McDaniel. 1999. “Impacts ofthe Japanese Patent System on ProductivityGrowth.” Japan and the World Economy 11:557–74.

Maskus, Keith E., and M. Penubarti. 1995. “HowTrade-Related Are Intellectual Property Rights?”Journal of International Economics 39: 227–48.

———. 1997. “Patents and International Trade: AnEmpirical Study.” In K. E. Maskus, P. Hooper, E. E. Leamer, and J. D. Richardson, editors, QuietPioneering: The International Economic Legacyof Robert M. Stern. Ann Arbor: University ofMichigan Press. 95–118.

McCalman, Philip. 2001. “Reaping What You Sow:An Empirical Analysis of International PatentHarmonization.” Journal of International Eco-nomics 55: 161–86.

Park, Walter G., and J. C. Ginarte. 1997. “IntellectualProperty Rights and Economic Growth.” Con-temporary Economic Policy 15: 51–61.

Rapp, Richard T., and R. P. Rozek. 1990. “Benefitsand Costs of Intellectual Property Protection inDeveloping Countries.” Journal of World Trade24: 75–102.

Reichman, J. H. 1996/1997. “From Free-riders to Fair-followers: Global Competition Under the TRIPSAgreement.” New York University Journal of In-ternational Law and Politics 29: 11–93.

Sachs, Jeffrey, M. Kremer, and A. Hamondi. 1999.“The Case for Vaccine Purchase Fund.” HarvardUniversity, Cambridge, Mass. Manuscript.

Smarzynska, Beata. 2001. “Composition of Foreign Di-rect Investment and Protection of Intellectual Prop-erty Rights: Evidence from Transition Economies.”Manuscript. World Bank, Washington, D.C.

Smith, Pamela J. 1999. “Are Weak Patent Rights a Bar-rier to U.S. Exports?” Journal of InternationalEconomics 48: 151–77.

———. 2001. “How Do Foreign Patent Rights AffectU.S. Exports, Affiliate Sales and Licenses?” Jour-nal of International Economics 55: 411–39.

UNCTAD (United Nations Conference on Trade andDevelopment). 1996. The TRIPS Agreement andDeveloping Countries. Geneva.

Watal, Jayashree. 1999. “Introducing Product Patentsin the Indian Pharmaceutical Sector: Implicationsfor Prices and Welfare.” World Competition 20:5–21.

———. 2001. Intellectual Property Rights in the WTOand Developing Countries. London: Kluwer LawInternational.

World Bank. 2000. Workshop on “Developing theMusic Industry in Africa.” June. Washington, D.C.

Yang, Guifang, and K. E. Maskus. 2001. “IntellectualProperty Rights and Licensing: an Empirical Inves-tigation.” Weltwirtschaftliches Archiv 137: 58–79.


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Deepening global trade and investmentintegration holds the promise of morerapid increases in standards of living

around the world, particularly in developingcountries. Greater openness and expandedtrade, partly attributable to the UruguayRound, contributed to new opportunities forgrowth. Trade and incomes of developing coun-tries grew during the 1990s at twice the rate of the previous decade, and those developingcountries that deepened their integration withthe global economy have seen their incomes riseat more than three times the pace of those thatdid not (Collier and Dollar forthcoming).

The challenge ahead is to expand those op-portunities and ensure that the poorest coun-tries and poorest people benefit. Today devel-oping countries’ exports confront higher levelsof border protection than those of developedcountries. The average poor person selling intoglobalized markets confronts barriers that aretwice as high as the typical worker in developedcountries (chapter 2). Said differently, productsthat the world’s poor produce are more likelyto be subject to high tariffs, quotas, disadvan-tageous subsidies, and antidumping claimsthan are those produced by the better-off. Al-though only partly because of disadvantageousexternal circumstances, the 49 least-developedcountries have fared particularly badly duringthe last decade. Thirty percent of exports fromleast-developed countries face tariff peaks in at

least one of the Quad countries (United States,EU, Japan, and Canada). Besides merchandisetrade barriers, restrictions on global trade inservices also have impeded development. Onthe one hand, the lack of progress in the high-income countries to grant access on temporarymovement of workers (mode 4 under GeneralAgreement on Trade in Services—GATS) hasforeclosed a potential source of earnings for de-veloping countries. On the other, restrictionsthat developing countries place on foreign di-rect investment (FDI) in services industries haveleft unrealized their own full productivity po-tential. Moreover, costs of transporting devel-oping-country exports are higher because ofquasi-cartel restrictions, which, when added tothe “behind the border” under-investments inports, customs efficiency, and domestic infra-structure, drive up the landed price of exportsand reduce volume.

Trade can only realize its potential if devel-oped and developing countries alike take ac-tion to reshape the global trade architecture topromote development. This chapter discussesin summary form the key policy foundationsof a new trade global architecture for develop-ment, and then shows how a phased programputting in place those policies might affect the long-term growth prospects of developingcountries. Our conclusion: a reshaped globalarchitecture can have dramatically positive ef-fects on the lives of the world’s poor.

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Envisioning Alternative Futures:Reshaping Global TradeArchitecture for Development

6

Reshaping global tradearchitecture for development

While the global trade architecture islikely to evolve only slowly, the discus-

sion among world leaders on a future traderound can forge the first underpinnings. Thisreport has focused on four policy domains:

• Policies to ignite a successful developmentround in the World Trade Organization(WTO) that would produce tangible anddurable benefits for developing countries

• Policies for global cooperation outside theWTO necessary to expand trade on a sus-tainable basis, and to promote development

• Policies of high-income countries to ensurecontinued global growth and to facilitatetrade expansion through provision of accessand aid

• Domestic policies that developing countriesmight undertake to promote trade-led de-velopment—with or without the help of theinternational community

This report has not addressed other aspectsof global trade architecture that have beentaken up in previous Bank reports and numer-ous other studies. These include issues such as standards and environment1 as well as theworkings of trade-related global institutions(such as the World Intellectual Property Orga-nization, World Customs Organization, andInternational Air-Transport Association). Sim-ilarly, we have not dealt with another elementof trade architecture—regional trading arrange-ments—which are particularly germane to theobjectives of this report, hence the digressionbelow.

A digression: regional arrangementsRegional arrangements to expand trade con-tinue to proliferate. Governments, now morereceptive to openness than in previous periods,have sought to expand existing trade by lock-ing in increased market access with tradingpartners—most often neighbors. Moreover, re-gional arrangements are attractive because theycan increase the credibility of reforms and may

be less cumbersome to negotiate than multilat-eral reforms. Smaller memberships may alsomake it easier to negotiate the increasingly im-portant issues inherent in regulatory regimes, asharp contrast with complicated multilateralnegotiations involving more than 100 coun-tries. Also, small countries can exercise greaterinfluence in regional arrangements.

Regional arrangements, properly designed,have the potential to stimulate global tradethrough improving the efficiency, and hence thecompetitiveness, of regional producers and ex-panding demand for inputs from nonregionalsources. But regional agreements behind tradebarriers may artificially shift import supplyfrom external countries to countries within thetrade area, and this may lead to reduced effi-ciency for participants if displaced externalsuppliers would provide goods at lower cost.This trade diversion may disadvantage globalexport competitiveness in much the same waythat national barriers do. “Rules of origin”arrangements in some regional agreements canraise costs and stifle local industry. This is alsotrue of mutual recognition agreements thatmay shield regional partners behind discrimi-natory testing and certification protocols or re-gional standards. Smaller countries with lesstechnical capacity to evaluate these schemesmay find themselves at a net disadvantage, andbe better off with first-best unilateral tradereform.

Whether a particular agreement improvesnational incomes depends on its design, and on the trading partners involved. Key designtests include whether regional arrangementsinvolve lowering common external trade bar-riers, whether they stimulate increased compe-tition, and whether they reduce transactioncosts and extend to nondiscriminatory invest-ment and services policies—all elements cen-tral to “open regionalism.” The World BankPolicy Research Report Trade Blocs (WorldBank 2000a) concludes that North-South re-gional agreements are more likely to improvewelfare than South-South agreements, simplybecause experience shows they usually resultin lower trade barriers with less trade diver-


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R E S H A P I N G G L O B A L T R A D E A R C H I T E C T U R E F O R D E V E L O P M E N T

155

Number of WTO notifications of regional integration agreements

Figure 6.1 Regional integration agreements are proliferating

Source: World Trade Organization.


01957 1961 1965 1969 1973 1977 1981 1985 1989 1993 1997

3

6

9

12

15

18

—and now span the globe.

NAFTACanadaMexicoUnited States

ASEANBruneiCambodiaIndonesiaLao PDRMyanmarPhilippinesSingaporeThailandVietnam

APECAustraliaChileBruneiCanadaChileChinaIndonesiaJapanKorea, Rep. ofMalaysiaMexico

Andean PactBoliviaColombiaEcuadorPeruVenezuela, R.B. de

Group of 3ColombiaMexicoVenezuela, R.B. de

CARICOMCaribbean

MERCOSURArgentinaBrazilParaguayUruguay

CEMACCameroonCentral Africa Rep.ChadCongoEquatorial GuineaGabon

EEAEUIcelandLiechtensteinNorway

ItalyLuxembourgNetherlandsPortugalSpainSwedenUnited Kingdom

EUAustriaBelgiumDenmarkFinlandFranceGermanyGreeceIreland

GCCBahrainKuwaitOmanQatarSaudi ArabiaUnited Arab Emirates

Euro-MaghrebEUMoroccoTunisia

WAEMUBeninBurkina FasoCôte d’IvoireGuinea-BissauMailNigerSenegalTogo

LAIAArgentinaBoliviaBrazilChileColombiaEcuadorMexicoParaguayPeruUruguayVenezuela, R.B. de

New ZealandPapua New GuineaPeruPhilippinesRussian FederationSingaporeThailandUnited StatesVenezuela, R.B. deVietnam

Selected regional integration agreements

sion, and because the greater structural differ-ences in North-South economies usually pro-duce greater potential gains from trade crea-tion.2 The EU arrangements under the 1992Single Market Program are a clear case inwhich the analysis shows income-increasingeffects. The North American Free Trade Agree-ment (NAFTA) also appears to have had apositive impact on its Members, particularlyMexico.

Regional arrangements are likely to remainan enduring feature of the trade panorama. Torealize possible benefits of trade and invest-ment expansion, arrangements have to be de-signed in a way that they become stepping-stones to greater openness and development,rather than a vehicle for protection and unin-tended inefficiency. An important componentof making them steppingstones rather thanstumbling blocs to greater openness is for the countries involved to have low protectionagainst non-Member countries. For example,Harrison, Rutherford, and Tarr (1997) esti-mate that Chile was able to gain from its freetrade agreement with Mercosur due to the factthat it lowered its external uniform tariff from11 to 6 percent. Regional agreements can fa-cilitate the deep integration—reduction of bor-der barriers, promotion of cross-investments,adoption of common regulations, and evencultural and political exchange—in ways thatreinforce and enhance multilateral efforts.

Nonetheless, the world market is biggerthan the market next door, so for all their co-ordination difficulties, multilateral efforts toexpand market access can have greater impacton development. For these reasons this reporthas focused on a four-part agenda: a develop-ment round, global cooperation to expandtrade, policies of high-income countries, andpolicies of developing countries (box 6.1).

A development round: policies in theWTO to expand trade opportunities forthe world’s poorMarket access. For the world’s 2.8 billion poor, reducing barriers to agricultural products,textiles, clothing, apparel, and other labor-

intensive manufactures are critical. Both thehigh-income countries, and even the middle-income countries, will have to reduce theirlevels of protection in agriculture. In manu-factures, political commitment is necessary tophase out the quotas of the Agreement on Tex-tiles and Clothing (ATC) in 2004 and reducethe high levels of tariff protection that wouldotherwise impede access once the quotas areended. These efforts should be accelerated. Italso means a commitment from the high-income countries (HIC) to reduce tariff escala-tion and tariff peaks that now discourage thecreation of new industrial activities in devel-oping countries. Trade in services can be ex-panded—opening new vistas of productivitygains for developing and developed countriesalike—if countries permitted more movementof temporary workers and reduced anticompet-itive and discriminatory restrictions on foreigninvestment. Electronic commerce (e-commerce)deserves greater attention under GATS to pro-vide maximum competition. Using GATS toeliminate anticompetitive aspects of the privatecarrier agreements in maritime transport and toengender new competition in air transportcould lower the costs of delivering developing-country exports to foreign shores.

Antidumping, recourse to other forms ofunilateral contingent protection, and overlystringent produce standards have dampenedthe access that developing countries have to theworld’s major markets. Whether it is shiitakemushrooms entering Japan, steel entering theUnited States, or products entering the EU,raising barriers to trade to protect domesticmarkets has too often hurt development. Ap-plications of contingent protection are not lim-ited to developed countries. Middle-incomecountries have increasingly sought refuge fromthe competitive pressures of their neighbors.One immediate measure would build confi-dence and show convincing movement on theATC: an agreement to limit the use of anti-dumping on trade in textiles and clothing thatwill be liberalized as negotiated in the UruguayRound. Over the longer term, the use of anti-dumping ought to be phased out (Finger


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1998). Other “safeguard” instruments mightbe disciplined by giving standing to users of thegoods concerned in the decision process.

Implementation issues. No less importantthan market access is tailoring implementationof existing and new agreements to the localcapabilities of developing countries. Develop-ing countries, given power asymmetries, havean interest in avoiding a two-track multilateralsystem that relegates them to a particular posi-tion; however, implementing global agreementscan be better calibrated to domestic capacities.For example, the administrative costs of imple-menting Uruguay Round agreements on TheAgreement on Trade-Related Intellectual Prop-erty Rights (TRIPS) and customs procedurescan run into the tens of millions of dollars, andcould easily swamp the investment budgets ofmany poor countries (see Finger and Schuler2000). As developing countries have empha-sized in several recent meetings (e.g., LDC3,Abuja and Zanzibar Trade Ministers’ con-ferences), these implementation concerns areparamount if a negotiation round is to promotedevelopment.

Moreover the benefits they would receive interms of greater access to low-cost technologyare, relative to the implementation costs, ques-tionable. New trade rules recognizing theseconstraints would allow flexibility and providefor transition periods linked to developmentcapacities. To be effective, implementationwould have to be linked to a long promised fi-nancing facility that would provide techni-cal assistance to implementation, and the high-income countries could convey their seriousnessby agreeing to bind this commitment. Note thatall of these issues could be decided during ne-gotiations, and none need hold a new roundhostage to prior action.

WTO transparency and participation. Be-yond these elements, the convening of a roundof talks is likely to promote development onlyif agreements enjoy full ownership amongWTO Members. For agreements to realizetheir potential mutual benefits, major con-stituencies in both developing and developed

countries must understand them, participatefully in their formulation, and buy into them.

Two elements would serve that end. First,transparency is vital for ownership and im-plementation. Enhancing the transparency ofWTO operations and improving access to anddissemination of WTO databases, reports, andinformation (for example, data underlying na-tional trade policy reviews) would broadenthe basis for participation of developing coun-tries to engage in the policy formation process(Francois 2001).3

Second, a determinant of ownership ofagreements is the ability of countries to par-ticipate in the WTO process. Many countrieshave inadequate representation in Geneva,impeding active engagement in negotiations.Although options have been identified to ex-pand representation in Geneva at relatively lowcost, expertise is still in short supply.4 Fundingcould be made available to allow low-incomecountries to finance the cost of hiring expertsthat can undertake the required analyses(Winters 2001). The annual cost of such an as-sistance program to least-developed countriescould be in the $10 million range.5

Global actions outside the WTO to expand trade: beyond negotiation to cooperation Expanding trading opportunities for theworld’s poor requires going beyond negotia-tions in the WTO to cooperation in other pol-icy domains. Two sets of complementary poli-cies are particularly important.

Increasing multilateral development assis-tance to expand trade can help countries takeadvantage of existing global markets, respondto global and domestic trade policy reforms,and link the poor to new opportunities. Multi-lateral cooperation among bilateral donors canprovide “aid for trade.” One important exam-ple: The EU has taken the lead in providing gen-erous assistance to the Integrated Framework(IF), a program designed to analyze obstacles totrade for least-developed countries and provideassistance in overcoming them (see box 6.2). Asimilar approach could usefully be applied to


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1. Convening a development round in the WTO

Market access

Agriculture• Reduce applied tariffs, phase out tariff rate quotas, and bind tariffs at applied rates in both developed and

developing countries • Phase out export subsidies in high-income countries and commit to eliminate domestic support linked to

production levels• Reduce tariff escalation and cut off tariff peaks

Manufactures • Reduce applied rates further, and bind tariffs to levels that equal or are close to applied rates• Reduce tariff escalation and cut off tariff peaks• Accelerate implementation of ATC quota eliminations and reduce tariffs in lines now covered by quotas• Negotiate tighter disciplines on antidumping and other forms of contingent protection

Services• Liberalize entry of foreign services suppliers through elimination of restrictions on entry and promoting increased

competition, with wider use of GATS to bind nondiscriminatory access and lend credibility to domestic programs• Enhance scope of services provision through the temporary movement of service providers (both skilled and

unskilled)• Secure openness of e-commerce in services, through wider and deeper GATS commitments on cross-border supply• Strengthen multilateral rules to deal with anticompetitive practices in services• Adopt a nondiscriminatory trading regime for air transport, including traffic rights, under GATS

Implementation procedures and phasing • Adopt a phased implementation of TRIPS and other administrative-intensive agreements for low-income countries,

based upon development capacity. • Establish a consensus that the TRIPS Agreement allows developing countries with no domestic production

capacity to grant compulsory licenses to foreign firms• Convert “best endeavor” promises to binding commitments to provide low-income countries with financial and

technical assistance to implement WTO accords

Improving WTO transparency and participation• Require WTO disclosure of databases; reports and their full associated information; and analyses for particular

decisions• Provide assistance to strengthen capacity of all members to participate effectively in negotiations

2. Global cooperation to support trade outside the WTO

Provide “aid for trade” through stepped up development assistance• Expand “Integrated Framework” assistance to all low-income countries• Provide assistance to enhance the efficiency of the customs clearance process in developing countries, notably the

good customs practices that are laid out in the revised Kyoto Convention (World Customs Organization)• Expand multilateral assistance to overcome country-specific bottlenecks to improving competitiveness and trading

potential (for example, in finance, transportation infrastructure, education for low income workers, and publicsector trade-related institutions) and to promote trade

Box 6.1 Reshaping global trade architecture fordevelopment:The four-part policy agenda


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• Fund mechanisms to help developing countries use intellectual property protection to their benefit by protectingintangible assets such as traditional knowledge, designs, music, and ethnobotanicals, and patent protection forindustrial goods as well as improve enforcement of IPRs

• Establish a global health fund to purchase licenses from developers of new medicines essential to treatingdebilitating diseases in poor countries

Expand global efforts beyond trade to improve the environment, raise labor standards, and adopt adequateproduct standards outside the WTO• Expand global environmental cooperation with financing to improve environmental protection

in developing countries, and create multilateral forum of environmental exchange• Strengthen international actions on labor standards through the International Labour Organisation (ILO), with

project collaboration from multilateral development banks• Create a Standards Development Facility to introduce science and other professional evidence into standard

setting for products, with adequate representation from developing countries; and provide assistance todeveloping countries’ standard setting bodies

3. Policies for high-income countries

Market access• Grant to all low-income countries duty-free and quota-free access to markets of all countries of OECD• Reduce uncertainty of market access by harmonizing rules of origin, and by reducing threats of antidumping

Expand bilateral “aid for trade”• Provide financial and technical assistance to developing countries for “behind the border” trade-related invest-

ments necessary to take advantage of market access• Improve policy coherence by establishing coordinating mechanisms between development policies and trade

policies to ensure effective development outcomes• Assist developing countries to strengthen competition agencies and improve legislation, and require antitrust

agencies to provide to developing countries information on third market effects of domestic mergers as well aspending cases of price-fixing and restrictive business practices; and review the anticompetitive consequences ofantitrust exemptions in transport and other sectors that adversely affect development

Domestic policies that facilitate adjustment of labor to economic change• Review domestic policies to ensure displaced workers have adequate social support to deal with rapid changes in

labor market conditions, including unemployment insurance, social safety nets (particularly health and pensions),and access to training and education

4. Policies for developing countries • Adopt program of trade reform, including phased lowering of border protection for goods and services as part of

a poverty reduction strategy• As part of the trade reform program, adopt companion policies to cushion any impact on the poor of adjustment

to new trade incentives, and ensure investment responses; solicit foreign assistance when necessary to implementadministrative requirements of programs

• Spur development of industries essential to trade, such as transport, telecommunications, financial sector, andbusiness services, particularly through introduction of regulatory policies that, where feasible, harness competition

• Invest in upgrading public sector institutions related to trade, including customs, administration of drawbackprograms, and financial supervision agencies

• Encourage domestic intellectual property development through TRIPS-consistent standards appropriate to countryneeds, and pursue protection of domestic intellectual property abroad

• Ensure adequate macroeconomic policy framework to provide sound investment climate

Box 6.1 (continued)

other low-income countries, and this too will re-quire resources. “Aid for trade” could also helpspeed adoption of best practices in customs ad-ministration as contained in the revised KyotoConvention and administered by the WorldCustoms Organization. It could help with fi-nancing of infrastructure related to trade (ports,transport, and related services), logistics, tradefacilitation, and trade promotion; in many casesbottlenecks in one or another area impedes ex-port expansion from a particular country. Overthe medium term, development assistance de-voted to education can help upgrade schools toincrease the productivity of poor workers. Fi-nally, if specific assistance were available itmight be possible to help stakeholders in devel-oping countries use intellectual property pro-tection to their benefit by protecting intangibleassets such as traditional knowledge, designs,music, and ethnobotanicals as well as patentprotection for industrial goods.

A second set of policies outside the WTO isto expand global efforts to improve the envi-ronment, raise labor standards, and adopt ade-quate product standards. Environmental pro-tection agencies from all over the world arealready engaged in a broad range of bilateralcollaborations—joint studies, exchanges, semi-

nars, and conferences—often in collaborationwith global nongovernmental organizations(NGOs). However, the potential for collectiveaction in the environment has barely beenscratched. The phenomenal success of the Mon-treal Protocol in reducing ozone-depleting sub-stances (ODS), with the felicitous reversal oftrends toward an ever larger ozone hole overthe Antarctic, is worthy of study and emulation.The Global Environmental Facility to reducegreenhouse gases has also had some success, ifsomewhat more limited. Besides administeringbilateral trust funds to reduce ODS and green-house gases, the World Bank now finances en-vironmental projects worth several billion dol-lars in developing countries, as do the regionalmultilateral development banks. Much morecould be done. These positive efforts should re-place efforts to use negative instruments such astrade sanctions and recourse under the WTO,which are likely to be ineffectual and even coun-terproductive (see box 6.3).

Finally, more has to be done to make pa-tented drugs available in times of health crises,such as acquired immune deficiency syndrome(AIDS), in a way consistent with incentives toinvest in research and development. One op-tion: developed country governments, interna-


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The Integrated Framework (IF) is a program set upby bilateral donors to increase the effectiveness of

trade-related technical assistance to the least-developedcountries. The IF was established in 1996; participat-ing agencies include the WTO, the InternationalMonetary Fund, the International Trade Center,United Nations Development Programme, United Na-tions Conference on Trade and Development, and theWorld Bank. Its purpose is to analyze options fortrade-led integration, determine the relative payoff totrade-related reform, and work with local counter-parts to design appropriate policy reform packagesthat both promote growth and protect the poor dur-

Box 6.2. The recently renovated integrated framework

ing the reform transition as options the governmentmight consider in preparing its poverty reductionstrategy papers (PRSP). The process starts with analy-sis: how trade might fit into national developmentstrategies, followed by assistance in the design and fi-nancing of projects (drawing on cross-country experi-ence). An interagency task force was formed during2000, and a trust fund has recently been establishedto fund the “integration studies” and technical assis-tance that can be built into the country assistancestrategies as appropriate.


tional organizations, and foundations could es-tablish a global health fund that could be usedin part to purchase licenses from developers ofnew drugs and vaccines that are essential forthe treatment of debilitating diseases in poor

countries. These licenses would contribute toan adequate return on research and develop-ment costs in order to promote new drug de-velopment and also permit distribution ofdrugs to patients at low cost.


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Environmental standards are at the forefront ofthe public debate on trade. The WTO’s Technical

Barriers to Trade Agreement and the Agreement onSanitary and Phytosanitary Standards both includesome references to environmental protection andtrade, although to date there have been few formaldisputes brought before the WTO.

The links between trade and the environmentare complex.6 One effect is that trade can raise scalesof production. These effects will be positive becausethe amount of resources that used to produce thesame level of output will decline. However, if tradeinduces a change in output composition, it is possi-ble that dirty industries (even at larger scales) mayincrease, and clean industries contract, counteractingthe effects of scale. Trade may also permit greater ac-cess to more advanced and cleaner technology. Thenet effect depends on the change in output mix andtechnology that occurs with trade-induced growth.

What are the trade consequences of environmen-tal regulation? One hypothesis is that pollution-intensive industries take flight to countries with laxenvironmental standards. However, there is limitedevidence to date to support this hypothesis. For ex-ample, Pearson (1987) and Leonard (1988).7

A second analytical approach considers the envi-ronment as a factor of production, such as capitaland labor. The idea is that countries with lax envi-ronmental regulations (for example, environmentalabundance) tend to specialize in pollution-intensivegoods. Here, too, the evidence is ambiguous. Forexample, Tobey (1990), looking at five pollution-intensive industries in 23 countries, found that envi-ronmental regulations have caused trade patterns todeviate from the predictions of the model. Wilson,Sewadeh, and Otsuki (2001), in a study of 24 coun-tries with five different pollution-intensive industries,found that stringency of environmental regulation re-duces net exports of the five pollution-intensive in-dustries. On the other hand, Grossman and Krueger(1993) investigate the environmental impact of

Box 6.3. Environmental standards and tradeNAFTA, and conclude that lax environmental regu-lations do not create a comparative advantage inMexico. Xu (1999), using a gravity model to investi-gate whether differences in environmental regula-tions have affected bilateral trade between a sampleof developed and developing countries in pollution-intensive goods, found no evidence that countrieswith stricter environmental standards lower theirtotal exports of pollution-intensive goods. In sum,the evidence on the specific linkages between envi-ronmental regulation and trade is mixed.

So what policy tools and institutions are bestsuited to promoting higher levels of environmentalprotection? Trade sanctions to support environmentalprotection can restrict developing-country market ac-cess. Indeed they may be counterproductive: since en-vironmental regulations tend to improve as incomesrise, policies that restrict trade and restrict growthalso undermine a driver of environmental improve-ment (see World Bank 2001). Second, sanctions pe-nalize whole industries, the clean firms, as well as thepolluters in an industry. Third, many polluters pro-duce for the local market and are unaffected by sanc-tions. Finally, domestic pollution and environmentalprotection can be controlled most effectively they aretargeted at the source—through taxes and other do-mestic policy instruments. A more productive ap-proach is to establish policy coordination amongcountries. This would allow for joint regulation ofcommon watershed and air basin controls in areas oftransborder pollution, and for development assis-tance to transfer clean technology and environmentalaid to strengthen environmental protection over time.Global environmental agreements (such as the Mon-treal Protocol that bans certain ozone-depletingchemicals) and others, if based on sound cost benefitanalysis, can raise environmental quality over time.Voluntary ecolabeling programs also can provide in-centives for environmental protection.

Source: Wilson 2001.

Similarly, collective action to improve laborstandards could also contribute to poverty re-duction. Some actions are primarily develop-mental in scope, such as providing educationalsubsidies to ensure that children can attendschool and do not have to enter the workplace(see Indonesia’s highly successful “Stay inSchool Program”). Other actions have to dowith the propagation of core labor standards.Leadership of these activities are—and shouldcontinue to be vested—in the ILO, with pro-ject collaboration from multilateral develop-ment banks (see box 6.4).

Product standards are becoming increas-ingly important in international trade to pro-tect consumers. However, standard setting canquickly become a ruse for protecting domesticproducers. One solution is to create a Stan-dards Development Facility to introduce sci-ence and other professional evidence into stan-dard setting for products, with adequaterepresentation from developing countries. ThisFacility could also collaborate with govern-ments to provide unbiased assistance to devel-oping countries’ standard setting–bodies (seebox 6.5).

Countries could also undertake a programof collective action on government procure-ment. The World Bank’s Development Gatewaymay be a vehicle to help countries implementtransparent and competitive processes in gov-ernment procurement of goods and services, anarea where the multilateral development bankshave accumulated vast experience. Agreeing onkey principles, procedures, and policies, supple-mented with provision of technical and finan-cial assistance to implement them could go fartoward encouraging trade, engendering compe-tition, and augmenting efficiency.

Policies of high-income countriesA major objective of a new round of tradetalks whose rationale is to promote develop-ment must be to lower the barriers to trade ingoods that the world’s poor produce and to theservices they can provide. An important firststep would be to reduce barriers to trade withthe low-income countries as an effort to pro-

mote their development. This could be done if all high-income countries were to emulatethe EU’s “Everything but Arms” preferentialscheme. This would provide an impetus toLDC exports that could increase their revenuesby more than 10 percent and the trade fromSub-Saharan Africa by some 14 percent.Broadening this access for the 49 least-devel-oped countries to the 70 low-income countrieswould provide an important impetus to trade-led development in those countries that need itthe most. The effects in trade diversion wouldbe minimal, and the benefits important to thelow-income countries. If high-income countrieswere to reduce antidumping threats, the effectswould be even greater.

Resources are essential to creating a supplyresponse to incentives created through marketaccess. Much can be accomplished from debt-based multilateral flows, but some portion ul-timately falls on bilateral developmental assis-tance, often as grants, that can fill in the gaps.If the high-income countries really wish to seedeveloping countries become more vigorousparticipants in global trade, they must makeadditional efforts to augment extant programswith trade-related assistance. Bilateral grantaid can help with many aspects of trade facili-tation—customs reform, disseminating techni-cal standards, and trade law reform, to name afew areas.

Technical assistance can be as important as financial assistance. One area where high-income countries could help immeasurably iscompetition policy. Simply requiring antitrustauthorities to present the structural effects ofmergers and acquisitions in home markets onthird country markets to be publicly availablewould aid authorities in developing countriesto enforce competition policy in their ownjurisdictions. Moreover as analyzed in chapter4, conducting a regular review of antitrust ex-emptions and their adverse consequences fordeveloping countries could be helpful, partic-ularly in international transport.

It would be a mistake to infer that policies indeveloped countries should be designed solely topromote trade in developing countries. No less


162


163

Improving labor standards is a fundamental aspectof development. However many developing na-

tions have resisted efforts to include labor standardsin world trade agreements. Proponents argue thattrade sanctions should be used to enforce labor stan-dards and to raise wages, while developing countriesfear that international labor standards could becomemasks for protection. Their inclusion in the WTOthreatens a main comparative advantage of develop-ing countries.

Numerous studies have shown that low laborstandards that affect working conditions do notgrant a competitive edge to developing countries.According to a 1996 OECD study, countries withlower core labor standards (that is, the eliminationof exploitative child labor, abolition of forced labor,nondiscrimination in employment, freedom of associ-ation, and the right to collective bargaining) do nothave an improved export performance. The studyfinds no correlation between real wage growth andthe degree of respect for freedom of association. On the contrary, it supports the view that highernational income levels and open-market reforms areboth associated with improved labor standards.

At the same time, trade sanctions to improvelabor conditions are likely to be counterproductive.By limiting trade between nations, sanctions shackle

Box 6.4 Improving labor standards in a way that works

the growth in wages that expanded trade would oth-erwise bring. Historically, the growth rate of wageshas been twice as rapid in the developing countriesthat increased their trade participation in the worldeconomy as compared with those that did not (Col-lier and Dollar forthcoming). Moreover, their wagegrowth has been even faster than in the rich coun-tries. Depriving poor nations of export opportunitiesin the name of raising wages is fatuous.

There are other problems with trade sanctions.Trade sanctions penalize whole countries and indus-tries when violators are firms—and often they arefirms that do not export. Firms serving the domesticmarket usually have worse labor standards thanexport industries (Aggarwal 1995). Wages and work-ing conditions in export processing zones, for exam-ple, tend to be higher than the average for the do-mestic economy. Trade sanctions would in effecttarget the better performing export firms. Second,trade sanctions are an inherently unequal instrument:they are likely to be imposed only by developedcountries against developing countries. Finally, tradesanctions can hurt the very people they are intendedto help. For example, in Bangladesh, children dis-placed from garment factories due to the fear ofsanctions found alternative employment in activitieswith even lower standards, such as street vendingand prostitution (Panangariya 1999).

Fortunately, the international community hasmore effective instruments to promote better laborstandards. A main purpose of the ILO is to promul-gate good labor practices and legislations, and it,rather than the WTO, is far better positioned to leadinternational efforts. Governments should be encour-aged to monitor and enforce their own legislation by,if necessary, imposing fines on enterprises that violatecore labor standards (Elliot 2001). Revenues fromthese fines could be channeled back into enforcementprograms and investments to upgrade labor condi-tions. This has several advantages over trade sanc-tions: violators are punished rather than all firms; rev-enues stay in the country and are used to improvestandards rather than imposing income losses oncountries; and improvements occur in a manner con-sistent with indigenous social values and mores rather

0Marginalized Rich countries Post-1980

Globalizers

10

20

30

Percent growth of wages between 1980s and 1990s

Source: Collier and Dollar 2001.

important are policies at home to help domesticworkers adjust to sudden changes in labor mar-ket conditions. Since it is impossible to separateout trade-related dislocation from technology-related or “other”-related dislocations, thesepolicies should focus on providing support andflexibility to workers as they adjust to whateverforms of shocks to the labor market.

Domestic policies of developing countriesGovernments in developing countries do nothave to wait for international negotiations,other international collective actions, or poli-cies in high-income countries to revamp tradepolicies in a way that promotes development.Country policies still hold the potential for thegreatest gains from trade for most countries.For this reason, countries and economies asdiverse as Chile, China, Hong Kong (China),and Singapore, as well as Costa Rica andUganda have chosen to reduce tariffs unilater-ally and to use multilateral agreement to legit-imate and lock in the resulting more-efficientprice incentives for investors.

Many developing countries still have highlevels of protection that implicitly tax theirexport and growth potential. Border trade bar-riers continue to be high in three regions—Africa, the Middle East, and South Asia. Av-erage (unweighted) tariffs in these regions are20 percent or higher, nearly double the 10 per-cent average now found in East Asia, LatinAmerica, and Europe and Central Asia. More-over in many countries, tariff dispersion re-

mains large, and so nominal tariff averages mayunderstate the resulting economic distortion. Inthe small number of countries where nontariffbarriers continue to be used, elimination ofsuch instruments should be a priority. Theirconversion into tariffs will generally generaterevenues. As South-South trade is becoming in-creasingly important, developing countries canhelp themselves through lowering barriers thatimpede access to their own markets.

However, to be effective, reduction in bor-der barriers must be accompanied by otherpolicies and institutional improvements in theinvestment climate, so that the potentiallypowerful instrument of trade reform results inimproved productivity and growth. Weavingreforms that lower border protection togetherwith reforms to elicit a supply response andpromote propoor growth is more complicatedthan first-generation reforms. Openness, incombination with sound macroeconomic, fi-nancial, and governance policies, is one deter-minant of sustained rapid growth, which has adirect and positive relation to increases in theincomes of the poor (see World Bank 2000b;and Dollar and Kraay 2001).

Trade liberalization affects the poor differ-ently depending on the country (see WorldBank 2000b: 49 ff). The immediate effects oftrade reform on the poor depend (among otherthings) on the initial nature of protection, thestructure of production, the effects of reformson relative prices, and whether reforms increasethe demand for labor (the basic asset of the


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than according to the dictates of people in rich coun-tries. If violations are pervasive and egregious and in-ternational sanctions are needed, withholding develop-ment assistance is potentially more effective (Torres1996). The role of NGOs is important, too. The ag-gressive campaigns of NGOs have called attention tofirm violations around the world, and these can helppromulgate stricter codes of conduct, encourage en-

Box 6.4 (continued)

forcement, and call public and international attentionto the most egregious violations (Gereffi and others2001). The international community can help develop-ing countries improve wages and working conditions,but can do so better through the ILO than throughthe WTO.


poor). For example in cases where the poor pri-marily produce for export or rely on importsfor consumption, lowering tariff barriers canimprove their situation through changes in rel-

ative prices, but when the poor work mainly in import-competing sectors, trade liberaliza-tion can cause dislocation that adversely affectsthem. That trade reforms can produce increases


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Product standards are a critical part of trade in the21st century. These include product standards

and sanitary and phytosanitary standards necessaryfor market access in agriculture. Standards are di-rectly linked to poverty reduction and human wel-fare through health, safety, and other channels. Thedevelopment challenge posed by standards and bor-der barriers are particularly important to futuretrade prospects of the least developed nations (WorldBank 2001).

The costs of barriers in standards are likelymuch higher than tariffs to global trade (Maskus andWilson 2001). Moreover, testing, and certificationrequirements in global market remain a serious ob-stacle for developing countries seeking to expand ex-ports. The OECD estimates that standards alone rep-resent between 2 and 10% of final product costs(OECD 1999). Changes in product standards canhave serious repercussions for developing country ex-porters. World Bank research and operational experi-ence indicates that standards are today one of thefundamental “behind the border” barriers to povertyalleviation through trade (Wilson 2000).

Most developing countries do not have the re-sources to apply standards. In Guatemala, for exam-ple, the total budget for standards in 2000 totals$119,000 (Hufbauer, Kotschwar, Wilson 2001). Thisrepresents a small fraction of the total governmentbudget. The World Bank’s experience with standardsin the 1990s shows that investments of $ 3.5m (Viet-nam) $155 million (Turkey), and $5 million in Mo-rocco, for example, had to be undertaken to simplybegin the process of modernization. The Bank alongwith other multilateral institutions and bilateraldonors support standards-related projects in Africaand elsewhere. The international community needs,however, a coordinated and sustained effort to lev-erage work now done in an ad hoc fashion. A newcommitment to action is needed that complimentsthe WTO agenda and trade negotiations. In order tosecure the benefits that market-driven standards offer

Box 6.5 Standards development facility:coordinated action to bridge the standards gap

and integration of developing nations into the worldtrading system, a new commitment is needed. Actionto bridge the rapidly widening divide between devel-oped and developing countries. A two-part strategyto meet this challenge over a 10 year period.

First, the G-8 leaders in Genoa in July 2001committed to better coordinate trade-related assis-tance to “provide bilateral assistance on technicalstandards” and stressed the “paramount importanceof food safety.” A new Standards Development Facil-ity (SDF) could be created to move these commit-ments forward. The program, to be coordinated incooperation with the WTO, the Bank, and othermultilateral institutions and bilateral donors, woulddevelop the framework for a long-term assistanceplan to (1) expand access to standards for developingcountries, and (2) facilitate modernization of stan-dards infrastructures. This work could start with thePRSP countries and build upon pilot programs incoordination with the G-8.

The second goal of the SDF would center onpromoting trade expansion through regulatory re-form and removal of technical barriers in discrimina-tory standards, testing, and certification regimes.This work is in the long-term economic benefit ofboth the developed and developing countries. Aframework to promote the wider use of “supplier’sdeclaration of conformity” to regulatory require-ments should be developed. A systematic review ofproducts subject to mandatory government testingand certification that can be moved to declaration ofconformity status should be undertaken. A multilat-eral “Global Conformity Agreement” (GCA) couldthen be developed based on this list for internationalnegotiation and agreement (Wilson 2001). Fundingto support standards modernization and capacitybuilding in the least developed countries, as outlinedabove, must be part of this goal.


in income and, in the long term, offset negativeeffects offers little solace to those poor sufferingtransitional costs. For these reasons, trade re-form programs have to identify the effects of re-forms on the poor, design targeted compensa-tion where possible, and build propoor socialprotection into Poverty Reduction Strategies oflow-income countries and development pro-grams of middle-income countries. For least-developed countries, because much analyticaland capacity-building work remains to be un-dertaken, donors have agreed to adopt an In-tegrated Framework for the Least-DevelopedCountries (see box 6.2).

Envisioning alternative futures

Making these changes in global tradearchitecture requires political leadership

around the globe and within countries. Policy-makers will ask: Are the benefits worth thepolitical effort? How will it affect poverty andincome distribution?

Answering these questions in a quantitativesense poses challenges. Trade is only one ofmany factors affecting the long-term prospectsof developing countries. Chapter 1 presented adiscussion of the long-term growth dynamics of developing countries in the world economy.This constitutes a baseline view about the likelyevolution of developing countries, based uponbest guesses about generally stable parame-ters—savings, investment, population growth,trade, and productivity growth. To distinguishthe effects of changes in trade policies, we thensimulate the removal of trade restrictions dis-cussed in the foregoing chapters, and analyzetheir development consequences as measuredagainst the baseline scenario. Although econo-mists’ ability to measure these changes is lim-ited (for reasons discussed below), the effort isintended to give us some idea of relative mag-nitudes of effects.

Assessing the effects of trade openness: a fast-integration scenarioIn chapter 1 recall that we had indicated thatincome growth in low- and middle-incomecountries under the baseline scenario will reach

around 3.6 percent on per capita terms, about1.1 percentage points above the per capitagrowth rate of the high-income countries, withthe highest growth rates anticipated in Asia.The countries of Eastern Europe and CentralAsia were expected to grow quite rapidly in thenext decade, while Africa and the Middle Eastwould revert to modest growth rates. This per-formance over the 2000–15 period expands in-come by nearly 60 percent—some $18 trillion(in 1997 dollars).

The baseline scenario establishes a path ofgrowth against which to assess the effects ofeliminating trade barriers. It is important tobear in mind that the baseline incorporatesonly those changes to the global trading regimeup through 1997 carried forward to 2015. Thekey policy change to be simulated is the phasedelimination of all import tariffs, export subsi-dies, and domestic production subsidies. Theseare modeled to begin in 2005 and last through2010. Said differently, in each year between2005 and 2010, restrictions are reduced byone-sixth from their initial levels. The struc-tural transformation therefore starts in 2005,and it has five years to complete (2011–15)after full removal. In reality, of course, this typeof policy change would not come about onlythrough multilateral negotiations; but a devel-opment round, together with regional agree-ments8 and unilateral domestic policy reforms,could well advance policy toward this frame-work by 2010.

Two versions of the trade reform scenario arepresented. In the first version it is assumed thattrade reform has no impact on productivity.These are the static gains.9 For the most part,the source of these gains comes from reducingthe economic inefficiencies linked to trade pol-icy distortions. These may have some dynamicimpacts as they change savings and investmentoutcomes. The gains are sometimes counter-acted, partially or even completely, by changesin a nation’s terms of trade.10 (Annex 1 belowprovides summary information on the design ofthe simulations and the underlying model.)

The second version entails dynamic gains. It assumes that productivity is a function of the degree of openness of the economy. While


166

much more work needs to be done in this area,the evidence available to date suggests a clearlink between openness and productivity. Thishas been implemented in the model assuming adirect relation between productivity growthand a measure of openness. Productivitygrowth is linked to the export-output ratiousing a constant elasticity function.11 There areseveral potential channels through which thismechanism operates. As firms’ exports growand they increase their penetration of worldmarkets, they learn new technologies (throughcomparison with their competitors’ products);they improve production processes to matchinternational standards (such as safety, health,packaging, style, and others); and they canbenefit from scale economies as they producefor a larger market.12 There are other channelsthrough which openness could impact on pro-ductivity that are not incorporated here. Thekey channels are imports of technology-ladenintermediate imports or capital goods, or both.

Impacts on real incomes. Measured in staticterms, world income in 2015 would be $355billion more with trade liberalization than inthe baseline (figure 6.2).13,14 Measured in dy-namic terms, this would translate into cumu-lative additional income of $1.5 trillion to de-veloping countries over the 2005–15 period(valued at net present value in 2005).

About 48 percent of total gains accrue to thehigh-income countries, with Western Europegarnering the highest static gains at $83 billion.This largely reflects its highly distorted agricul-tural policies, which not only are costly forEuropean consumers and taxpayers, but alsoplace a burden on more competitive farmersoutside the EU, who face lower world pricesdue to these distortions. Developing countriesas a whole would benefit from a rise in real in-comes of 1.6 percent in the final year 2015,compared to baseline income (figure 6.2).There are wide variations in the income gainsacross developing regions reflecting two oppos-ing forces. On the one hand, removal of tariffsleads to greater economic efficiency and highergrowth. By contrast, terms-of-trade losses canpartially counteract the gains from efficiencyimprovements.

The introduction of a link between open-ness and productivity increases the static gainsdescribed above by a factor of over two, withthe global gains jumping to over $830 billionusing our base-case parameters. As a percent-age of the global gains in 2015, developingcountries do much better, improving theirshare from 52 percent to 65 percent. The gainsas a percent of initial income rises to almost 5percent for developing countries, and repre-sents significantly higher gains than observedin the static version. The relative gains will behighest in countries observing the greatest risein their export-to-output levels. Typically, thesewill be countries with either high initial tariffs,inducing a large shift in both imports andexports; or countries facing large tariffs andable to increase market penetration; or both.15

These results are broadly comparable in simi-lar studies (see box 6.6)

Agriculture provides the greatestopportunityThe gains from further opening of the globaleconomy can be decomposed in a number of di-rections. Table 6.1 illustrates the sources of theincome gains from two angles—regional andsectoral. Along the regional angle it shows thatthe greater source of income gain among de-veloping countries is from their own reforms.Thus full trade reform by developing countriesgenerates an income gain of $121 billion (in the static) simulation, some two-thirds of theirgains from global trade reform. Needless to say,full market access by the high-income countriesleads to gains for developing countries of nearly$125 billion if productivity gains are taken intoaccount.

The sectoral decomposition is similarly illu-minating. Reflecting the high distortions inagriculture, the largest gains from merchandisetrade liberalization are to be realized fromeliminating all forms of agricultural protection.In both the static and dynamic simulations,agricultural reform in itself accounts for 70percent of the global gains. Free market accessin the high-income countries could result ingains to developing countries of as much as$100 billion. On a lesser scale, but nonetheless


167

far from trivial, elimination of existing protec-tion on textiles, clothing, and footwear wouldgenerate global income gains ranging from $40billion, in the case of fixed productivity, to al-most $190 billion with endogenous productiv-ity. Both of these sectors, as reflected in chapter2, harbor the larger share of the working poorin developing countries.

Results are sensitive to assumptionsWhile there is little doubt regarding the pro-ductivity-enhancing impacts of greater open-ness, there has been relatively little economet-ric analysis at either the macro or micro levelto determine more precisely the magnitude ofthe relation. In light of this uncertainty, table6.2 illustrates some potential range of theglobal impacts of full trade liberalization withvarying assumptions regarding the key para-meters in the relation between openness andproductivity.

Two parameters determine the relation. Thefirst is the responsiveness of sectoral productiv-ity to sectoral openness (as measured by the

export-to-output ratio). The second is the shareof total sectoral productivity affected by open-ness in the baseline simulation.21 The estimateof the gains in the baseline simulation corre-sponds to a productivity elasticity of one and ashare of 40 percent, that is, $832 billion. Thefirst column represents the static gains—anelasticity of 0. As one would anticipate, thegains increase as both parameters rise. Sincetrade reform typically increases the export-to-output ratio, an increase in the responsivenessof productivity to this ratio will increase theopenness-related productivity results. Similarly,the larger the share of productivity accountedfor by the openness factor, the greater will bethe impact on growth.22

Service sector liberalizationThe liberalization scenario described so farhas concerned only the goods sectors. How-ever, chapter 3 of this volume clearly illus-trates the importance of liberalizing the ser-vice sectors. With details to follow below, weconservatively demonstrate that, for develop-


168

Low- and middle-income countries

High-incomecountries

World total0

1

2

3

4

5

Static Dynamic

Figure 6.2 Developing countries couldreap income gains of over $500 billionfrom full trade liberalization

Note: Static gains refer to the results holding productivity constant. Dynamic gains allow productivity to respond tosector-specific export-to-output ratios.Source: World Bank model simulations.

0Low- and middle-income countries


World total

100

200

300

400

500

600

700

800

900Static Dynamic

(billions of 1997 dollars, additional income in 2015compared with baseline)

—which implies up to a 5 percent boostin incomes(percent of baseline income in 2015)


169

Studies of the relation between openness andgrowth have followed two main lines. One line of

research has been to estimate econometrically the re-lation between openness and growth using cross-country time series data and panel estimation tech-niques (see, for example, Sachs and Warner 1995,and Dollar and Kraay 2001). These studies concludethat there is indeed a strong link between opennessand growth.16 A second line of research has been thedevelopment of increasingly sophisticated generalequilibrium models. Model and data developmenthave focused on the various channels through which

Box 6.6 The complexities of measuring openness and growth

trade openness can affect growth. While the earlymodels essentially estimated the static inefficiencylosses from imposing tariffs and other trade barriers,more recent models have extended the analysis alongfour main research paths—dynamic accumulation ofstatic gains, allowing for imperfect competition andscale economies, endogenous growth in which pro-ductivity is responsive to trade openness, and en-dogenous capital flows models in which capital is re-sponsive to trade opening.17 All of these magnify themeasured static efficiency gains by a factor of two tofour, depending on the methodology.

Notes: a. Goldin, Knudsen and van der Mensbrugghe (1993).b. Anderson, Francois, Hertel, Hoekman and Martin (2000).c. Global Economic Prospects (2002).d. Dessus, Fukasaku, and Safadi (1999).e. Department of Foreign Affairs and Trade, Australia (1999).f. Brown, Deardorff and Stern (2001).

Comparisons of the gains from full trade liberalization(all gains are in billions of dollars)

Type of Gain for Gain for Study Nature of reform simulation Base year industrial countries developing countries World total

GKVa

AFHHMb

GEPc

DFSd

DFATe

BDSf

Full pre-UR tradeliberalization

Full pre-UR tradeliberalization

Full tradeliberalization(from 1997 base)

Full tradeliberalization(from 1995 base)

Full tradeliberalization(from 1995 base)including services

Full post-UR tradeliberalizationincluding services

Dynamic

Steady-state

Dynamic

Dynamicw/productivity

Dynamicw/productivity

Static

Static

1992

1995

1997

1997

1995

1995

1995

290

146

171

293

450

1490

160

108

184

539

760

370

450

254

355

832

1210

750

1860

(continued)

ing countries, the income gain from serviceliberalization amounts to multiples of the gainsfrom merchandise trade reform. There are sev-eral reasons for this. First, services play agrowing role in all economies as they develop,both from the point of view of the consumer,as well as their importance as inputs into anefficient modern economy. Second, liberali-zation of services has lagged far behind liber-alization of goods, where average tariffs aretoday generally low.

However quantification of services sectors’trade barriers and other forms of protection isstill more art than science. Even the morestraightforward accounting of bilateral flowsand the value of sales of foreign affiliates inthe services sectors is sketchy, at best. Severalefforts have been undertaken to measure thebarriers and assess the impacts of their re-moval. Two global studies are cited in box6.6, and the Tunisian case is developed morethoroughly in box 3.3 in chapter 3. These

studies, not surprisingly, show the tremendouspotential gains from liberalizing the servicessectors, gains that are multiples of merchan-dise trade liberalization.

Rather than relying on imprecise estimatesof the barriers to services delivery, results pre-sented below provide a very conservative esti-mate of the potential gains using the samemodel used to assess merchandise trade liberal-ization, though in a simpler context. The frame-work is completely static using the 1997 base.23

The services sectors were disaggregated into sixcategories:24 (1) trade and transportation; (2)communications; (3) financial services (includ-ing banking and insurance); (4) other privateservices, including legal, accounting, accommo-dation, and restaurants; (5) public services; and(6) housing. The scenario assumes that reformsare undertaken in four of these sectors—ex-cluding public services and housing.

The barriers in the services sectors, as im-plemented in this framework, take three


170

The box table summarizes several studies usingapplied general equilibrium models.18 The differ-ences in results can be essentially explained by threefactors: (a) the base from which the reform is simu-lated, together with its assumptions about initial lev-els of trade barriers (for example, pre- or post-Uruguay Round); (b) whether productivity is fixed orresponsive to trade opening; and (c) whether servicetrade liberalization is included.

The first three studies—Goldin and others (GKV1993), Anderson and others (AFHHM 2000), andGlobal Economic Prospects 2002 (GEP) (that is, thestudy you are reading), use similar model specifica-tions and estimate the long-term efficiency gainsfrom full merchandise trade liberalization. The ag-gregate gains from reform are roughly similar acrossthese three studies, and the differences can largely beexplained by the nature of the reform scenario. Thefirst estimates the pre-Uruguay Round (UR) impactsof full trade reform, the second the post-UR impacts,and the third the impacts of trade reform beforecomplete implementation of the UR.

Box 6.6 (continued)

Only two of the studies cited here have someform of endogenous growth—the GEP and Dessusand others (DFS 1999) studies. The DFS model as-sumes a relation between aggregate openness (asmeasured by the ratio of exports plus imports togross domestic product—GDP). The GEP model as-sumes that the economic response to opening issector-specific. As a result, in the GEP study, produc-tivity increases are limited to the agriculture andmanufacturing sectors, thereby capping to some ex-tent the additional gains from introducing the open-ness productivity link.19

Finally, the table in this box shows the impactsof including service trade liberalization in the com-plete package.20 The Department of Foreign Affairsand Trade (DFAT 1999) study shows a gain of $750billion, and a tripling of the gains of merchandisetrade reform (compared with AFHHM); and theBrown and others (BDS—2001) study shows a mas-sive gain of nearly $1.9 trillion. The study incorpo-rates scale economies and imperfect competition thatcould readily explain the differences in results.

Table 6.2 Global gains are sensitive toproductivity—openness linkages(billions of 1997 dollars)

Elasticity

(Share percent) 0.0 0.5 1.0 1.5

20 355 435 578 67440 355 515 832 1,02660 355 596 933 1,17480 355 677 1,031 1,340

Note: Sectoral productivity is decomposed into two factors.The first is sensitive to an openness indicator represented bythe sectoral ratio of exports to output. The second is a resid-ual determined by other factors. In the baseline simulation,the trade-sensitive factor is calibrated so that its share in de-termining total sectoral productivity is fixed. The sensitivityanalysis shows how the gains vary with respect to this share,respectively 20, 40, 60, and 80 percent. The table also showsthe sensitivity of the aggregate gains with respect to the elas-ticity linking trade openness with productivity.

Source: World Bank model simulations.

forms.25 The first is a cost penalty measuringthe relative inefficiency of firms operating asmonopolies or otherwise protected from com-petition. The second is a price markup overaverage cost, representing the ability of firmsto price to market in the absence of competi-tion (be it domestic or foreign). The third cap-tures barriers to cross-border trade.26 The bar-riers were set at conservative levels. Both thecost and trade penalties were set at 10 percent,and the markup was also fixed at 10 percent.(By comparison, in the Tunisian study cited inchapter 3 [Konan and Maskus 2000], barriersin these same sectors varied from 3 to 200 per-cent, with most ranging from 30 to 50 per-cent.) The results presented below are limitedto services liberalization in developing coun-


171

Table 6.1 Agriculture accounts for the bulk of the gains from merchandise tradeliberalization(billions of 1997 dollars, additional income in 2015 as compared with baseline income)

Simulations with fixed productivity

Agriculture Textileand food and clothing All other sectors Total

Liberalizing region:Benefiting region:High-income

High-income 73 –3 –25 49Low- and middle-income 31 19 26 75Total 104 16 1 124

Low- and middle-incomeHigh-income 23 20 78 118Low- and middle-income 114 7 –5 121Total 136 27 73 239

All regionsHigh-income 106 17 50 171Low- and middle-income 142 24 20 184Total 248 41 70 355

Simulations with endogenous productivity

High-incomeHigh-income 144 –10 12 149Low- and middle-income 99 20 7 124Total 243 10 20 273

Low- and middle-incomeHigh-income 53 78 22 151Low- and middle-income 294 104 21 424Total 346 182 43 575

All regionsHigh-income 196 66 35 293Low- and middle-income 390 123 27 539Total 587 189 62 832


tries only; that is, there is no assessment of theimpact of high-income country reform on de-veloping countries.

The results are telling. So-called joint re-form, where all three instruments are relaxedsimultaneously, yields an incremental incomegain for developing countries of nearly $900billion, some 4.5 times greater than their gainfrom global merchandise trade liberalizationalone, or $190 billion (table 6.3).27 In total,this represents a 9.4 percent income gain com-pared to base levels.28

Table 6.3 also reveals the decomposition ofthe “joint reform” into its three components. Itis clear that reducing the cost penalty has thegreatest impact. It is equivalent to shifting theproduction possibilities frontier outwards (inthe four service sectors). Though the markupallows for some decline in the producer price,it will be attenuated to some extent by higher

wages and returns to capital. In many ways themarkup is similar to a producer tax.29 In thatsense, one would not anticipate that a reduc-tion in the markup would lead to the sameboost as an improvement in efficiency.30 More-over, similar to a tax, elimination of a markupcan also produce perverse results if it leads toincreasing losses due to other inefficiencies (so-called second-best effects). Finally, the impactsof the trade barrier instrument are also signifi-cantly smaller than the efficiency gains. In partthis reflects the low level of penetration of cross-border trade in services. The long-run potentialwould be much larger.

Table 6.3 also reports the decomposition ofthe gains by category of service. The source ofthe largest impact is the trade and transporta-tion sector, which accounts for roughly doubleof the aggregate gains. This largely correspondsto this sector’s share in demand (compared to


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Table 6.3 Services liberalization generates substantial windfall gains for developingcountries

Goods trade Cost Markup Trade Jointalone penalty removal penalty reform Total

Static income gain for developing countries ($1997 billion)

Reforming sectorMerchandise trade 190.0All four service sectors 800.4 27.5 54.4 883.5 1073.4Trade and transportation 443.0 7.9 26.0 477.7 667.6Communications 39.0 1.1 1.3 41.4 231.3Financial services 96.1 8.1 4.0 108.5 298.4Other private services 209.0 6.4 23.1 235.6 425.5

Static income gain for developing countries (percent of base income)

Merchandise trade 1.7All four service sectors 7.0 0.2 0.5 7.7 9.4Trade and transportation 3.9 0.1 0.2 4.2 5.8Communications 0.3 0.0 0.0 0.4 2.0Financial services 0.8 0.1 0.0 0.9 2.6Other private services 1.8 0.1 0.2 2.1 3.7

Note: Though the results come from a comparative static simulation with a 1997 base, in order to make them comparable with pre-vious results, they have been scaled by the projected income of 2015. For example, the merchandise trade gain of $190 billion isequivalent to $84.2 billion when scaled to 1997 income. The results as a percent of base income are invariant to the choice of re-porting year. The first column represents the gains from merchandise trade liberalization only (in the comparative static framework).The next four columns represent the incremental gains from services liberalization, that is, those gains on top of the gains from mer-chandise trade liberalization. The “Cost penalty” column reports the impacts of a 10 percent increase in efficiency in the four privateservices sectors. The “Markup removal” column reports the impacts of the removal of a 10 percent markup in the same four sectors.The “Trade penalty” column reports the impacts of reducing the trade penalty parameter by 10 percent. And the fifth column,“Joint reform,” represents the incremental impact of implementing all three reforms simultaneously. The final column represents thetotal gains: “Joint reform” added to merchandise trade liberalization. The instruments are only applied in developing countries.


the other three service sectors). For example,on average in developing countries, input oftrade and transport services accounts for 6.6and 7.4 percent of output in the manufacturingand services sectors, respectively. And trade andtransport accounts for nearly 22 percent of pri-vate consumption. Other private services, thenext largest sector, has only 3.2 percent costshare in manufacturing and a 7 percent share inprivate consumption.31

Despite the somewhat tentative nature ofthese results, they clearly illustrate the impor-tance of services liberalization for developingeconomies. They also illustrate the need forsignificantly more research in the area of ser-vices—both in fundamental data gathering, aswell as in improving our knowledge of theeconomic mechanisms through which protec-tion in the services sectors operate.

Consequences for inequality and povertyWhile all too frequently the focus of trade re-forms is on the aggregate economic impact, i.e.

the big number, policy makers, businesses andthe general public are often concerned aboutthe more direct impacts to specific segments ofsociety—who is likely to benefit and who maybe hurt. The next sections shed some light onthe more detailed economic impacts of mer-chandise trade reform—leaving the effects ofany service sector liberalization in abeyance.

Four headlines are noteworthy. First, tradereform tends to improve income distributiontoward greater equality. Second, it leads tosharp reductions in poverty. Third, the major-ity of economic sectors tend to expand in thewake of reform. Finally, there is a significantexpansion in trade, particularly in agricultureand textiles, two of the most protected sectorsin the global economy.

Income distribution. The current frame-work, although aggregate in nature, can eluci-date some of the underlying factors determin-ing income distribution, notably factor returnsand structural changes.32 Table 6.4 presentsthe final year–impacts on real factor returns


173

Table 6.4 Labor’s share of national income rises substantially (percent change in real factor returns in 2015 as compared with baseline)

With exogenous productivity With endogenous productivity

Capital Unskilled Skilled Capital Unskilled Skilledreturns wages wages returns wages wages

High-income countriesUnited States 0.1 0.5 0.4 0.4 0.5 1.0Western Europe 0.1 0.7 2.6 0.7 0.7 3.1Japan 1.2 1.5 2.7 2.2 1.9 3.4Other high-income OECD countries 0.8 3.1 0.6 0.7 2.3 1.3Newly industrialized economies 0.5 4.1 2.9 –0.4 4.1 3.8

Low- and middle-income countriesSub-Saharan Africa 0.8 6.9 4.5 3.4 5.4 6.8East Asia and Pacific 4.6 6.2 7.8 9.3 11.2 15.0South Asia 1.7 6.0 3.4 3.7 5.7 5.8Eastern Europe and Central Asia 1.4 5.4 4.3 3.3 5.3 6.7Middle East and North Africa 8.0 4.1 12.5 10.9 6.1 17.0Latin America and the Caribbean 0.7 5.3 2.5 1.4 4.8 4.3Rest of the world 0.8 3.3 2.2 3.2 2.7 4.2

Memorandum itemsHigh-income countries 0.2 1.0 1.6 0.7 1.1 2.2Low- and middle-income countries 2.7 5.7 5.6 5.1 7.4 9.6World total 1.0 2.3 2.5 2.1 2.8 3.8

Note: Nominal factor prices deflated by economywide CPI.


(as percentage changes from the baseline). Un-skilled wages improve more than skilled wages,and capital returns in all of the developing re-gions, except for East Asia and the Middle Eastand North Africa, and in some cases quite sub-stantially, for example in South Asia and LatinAmerica. This suggests quite strongly that pro-tection has largely been detrimental to unskilledworkers, including, of course, those working in agriculture.33 With endogenous productivitythe relative gains of unskilled workers is some-what dampened. Since the additional produc-tivity is only labor-augmenting, capital becomesrelatively scarcer with endogenous productivity,thereby raising its relative return, and couldpotentially reverse the trend toward improvedincome distribution, although this will in partdepend on the share of capital income in aggre-gate income.

Poverty. Rising unskilled wages, as pre-sented above, are likely to lead to a decrease inpoverty. When coupled with changes in theprice of the poor people’s consumption bas-ket, the reduction in poverty could be quitesubstantial. Figure 6.3 presents the “food andclothing” wage for unskilled workers in devel-oping countries.34 The largest increase in realunskilled wages occurs in the Middle East andNorth Africa region, but all developing re-gions benefit from a substantial rise. The changesin the real wages of unskilled workers (de-flated by the food and clothing index) can beapplied to the forecasts of poverty headcountsfor the year 2015. Assuming an elasticity oftwo, a standard assumption for these types ofanalyses, figure 6.3 shows the implication onpoverty of the rise in unskilled real wages.Overall dire poverty (those living on less than$1 per day) would fall by over [110] million un-der these assumptions, some [15] percent belowthe baseline forecast for 2015. Sub-SaharanAfrica would account for over one-half of theimprovement. Poverty would decline by over320 million persons based on the $2 per daycriteria, with the largest absolute improve-ments in Sub-Saharan Africa and South Asia.This represents a 15 percent decline in povertyglobally.

Structural transformation. Removal oftrade barriers has multiple structural implica-tions—changes in the composition of produc-tion, changes in trade-to-output ratios, and soon. While in aggregate these changes are highlypositive, they could cause significant displace-ment, and potentially some losers. One of thereasons trade reforms are difficult to imple-ment is that the potential losers are easy toidentify (and quick to alert and influence poli-cymakers) whereas the gains are more diffused,and devoid of organized partisanship. Even ifthe losses are small compared to the gains, thepolitical weight of protected sectors can, inmany cases, impede improvements in policies.Figure 6.4 reflects the aggregate losses in valueadded compared with the net aggregate gains.For most regions, the negative displacement issmall relative to the aggregate gains. One ofthe exceptions is Western Europe, where thevalue added losses, particularly in agricultureand food processing, are much larger than theoverall gains. Sub-Saharan Africa, South Asia,and the Middle East and North Africa regionsalso face relatively high negative displacementcompared with the aggregate gains. These arethe regions with the highest distortions, andtherefore are subject to the greatest structuraltransformation. However, on average for de-veloping countries, the displacement representsonly 23 percent of the total gains.

Trade. In the baseline scenario and in the ab-sence of any trade policy change, aggregateworld trade of goods and services would riseabove $11.2 trillion (table 6.5). Market pene-tration of developing economies in high-incomecountries would rise to 32 percent, a rise of 5percentage points from its level in 1997. Underthe openness scenario, world trade would in-crease by an additional $1.9 trillion in 2015, anincrease of 17 percent from baseline levels.Developing-country market penetration wouldrise to 37 percent in the high-income countries,reflecting an increase of 26 percent in the valueof exports from developing countries to thehigh-income countries. More impressively,South-South trade would jump 59 percent, anincrease in value by over $700 billion.


174

The sectoral composition of the change intrade is equally revealing (figure 6.5). Exceptfor energy and the nontradable sectors (con-struction and services), developing-countryexports in all sectors increase sharply, particu-larly in percentage terms from baseline levels.Agricultural exports expand by $200 billion,and textile, clothing, and footwear exports by

nearly $180 billion. Reflecting tariff escala-tion in the food-processing sector, developing-country exports jump 139 percent. Note thathigh-income exports of food processing alsoexpand considerably.

This outcome reflects several factors. First,tariffs in this sector are high around the world,so industrial-country exporters are able to take


175

Figure 6.3 Unskilled wages rise substantially relative to cost of living—

Note: Figure represents changes in unskilled wages deflated by the food and clothing CPI.Source: World Bank model simulations.

Note: Figure represents potential reductions in number of persons living in poverty. A poverty elasticity of 2 with respect to theimprovement in unskilled real wages is applied to the baseline poverty scenario for 2015.Source: World Bank model simulations.

Percent change from baseline in 2015

—implying a substantial reduction in povertyNumber of persons (in millions) compared to baseline in 2015

0Sub-Saharan

AfricaEast Asia

and PacificSouth Asia Eastern


Middle Eastand

North Africa


Caribbean

2

4

6

8

10

12

14

16

18

Sub-SaharanAfrica


South Asia EasternEurope andCentral Asia

Middle Eastand

North Africa


Caribbean

120

100

80

60

40

20

0

$1 per day $2 per day

Table 6.5 Developing countries increasetheir market share(trillions of 1997 dollars in 2015)

Low- andImporting region High-income middle-income World

Trade flows in baseline scenario

Exporting regionHigh-income 5.1 2.4 7.6Low- and

middle-income 2.4 1.2 3.6World total 7.6 3.6 11.2

Trade flows with endogenous productivity

High-income 5.1 3.0 8.1Low-and

middle-income 3.0 1.9 5.0World total 8.2 4.9 13.1


advantage of new opportunities. Second, withdecline in protection in their own markets,producers shift toward producing for exportmarkets. And third, the decline in agriculturalprotection in high-income countries reduces

the costs of inputs for food processors, makingthem more competitive internationally.

Exports of other manufactured products bydeveloping countries represent the largest ab-solute increase. A significant portion of the in-crease represents an increase in South-Southtrade where barriers to manufactured importsare high in the baseline, compared with barri-ers to trade in the industrial countries for thesesame products.

ConclusionsLaunching a development round, moving for-ward on the global cooperation agenda to ex-pand trade, enacting policies in high-incomecountries to promote trade-led development,and enacting trade reforms within developingcountries are all momentous tasks. But thelong-term promise is tangible: $2.8 trillion inadditional global income, $1.5 trillion of ad-ditional income for developing countries, re-ductions in global poverty by an additional320 million people, and fewer infants dyingbefore their fifth birthday. This, in turn, would


176

Figure 6.4 Reform has costs, but they are largely outweighed by the gainsChange in billions of 1997 dollars compared to baseline

Note: The displacement bars represent the sum of the difference in value-added in sectors with declining value added. The value-added bars represent the aggregate change in value added. The figures are from the endogenous productivity scenario.Source: World Bank model simulations.

0

100

200

300

400

500

600

Displacement Value added

Sub-SaharanAfrica


South Asia EasternEurope andCentral Asia

Middle Eastand

North Africa


Caribbean



177

Figure 6.5 World trade booms, particularly in food and agriculture(billions of 1997 dollars in 2015)

Note: Number above columns represents percent increase in exports from baseline level. These represent the results of opennesswith endogenous productivity.


06

87

911

52

139

10

48

7

37

40

Agriculture Energy Processedfoods

Textiles, clothing,and footwear

Othermanufacturing

Non-tradables

100

200

300

400

500

600

700High-income countries Low- and middle-income countries

The Bank, usually in partnership with other enti-ties, is working to help developing countries

create—and take advantage of—new trade opportu-nities. It is doing so in three policy domains: global,regional, and national.

At the global level, developing countries, moreimportant in size and sophistication than ever before,are now pivotal to the success of the world tradingsystem. Their interests have to be taken into accountif any new multilateral trade negotiations are to besuccessful and if the multilateral system is to bestrengthened. The Bank’s objective is to help devel-oping countries use the system of multilateral rulesto expand their trade and development. In particular,the Bank is focusing intensively on the barriers facingleast developed countries (LDCs) in using trade topromote development.

Regional arrangements are becoming increas-ingly important for trade policymakers in the de-veloping world. The Bank is focusing on analyzingtheir effects, on helping governments to shapearrangements so that they expand trade and be-come steppingstones to more effective multilateralparticipation, and on advising prospective mem-bers about costs and benefits. Understanding theeffects of the largest arrangements, such as theproposed Free Trade Arrangement of the Americas

Box 6.7 World Bank programs: activities to supporttrade-led pro-poor growth

and the European Union agreements, is especiallyimportant.

Finally, and most important, at the countrylevel, work on traditional border barriers remains apriority, particularly for countries in South Asia, theMiddle East, and Africa. At the same time, virtuallyall countries are paying increased attention to “be-hind the border” issues—for example, investmentregulations, transportation infrastructure, trade facil-itation, telecommunications, and business services—to ensure that producers can take full advantage ofthe opportunities globalization presents. This part ofthe new trade agenda may partially overlap with ex-tant sectoral reform initiatives, and in these cases, achallenger is to ensure consistency between trade-related objectives and the other objectives of sectoralreforms. In all cases, the Bank’s goal is to help gov-ernments design and implement pro-poor reformprograms that can leverage trade into faster growthand poverty reduction. Of particular importance isthe Integrated Framework effort, a multilateral ini-tiative designed to help least developed countries re-spond to market opportunities and accelerate theirintegration into the multilateral system.

In 2000, the Bank presented 46 projects to itsBoard with trade components, and was undertaking 35studies in addition to the IF work—to advise clients.

contribute to a more sustainable standard ofliving around the globe—and a more stableworld community.

Annex 1

Applied general equilibrium (AGE) model-ing, in some form, has been the tool of

choice for trade economists to analyze the im-pacts of multilateral trade reforms for over twodecades, starting with analyses of the TokyoRound in the late 1970s and early 1980s (Clineand others 1978; Deardorff and Stern 1981;and Whalley 1985). Their development tookoff with the rising accessibility of computingpower and improved software, and have be-come increasingly more sophisticated, integrat-ing aspects such as dynamics, market structure(for example monopolistic competition), and fi-nancial flows. AGE models proved to be influ-ential in the last round of multilateral negotia-tions, which culminated in the Uruguay RoundAgreement signed in Marrakech in 1994 (seeMartin and Winters 1996, for example).

AGE models capture the detailed interac-tions across the many agents of an economy—producers, consumers, public entities, investors,importers, and exporters. Despite their level ofdetail, they nonetheless represent a stylized rep-resentation of a true economy. For example,the version of the model used for this volumerepresents economic activity by only 20 goodsand services. A detailed domestic model mayhave 100 to 200 sectors.

The results of the model depend on two keysets of parameters and the so-called closurerules. The first set is the dynamic parameters—population and labor force growth rates, edu-cation, savings behavior, and technologicalprogress (or productivity). The second set ofkey parameters includes the behavioral andtechnological parameters of the economicagents. How do consumers respond to pricechanges? How do household budgets change asincomes rise? How flexible is production? Canlabor substitute for capital, or vice versa? Whilemany of these parameters are econometricallyestimated, there is still a great deal of uncer-

tainty regarding their levels. Systematic sensi-tivity analysis is desirable to determine the ex-tent to which the impact analysis is robust tochanges in these parameters. This in itself is farfrom a trivial task, given the thousands of pa-rameters these models typically employ.

The closure rules pertain to the actions ofcertain agents that are not modeled explicitly,or are exogenous to the model. There are threekey closure rules in the simulations undertakenfor this study.35 First it is assumed that gov-ernment expenditures are fixed in real terms.In the baseline scenario, they grow at the samerate as real GDP; in policy simulations they areunchanged from their baseline levels. Govern-ment revenues are raised to achieve a targetedlevel for the fiscal deficit. The latter is heldfixed at its base level in order to avoid sustain-ability concerns.36 The direct tax schedule ad-justs to insure fiscal balance equilibrium. In thecase of trade reform, this implies that the re-duction in import tax revenues is replaced bydirect taxes (to the extent that revenues fromother sources of taxation are not significantlyaltered).

The second closure rule concerns invest-ment. Investment is assumed to be savings-driven, for instance, there is no interest ratemechanism that equilibrates the savings supplyand investment demand schedules. Foreignsaving can add to or subtract from domesticsaving. Trade reform may have little impact onoverall domestic savings to the extent that itwould do little to modify consumers’ choicebetween current and future consumption. How-ever to the extent that the price of investmentgoods decline (due to the removal of tariffs oncapital goods), investment could rise substan-tially with positive long-term payoffs. In otherwords, the amount of investment per dollarsaved has very positive dynamic impacts if tar-iffs impose a high cost on capital goods.

The final closure rule concerns foreign cap-ital flows. In the absence of endogenous deter-mination of foreign capital flows across coun-tries, these are assumed to be exogenous in anygiven time period.37 Thus policy shocks aretransmitted to a fixed trade balance, the re-


178

verse side of a fixed capital account balance.The typical impact of this closure rule in atrade reform scenario is a real depreciation.The removal of tariffs generates an increase inimport demand. Given the fixed trade balance,this must be met by a rise in exports, achievedthrough a real depreciation. The extent of thedepreciation will depend on the levels of thetrade elasticities (import and export). This sim-plification of foreign capital flows implies fore-closing an important channel for growth, forinstance, the increase in foreign direct invest-ment (FDI) in the aftermath of trade reform.Empirically, this channel has proven to bequite important as witnessed by Portugal andSpain with their entry into the EU, or by Mex-ico when it joined the North American FreeTrade Agreement. China has also witnessed aboom in direct foreign investment in anticipa-tion of its accession to the WTO. Some of thepotential benefits of increased FDI are cap-tured by the scenarios with endogenous pro-ductivity growth.

The version of the model used for thisanalysis decomposes the world economy into15 regions and 20 economic activities. Themodel is calibrated to the latest release of theGlobal Trade Analysis Program (GTAP) data-set with a 1997 base year.38 The model issolved forward as a series of linked sequentialequilibria, where population and labor forcegrowth rates are given, capital accumulation isbased on the previous period’s level of invest-ment, and productivity is calibrated to a targetGDP growth rate.

After a plausible baseline simulation is de-veloped, policy shock scenarios are undertakenwhere parameters calibrated in the baselinesimulation are taken as given (for example,productivity parameters) and GDP growth is anoutcome. Thus, in the absence of any change inthe exogenous environment, the policy shockscenario should reproduce the baseline.

Notes1. See World Bank 2001, chapter 3. 2. This is not to say that South-South arrangements

cannot be made to work. However, many South-South

regional integration agreements have been formed thathave had negative or ambiguous effects on income. TheTrade Blocs report (World Bank 2000a) found thatSouth-South agreements between richer and poorer de-veloping countries are likely to generate losses for thepoorer ones when the poorer members import productsfrom the richer members, whose firms are not interna-tionally competitive. For example, in the 1960s, Kenyahad a more developed manufacturing sector thanUganda and Tanzania, and when the three formed theEast African Community (EAC), the latter two lost tariffrevenue by importing from Kenya at the high protectedprice rather than at the lower world price, with transfersgoing from them to Kenya. This asymmetry proved un-sustainable and resulted in the demise of the EAC.

3. Of particular importance is that the results of ne-gotiations are made publicly available in user-friendlyform. For example, data on tariff bindings are not madeavailable in a database format, preventing analysts fromundertaking cross-country research. This is importantbecause it impedes efforts to estimate the magnitudeand incidence of costs of protection. It is a truism thatto reduce protection and resist protectionist pressures,those that lose (pay) need to be aware of the costs ofsuch policies. The suppliers of, and the clients for, suchanalysis and information are not only governments, butalso civil society (think tanks) and the constituencies inindividual countries that are affected by policy. To dothis, they need easy access to the relevant data.

4. For example, Blackhurst, Lyakurwa, and Oyejide(2000) propose that governments transfer national rep-resentatives from United Nations agencies in NewYork to the WTO to intensify cooperation by membersof regional integration arrangements.

5. However, synergies could be realized throughnetworking and collaboration between advisers. Forexample, the new Global Development Gateway that isbeing established by the World Bank in cooperationwith numerous public and private sector partnerscould provide a powerful vehicle for building a tradecommunity and sharing expertise. Such a portal couldalso be used to assist governments (and NGOs) seekingto identify experts and determine what has alreadybeen done in specific countries or on specific issues.

6. For example, Esty (1994) argues that if taxes orother measures compensate for environmental conse-quences, trade will result in more efficient use of re-sources, spur innovation, and lower costs of environ-mental protection everywhere. Ekins and others (1994)add that if commodities for export are produced withserious damage to the environment, then trade may ag-gravate environmental problems. DeBellevue (1994)and Røpke (1994) share the same view. Another chan-nel of interaction between trade and the environmentconcerns transboundary problems where pollution


179

spills over from one country to another. Esty (1994) ar-gues that when a country suffers transboundary harmdue to exports of pollution-intensive product, the im-position of trade restrictions on the import of the cul-pable product can be justified.

7. Pearson (1987) asserts that there is no evidenceto establish that lax environmental regulations wouldbe captured by foreign investors as opposed to localfirms. Leonard (1988) argues that environmental regu-lations do not alter plants’ location decisions. He pre-sents case studies of foreign direct investment in Ire-land, Mexico, and Romania to examine trade data andinvestment statistics, and concludes that the data donot support an industry flight hypothesis. Smarzynskaand Wei (2001) consider the corruption level of thehost country and use firm level datasets for 25 transi-tion economies to examine support for the industryflight hypothesis. They find limited evidence to supportthe assertion that firms move to countries with lessstrict environmental regulations.

Levinson (1996) uses industry abatement costs,business taxes, wages, energy costs, and roads to mea-sure environmental performance and studies the effectsof these factors on the probability that a new industryplant would open in a certain state. The results reveallittle evidence that environmental regulations hinder es-tablishment of new plants. In contrast, Lucas, Wheeler,and Hettige (1990); Mani, Pargal, and Huq (1997);and List and Co (1999) find some evidence to supportthe industry flight hypothesis. Lucas, Wheeler, and Het-tige (1990) find that toxic intensity has increased morerapidly in developing countries than in industrial coun-tries. They conclude that stringent environmental regu-lations in the OECD countries have caused relocationof pollution-intensive industries. According to Mani,Pargal, and Huq (1997), environmental spending inIndia has a positive impact on plant location. However,they conclude that environmental regulations are not asignificant factor in determining plant location, becausecosts involved with environmental regulations are notlarge enough to exceed other costs of doing business.List and Co (1999) study the relationship between lo-cation decisions and environmental regulations. Theyuse state-level data from 1986–93; their results showthat a 10 percent increase in the median state’s (WestVirginia) regulatory expenditures per manufacturer de-creases the probability of attracting a new firm by 3.9percent for the median state. They conclude that envi-ronmental stringency and the location decision of anew firm are inversely related.

8. The proposed Free Trade Agreement for theAmericas has a quick timeline for the elimination ofmost trade barriers in the Western Hemisphere. Asia-Pacific Economic Cooperation (APEC) has proposed a2010 deadline for eliminating trade barriers among its

high-income members, and 2020 for developing-coun-try members. Expansion of the European Union towardthe east and south would also eliminate barriers acrossa broad number of partners. There are also numerousother proposed agreements, many of them bilateral.

9. There are some dynamic gains coming fromchanges in investment and structure.

10. Depending on the market power of a country’strading partners, and its own market power and thesize of the shock, the terms-of-trade impact could besignificant. A potentially critical situation is a countrythat only imports highly differentiated goods from asmall set of importers and exports an homogeneousgood on world markets. Other factors also influencechanges in the terms of trade. For example, the re-moval of agricultural subsidies by high-income coun-tries is likely to be beneficial for exporters of thesecommodities from developing countries, because theywould profit from a rise in the world price of thesecommodities.

11. The following functional form is used:

where �ei is the growth in sectoral productivity due to

the change in openness (added to an exogenous growthfactor), �0

i is a calibrated parameter, E and X representrespectively sectoral export and output, and � is theelasticity. The parameter �0

i has been calibrated so that(on average) openness determines roughly 40 percentof productivity growth in the baseline simulation, andthe elasticity has been set to 1.

12. Scale economies could, of course, be modeledexplicitly.

13. Aggregate income gains or losses summarize theextent to which trade distortions are hindering growthprospects and the ability of economies to use the gainsto help those whose income could decline. Figure 6.2summarizes these impacts for the modeled economies.The figure presents the aggregate impacts in terms ofthe outcome in the final year of the simulation (2015).The results are presented in nominal value terms (ex-pressed in 1997 prices), as well as relative to baseline in-come. Finally, it shows the results of both scenarios—with and without trade-sensitive productivity.

Real income is summarized by Hicksian equivalentvariation (EV). This represents the income that consum-ers would be willing to forgo to achieve post-reformwell-being (up) compared to baseline well-being (ub) atbaseline prices (pb):

where E represents the expenditure function to achieveutility level u given a vector of prices p (the b super-

EV E p u E p ub p b b= -( , ) ( , )

g ch

ie

ii

i

EX

i

=ÊËÁ

ˆ¯̃

0


180

script represents baseline levels, and p the post-reformlevels). The model uses the extended linear expendituresystem (ELES), which incorporates savings in the con-sumer’s utility function. See Lluch (1973) and Howe(1975). The ELES expenditure function is easy to eval-uate at each point in time. (Unlike the OECD treatmentof EV, we use baseline prices in each year rather thanbase year prices. See Burniaux and others 1993). Thediscounted real income uses the following formula:

where CEV is the cumulative measure of real income(as a percent of baseline income), � is the discount fac-tor (equal to 1/(1+r) where r is the subjective discountrate), Yd is real disposable income, and EV a is adjustedequivalent variation. The adjustment to EV extractsthe component measuring the contribution of house-hold saving, since this represents future consumption.Without the adjustment, the EV measure would bedouble counting. The saving component is included inthe EV evaluation for the terminal year. Similar to theOECD, a subjective discount rate of 1.5 percent is as-sumed in the cumulative expressions.

14. All nominal dollar figures are in 1997 prices;the model does not incorporate nominal inflation. Theprice anchor of the model is an export price index ofmanufactures from the OECD high-income countries,similar in concept to the World Bank’s ManufacturedExport Unit Value index. It is set to one in the base andall subsequent years.

15. Most of the action occurs in the agricultural andmanufacturing sectors because this version of the modeldoes not incorporate significant barriers in services.

16. Rodriguez and Rodrik (1999), among others,have criticized these studies on methodological grounds;they have also criticized those who use them to advo-cate simplistic policy conclusions. Nonetheless, the pre-ponderance of evidence points rather consistently to the fact that countries with more open trade andfinancial regimes, complemented with other appropri-ate macroeconomic and social policies, have improvedgrowth performance.

17. These four ideas are described summarily:Dynamics. The main channels are two-fold. First,

higher incomes lead to higher savings and thus greatercapital accumulation. The second channel is that tariffsare often imposed on investment goods. Their removalleads to a rise in real investment, because per dollar ofsaving a buyer can purchase more investment goods.Baldwin (1992) estimates that these dynamic gainscould triple the static efficiency gains. See, for exampleBurniaux and van der Mensbrugghe 1994; Harrison,Rutherford, and Tarr 1996; Francois, McDonald, and

CEV EV Yt

tta

t

ttd=

=

-

=

-S S2005

20152004

2005

20152004b b( ) ( )

Nordström 1996; and Ianchovichina and McDougall2000.

Imperfect competition and scale economies. Relax-ing the assumption of constant returns to scale tech-nology and allowing for imperfect competition canlead to additional sources of gain from trade openness.The ability to increase market size allows firms tospread fixed costs over greater output, thereby reduc-ing average costs—and greater competition from otherfirms can reduce price markups. Both effects cansignificantly enhance the gains from openness. See forexample Harris 1984, Delorme and van der Mens-brugghe 1990; Harrison, Rutherford, and Tarr 1996;Francois, McDonald, and Nordström 1996; andBrown, Deardorff, and Stern 1992.

Endogenous growth (or productivity). Opennessdoes not occur in a vacuum. As countries open theirborders to new products and capital goods, local firmscan take advantage of new technologies, foreign re-search and development, and other innovations to sig-nificantly enhance their productivity. Greater marketaccess of local exporters also can generate productivityexternalities by gaining more knowledge of foreignmarkets and processes and improving production tomatch international norms and standards. See, for ex-ample, de Melo and Robinson 1990; Rutherford andTarr 2001; Diao, Roe, and Yeldan 1999; and Dessus,Fukasaku, and Safadi 1999.

Endogenous capital flows. While many trade mod-els typically abstract from incorporating endogenouslydetermined capital flows, there is significant empiricalevidence that the gains from international capital mo-bility are quantitatively important. There are twochannels through which capital flows influencegrowth. The first is the direct channel leading to capi-tal deepening (although this requires care in evaluatingthe long-term gains, since eventually this generates astream of income repatriated back to the foreign own-ers). The second channel is through productivity sinceit is often the case that the incoming capital embodiesnew and improved technologies. See, for example,McKibbin and Sachs 1991; Collado, Roland-Holst,and van der Mensbrugghe 1995; McKibbin andWilcoxen 1999; Hertel 1997; and Ianchovichina andMcDougall 2000.

18. Comparisons of model results are notoriouslydifficult to make. Models can differ in numerous ways,dimensionality (for instance, regions, sectors), data-bases (notably policy instruments, such as tariff levels),closure rules, time horizon, functional specification,and elasticities (such as supply, income, trade, and soon), and market structure (both goods and primaryfactors). Moreover, studies do not necessarily reportthe same indicator as a measure of the gains fromtrade. The choices are various: real GDP, real income,


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/

some measure of welfare such as equivalent variation,real absorption, and so on. And the units of measure-ment are not always identical. The indicators could bereported in different base year dollars, or as some cu-mulated discounted value, or as a percentage of somebase year indicator. Some noteworthy attempts to com-pare model results include the Martin and Winters1996 volume on the Uruguay Round simulations, andthe OECD 1993 and 1998 and IPPC 2001 studies com-paring model results of the potential economic conse-quences of mitigating climate change.

19. The sensitivity of these results to the opennessor productivity relationship is discussed below.

20. Modeling of services trade liberalization is stillin its infancy. First, simply assessing the trade (and in-vestment) barriers quantitatively is a much more diffi-cult task than developing tariff data on goods trade.Second, the nature of the barriers is harder to specifyand implement in a model. It is currently a very activearea of research.

21. For example, assume total sectoral productivityin the baseline is 2.5 percent. If the share affected byopenness is 40 percent, total productivity is the sum oftwo components—1 percent determined by the open-ness factor (for instance, 40 percent of 2.5) and theresidual 1.5 percent determined by other factors. Inpolicy simulations, the trade openness indicator onlyaffects the 1 percent in this example. Thus if opennessincreases by 10 percent, and the elasticity is 1, produc-tivity will increase to 2.6 percent (=1.5 + 1.1).

22. These results are within the range found in thefew comparable studies available. For example Dessusand others (1999) estimate a macro relationship be-tween openness—as measured by the export plus im-port to GDP ratio—and per capita GDP growth using apanel dataset. Their preferred elasticity is 0.09—that is,an increase in the trade-to-GDP ratio of 10 percentleads to a rise in per capita GDP of 0.9 percent. As arough approximation, the elasticity of 1 used above inthe base simulation implies an elasticity of 0.4 for totalsectoral productivity with respect to openness—somefour times higher than the 0.09 used in the Dessus andothers (1999) study. However, their endogenous pro-ductivity applies economywide, that is, including ser-vices. If the 0.4 elasticity is multiplied by the agricultureand manufacturing share of the economy, somewherebetween 30 and 60 percent, the economywide impactfalls to somewhere between 0.12 and 0.24. A secondfactor to consider is that productivity is only labor-aug-menting. Correcting for the labor share in the economy,say, around 50 percent, the final impact on aggregateproductivity falls between 0.06 and 0.12. This isroughly in the range of the elasticity of Dessus and oth-ers (1999) and explains in part the differences in the es-timates of the two studies.

23. Thus, the results represent two different eco-nomic equilibria abstracting from any dynamic effectsof changes in investment or saving, or both, and otherstructural transformation.

24. In the merchandise trade liberalization scenar-ios, the service sectors were aggregated into a singleaccount.

25. See van der Mensbrugghe 2001 for furtherdetails.

26. The latter is implemented as a trade penalty,similar to an import tariff, but with no direct revenueimplications. Formally, the model implements a versionof the so-called iceberg model. For example, if thepenalty parameter is set to 0.9, this implies that, of 100units that are exported, only 90 units actually arrive atdestination.

27. For the purposes of comparison, the incomegains—as measured in dollar terms—were scaled toprojected 2015 income levels. This has no impact onthe relative gains.

28. The spillover effects of this scenario for high-income countries are marginal.

29. The difference being that the revenues gener-ated by the markup typically accrue to firms and notthe government.

30. In results not reported, the impact of themarkup is highly nonlinear. Elimination of a 20 percentmarkup—i.e., a doubling of the initial markup—gener-ated an incremental income gain of $106 billion, somefour times the impact of eliminating a 10 percentmarkup. The model results were generally linear withrespect to the other two instruments.

31. The shares are based on GTAP data.32. The World Bank has an active research program

to improve analysis of the openness distribution linkages.It involves developing both data and methodologies toincorporate multiple representative households directlyinto AGE models (see, for example, Hertel, Preckel, andCranfield 2000) as well as to inject the results of the AGEsimulations into much more detailed microsimulationmodels based on country-specific household surveys,typically with thousands of households. More on thisresearch program is available at: http://www1.world-bank.org/wbiep/trade/povertyconf.html.

33. Skilled and unskilled workers are assumed to beimperfect substitutes for one another. An alternativespecification would be to have skilled workers as com-plements to capital and the two together an imperfectsubstitute for unskilled labor. The distributional out-comes would change, but presumably would favoreven more unskilled labor in most developing regions.There is an active debate about the role of trade open-ness on relative wages. The standard theoretical argu-ment suggests that returns to the relatively abundantfactor, unskilled labor in the case of developing coun-


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tries, should rise with trade openness. However, the re-verse has been observed in some developing countries.Part of the explanation comes from an increase in FDI,which is assumed to require skilled labor. Another par-tial explanation is that openness frequently was under-taken simultaneously with other reforms, such as pri-vatizations. The latter has often led to shedding oflabor to rationalize operations.

34. The figure reflects the results of the scenariowith endogenous productivity. It differs only slightlyfrom the results of the scenario with exogenous pro-ductivity.

35. See van der Mensbrugghe 2001 for completemodel specification.

36. The GTAP dataset merges public savings withthe household sector, and thus the public balance is zeroin all countries in the base year. The balancing items arenet transfers between the government and households.

37. Although exogenous in any given time period,the capital account could vary over time (subject to theconstraint that it must sum to zero globally). To avoidsustainability issues, the capital account is assumed tobe fixed at its base year level. Alternatively, it couldconverge toward zero over the time period.

38. GTAP, based at Purdue University, has developedthe most widely used dataset for global trade analysis(See Hertel 1997 or GTAP’s Web site: www.gtap.org).The latest release (version 5) incorporates data for 66countries or regions, and 57 sectors.

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East Asia and Pacific Region

Recent developments

THE YEAR 2001 WAS SHAPING UP AS A DIF-ficult year for East Asia and Pacific(EAP) even before the September 11 ter-

rorist attacks on the United States. The unex-pectedly sharp cyclical downturn in the worldeconomy during the year had centered on arecession in the global high-technology (high-tech) sector, resulting in a plunge in the exportsof the many East Asian economies that have be-come important suppliers of components andfinished products for world high-tech markets.East Asian exports were also especially hurt bythe fact that the slowdown in global demandhas been steepest in the region’s largest externalmarkets, the United States and Japan, which to-gether buy almost 40 percent of regional ex-ports. By July or August economies with a highreliance on high-tech, such as the Republic ofKorea, Malaysia, the Philippines, Singapore,and Taiwan (China), were seeing U.S. dollar ex-port declines of around 20–25 percent on yearearlier levels. There was, nevertheless, somecomfort in the fact that, apart from the Phil-ippines, the main impact of the high-tech re-cession was falling on high income or upper-middle-income countries with low poverty.

In the wake of the terrorist attacks, the re-gion’s export downturn is likely to becomebroader based, as falling consumer confidencein the United States and around the worlddampens demand for the region’s consumer

and services exports. Overall, the global eco-nomic impacts of the terrorist attacks arelikely to have pushed back the prospects for arecovery in world trade and in East Asian ex-ports by six to nine months.

Near-term outlook Growth in the developing East Asia region isexpected to fall to 4.6 percent in 2001 from7.5 percent in 2000, and to recover onlymildly to around 5 percent in 2002. Thesewould be the region’s second weakest yearsfor growth since 1990, bar only the near-zero-growth year of financial crisis, 1998. Most ofthe slowdown in growth is concentrated in the“Crisis 5” countries (that is, the five countriesthat were most affected by the financial crisisof 1997–98—Indonesia, Korea, Malaysia, thePhilippines, and Thailand). Aggregate growthin this group is expected to slow to only 2–3percent in 2001 from around 7 percent in2000. Growth in 2001 will still reach around7 percent in China, which contains two-thirdsof the region’s poor (at the $2 a day povertyline). With a more diversified export basketthan some other countries in the region,China’s export growth, while slowing sharplyto an average 2 percent pace in June–August2001, has at least avoided the huge 20–35 per-cent declines seen elsewhere. Growth has alsobeen bolstered by a robust fiscal stimulus pack-age to offset the export slowdown.

Other transition countries, such as Cam-bodia and Vietnam, which rely on low- or

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Appendix 1Regional Economic Prospects

medium-tech exports, have also been less af-fected by the high-tech recession, and showedcontinued buoyancy in domestic investment inthe first part of the year. Growth prospects forthe region in 2002 will depend significantly onthe timing and scope of world recovery. It isprobable that the steep cuts in interest rates,income tax cuts, and post-attack emergencyspending in the United States, as well as policymeasures in other industrial countries, willlead to a rebound in the second half of 2002,strengthening to a more full-blown global re-covery in 2003.

Prospects for the region will also be affectedby specific sectoral trends in the wake of theterrorist attacks. Oil prices have been volatileafter the attacks and may have an upward biasfor the rest of the year because of the risk ofmilitary action in the Middle East, with amixed impact on the region. If major disrup-tions are avoided, weak world growth will tendto push oil prices lower in 2002. However,countries that rely on worker remittances couldbe hurt by political turmoil in the Middle East,as well as from weaker growth in Asia. Remit-tances to the Philippines are already down.Non-oil commodity prices have weakened in2001, and are likely to weaken further with

lower world growth after the attacks. Some ofthe smaller economies of the region that rely oncommodity exports, such as Mongolia, PapuaNew Guinea, Fiji, and the island economieswill be hurt by lower non-oil primary com-modity prices. As regards other sectoral effectsof the attacks, airline travel, tourism, and in-surance are likely to be the worst affected,while inputs for military materials, informationtechnology (IT) infrastructure, and telecommu-nications may benefit. As a result, East Asia,with its reliance on high-tech exports, may beless badly affected than other regions. How-ever, selected Pacific islands and countries suchas Thailand will feel a more significant effect ofthe pullback in world tourism.

Among other factors affecting near-termprospects, it is notable that, despite seriousemerging capital market crises in Turkey andArgentina, there were few signs of a general-ized contagion effect or pullback of privateflows to the region in the first part of the year.Gross capital market flows to the region ofabout $31.5 billion in January–July 2001 wereonly slightly lower than during the same pe-riod in 2000. This overall stability reflectedimprovements in crisis countries’ external bal-ance sheets in the last several years, including a


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Figure A1.1 Industrial production in East Asia and world semiconductor sales volumes

Source: Semiconductor Industry Association through Bloomberg and World Bank.

3-month moving average, percent y/y

–10

Jan. 1999 July 1999 Jan. 2000 July 2000 Jan. 2001

East Asia

East Asiaexcluding China

World semiconductorsales volume [right scale]

July 2001

–5

0

5

10

15

20

25

–30

–20

–10

0

10

20

30

40

buildup of foreign reserves and reductions inshort-term debt. Exchange rates, while volatile,were not much different in early Septemberfrom the start of the year, while the majority ofequity markets had actually risen modestlyover this period. Capital market stresses wereconcentrated on the Philippines and Indonesia,reflecting political uncertainties earlier in theyear, as well as concerns about high publicdebt. After the Sept. 11 attacks, secondary mar-ket spreads for Indonesia and the Philippineswidened. Equity prices fell sharply in mostcountries in the region. To some extent, the re-gion will share in a more widespread investorpullback from emerging markets. Corporate re-structuring and privatization efforts may behampered by reduced foreign investor interest.

Among near-term policy responses to theslowdown, a number of countries have in-creased fiscal expenditures somewhat to helpsmooth the impact of the export shock, includ-ing China, Korea, Malaysia, and Thailand.Such expenditures can be especially helpfulwhen carefully targeted to address social pro-tection, infrastructure, or other particular sec-toral needs that may be warranted in a sharplyslowing economy. However, concerns aboutrelatively high or growing public debt—espe-cially when measured inclusive of contingent

liabilities—mean that in most countries higherspending can only be sustainable for a limitedtime. Indeed, very high public debt levels willessentially preclude greater fiscal stimulus inIndonesia and the Philippines. Given these con-straints, a temporary increase in spending—where possible—is best seen as a means of ad-dressing specific social or sectoral objectives,and as a complementary policy that allowscountries to continue to make progress on dif-ficult structural policies such as corporate re-structuring, even in the current weak economicclimate.

The impact of this year’s slowdown onpoverty will be mitigated by the fact that thesteepest declines in growth are in the high-income, newly industrialized economies (NIEs—including Hong Kong (China), Singapore, andTaiwan (China) and in the richer Crisis-5 coun-tries, which have relatively low poverty rates.Still, with less growth, this year’s downturn inEast Asia will stall the pace at which incomepoverty in the region falls, while the risk of a risein poverty has also increased. According to cal-culations by the Bank’s East Asia and Pacific Re-gion, the proportion of people living below the$2-a-day line may edge down from an estimated47 percent in 2000 to a forecast 46 percent in2001. Given continued robust growth in China

R E G I O N A L E C O N O M I C P R O S P E C T S

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Table A1.1 East Asia and Pacific forecast summary(percent per year)

Baseline forecast

Growth rates/ratios 1991–2000 1999 2000 2001 2002 2003 2004–2010

Real GDP growth 7.2 7.0 7.5 4.6 4.9 6.8 6.2Consumption per capita 5.4 6.0 6.8 5.5 5.7 5.9 6.0GDP per capita 6.0 5.9 6.4 3.6 4.0 5.9 5.4

Population 1.2 1.1 1.0 0.9 0.9 0.9 0.8Inflationa 5.4 0.0 3.4 7.1 6.7 5.3 3.7Gross Domestic Investment/GDPb 34.1 29.0 30.0 30.4 30.7 30.7 33.7Central Gvt Budget Balance/GDP –1.0 –2.5 –2.2 –2.0 –2.4 –2.3 –3.1Export Volumec 13.0 7.7 23.7 0.4 6.2 11.3 7.3Current Account/GDP 0.5 4.3 3.3 1.4 0.0 0.5 –0.8Memorandum ItemsGDP growth: EAP excl. China 5.3 6.9 7.1 2.3 3.4 5.4 5.0

a. Local currency GDP deflator; median.b. Investment ratio measure in real terms.c. Goods and non-factor services.

Source: World Bank baseline forecast, October, 2001.

and other transition countries, which containthe large majority of the region’s poor, the mainsource of slower region-wide poverty reductionin 2001 is likely to be the sharp slowdown ingrowth in Indonesia, the Philippines, and Thai-land, which contain most of the rest of the re-gion’s poor.

In a longer-term perspective, it is notablethat the pace of poverty reduction in the re-gion has slowed dramatically, something that,persisting over time, cannot help but have deepsocial, political, and policy implications. Be-tween 1990 and 1996 the regional povertyrate at $2-a-day fell from 67 to 49 percent, butfrom 1996 to 2000 it fell only 2 percentagepoints more. The less numerically significantreason is the financial crisis and slow recoveryin Indonesia, the Philippines, and Thailand.The other is slower income growth in China’srural areas—where most of China’s poorlive—even as urban income growth has gonefrom strength to strength. Thus the drama ofEast Asian poverty reduction will largely de-pend on how countries address disparities inrural-urban and intra-regional growth, as wellas the structural and institutional improve-ments needed to bolster growth overall.

Long-term prospectsDespite these near-term weaknesses, the long-term prospects for East Asia remain broadlypositive. Average annual growth rates couldexceed 6 percent in the 2004–10 period. Mostof the countries in the region are committed tostrengthening the underlying determinants ofstrong and sustained growth—improvementsin education, enhancing the rule of law, pro-moting high domestic savings (including pru-dential fiscal policies), and openness to tradeand investment. As demonstrated over the lastthree decades, the region’s economies havebeen able to scale the technology ladder andsignificantly close the production and incomegap compared to the most industrialized na-tions. China’s entry into the World Trade Or-ganization (WTO) is a particularly notableevent that has positive trade and productivityimplications for the whole region.

The region is not without its vulnerabili-ties, as evidenced by the financial crisis of thelate 1990s and the economic slowdown thatstarted at the end of 2000. The financial crisisrevealed in stark terms the deficiencies of theregion’s banking and financial institutions,and the lack of sufficient regulatory oversightto compensate for those deficiencies. In the af-termath of the crisis, many of the countries inthe region have undertaken a significant over-haul of both the financial and the regulatoryinstitutions, but the legacy of the crisis persistsin many of the countries. Economic recoveryand current account surpluses have providedsome breathing room, but as the current slow-down indicates, the region’s authorities needto pursue financial reform, in particular toboost financial intermediation to ensure thatthe most productive investments get funded.

RisksA key issue for policymakers in the region is toposition their countries in order to be able totake full advantage of the global recoverywhen it arrives. Medium-term structural re-forms that strengthen the fundamental under-pinnings of development are likely to have amore significant impact on growth andpoverty reduction than possible short-termgains from fiscal stimulus. At the same time,this year’s largely unexpected global downturnhas shown the weakness in the strategy of sim-ply trying to “grow out” of the problems leftover from the financial crisis of 1997–98. In-deed, in the wake of the September 11 attacks,higher uncertainty and risk may become amore prevalent feature of international affairsfor some time. Structural reforms should thenalso help make the region’s economies morerobust in riding through a more uncertain andvolatile external environment. Among struc-tural issues facing the region, the importanceof renewed attention to corporate and finan-cial restructuring; trade reform; and institu-tional and governance reforms are worth par-ticular note. If the region is able to implementcontemplated reforms in these areas, it will im-prove the climate favoring new investment


190

(foreign and domestic) and technological prog-ress, opening the way to realizing its long-termpotential.

South Asia

Recent developments

South Asia, one of the world’s poorest re-gions, remains a relatively closed econ-omy, despite progress toward trade liber-

alization in the 1990s. Imports and exportsare a much smaller share of GDP than in LatinAmerica or East Asia, and tariffs are amongthe highest in the world. The region is also rel-atively closed to private capital flows. How-ever, dependence on official flows is large forsome countries.

Notwithstanding chronically high fiscaldeficits, the region was able to grow at re-spectable rates over the 1990s. However, in2001 the global slowdown adversely affectedgrowth across the region and GDP growth fellfrom 4.9 percent in 2000 to 4.5 percent in2001. Because of the region’s narrow tax baseand reliance on custom imports, slowergrowth had an immediate adverse fiscal im-pact resulting in additional pressure on al-ready overstretched fiscal positions.

The tragic events of September 11 focusedattention on South Asia because the militaryresponse created special risks to the countriesof the region, especially in Pakistan. For exam-ple, freight rates to and from Pakistan havebeen increased 10 to 15 percent by major ship-ping lines.1 Importers in other countries, fear-ing supply disruptions, have canceled ordersfor goods from Pakistan.2 These developmentshave put additional pressure on Pakistan’salready vulnerable external position—with aheavy external debt of $38 billion that absorbsmore than 40 percent of Pakistan’s exportsearnings and external financing needs that haverisen to $3.4 billion.

Large fiscal deficits have been a persistentchallenge in most of the region. India’s fis-cal deficit is 10.5 percent on a consolidatedbasis, including central and state governments.

Even so, its external financial position remainsstrong, with a small current account deficit,very low external debt, and $45 billion in for-eign exchange reserves. Public finances haveweakened in Bangladesh over recent years,with the public sector deficit reaching about8–9 percent of GDP in 2001. In this contextthis country’s external position has becomeincreasingly vulnerable. In contrast, Pakistanand Sri Lanka have been successful in reducingtheir fiscal imbalances. In the context of anIMF program, Pakistan’s fiscal deficit has de-clined to 5.2 percent of GDP but financialstress remains, with a large public debt, low re-serves, and a large financing gap. Sri Lankaalso reached an agreement with the IMF in2001 and is undertaking macroeconomic andstructural reforms.

Near term outlookWith the deterioration in the external environ-ment, GDP growth in 2001 and 2002 in SouthAsia is projected to be 4.5 percent and 5.3 per-cent, respectively. Agricultural production isexpected to increase in the second half of 2001as a result of favorable weather conditions.Normal—and in some cases excessive—mon-soon rain has filled water reservoirs and watertables throughout the region.

However, private investment will be influ-enced negatively by the heightened degree ofuncertainty in the wake of the events of Sep-tember 11. The external environment will pro-vide little or negative stimulus, and the needfor fiscal consolidation will further dampenaggregate demand.

The global downturn in growth in 2001–02will have some deleterious effects on the re-gion, perhaps more limited than in other re-gions. The downturn in export market growth,from 13 percent in 2000 to an average of 3.3percent in 2001–02, will be mirrored by fall-ing import demand stemming from slowergrowth domestically. Some countries in the re-gion are depreciating their currencies to pro-mote exports and increase competitiveness,which should have a positive effect on the tradebalance. Given improved weather conditions,


191

and as oil prices fall, trade balances will bene-fit as well.

The region may struggle in its clothing sec-tor in the near term. The Trade DevelopmentAct–2000 (TDA-2000) passed in January2000 by the U.S. Congress poses a challenge

to garment exports of the region. TDA-2000provides duty-and-quota free access, under cer-tain conditions, to the U.S. market for textile and apparel products to 72 countries in Sub-Saharan Africa and the Caribbean. Bangladeshand India both have reported sharply lower


192

Figure A1.2 Industrial production in South Asia

Source: IMF, International Financial Statistics.

(percentage)

–25

India Pakistan

Bangladesh

Jan.

199

7

April 1

997

July

1997

Oct. 1

997

Jan.

199

8

April 1

998

July

1998

Oct. 1

998

–15

–5

5

15

25

35

Jan.

199

9

April 1

999

July

1999

Oct. 1

999

Jan.

200

0

April 2

000

July

2000

Oct. 2

000

Jan.

200

1

April 2

001

July

2001

Table A1.2 South Asia forecast summary(percent per year)

Baseline forecast



Population 1.9 1.9 1.9 1.7 1.7 1.6 1.4Inflationa 8.1 4.6 5.8 6.1 7.3 7.3 6.5Gross Domestic Investment/GDPb 22.8 22.6 24.3 24.8 25.4 25.6 28.9Central Gvt Budget Balance/GDP –8.6 –4.0 –5.7 –4.8 –4.7 –4.5 –4.1Export Volumec 9.3 1.8 7.5 6.0 8.8 9.2 7.9Current Account/GDP –1.4 –0.8 –0.3 –0.1 –0.5 –0.6 –0.8Memorandum ItemsGDP growth: SAS excl. India 4.2 3.6 3.9 4.7 4.9 5.2 5.2



monthly garment exports this year comparedto last year. For example, Bangladesh reported153 percent lower garment exports in Febru-ary 2001 compared to a year ago. An expan-sion of TDA-2000 to include the South Asiaregion, which is just as poor as those currentlyincluded in TDA-2000, would redress the im-balance and improve growth prospects of theregion.

Long term prospectsLong term growth in South Asia should aver-age about 5.4 percent, similar to the projec-tions of GEP 2001, and near the averagegrowth rates of the 1990s. This reflects ex-pectation of reforms continuing to be imple-mented at a gradual pace. Lower populationgrowth and structural reform in the nextdecade will possibly lead to per capita growthclose to 4 percent per year.

Potential output growth in the region has in-creased, given the improvement in human cap-ital indicators in recent years, with higher liter-acy rates and school enrollments and lowerinfant mortality rates. Additionally, the highskill levels of Indian workers with training intechnology sectors, a boom area of growth,will ensure that the highly productive invest-ment in these sectors will continue in the longterm. As scheduled privatization and reform ofstate-owned enterprises occur, private invest-ment will account for a greater share of do-mestic investment, with the concomitant bene-fits flowing from higher productivity of privateinvestment compared to that of public invest-ment. Additionally, privatization will encour-age foreign investment and the associatedspillovers to the domestic economies. Trade lib-eralization is also expected to continue with the

easing of tariff and non-tariff barriers and im-port substitution policies, providing greater op-portunities for trade integration with the globaleconomy, particularly for the smaller countrieswithin the region.

RisksBesides political risks in the short run, otherrisks to the forecast stem from the major chal-lenges that countries in the region face in theconsolidation of their fiscal positions and debtlevels. In India, sharp reductions in the fiscaldeficit may prove difficult in the short run. Asa result, the recent fall in the rate of inflationis not expected to last beyond 2001.

Design and implementation of tax reformmeasures will be difficult. A gradual increase intax revenue collection in all countries in the re-gion is required. Changes in the incidence oftaxation will be necessary to decrease the re-liance on trade taxes and broaden the tax baseto stabilize revenue collections over time. Morediscipline will be required in fiscal expendi-tures to ensure fiscal sustainability, while beingcareful to maintain expenditures that are es-sential for development programs. For exam-ple, reducing subsidies has been singled out as a target in expenditure reform programs.Broadening the tax base away from trade isalso a part of the trade liberalization strategythat will ensure that exporters have access tocheaper inputs and consequently become morecompetitive in global markets. Sustainable fis-cal revenues and a responsible expenditureprogram will be required in several countriesto counter financial vulnerability. Countrieswith healthy debt levels should also act to en-sure sustainable fiscal positions to prevent adecline into unsustainable debt levels.


193


Recent developments

Growth out-turns for most countries inthe region in 2001 were much worsethan anticipated in the spring of the

year. Adverse developments in the external en-vironment and in domestic conditions in somecountries were the primary reasons behind thesharp reduction in the region’s GDP growth,from 3.8 percent in 2000 to an estimated 0.9percent in 2001, about 2.8 percentage pointslower than anticipated in the spring. Thegrowth slowdown was most acute in the “BigThree” (Argentina, Brazil, and Mexico), reflect-ing the increasing impact of the global, and par-ticularly the U.S. slowdown; economic difficul-ties in Argentina; and the energy crisis in Brazil.Uncertainties linked to the electoral process inArgentina this year and in Bolivia, Brazil,Colombia, Costa Rica, and Ecuador next yearcontributed to falling investment rates in anumber of countries. Weaker growth in Ar-gentina and Brazil, along with a worsening ofthe external environment, contributed to a de-celeration of growth in other South Americancountries, while a collapse of commodity prices(especially for coffee and semiconductor prices)and a severe drought lowered growth rates inCentral America. In contrast, Ecuador and Repú-blica Bolivariana de Venezuela did better thanin 2000 due to relatively high oil prices.

Rapid deterioration in global activity con-tributed to a sharp decline in export revenues.Excluding Mexico, dollar exports from the re-gion grew by an average of about 8 percent(year over year or y/y) in the first half of theyear—down from over 15 percent in 2000.With the exception of Brazil (where dollar ex-ports grew by 11.5 percent y/y), most countrieshad exports growing below 4 percent. In Mex-ico, the decline was even more dramatic, froman average of 22.6 percent growth in 2000 tozero (0 percent) by June 2001. Moreover, capi-tal market commitments to the region weak-ened markedly (that is, they fell by 21 percent(y/y) in the first half of the year)—reflecting the deteriorating conditions in Argentina and

slower economic activity in the region as awhole—exerting downward pressure on mostregional currencies.

Large external financing requirements as ashare of GDP coupled with fiscal deficits andhigh public debt reduced the ability for counter-cyclical fiscal and monetary policies in somecountries. Despite falling U.S. interest rates,which reduce dollar debt-service payments—the depreciating exchange rates, slowing eco-nomic activity, and rising domestic interestrates (needed to maintain investor confidence)placed additional pressure on fiscal balances,limiting the scope for automatic stabilizers to function properly. Indeed, some countries,such as Brazil, had to tighten both fiscal andmonetary policies in an effort to offset thecombined negative effects of an energy crisis, alarge reduction in FDI inflows, and contagionfrom the Argentine crisis, which resulted in asharp reduction in capital market flows as sec-ondary market spreads rose and remained highin the wake of the September 11 terrorist at-tacks (figure A1.3). Although these policiestended to keep inflation under control, they re-sulted in a sharp growth deceleration and ex-acerbated the already high level of unemploy-ment throughout the region (16 percent inArgentina, for example).

In Argentina, recovery from the deep reces-sion in 1999 has proven elusive, with each up-turn in economic activity usurped by politicalstalemate on reforms, a weakening of fiscal ac-counts during the first half of the year, andvolatile capital flows—reflecting investor un-certainty about solvency of public debt. GDPgrowth has remained in negative territory sincethe third quarter of last year. The authoritiesundertook a number of initiatives to bolsterinvestor confidence—including a $29.5 billiondebt swap, a severe fiscal adjustment aimed at zero deficit, and a package of tax reformsaimed at improving competitiveness of Argen-tine firms.

Negative fallout from Argentina was mostacute in Brazil, and other Mercosur partners—slowing capital flows, especially FDI inflows;increasing yield spreads; and contributing to a


194

weakening of the real. Brazil’s drought-inducedenergy crisis and falloff in FDI, in conjunctionwith a depreciating currency, put upward pres-sure on inflation and set in motion tighter fis-cal and monetary policies. Targets for the pri-mary (before interest payments) fiscal surpluswere raised, and policy interest rates rose by325 basis points in the four months to August,contributing to a slowdown in growth. In con-trast, Mexico suffered little contagion from thecrisis in Argentina, with both the currency andequity markets rising strongly—reflecting thecontinuing positive impact of North AmericaFree Trade Agreement (NAFTA) membershipon FDI. Nonetheless, output growth con-tracted rapidly—in line with the sharp slow-down in U.S. activity, reaching zero (y/y) by thesecond quarter of 2001 after averaging nearly 7 percent in 2000.

Slowing economic activity in Argentina andBrazil along with falling copper prices affectedgrowth negatively in Chile, but with lesser ex-ternal financing concerns than in other coun-tries, the authorities were able to reduce inter-est rates. GDP growth slowed in 2001 but bymuch less than in many other countries. InPeru, political uncertainties in the run-up to

mid-year elections kept investment rates lowand restrained consumer spending, resulting ingrowth slowing to below 1 percent from over3 percent last year. Growth in Colombia alsoweakened compared with 2000, due to lowercoffee prices and lower-than-expected invest-ment caused by rising uncertainty (includingthe electoral cycle, legal infrastructure, and theguerrilla war). In contrast, growth in the oilexporters in the Andean region held up welldue to high, although declining, oil revenues.Growth in Venezuela was sustained by large-scale public expenditure, while growth inEcuador accelerated from the low or negativegrowth in 1998–2000 with the construction ofa new oil pipeline.

In Central America, growth in 2001 waslower by about 1.7 percentage points comparedwith 2000, due primarily to a weakening ofeconomic activity in Mexico and in the UnitedStates, a collapse of coffee prices, and a majordrought, which severely affected Honduras andNicaragua. The sharp fall in semiconductorprices hurt Costa Rica particularly hard assemiconductors account for nearly two-fifths oftheir exports, resulting in merchandise exportsdeclining by 21 percent (y/y) in the first half of


195

Figure A1.3 Secondary market spreads for selected LAC countries, 2000–2001

Source: JP Morgan’s EMBI Global indices through Bloomberg.

(basis points above U.S. Treasuries)

0

Jan. 2000 July 2000

Argentina

Brazil

Colombia

Mexico

Jan. 2001 July 2001

400

800

1,200

1,600

0

400

800

1,200

1,600

the year. Caribbean countries also saw a reduc-tion in growth rates due to declining tourismrevenues, especially in the latter part of the year.

Near-term outlookThe region’s growth prospects for 2002 havedimmed in light of a significant worsening ofthe external environment over the past sixmonths, and especially since the September 11terrorist attacks in the United States. The re-gion’s GDP is now expected to grow by 2.5percent in 2002—1.9 percentage points lowerthan the spring forecast—provided that thosecountries currently under financial stress areable to avoid debt-service defaults. The delay inthe U.S. recovery, weak global output and tradegrowth, a continuation of soft non-oil com-modity prices and falling oil prices, and thelikelihood of reduced capital flows to develop-ing countries underpin the moderate growth re-covery for next year. (As a consequence, thereis great uncertainty surrounding the forecastwith more negative or positive responses ofconsumers and investors possible.) In 2003,GDP is expected to grow by 4.5 percent, re-flecting the expected rapid growth momentum

in the United States, and world output in thelatter part of 2002 and into 2003.

Revisions to external conditions, as well as domestic considerations, will impact thegrowth prospects for countries differently. Theexpected delay in the U.S. recovery will havethe most significant trade impacts in Mexicoand the Central American and Caribbeancountries. For many of these countries, export-processing zone (maquilas) exports destinedmainly for the North American market are asignificant proportion of total exports (30 per-cent of net exports in Costa Rica and El Sal-vador, for example). Moreover, remittances arealso likely to decline at a time when many Cen-tral American countries are facing weak coffeeprices (after a four-year decline) and the effectsof a severe drought in 2001. Weakness in laborand equity markets in the United States and in-creased risk aversion to air travel will adverselyimpact tourism receipts—which are extremelyimportant for Caribbean countries. Prelimi-nary estimates indicate that loss of tourism rev-enues could reduce these countries’ GDP by1.5 to 5 percent with potentially damaging so-cial impact in light of high unemployment in


196

Table A1.3 Latin America and the Caribbean forecast summary(percent per year)

Baseline forecast


Real GDP growth 3.3 0.1 3.8 0.9 2.5 4.5 3.9Consumption per capita 1.5 –1.7 2.2 1.0 1.6 2.0 2.5GDP per capita 1.6 –1.5 2.2 –0.7 1.0 3.0 2.6

Population 1.7 1.6 1.6 1.6 1.5 1.4 1.3Inflationa 12.6 5.8 6.9 7.9 6.3 6.0 5.0Gross Domestic Investment/GDPb 21.8 19.4 19.7 19.4 20.1 20.7 23.5Central Gvt Budget Balance/GDP –3.5 –4.4 –2.9 –3.2 –3.0 –2.5 –1.7Export Volumec 8.4 5.7 9.7 2.6 4.2 9.5 6.7Current Account/GDP –2.8 –3.1 –2.4 –2.8 –3.3 –3.2 –2.2Memorandum ItemsGDP growth: LAC excl. Brazil 3.8 –0.4 3.4 0.5 2.3 4.7 3.7

Central America 4.4 4.3 2.7 1.0 2.2 4.0 3.8Caribbean 3.4 5.7 5.5 1.4 3.0 4.2 4.0



the region. Argentina and Brazil are likely tobe more hurt from disturbances in capital mar-kets (if they were to be prolonged) than fromdirect trade impacts, due to weaker global ac-tivity. This reflects their high public and privatedebt and large current account deficits (nearly3 percent of GDP for Argentina, about 5 per-cent for Brazil). Although lower U.S. interestrates will help to alleviate debt-service pay-ments, risk perceptions have remained ele-vated—partly due to the market view that debtrestructuring for Argentina may be necessary,as occurred in Ecuador in 1999—and havekept capital market flows subdued, reducingthe ability of these countries to roll over debt.In Argentina, these factors are likely to keepthe recovery modest. In Brazil, contagion fromevents in Argentina (despite a $15.58 billionIMF–led package) is reducing the room forcountercyclical policies. In addition, presiden-tial elections due next year could be anotherfactor restraining a return of investor confi-dence and the acceleration of growth.

As oil prices soften in 2002–03, the adjust-ment that oil exporters will have to undergowill be difficult and growth-restraining. Vene-zuela, for example, used buoyant oil revenuesto finance growth in 2001, resulting in the non-financial–public sector’s fiscal balance shiftingfrom a surplus of 2.9 percent in 2000 to adeficit of about 3.1 percent of GDP. In con-trast, Ecuador may avoid a contraction ingrowth in 2002, because oil revenues may re-main high with expanded output partially off-setting the expected decline in oil prices.Colombia’s prospects hinge increasingly on fis-cal deficit reduction and on progress in thepeace process, but growth prospects will re-main subdued with the expected weak oil andcoffee prices. In Peru, the new administrationwill face tension between containing the fiscaldeficit and reactivating growth quickly to re-duce the danger of popular discontent, whichcould lead to political and social instability.However, the combination of weak metalsprices, delayed FDI flows, and limited access tocapital markets could delay the economic re-bound. Bolivia, Paraguay, and Uruguay all have

strong trade ties to Argentina and Brazil, limit-ing their growth prospects to the fortunes ofthose countries.

Long-term prospectsPer capita GDP growth over the long term(2004–10) is projected to average 2.6 percent ayear, a full percentage point higher than whatthe region achieved in the 1990s. Key factorssupporting the cautious optimism for growth inthe 2000s compared with the 1990s include im-provements in: (a) human capital (health, edu-cation, and literacy indicators have all im-proved over the course of the 1990s, althoughmuch remains to be done in this area); (b)macroeconomic management leading to greaterdomestic macroeconomic stability (inflationrates have fallen over the 1990s, for example,although they are still more volatile than inother regions); (c) investment climate attractingFDI; and (d) progress on deepening trade inte-gration with the regional and global economies.

FDI as a share of region-wide GDP rosefrom less than 1 percent at the beginning of the1990s to nearly 4 percent in 2000, with a sig-nificant share going into telecommunications;this represents benefits to the economy that arelikely to accrue in the next decade. Regulationand supervision of financial sectors have beenstrengthened, and trade regimes have been lib-eralized, with trade doubling as a proportion ofGDP over the last 10 years. These develop-ments have contributed to a large rise in totalfactor productivity, from negative growth in the1980s to nearly 1 percent a year in the 1990s.In the 2004–10 period, TFP growth is expectedto remain in the 1 to 2 percent range, while im-provements in the investment climate—includ-ing strengthening the financial sectors throughbetter supervision and regulation—could con-tribute another 1 percentage point to regionalgrowth.

RisksThe region remains vulnerable in a number ofareas however. First, national saving rates re-main low in many countries, resulting in a per-sistent dependence on foreign savings (of about


197

3 percent of GDP)—typically from volatile pri-vate capital markets. These markets havedemonstrated their power in delivering severeexternal shocks to developing countries, andthe region has had to endure at least two suchepisodes in the 1990s (Mexico in 1995, andBrazil in 1999). The case of Argentina is stilldeveloping, and will obviously impact risk per-ceptions in the region for some time.

Second, the prevalence of large debt over-hangs (both in the public and the private sec-tors) in countries throughout the region re-quires rollover on a continuing basis. Althoughthe region’s debt-to-GNP ratio is in line withthe average of developing countries, the debt-to-exports ratio is very high. This exposes somecountries to exogenous shocks emanating fromglobal capital markets, which are at times inde-pendent of domestic considerations.

Third, trade integration is incomplete withratios of trade-to-GDP remaining low by inter-national standards (Chile, Mexico, and smalleconomies are exceptions), and diversificationof exports is still limited—many countries arestill commodity dependent.

Finally, the region still lags behind its po-tential in financial deepening (which couldhelp raise national saving rates), infrastruc-ture, and quality of institutions—areas which,if improved, can propel high and sustainablegrowth rates. Many countries in the regionhave made strides in addressing some of theseareas and, should investor sentiment towardemerging markets improve significantly, theregion could grow at a faster pace than in thecurrent forecast.

Europe and Central Asia

Recent developments

Real gross domestic product (GDP)growth for the Europe and Central Asia(ECA) region is projected to decelerate

markedly in 2001 to about 2.1 percent, downfrom 6.3 percent in 2000. This rapid slowdownis dominated by three main factors. First, inTurkey domestic demand collapsed due to high

interest rates and severe economic disruption inthe wake of the financial crisis, which erupted in late 2000 and early 2001. Second, there hasbeen a pronounced moderation of growth in theRussian Federation, Poland, and the former Yu-goslav Republic of Macedonia (FYR Macedo-nia). In the Russian Federation, the impetusbehind exceptionally strong growth of over 8percent in 2000 (generated from a combinationof high oil prices and import substitution, drivenby devaluation) is receding. In Poland high in-terest rates, aimed at containing inflation, havestymied demand. In FYR Macedonia, the mili-tary conflict with the Albanian rebels, whichbegan in March 2001, has clearly begun to takeits toll on the budget and on economic activity.Third, the slowdown in global demand in 2001,particularly in the European Union (EU), hashad a negative impact on growth in the ECA re-gion, in contrast to 2000 when external demandacted as a strong engine for growth.

Countervailing some of these negative pres-sures on regionwide growth, domestic demandhas strengthened in a number of countries (suchas the Czech Republic, Hungary, Romania, andthe Slovak Republic). Similarly, strong growthin domestic demand, particularly in private con-sumption, stimulated by an increased moneysupply through large hard currency inflows,among other factors, is providing a buffer to the slowdown in the Russian Federation. Withinthe Commonwealth of Independent States (CIS)subregion, strengthened domestic demand inthe Russian Federation in 2001 has translatedinto a significant firming of import demand andhas provided a boost to growth in a number ofcountries that export to the Russian Federation(for instance, Ukraine). In contrast, export sec-tors in a few countries with significant revenuesfrom Turkey, (for instance, Bulgaria and Geor-gia) are expected to be impacted by the plungein Turkish import demand.

For most countries in ECA, current accountdeficits are forecast to stay at 2000 levels or todeteriorate in 2001, although they should re-main manageable. In the few cases where thereare current account surpluses, they are ex-pected to narrow. In some countries the cur-


198

rent account deficits are already quite large orare growing rapidly relative to GDP (such as inPoland and Romania). For countries such asPoland, with an already high current accountdeficit, the EU slowdown will be felt more di-rectly, although the sharp deceleration in do-mestic demand there will reduce imports.While the Russian Federation is expected topost a large surplus again for 2001, it will besignificantly below the record $46 billion sur-plus in 2000. In Turkey the current account isexpected to post a sizeable surplus due to asharp contraction in imports and strengtheningexports stimulated by the massive devaluationof the Turkish lire subsequent to the abandon-ment of the crawling-peg regime in February2001.

Real foreign exchange rates throughout theregion remained on a broadly stable path overthe first half of 2001. The most notable excep-tion is the sharp devaluation of the Turkish lireof about 60 percent in nominal terms, or about30 percent in real terms, as of August 2001,year over year (y/y). The currencies of some

other countries (for instance, Hungary andPoland) subsequently came under considerabledownward pressure during July 2001, wheninternational investors became more bearishon emerging market instruments. In contrast,the Russian ruble has remained relatively firmand generally appreciated in real terms overthe year, bolstered, in particular, by a large cur-rent account surplus. Elsewhere in ECA, due inpart to fixed currency regimes and inflationdifferentials, the Bulgarian (currency board)and Baltic (pegged) currencies have continuedto appreciate.

Inflationary pressures in the ECA region onthe whole were relatively contained in 2001,with the general rate of increase either declin-ing somewhat or remaining flat. Turkey, withthe consumer price index running at about 55percent in 2001, is an important exception.Until domestic markets stabilize there, height-ened uncertainty will contribute to higher in-flationary pressures, as will the hefty increasein the cost of imports that will likely generatesignificant pass-through effects. Driven in most


199

Figure A1.4 Russian imports and partner exports in 1998–2001

Source: IMF.

(3-month moving average, y/y percent change (of US$ merchandise trade)

–175

Jan.

199

8

–125

–75

–25

25

75

125

Russia – Imports

Other CIS – Exports

CEECs (excl. Turkey) – Exports

Turkey – Exports

Feb. 1

998

Mar

ch 1

998

Apr. 1

998

May

199

8

June

199

8

July

1998

Aug. 1

998

Sept.

1998

Oct. 1

998

Nov. 1

998

Dec. 1

998

Jan.

199

9

Feb. 1

999

Mar

ch 1

999

Apr. 1

999

May

199

9

June

199

9

July

1999

Aug. 1

999

Sept.

1999

Oct. 1

999

Nov. 1

999

Dec. 1

999

Jan.

200

0

Feb. 2

000

Mar

ch 2

000

Apr. 2

000

May

200

0

June

200

0

Jan.

200

1

Feb. 2

001

Mar

ch 2

001

Apr. 2

001

May

200

1

June

200

1

July

2000

Aug. 2

000

Sept.

2000

Oct. 2

000

Nov. 2

000

Dec. 2

000

cases by an accommodating fiscal stance, in-flation remains at double-digit levels in a hand-ful of other ECA countries, for example in Be-larus, Romania, Tajikistan, and Uzbekistan. Forthe region’s oil-importing countries, the recentpass-through impact of higher energy prices hasbegun to diminish. In contrast, strengtheningdomestic demand in a number of ECA countriescould lead to higher inflationary pressures.

Near-term outlookThe severity and duration of the current slow-down in the EU, along with policy responses in the transition countries, will be importantfactors for near-term prospects. In the EU, arecovery is not expected until the second half of 2002, and much stronger external demandfrom the EU is not anticipated until 2003. Thisis especially significant for the Central andEastern European countries (CEECs), becausetheir economies have become well integratedwith the EU. Another important near-term as-sumption is that the combination of slowingworld energy demand and an accommodatingstance by the Organization for Petroleum Ex-porting Countries (OPEC) will likely translateinto lower nominal and real oil prices. For the

hydrocarbon exporters of the CIS, this scenarioimplies a further slowdown in growth in 2002.For the ECA region oil-importers, the declinein the energy bill is expected to partially offsetthe negative impacts of a less favorable externalenvironment. If indeed Turkey stabilizes andbegins to recover in 2002, which is an assump-tion underlying our forecast, it will lift aggre-gate growth for the region.

Throughout the region, access to foreign pri-vate capital (including foreign direct invest-ment, FDI) is expected to remain more difficultover the near-term, due to increased aversion to emerging markets by international inves-tors. Correspondingly, domestic and foreign in-vestment in the ECA economies is expected todecelerate through 2002, in part reflecting an-ticipated delays in privatization programs.Tourism, an important source of foreign cur-rency in a number of ECA countries (such asCroatia and Turkey), is also projected to slowmarkedly.

In sum, over the near term (2002–03),growth is expected to stabilize at close to 3.5percent for the region as a whole. At the sub-region level, we are forecasting a pattern ofdiverging growth becoming manifest in 2003.


200

Table A1.4 Europe and Central Asia forecast summary(percent per year)

Baseline forecast


Real GDP growth –2.3 1.8 6.3 2.1 3.0 4.2 3.6Consumption per capita –3.5 –2.9 4.2 3.8 3.0 2.9 3.9GDP per capita –2.5 1.7 6.1 1.9 2.9 4.1 3.5

Population 0.2 0.2 0.1 0.1 0.1 0.1 0.1Inflationa 347.1 7.3 7.5 7.5 5.9 5.4 4.3Gross Domestic Investment/GDPb 23.6 18.0 19.0 19.4 19.5 19.7 24.3Central Gvt Budget Balance/GDP –19.0 –10.5 –7.4 –7.5 –7.2 –6.4 –4.8Export Volumec 0.5 –1.4 11.1 8.5 2.8 8.3 5.9Current Account/GDP –0.6 0.0 1.9 1.2 –0.4 0.0 –1.4Memorandum ItemsGDP growth: Transition countries –3.1 3.3 6.1 4.0 3.1 3.8 3.4

Central and Eastern Europe 0.8 2.3 3.9 2.8 2.9 4.3 4.3CIS countries –5.2 4.1 7.8 4.9 3.2 3.5 2.6



For the CEECs, aside from anticipated strongerexternal demand in 2003, the EU accessionprocess is expected to stimulate a continuationof reforms and to further boost growth. In con-trast, CIS growth is expected to slow in 2002and to remain generally flat in 2003 as energyprices stabilize at lower levels, and the boostfrom high oil rents winds down in a policy en-vironment of gradual reforms. As a conse-quence, import demand from the Russia Feder-ation is expected to decline, which is in turnexpected to result in lower export volumes forthe smaller CIS countries.

Long-term prospectsOver the coming decade through 2010, GDPgrowth for the ECA region is forecast to aver-age close to 4 percent, in contrast with the 2.3percent region-wide average rate of contractionwitnessed during 1991–2000, the first decadeof transition. From a region-wide perspective,the main drivers of higher growth are an im-proved policy environment and a greater de-gree of macroeconomic stability leading tohigher investment and savings rates as a shareof GDP. Growth for the CEEC subregion is ex-pected to average above 4 percent during theperiod 2001–10, up significantly from close to1 percent posted during 1991–2000. Growth inthe CIS subregion is expected to average some-what below 3 percent, also a marked increasecompared to the sharp contraction of about 5percent annually registered during 1991–2000.

In the CEECs, during the second decade oftransition, a number of factors are contributingto the anticipation of stronger growth perfor-mance, including rising investment as a share ofGDP and continued restructuring of the capitalbase. Broad-based reforms and a well-educatedlabor force have been—and are expected to re-main—important factors contributing to fruit-ful returns on rising investment.

Almost all of the CEECs are EU accessioncandidates, and have significantly benefitedfrom the EU accession process, which has pro-vided an incentive to address underlying struc-tural and institutional impediments to growth.The EU accession process is expected to con-

tinue to boost FDI into the subregion, althoughas privatization programs wind down, this isexpected to diminish somewhat. These flowshave largely financed the subregion’s shortfallin domestic savings. Domestic savings rates areforecast to increase over the forecast horizon asFDI inflows moderate, but they are not ex-pected to increase sufficiently to close the gapover the forecast horizon. This potential imbal-ance between savings and investment exposesthe CEECs to the risk that investment demandwill be bridled by inadequate domestic savingsor by a sudden drop in foreign inflows. Never-theless, prospects are broadly positive as mostof the countries of the subregion have achieveda significant degree of stability and realignmentof institutions and markets over the last decadeand are on a path to continue the process. TheCEEC subregion growth forecast of just over 4percent over the long term, albeit not insignifi-cant, suggests only slow convergence with EUper capita income levels.

As with the CEECs, high educational attain-ment provides a strong positive contribution togrowth potential in the CIS. However, invest-ment in human capital in the region has de-clined substantially following the breakup of the Soviet Union and in the wake of the1997–98 crisis. Should a turnaround in the in-vestment in human capital not materialize, animportant positive dynamic of the subregion’sgrowth picture will deteriorate further. The re-cent surge in growth in the CIS subregion of hy-drocarbon exporters has created an importantopportunity to introduce reforms more actively.The Russian Federation is an example of wherethis process has begun, especially during 2001.However, there the implementation process isjust being initiated, and much remains uncer-tain. Significant institutional and structural im-pediments remain constraints to growth. Con-sequently for the CIS countries as a group—andin contrast to the CEECs—investment as ashare of GDP is expected to remain at relativelylow ratios, after having declined during the1990s. Also, considerable excess capacity re-mains, though much of it could be obsolete, soinvestment demand could kick in sooner if the


201

economy picks up. If good policy reforms areintroduced more aggressively, then the CIS econ-omies could shift to a higher growth path.

RisksOver the near- to medium-term, risks to theforecast are predominantly on the downside.Within the region the main risks include thepossibilities of a deepening of the crisis inTurkey or a sharper economic slowdown in theRussian Federation, or both. In either case,growth prospects in smaller economies of theregion would also decline. Another internal riskfactor is an escalation of political tensions andinstability in the Balkans. The September 11terrorist attacks have increased both externaland internal risks. With regard to the former,there is the possibility of greater risk aversion to emerging markets and capital flight. Regard-ing the latter, a risk of increased political uncer-tainty is an important factor, especially in thecountries of Central Asia, due to the heightenedconflict and instability in Afghanistan. Therecould also be an influx of refugees to the ECAcountries bordering Afghanistan, namely Tajik-istan, Turkmenistan, and Uzbekistan.

Other external risks are mainly associatedwith the EU, both in terms of its growthprospects and with public support for the ac-cession process. A stronger and more pro-tracted decline in external demand from the EUwould add pressure to external balances andlikely reduce growth outcomes, particularly inthe CEECs. An important aspect of an ex-tended slowdown in the EU is the timing—thatis, coinciding with important EU accession ne-gotiations—because it will likely reduce ma-neuverability for both candidate countries andexisting members. Correspondingly, supportfor the EU accession process (both within theexisting EU countries3 and within prospectivemember countries) has been diminishing. Thiscould become a higher risk over the near termbecause more difficult issues—such as the freemovement of labor and capital, agriculture,and the distribution of structural funds—arenow shifting to the front burner in enlargementnegotiations. Extensive delays in the EU acces-

sion process could slow the reform process andundermine long-term growth prospects withinthe CEECs.

Potential output could be increased if re-form programs in the CIS were to move for-ward more aggressively than anticipated. Inthe case of the Russian Federation, this wouldgenerate positive demand dynamics through-out the CIS and in Turkey. Depending on dy-namics both internal and external to the re-gion, there is the upside risk that the EUaccession process will regain stronger positivemomentum and proceed more smoothly andmore rapidly than currently envisioned. No-tably, the recent terrorist crisis could act as acatalyst to strengthen political resolve in boththe EU and applicant countries to move for-ward with the accession process. Turkey, theRussian Federation, and Central Asian coun-tries might also benefit from strengthened po-litical backing from the west and a possibleincrease in official assistance as a reward forsupporting U.S.–led strikes into Afghanistan.

Sub-Saharan Africa

Recent developments

Growth in Sub-Saharan Africa (SSA)slowed to 2.7 percent in 2001 from 3percent in 2000, interrupting a pro-

gressive recovery from the slowdown of thelate 1990s. With population growing at 2.4percent, the rise in per capita GDP was mini-mal. The slowdown was widespread through-out the region, in East, West, and SouthernAfrica, and in both oil and non-oil commodityexporters.

The primary cause was the slowdown indeveloped countries. In the face of weakerdemand from the United States and the EuroArea, merchandise exports managed just 3.4percent growth in volume terms compared to8.8 percent in 2000. Services exports, includingtourism, were also affected, growing by 3.6percent. Commodity prices remained wellbelow levels of the late 1990s, including thosethat rebounded from recent lows. Beverage


202

producers were particularly hard hit, with cof-fee prices down over 25 percent from 2000 andcocoa prices—although they were up around10 percent in 2001—only 75 percent of the av-erage for 1995–2000. While oil prices easedback from their peak of nearly $30 a barrel inmid-2000 they remained strong, and oil ex-porters outperformed the region as a whole,growing at an average of 3.6 percent for theyear, compared to 2.6 percent for non-oil ex-porters. Oil constitutes less than a third of SSAexports, however, and net energy exports areonly 5 percent of GDP. Thus on balance, recentworld commodity market trends represented amajor drag on growth and incomes.

Apart from the external environment, de-velopments within the region painted a mixedpicture. Better weather boosted agricultural pro-duction and household incomes in a number of countries in East and Southern Africa, in-cluding Ethiopia, Kenya, Mozambique, andTanzania. However, localized drought condi-tions persisted in these and many other coun-tries. In Southern Africa, food production fellby as much as 25 percent, due to both adverseweather conditions and civil disturbance.Overall, the Food and Agriculture Organiza-tion of the United Nations (FAO) estimates

that the need for food aid will be unchangedfrom last year at around 2.7 million tonnes(FAO 2001). Weather also contributed to a 12percent reduction in the cocoa crop in WestAfrica after the bumper harvest of 1999–2000,according to the International Cocoa Organi-zation (African Business, July/August 2001).

In the political sphere, some progress to-ward stability was achieved in the DemocraticRepublic of Congo, Guinea, and Sierra Leone,but peace seemed as elusive as ever in Angola,Liberia, and the Sudan, and Zimbabwe’s crisisintensified with the approach of elections inspring 2002. Countries in conflict or experi-encing severe governance problems4 recordedthe worst performances, growing at –0.4 per-cent in 2001. On the plus side, robust growthcontinued in a number of countries, includingEthiopia, Madagascar, Mozambique, andUganda, reflecting better policy and economicmanagement. Finally, 19 countries reached de-cision points under the enhanced Heavily In-debted Poor Countries Initiative, cutting debtservicing costs by a third, and relaxing balanceof payments and budgetary pressures.

In South Africa, the region’s largest econ-omy, a robust recovery in the second half of2000 dissipated in the first half of 2001 as in-


203

Figure A1.5 Real GDP growth of SSA oil and non-oil exporters


(percent)

0

2000 20022001 2003

0.5

1

1.5

2

2.5

3

3.5

4

4.5Oil Non-oil

adequate rains led to a disappointing maize har-vest. The impact spilled over from agricultureinto manufacturing and, on the demand side,into consumer spending, and growth slowed to2.4 percent. Both public and private investmentremained strong, as did productivity growth,although the investment rate at only 16 percentof GDP remains well below the level needed to support adequate employment growth. Therand came under strong selling pressure in thesecond half of the year as a result of ongoinguncertainty about emerging markets generallyand the situation in Zimbabwe specifically.

In Nigeria, the energy sector registeredstrong gains, thanks to both oil and natural gasrevenues and to keen investor interest, particu-larly in the offshore sector. However, it is in-creasingly evident that progress on reforms todate has had little impact on the non-oil econ-omy. A one-year, $1 billion standby credit fromthe IMF was extended from August to Octoberdespite the government’s failure to meet impor-tant conditionalities, but especially with the ap-proach of elections in late 2002, the future ofthe reform process is uncertain.

Near-term outlookWhile many idiosyncratic factors will bear onnear-term performance, the slowdown in indus-trial countries during 2001 and sluggish recov-ery in the first half of 2002 virtually guaranteea poor out-turn for the coming year. Weak de-mand will continue to depress export pricesand volumes. However, as recovery consoli-dates in OECD trade partners, demand for theregion’s exports will strengthen setting the stagefor stronger gains in 2003. For the region as awhole, merchandise exports are expected togrow by only 2.9 percent in 2002, while termsof trade fall by 6.2 percent, equivalent to 1.8percent of GDP. The subdued external perfor-mance will hold GDP growth to 2.7 percent fora second year, again leaving per capita incomesflat. Oil prices are expected to fall to $21 a bar-rel in 2002, implying steep terms-of-trade lossesfor oil exporters of 4.1 percent of GDP; theirreal growth will average 3.1 percent, down from3.6 percent in 2001. However, other commod-

ity prices should firm on average, even thoughnon-oil exporters’ terms of trade deteriorateslightly because of higher import prices. Themodest improvement in the external environ-ment will raise non-oil exporters’ growth to 2.7percent from 2.6 percent 2001. For the SSA re-gion as a whole in 2003, the forecast antici-pates a strong acceleration in export volumegrowth to 6.4 percent, pushing GDP growth to 3.9 percent. With decent rains, the actualoutcome might be even better. Nevertheless,terms-of-trade weakness is expected to persistthrough the forecast period, especially for oilexporters, as oil prices fall further to below $20a barrel.

Despite weak energy prices, substantial in-vestment in oil exporters promises to sustainreal growth in oil sectors in the medium term.Nigeria has struggled recently to meet OPECquotas, but plans to increase capacity signifi-cantly over the next few years and a second liq-uid natural gas train at Bonny Island will boostproduction by 50 percent beginning in 2002.Meanwhile, recent offshore discoveries couldsubstantially raise medium-term productionand exports for non-OPEC Angola and Equa-torial Guinea. Even in the near term, ex-ploration and development activity—includingthe Chad-Cameroon pipeline project—is help-ing to offset terms-of-trade losses, keeping realgrowth higher than otherwise would have beenthe case. For non-oil exporters, faster worldgrowth will tighten the supply demand balancein primary commodity markets allowing exportprices and terms of trade to strengthen. In ad-dition to the rebound in the world economygenerally, export prospects will also benefitfrom a number of specific trade initiatives, in-cluding the United States’ Africa Growth andOpportunities Act (AGOA), the EU’s “Any-thing but Arms” initiative, and the EU–SouthAfrica Free Trade Agreement. Early evidencefrom the first half of 2001 shows that 13 SSAcountries benefited from $3 billion of exportsunder AGOA preferences (USTR 2001). None-theless, SSA’s medium term performance willremain subdued as a result of inelastic exportdemands and a lack of diversification.


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Long-term prospectsOver the long term, the expectation is for acontinuation of the trend toward better eco-nomic policies and management and a broadlyfavorable external environment. Internal mar-ket reforms, deregulation, and privatizationhave raised productivity and improved incen-tives, and encouraged nontraditional exportssuch as fish and horticulture at a time whenprospects for many traditional crops are poor.Notably a number of well-managed reformershave sustained high growth even through diffi-cult external conditions. In the baseline sce-nario, which assumes a continuation of currentproductivity trends, output growth averages3.7 percent from 2004–10. With populationgrowth falling to 2.2 percent, real per capitaincome growth will average 1.5 percent, reach-ing $640 in real (1995 dollars) terms by 2010.For many countries, export diversification andfavorable price trends will sustain performancewell above the regional average.

This performance will fall short of what isneeded to achieve the international develop-ment goals, and SSA will continue to lag behindother regions in the developing world. Low do-mestic savings combined with only modest pri-

vate foreign capital inflows will limit investmentrates to an average of below 19 percent of GDP.Although up from barely 17 percent currently,this is far from what is needed. As a result, cap-ital accumulation will contribute less than 1percent annually to growth—not even a quarterof the rate anticipated for East Asia. Low ratesof human capital investment and slow progresson rebuilding infrastructure will hold produc-tivity growth to around the same rate.

Despite the somewhat pessimistic outlook, ifthe forecast is accurate the coming decade willsee the region’s best sustained performancesince the 1960s. There are manifold reasons forSSA’s historically poor performance—disease,civil strife, poor governance, inauspicious cli-mate, low savings and investment, and fallingterms of trade. Some of these conditions areunlikely to change any time soon, but for oth-ers there are signs of real improvement. Politi-cal and economic reforms have gained pacesince the mid-1980s, and are contributing tohigher standards of governance and economicmanagement. Private sector growth and in-creasing regional integration are helping toboost efficiency and rationalize production.Greater openness and debt relief are relaxing


205

Table A1.5 Sub-Saharan Africa forecast summary(percent per year)

Baseline forecast


Real GDP growth 2.2 2.5 3.0 2.7 2.7 3.9 3.7Consumption per capita –0.6 0.0 0.4 0.2 0.5 0.9 1.1GDP per capita –0.4 0.0 0.5 0.3 0.3 1.6 1.5

Population 2.6 2.4 2.5 2.4 2.4 2.3 2.2Inflationa 9.7 5.3 6.3 6.0 5.0 4.5 4.1Gross Domestic Investment/GDPb 17.4 17.1 17.2 17.5 17.6 17.8 18.4Central Gvt Budget Balance/GDP –7.4 –8.1 –2.2 –3.4 –3.3 –3.2 –2.8Export Volumec 4.3 3.0 7.0 3.4 2.4 7.6 6.3Current Account/GDP –2.1 –2.2 –1.5 –1.0 –2.4 –2.0 –1.8Memorandum ItemsGDP growth: SSA excl. South Africa 2.6 3.0 2.9 3.0 2.8 4.0 4.2

Oil exporters 2.7 2.6 3.8 3.6 3.1 3.4 3.6CFA countries 2.6 2.4 2.7 2.4 2.9 3.6 3.8



balance of payments constraints, easing importrestrictions, and over time encouraging moreforeign investment interest. But even as somecountries notch up high growth rates, overallperformance will continue to be constrained bythe devastating effects of HIV/AIDS, slow prog-ress on governance in some countries, and thelimited availability of resources to rehabilitateproductive capacity and infrastructure.

Middle East and North Africa

Recent Developments

Developments in the Middle East andNorth Africa were strongly positive in2000, with a rare convergence of si-

multaneous increases in oil prices and exportvolumes contributing to stronger-than-antici-pated growth of 3.9 percent. Growth in 2001will be lower at 3.4 percent, as declines inOPEC export quotas affect oil production andincreasingly weak growth in industrial coun-tries affects demand for goods and servicesfrom the region. Short-term prospects haveweakened considerably since September 11 inthe face of a slowdown in external demand,with economic recovery in Europe and theUnited States delayed into 2002.

The oil exporters have reaped the benefits ofhigher demand and disciplined adherence toOPEC quotas, boosting both export volumeand revenue growth in 2000, with GDP growthof over 4 percent in several countries. Exportvolume growth is weaker in 2001 becauseOPEC quotas were reduced throughout theyear in an effort to target supply around a priceof $25 a barrel, with growth falling to 3.1 per-cent. The boost in revenue has fostered incomegains and led to strong growth in domestic de-mand through stronger consumption and im-port growth. Current account surpluses rose to14.9 percent of GDP in 2000 and 8.4 percent in2001. Domestic interest rates fell, and therewas an increase in investment in the oil andnon-oil sectors, with several countries also ben-efiting from higher foreign investment. Oil ex-porters have had few problems refinancing lia-

bilities. Government revenues have also bene-fited from high oil prices. Many oil exportersachieved balanced budgets or surpluses in2000, and some of that momentum has con-tinued in 2001. Governments did spend morethan previously budgeted from their revenuewindfall but most were relatively restrained,given the expenditure profiles of earlier windfallgains. For example, the Saudi government re-ceived 58 percent more revenue than budgetedin 2000 but only spent approximately 10 per-cent more than planned, with much of the extraspending being used to pay domestic arrears.

The diversified economies grew 3.4 percentin 2000, lower than their historical average.Drought conditions in Morocco, Tunisia, andthe Levant contributed to lower production andagricultural exports, despite high export marketgrowth in 2000. Additionally, domestic condi-tion in the Arab Republic of Egypt deterioratedsignificantly as the budget and current accountdeficit increased, placing pressures on interestrates, exchange rates, and domestic investment.GDP growth in the diversified exporters willrise to 4.4 percent in 2001. Morocco, whichhad a partial recovery from drought this year,accounts for the increase in GDP growth. Addi-tionally, stronger oil prices and a relief fromdrought are behind increased growth in Syria. Aweaker external environment, particularly inEurope, has affected trade prospects with fall-ing growth expected in most countries as exportmarket growth fell from 13 percent in 2000 to 1.9 percent in 2001. Workers’ remittances,tourism, and services receipts will be similarlyaffected.

Near-term outlookLooking forward, GDP growth in the region isexpected to fall to 2.9 percent in 2002 and torecover to 3.6 in 2003. The sharper downturnin industrial countries and the delayed recoveryinto mid-2002 will reduce the external impetusto growth. Slower world demand growth willkeep oil prices at the lower end of the OPECprice band (around $21 a barrel) and produc-tion and income growth will be adversely af-fected. The diversified exporters face lower


206

trading partner–import growth, and adverseimpacts on tourism from lower external incomegrowth. Growth will probably fall in 2002 to4.2 percent, but will recover along with the oilexporters in 2003, if, as anticipated, Europeand other trading partners gather momentum.

The momentum of growth in the oil ex-porters will slow in 2001–02, as weaker globalgrowth affects energy demand and OPEC keepsa tight rein on oil production quotas. Produc-tion and export volumes in 2002 are expectedto be lower than 2001 levels, thus ensuring thatexport volumes and GDP growth will declinefrom 2000 and 2001 rates. As the oil price fallsto $21 a barrel in 2002, the terms-of-tradegains made over the last several years will de-cline, and current account surpluses, whichreached 14.9 percent of GDP in 2000, will fallto 1.7 percent of GDP in 2002. Similarly, gov-ernment balances will show some deterioration,both as oil revenues fall and governments im-plement new expenditures. The Islamic Repub-lic of Iran is locked into a balanced budget rule,and, with the conservative oil price assumptionsused for budget purposes, should retain fiscalbalances. Algeria is expected to increase fiscalexpenditures greatly in 2001–02, but the oil sta-

bilization fund will be used to finance deficitsand retire debt. However, if fiscal policy be-comes too expansionary, it will be difficult tomaintain the lower interest rates and inflationthat have been apparent recently.

The windfall gains have provided opportu-nities for several oil exporters, particularly theIslamic Republic of Iran and Algeria, to amor-tize external debt and retire domestic debt. Oilexporters in the Gulf have built up foreignreserves and had few problems maintainingtheir fixed exchange rates. The Islamic Repub-lic of Iran appears on-track to unify its ex-change rate regime in the 2002/03 fiscal year;as a result, it may face a dose of imported in-flationary pressures in the forecast period. Formost countries, however, inflationary pres-sures should remain low. Interest rates in oilexporters have been falling, along with rapidgrowth in liquidity; therefore, there will becontinued support to growth from domesticdemand as demand for oil softens.

Short-term prospects in diversified export-ers are mixed. Growth is expected to averagearound 4.3 percent in 2002–03. Morocco andthe Syrian Arab Republic are expected to re-cover from the debilitating droughts of recent


207

Figure A1.6 Tourism and workers remittances as a share of GDP in 2000

Source: IMF Balance of Payments.

(percent)

0

Egypt, ArabRep.

2.9

7.05.5

6.9

3.6

11.6

20.6

13.5

Jordan Morocco Tunisia

5

10

15

20

25

Workers Remittances Tourism

years, and agricultural production and exportswill provide support for growth in the nearterm. This will offset, to some extent, the ex-pected external slowdown in demand in 2001–02. The slower activity in the European econ-omy in 2001–02 will adversely affect all the di-versified exporters, with merchandise exportgrowth falling from 7 percent in 2000 to 1.9percent in 2001, before recovering to 4.9 per-cent in 2002. Jordan is enjoying a broad-basedincrease in activity, but deterioration in the ex-ternal environment (tourism, remittances, andcapital flows) could dampen growth next year.Current account deficits, which widened in re-cent years in drought-stricken countries, willremain higher than previously anticipated dueto lower export volume growth. Fiscal policy inthe drought-stricken countries has by necessitybeen somewhat expansionary to counter de-clines in agricultural incomes. Several countriesthat have signed EU Association Agreements(such as Morocco and Tunisia) have lowered or eliminated customs duties that were a sourceof revenue, placing upward pressures on fiscaldeficits. Consequently, the public sector willcontinue to play a large role in growth.

Tourism and workers’ remittances, two ofthe mainstays for diversified exporters, will

not fare well in the near term. The majority of tourists come from Europe and, with low-income growth in Europe into 2002, andconfidence eroded because of the events ofSeptember 11, tourism will suffer. Politicaluncertainty may also contribute to a decline intourism, particularly in the Levant and in Egypt.This can already be seen in Egypt, where afteran almost 15 percent rise in tourist arrivals in2000, arrivals fell by 8.1 percent in April 2001and 8.5 percent in May over the same period inthe previous year. Jordan’s tourism receipts fellby 3.6 percent in the first half of 2001 com-pared to a year ago. Tunisia and Morocco willsuffer less from the effects of the political in-stability in the Levant. Indeed, Tunisia shouldcontinue to experience some growth, and Mo-rocco is investing heavily in tourist infrastruc-ture. Remittances will remain stagnant or growvery slowly as growth slows in the near term inoil exporters, and as income growth is damp-ened in Western Europe, the main source of re-mittances for the region.

Long-term prospectsLong-term prospects in the Middle East andNorth Africa are less positive than in most otherdeveloping regions. Growth for the oil ex-


208

Table A1.6 Middle East and North Africa forecast summary(percent per year)

Baseline forecast



Population 2.2 1.9 2.0 1.9 1.9 1.9 1.9Inflationa 5.2 3.5 3.4 4.5 4.5 4.0 4.0Gross Domestic Investment/GDPb 22.7 22.4 23.4 23.9 24.2 24.3 25.4Central Gvt Budget Balance/GDP –1.6 –2.7 –2.5 –3.0 –2.9 –2.6 –2.2Export Volumec 5.8 13.1 6.2 3.0 4.0 5.7 4.6Current Account/GDP –1.9 –1.0 8.1 4.7 0.8 –0.9 –2.3Memorandum ItemsGDP growth: Oil exporters 2.6 1.8 3.3 2.6 2.3 3.3 2.7

Diversified exporters 4.0 3.3 3.4 4.4 4.2 4.3 4.3



porters in the long term is expected to average2.7 percent; in the diversified exporters growthis expected to average 4.3 percent. In each case,growth is only slightly higher than the averagefor the 1990s. Growth in 2004–10 for the re-gion is expected to average 3.3 percent, similarto the average of the 1990s and lower than theaverage of 3.5 percent for 2000–03. The rea-sons for the lack of acceleration of growth inthe forecast period include the real long-termdecline in oil and other commodity prices ex-pected in the next 10 years; the high level ofvulnerability of countries in the region to com-modity price and other external shocks; and thelow level of attractiveness of the region to for-eign investment outside commodity sectors.

The main external sources of growth and in-come in the region come from commodity ex-ports, tourism, and workers’ remittances. Eachof these sectors is highly vulnerable. In the long-term, energy prices are not expected to in-crease—in fact, the real crude oil price in 2010is projected to be approximately half its 2000level. On the supply side, it is expected that non-OPEC supply will grow in the next severalyears, indicating that OPEC production and ex-ports must decline in order to maintain pricesabove $20 a barrel, given expected demand con-ditions. Without further diversification in oil-exporting countries, many of which receive upto 95 percent of export revenues from hydro-carbons, the external impetus for growth seensince 2000 will diminish. The agricultural andmineral exports of the diversified exportersshould fare better as prices increase in the nextdecade, but the recovery will be slight, and willcome from the extremely low levels seen in re-cent years. In terms of agricultural exports, thescope for increasing penetration of markets islimited by the restrictions remaining on agricul-ture in the initial Association Agreements signedwith the EU by the Mediterranean countries.

Tourism receipts are an important source ofrevenue for many of the Mediterranean coun-tries but, as can be seen in the current context,they are highly vulnerable to issues concerning

political stability. Current events in Israel andthe West Bank and Gaza have affected tourism,not just in these areas but in the entire Levantand in Egypt. While countries such as Tunisiaand Morocco are making concerted efforts toimprove accommodations and service, they stillface fierce competition from other destinationsthat have lower levels of political conflict andbetter facilities and services. Remittances bynationals working in the Gulf countries and inEurope are also an important source of income,but remittances from the Gulf are not expectedto continue growing rapidly. The Gulf coun-tries have begun programs to increase the num-bers of their own nationals in their domesticworkforce, and this will certainly be at the ex-pense of non-nationals. With slower growthexpected in the oil exporters in the long term,remittances are also expected to decline or togrow very slowly.

Notes1. Dawn Internet Edition, Pakistan, September 20,

2001, http://www.dawn.com.2. The News International, Pakistan, September 20,

2001, http://www.jang.com.pk3. Support for eastward expansion of the EU has

waned markedly in existing member countries, whichwas highlighted most recently by Ireland’s June 2001“No” vote on the Treaty of Nice (which makes changesto the voting structure of the EU to accommodateexpansion).

4. Angola, Burundi, Côte d’Ivoire, Democratic Re-public of Congo, Guinea-Bissau, Kenya, Sierra Leone,and Zimbabwe. No reliable data are available forLiberia or Somalia.

ReferencesFAO (Food and Agriculture Organization of the United

Nations). 2001. “Food Supply Situation and CropProspects in Sub-Saharan Africa.” No. 2 (August).

USITC (United States International Trade Commis-sion). 2001. “Sub-Saharan Africa: Major U.S. Im-port Suppliers Under the Generalized System ofPreferences, and the African Growth and Oppor-tunity Act, Year-to-Date.” (http://reportweb.usitc.gov/africa/trade_data.html)


209

211

Commodity prices declined in 2001,however oil prices remain high relativeto non-oil prices (figure A2.1). Agricul-

tural prices have yet to begin a sustained re-covery from the declines that began just beforethe Asia crisis in mid-1997, due to continuedlarge supply increases, weak demand, and cur-rency devaluations of major commodity ex-porters relative to the dollar. Metals and min-erals prices made a modest recovery from thelows reached in 1999, but have since returnedto near those lows, due mostly to weak de-mand. Oil prices rose sharply from their 1998lows due to cuts by OPEC producers, but haveweakened in the past year due to weakness inthe global economy and, most recently, the ter-rorist attacks in the United States.

One of the main reasons for the divergenceof oil and non-oil commodities is that com-modity producers have responded very differ-ently to the price declines following the Asia cri-sis. Cuts in crude oil production and exports byOPEC producers starting in 1999 sent oil priceshigher, while metals and minerals prices got aboost from cuts in mine and smelter output.However producers of agricultural commodi-ties were slow to adjust to low prices; this hascontributed to continuing price weakness. Someagricultural commodities are still facing largeyear-to-year production increases despite thenearly 32 percent decline in agricultural com-modity prices from 1997 to 2001. Global coffeeproduction, for example, increased 21 percent

from 1997 to 2000 despite a decline of 53 per-cent in nominal prices over the same period.

Currency devaluations, relative to the U.S.dollar, have also depressed prices of some com-modities—especially in countries with weakcurrencies that are also major commodity ex-porters, such as Brazil, Indonesia, and Thai-land. For example, Brazil’s currency has deval-ued about 50 percent relative to the dollarsince 1997, and this has led to lower dollarprices for its major agricultural exports—cof-fee, soybeans, and sugar. Indonesia, a majorexporter of natural rubber and vegetable oils,has seen its currency devalue 70 percent rela-tive to the dollar since 1997. Thailand, thelargest rice exporter, has seen its currency de-value 30 percent relative to the dollar since1997, which has sent rice prices lower.

The current decline in non-oil commodityprices has been more severe than the two de-clines of the 1980s. There are strong similari-ties in all three periods, however (figure A2.2).The current decline began in May 1996, andprices fell by 30 percent in 38 months, com-pared to a decline of 27 percent in 32 monthsfrom the February 1980 peak, and a 23 per-cent decline in 37 months from the June 1988peak. In all three cases, commodity pricesreached their initial lows after about threeyears and then rallied before returning to theirprevious lows. Then the patterns diverge, withprices declining for another year in one caseand rising in the other.

Appendix 2Global Commodity Price Prospects

The recent terrorist attacks and resultingeconomic slowdown is expected to delay therecovery in non-oil commodity prices until thelatter half of 2002 and result in a modest 1.6

percent increase in 2002. Thereafter prices areexpected to rebound rapidly as extreme lowprices curtail supplies and prices rise 8.1 per-cent in 2003. The increases are expected to bebelow the recoveries of the 1980s (figure A2.2)because of large surplus production capacityrelative to demand that exists in many com-modities; improvements in technology thathave lowered production costs; and policies inmany OECD countries that have insulated pro-ducers from declines in global prices. Agricul-tural prices are projected to rise 1 percent in2002 and 8.8 percent in 2003, while metalsand minerals prices are projected to rise 3.2and 7.2 percent, respectively, during 2002 and2003. Beyond 2003, we expect nominal non-oil prices to continue to increase about 5 per-cent per year through 2005. Specific commod-ity price projections are contained in tablesA2.12 and A2.13 for selected years to 2005,2010, and 2015. Projected nominal and realcommodity indices are given in table A2.14.

Oil prices are expected to fall to $21 a bar-rel in 2002 compared to $25 a barrel in 2001.However, the recent terrorist attacks in the


212

Figure A2.1 Commodity price trends

Source: World Bank.

January 1997=100

40

Jan. 1997

Agriculture Crude oil Metals and minerals

Jan. 1998 Jan. 1999 Jan. 2000 Jan. 2001 Sept. 2001

80

120

160

Figure A2.2 Non-energy commoditypricesIndex (price peak = 100)

Source: World Bank.

6012 24 36 48

Months

Forecast

60 72 84 96

70

80

90

100

110

Feb. 1980June 1988May 1996

United States have added substantial risk tothe outlook, and prices will likely be morevolatile than previously expected. Prices areexpected to settle in the $18–20 range over thebalance of the decade as recent high pricesstimulate new production capacity.

Over the forecast period to 2015, real non-oilcommodity prices are projected to remain aboutconstant relative to 2001 levels as nominalprices recover from current severely depressedlevels. In contrast, real oil prices are expected tofall 40 percent over the same period as prices re-treat from current high levels. This divergentforecast for non-oil and oil prices reflects the ex-treme divergence in current prices rather than afundamental difference in the long-term out-look. The trend of real commodity prices of thelast century are expected to continue, with bothoil and non-oil prices declining relative to man-ufactures prices. During the twentieth century,non-oil commodity prices fell about 1 percentper year relative to the prices of manufactures;oil prices fell even more rapidly until the early1970s when OPEC’s market power emergedand supplies were curtailed. Since the peak of

real non-oil prices in the early 1970s and thepeak of oil prices in 1980, real prices of bothhave declined by about two-thirds.

The structural decline in agricultural com-modity prices relative to manufactures appearsto be the direct consequence of more rapidproductivity gains (see box A2.1) Such gainshave been fueled by rising yields, improvedpolicies in developing countries, and invest-ments in infrastructure and irrigation. Metalsand minerals costs have also declined due toimprovements in technology, better manage-ment, and better policies. Demand growth forcommodities has slowed in response to slowerpopulation growth and declining income elas-ticities. These trends are expected to continueand lead to continued declines in real com-modity prices over the longer term.

Agriculture

Agricultural commodity prices have beenthe weakest component of commodity

prices, down 33 percent in 2000 compared totheir 1995 highs.

G L O B A L C O M M O D I T Y P R I C E P R O S P E C T S

213

Martin and Mitra (2001),1 in a cross-countrystudy of nearly 50 countries for the period

1967–92, estimated total factor productivity (TFP)growth for agriculture at between 2.3 percent and 2.9percent per year (depending on the econometric speci-fication used) compared to 1.1 percent to 1.9 percentfor manufactures. The TFP growth was found to befaster in developed countries than in developing coun-tries, for both agriculture and manufacturing, andgrowth was faster in middle-income than low-incomedeveloping countries. The difference in TFP growthbetween agriculture and manufactures was most strik-ing for low-income developing countries, where therange of TFP estimates was 1.4 to 2.0 for agriculturecompared to 0.2 to 0.9 for manufactures (table A2.1).Thus the greater gain in total factor productivity ofagriculture relative to manufactures has played a large

Box A2.1 Total factor productivity growth

role in accounting for the decline of agricultural pricesrelative to manufactures.

1 Martin, W. and D. Mitra (2001). “Productivity Growth in Agricul-ture versus Manufacturing.” Economic Development and CulturalChange, vol. 49, no. 2, January, pp. 403–422.

Total factor productivity growth in agricultureand manufacturing (percent)

Agriculture Manufacturing

Overall TFP 2.3 to 2.9 1.1 to 1.9Developed countries 3.4 to 3.5 1.9 to 3.3Developing countries 1.8 to 2.6 0.6 to 0.9Low income countries 1.4 to 2.0 0.2 to 0.9Middle income countries 1.8 to 2.9 0.8 to 1.0

Table A2.1 Coffee production(million bags)

1997–98 1998–99 1999–2000 2000–01 2001–02

Brazil 22.8 35.6 30.8 34.1 33.7Vietnam 6.9 7.5 11.0 11.3 12.5Colombia 12.2 10.9 9.5 11.5 11.4Indonesia 7.8 7.0 6.5 7.3 6.3Mexico 5.1 5.0 6.2 5.5 5.5Côte d’Ivoire 3.7 2.2 5.7 4.3 4.7World 96.4 108.4 113.7 117.0 117.7

Source: USDA; and International Coffee Organization (ICO).

Beverages The World Bank’s monthly index of nominalbeverage prices (comprised of the export valueweighted average of coffee, cocoa, and teaprices) has declined 71 percent since the 1997highs, due mostly to steep declines in coffeeprices.

Prior to 1998–99, coffee production andconsumption were relatively equal, with littleoverall increase in either since the late 1980s.Since 1998–99, production has increased about20 percent, and arabica and robusta coffeeprices have declined 66 and 63 percent, respec-tively, from 1997 to the first nine months of2001. Despite these dramatic price declines,production is expected to increase for thefourth consecutive year (see table A2.1). Pricesare not expected to recover until this imbalanceis resolved. It is possible that coffee prices havepermanently shifted lower to accommodate in-creased production by efficient producers.

Cocoa and tea prices have not seen the sharpdeclines observed in coffee because supplieshave not increased as significantly. Cocoa con-sumption has grown at a fairly steady 3 percentper year over the past two decades, while globaltea consumption has grown at a more modest 1percent per year (see table A2.2).

CoffeeBrazil, the largest coffee producer with about30 percent of the world’s total, is expected tohave a near-record crop, while Vietnam, thesecond largest producer, is expected to have arecord crop. Other major producers such as

Colombia, Côte d’Ivoire, Indonesia, and Mex-ico are all expected to have large crops.

Low prices have been met with several re-cent attempts to curtail exports by the Associ-ation of Coffee Producing Countries (ACPC).So far these attempts have been ineffective andall efforts have ended in failure. Current effortsappear to lack an effective mechanism to con-trol coffee exports and have not yet inspiredmuch market response. In addition, withhold-ing stocks without reducing supplies encour-ages sales outside of the agreement and under-mines the agreement.

The recent decline in coffee prices has beendue primarily to a surge in supplies, but theequally important longer-term problem forcoffee producers is weak demand. Per capitaconsumption in Europe and the United States,which accounts for nearly 90 percent of inter-national demand, has been declining. In theUnited States, for example, per capita coffeeconsumption has been declining since 1970,while per capita consumption of soft drinkshas more than doubled. Unless tastes change,coffee producers will probably need to adjustto slow—perhaps stagnant—demand growth.

A significant recovery of coffee prices is notexpected soon unless there are major supplydisruptions due to droughts or frosts, which oc-curred in 1994 and 1997. We project a modestrecovery in robusta prices beginning in 2002and arabica prices in 2003 (table A2.12–13 forspecific price forecasts), but we also recognizethe risk that prices could drift lower until sup-plies are sharply reduced. Over the longer-term,


214

real coffee prices are expected to recover, butremain well below historical highs of the 1970sor recent highs of the 1990s. By 2015, real ara-bica and robusta prices are projected to in-crease 54 and 74 percent, respectively, from2001 levels, but they would still be only half oftheir 1990s peaks.

CocoaFollowing the three-decade low in February2000, cocoa prices recovered somewhat dur-ing the first nine months of 2001 to average$1.01/kg compared to $0.91/kg in 2000. Thepartial price recovery was largely due to pro-duction cutbacks and export disruptions inCôte d’Ivoire (due to political instability), andGhana. The 2000–01 cocoa crop is expectedto be down 7.3 percent from the 1999–2000record crop, and more in line with the averageproduction levels of the early 1990s.

Demand for cocoa is expected to grow by2.3 percent this season, just a little slower thanthe 1990–2000 average of 2.4 percent, but farbelow the 1980–90 average of 4.6 percent (tableA2.2). Demand from Eastern Europe and theformer Soviet Union (FSU) has grown by morethan 10 percent per year, while East Asian

countries have seen slower demand growth,partly due to the recent economic slowdown.Prices are projected to average a little over$1.00/kg in 2001 and about $1.10/kg in 2002.By 2015, real prices are projected to increase 21 percent from 2001 but still be 20 percent be-low their 1998 highs.

TeaThe three-auction average tea price fell 17 per-cent in the first nine months of 2001, com-pared to 2000, due mostly to increased pro-duction by the major exporters (India, Kenya,and Sri Lanka). In addition, currency devalua-tions in Sri Lanka relative to the U.S. dollarcontributed to the dollar price declines. Sincethe high in 1997, nominal tea prices are downabout 21 percent.

Tea prices have been held up by severalyears of poor harvests in some exportingcountries, combined with strong demand inthe Middle East and the Russian Federation,following high export earnings from crude oil.However, prices are expected to decline assupplies increase and demand weakens alongwith the expected decline in crude oil prices.We project tea prices to decline about 1 per-


215

Table A2.2 Beverages’ global balance

Annual growth rates (percent)

1970 1980 1990 1999 2000 2001 1970–80 1980–90 1990–2000

Coffee (Thousand bags)Production 64,161 86,174 88,849 113,723 117,001 117,739 2.11 1.36 1.20Consumption 71,536 79,100 96,300 98,000 103,290 105,340 1.01 1.97 0.22Exports 54,186 60,996 76,163 92,338 87,502 96,095 0.78 2.41 1.06

1970 1980 1990 1998 1999 2000 1970–80 1980–90 1990–2000

Cocoa (Thousand tons)Production 1,554 1,695 2,506 2,884 3,032 2,809 0.46 4.62 1.82Grindings 1,418 1,556 2,335 2,785 2,911 2,977 0.16 4.48 2.38Stocks 497 675 1,791 1,231 1,321 1,125 2.38 13.89 3.95

Tea (Thousand tons)Production 1,286 1,848 2,526 2,963 2,847 2,895 4.09 2.87 1.24Exports 752 859 1,099 1,296 1,272 1,309 2.35 2.39 1.62

Notes: The 2001 figures for coffee are preliminary forecasts. Time reference for coffee and cocoa are based on crop year shownunder the year that production begins: October to September for cocoa, and April to March for coffee. For tea, time is calendaryear.Source: International Cocoa Organization; International Tea Committee; FAO; USDA; and World Bank.

and exporters (Argentina, Brazil, and theUnited States), which together account for 80percent of global production (table A2.3).Since 1990, palm oil production has more thandoubled (table A2.4), with the large increasescoming from Indonesia and Malaysia.

Prices of most fats and oils are expected toincrease in 2002 and 2003, but remain wellbelow 1999 highs. Once the current imbalanceis resolved, price prospects improve due to thestrong demand growth expected in China andIndia. Real fats and oil prices are projected toincrease 12 percent from 2001 to 2015 asprices recover from current lows.

Grains The USDA’s projection for the new season(2001–02) is for significant declines in ending-stocks of grain (table A2.5), and this shouldcause most grain prices to increase in 2001 and2002 after reaching lows in 1999 or 2000.Maize prices appear to have bottomed out in2000 and are expected to increase about 2percent in 2001 and 7 percent in 2002. Wheatprices, which hit bottom in 1999, are projectedto increase 10 percent in 2001 and 4 percent in

Table A2.4 Palm oil production (millions of tons)

Year Indonesia Malaysia World

1990 2.41 6.10 11.031995 4.22 7.81 15.222000 6.95 10.84 21.772001 7.35 11.55 23.01

Source: Oil World.

cent in 2002, but there is potential for largerdeclines because of a possible disruption intrade to the Middle East and Central Asia fol-lowing recent events.

The growth of global tea exports hasslowed significantly during the 1990s com-pared to previous decades (table A2.2), andthis has not been offset by more rapid growthin domestic demand in major producing coun-tries, such as India. Thus, we project real pricesto decline 14 percent by 2015 relative to 2001as exporters intensify their push to increaseoutput and demand growth remains weak.

FoodDespite considerable volatility in the compo-nents of the food price index, the overall indexof nominal food prices has remained relativelyconstant since 1999, but is down nearly 32 per-cent since peaking in 1996. Prices are expectedto increase about 1 percent in 2002 and thenbegin to recover more rapidly as the globaleconomy rebounds from the current slowdown,and agricultural commodity prices recover fromcurrent lows. By 2015, real food prices are ex-pected to return to long-run trends, down 13percent relative to 2001 levels.

Fats and oilsFats and oils prices have taken a beating,down 8.1 percent in the first nine months of2001 compared to 2000, and down 40 percentsince 1997. The declines are due generally toincreased supplies and currency devaluationsof major producers versus the dollar. Globalfats and oils production in 2001–02 (Octoberto September) is expected to increase about 2percent from the 2000–01 level, which is wellbelow the trend growth of about 3.5 percentper year, but follows large increases in recentyears that have left the market oversupplied.The increase has been greatest in the twolargest vegetable oils—soybean and palm—which account for 23 and 19 percent of totalfats and oils, respectively.

World soybean production has grown by5.1 percent per year over the past decade, withgrowth centered in the three major producers


216

Table A2.3 Soybean production (millions of tons)

UnitedYear Argentina Brazil States World

1990 11.5 15.8 52.4 104.11995 12.4 24.2 59.2 124.92000 26.0 37.5 75.4 172.12001 25.5 38.0 79.9 177.2

Source: USDA.

2002. Rice prices, which are still falling, are ex-pected to decline 16 percent in 2001, and thenincrease 9 percent in 2002. In real terms, maize,rice, and wheat prices are projected to increase14, 17, and 13 percent by 2015 relative to theirlows during 1999–2001.

Substantial surplus production capacity ex-ists because yields have continued to growalong historical trends, while the area devotedto grain production has fallen (figure A2.3).Despite these reductions in land use, real priceshave declined by half since 1980. The growthof global grain consumption has slowed from

2.6 percent per year during the 1970s to 1.8percent during the 1980s, and to 1 percentduring the 1990s (table A2.6).

SugarWorld sugar production has exceeded con-sumption in 8 of the past 10 seasons, causingthe ending stocks-to-use ratio to reach 0.27 inthe 2000–01 marketing season—the highestsince 1985. World sugar consumption hasgrown by 3 percent per year during the lastdecade (table A2.6). Sugar prices had recov-ered from the sharp drop following the Asiacrisis, but have since declined due to large sup-plies (figure A2.4).

Brazil, which is the largest sugar exporterwith about one-quarter of world exports in2000–01, more than doubled production from1990–91 to 2000–01 and increased exportsfrom 1.5 to 11.3 million tons. Australia andThailand increased production by 50 and 70percent, respectively, from 1990–91 to 1997–98 when prices were attractive, but have cutproduction as prices have declined.

Sugar prices are expected to fall about 11percent in 2002 in response to large suppliesand weak demand, and then increase 12 per-cent in 2003. However, prices are expected toremain relatively weak for the next severalyears, with fluctuations depending on the year-to-year balance of production and consump-tion. Over the longer term, real prices are ex-pected to trend lower as production continuesto outpace consumption and stocks periodicallybuild. Relative to the 1999 lows, real prices areprojected to increase 49 percent by 2015.

Raw materialsThe index of agricultural raw materials prices(comprised of tropical hardwoods, cotton,and natural rubber) declined sharply duringthe Asia crisis and then stabilized. Recentlyprices have again declined, and are now about40 percent below their 1997 nominal levels(figure A2.5). Prices are expected to reach alow in 2001 and then increase modestly dur-ing the next several years. By 2005, nominalprices are projected to rise 28 percent relative


217

Table A2.5 Global grain stocks to use(percentages)

Maize Rice Wheat Total Grains

1997–98 25.5 33.3 29.3 26.91998–99 29.3 34.3 29.8 28.51999–2000 28.4 35.8 28.3 27.82000–01 25.9 34.2 26.8 26.12001–02(estimated) 23.0 31.4 22.4 23.1

1990s low 22.6 31.4 25.2 23.2

Source: USDA. Data for 2001–02 are the USDA’s August2001 estimate.

Figure A2.3 World grain area and yieldsMillion hectares and tons per hectare

Note: Area is in million hectares (left side) and yields arein tons per hectare (right side).

Source: World Bank based on USDA data.

6001960 1970 1980 1990 2000

650

700

750

Area

Yields

0.00

0.50

1.00

1.50

2.00

2.50

3.00

3.50


218

Table A2.6 Foods’ global balance


1970 1980 1990 1998 1999 2000 1970–80 1980–90 1990–2000

Grains (Million tons)Production 1,079 1,430 1,769 1,888 1,887 1,840 2.88 1.55 1.04Consumption 1,114 1,450 1,717 1,857 1,890 1,876 2.58 1.78 1.02Exports 109 215 203 225 241 227 6.35 0.13 0.94Stocks 193 309 490 528 525 489 7.24 3.83 0.56

Soybeans (Thousand tons)Production 44,269 80,873 104,093 159,819 159,659 172,107 6.84 1.87 5.08Consumption 47,988 84,017 103,643 159,567 159,839 171,486 6.53 2.04 4.99Exports 12,572 24,514 24,488 38,945 47,231 52,686 5.24 0.80 2.88Stocks 3,599 11,538 12,992 14,297 14,338 14,209 13.83 0.66 0.20

Sugar [Thousand tons (raw equivalent)]Production 70,919 84,742 109,393 143,388 133,634 136,882 2.80 1.59 3.26Consumption 65,395 91,062 106,802 138,168 127,499 129,449 3.30 1.40 3.00Exports 21,931 27,571 34,078 41,933 36,742 39,911 3.26 0.83 3.12Stocks 19,614 19,494 19,309 28,178 31,639 35,225 3.96 0.77 4.52

1970 1980 1990 1999 2000 2001 1970–80 1980–90 1990–2000

Fats and oils (Million tons)Production 39.78 58.09 80.84 113.50 117.48 119.84 3.68 3.54 3.70Consumption 39.82 56.80 80.87 112.20 117.54 121.29 3.55 3.69 3.64Exports 8.83 17.763 26.89 35.13 37.82 39.37 7.05 4.19 3.39Stocks 5.18 9.25 12 .15 14.04 14.00 12.80 7.09 2.44 0.69

Note: Time reference for grains, soybeans, and sugar are based on marketing years, shown under the year in which productionbegins, and varies by country and commodity; for fats and oils time is crop year beginning September.Source: USDA; and Oil World.

Figure A2.4 Nominal sugar priceU.S. cents per kilogram

Source: World Bank.

0

1990 1991 1992 1993 1994 1996 1997 1998 19991995 2000 2001

5

10

15

20

25

30

35

to 2001, and real prices are projected to rise17 percent by 2015.

CottonCotton prices declined almost 14 percent in thefirst three quarters of 2001 compared to2000—in response to a 6 percent increase inglobal production in the 2001–02 season. Thesurge in production (compared to recent his-torical growth of about 0.8 percent a year) waslargely due to a 7 percent increase in globalarea planted in cotton, which was in responseto the relative attractiveness of cotton pricescompared to other annual crops. China, India,and the United States accounted for three-quarters of the total production increase.

Cotton demand has been stagnant for mostof the past decade and is unlikely to quicklyabsorb recent production increases. Cotton’sshare of total fiber consumption exceeded 80percent in 1950, but fell to 50 percent by1980, and reached a low of 40 percent in re-cent years. Consumption is only expected toincrease 1 percent in 2001–02; consequentlystocks are expected to rise significantly. There-fore, the widely used Cotlook A Index is pro-jected to average $1.06/kg in 2001 and thendecrease to $1.02/kg in 2002. Over the longer

term, real prices are expected to rise onlymodestly from current low levels. By 2015,real prices are projected to increase 14 percentrelative to 2001.

Natural rubberNatural rubber prices have contributed to therecent weakness in raw materials prices by de-clining 11 percent during the first three quar-ters of 2001 compared to 2000. This priceweakness occurred despite a nearly 9 percentincrease in global demand (partly in responseto the second Firestone tire recall).

The three top producers and exporters ofnatural rubber—Indonesia, Malaysia, and Thai-land—have, in principle, agreed to establish abuffer stock with the objective of cutting pro-duction by 4 percent annually starting in 2002until a full price recovery is realized. While thedetails of the buffer stock scheme have not yetbeen outlined, the trilateral organization, Tri-partite Rubber Corporation (TRC), is expectedto act soon. The historical record of managedsupply cut mechanisms is poor, but becauseTRC consists of the three members who to-gether account for about two-thirds of globaloutput, the outcome may be different.

Natural rubber prices are expected to de-cline 11 percent in 2001 and then begin torecover in 2002—rising 25 percent by 2005.Real prices are expected to increase 16 percentby 2015 relative to 2001.

Tropical timberAsian meranti log prices fell 14 percent duringthe first three quarters of 2001 compared to2000, due to weak demand in Japan and thestrong dollar relative to the Japanese yen.African sapelli log prices fell 5 percent over thesame period due to reduced supplies because ofrestrictions and bans on log exports fromCameroon and other African countries. Theweakness of the euro against the dollar and theinstability of meranti prices encouraged Euro-pean buying in the African market.

As growth in the global economy slows, de-mand in the tropical timber industry continuesto weaken, and prices are expected to follow


219

Figure A2.5 Agricultural raw materialsprice indexIndex, 1990 = 100

Source: World Bank.

70

Jan.1997

Jan.1998

Jan.1999

Jan.2000

Jan.2001

90

110

130

demand. Log imports to Japan are expected tofall about 6 percent in 2001 compared to theprevious year, according to industry estimates.China, which is the largest global log importer,has continued rapid import growth and thishas partially offset weak Japanese imports.However, the combination of the strong dollar,slower economic growth, and the abundanceof softwoods that can substitute for hardwoodin some uses, should lead to lower prices in2001. The recovery of timber prices beyond2001 will be closely linked to the global eco-nomic recovery expected in 2003 and to aweakening of the dollar. We project timberprices to remain unchanged in 2002 and to re-cover in 2003. By 2005, nominal prices of mer-anti logs are projected to increase 43 percentrelative to 2001; sapelli logs are projected toincrease 13 percent; and meranti sawnwood isprojected to increase 34 percent.

Over the longer-term, real timber prices areprojected to recover from current levels, as

timber prices remain one of the few commodi-ties with trend real price increase due to supplyconstraints. Real meranti logs and sawnwoodprices are projected to increase 37 and 27 per-cent, respectively, from 2001 to 2015 whilesapelli log prices are projected to increase 9percent by 2015 compared to 2001. Theslower projected growth of sapelli log pricesreflects the smaller price decline compared tomeranti log prices during the Asia crisis.

Fertilizers

The fertilizer industry is burdened by sur-plus capacity and weak demand, but prices

appear to be near their lows. The situationvaries by fertilizer type, with nitrogen (urea)fertilizer prices recovering in 2000 after fallingfor four years; phosphate (TSP) fertilizer pricesstill declining but near expected lows; andpotash (MOP) prices holding steady due to ag-gressive production cutbacks (figure A2.6).


220

Table A2.7 Raw materials’ global balance


1970 1980 1990 1999 2000 2001 1970–80 1980–90 1990–2000

Cotton (thousand tons)Production 11,740 13,832 18,970 18,841 19,360 20,800 1.22 3.09 0.84Consumption 12,173 14,215 18,576 19,784 19,700 19,930 1.11 3.10 0.21Exports 3,875 4,414 5,081 6,102 5,770 5,900 0.93 2.79 0.49Stocks 4,605 4,895 6,645 8,802 8,580 9,460 1.71 2.83 1.38

1970 1980 1990 1998 1999 2000 1970–80 1980–90 1990–2000

Natural rubber (thousand tons)Production 3,140 3,820 5,080 6,820 6,800 6,880 1.78 3.17 3.08Consumption 3,090 3,770 5,190 6,540 6,660 7,260 1.58 3.16 3.25Net Exports 2,820 3,280 3,950 4,690 4,660 5,000 1.26 2.07 1.84Stocks 1,440 1,480 1,500 2,300 2,530 2,150 0.60 0.23 3.71

1970 1980 1990 1997 1998 1999 1970–80 1980–90 1990–1999

Tropical lumber (thousand cubic meters)Logs, production 210 262 300 311 289 299 1.47 1.71 0.45Logs, imports 36.1 42.2 25.1 17.9 14.6 18.9 0.18 5.10 5.36Sawnwood, production 98.5 115.8 131.8 115.0 108.3 108.2 1.17 1.74 1.99Sawnwood, imports 7.1 13.2 16.1 21.2 19.5 21.6 4.95 2.57 3.33Plywood, production 33.4 39.4 48.2 56.1 47.6 52.0 1.17 2.02 0.46Plywood, imports 4.9 6.0 14.9 19.5 18.3 18.3 0.69 9.10 3.60

Note: The 2001 figures for cotton are preliminary forecasts. Time reference for cotton is based on crop year shown under theproduction year beginning August; for rubber and tropical timber, time refers to calendar year.Source: International Cotton Advisory Committee; International Rubber Study Group; FAO; and World Bank.

The industry is still adjusting to the sharpdeclines in consumption in former Soviet andEastern European countries following the col-lapse of the Soviet Union. Prices had beenheavily subsidized under state control and fer-tilizer use was high, but subsidies were cut andconsumption fell sharply after the collapse ofthe Soviet Union. This left many countries(such as the Russian Federation and Ukraine)with large production capacity and reduced

domestic demand—which led to exportgrowth from Eastern Europe of 4 percent peryear since 1993. These exports displaced tradi-tional exporters, and depressed prices of nitro-gen and phosphate fertilizers. Global consump-tion fell about 17 percent from the high in 1988to the low in 1993 and has only recently recov-ered to near the 1988 peak (figure A2.7).

The fertilizer industry has had to contendwith several other changes in recent years, in-


221

Figure A2.6 Fertilizer pricesDollars per ton

Source: World Bank.

0

Jan. 1990 Jan. 1992

Urea

TSP

MOP

Jan. 1994 Jan. 1996 Jan. 1998 Jan. 2000

50

100

150

200

250

Figure A2.7 World fertilizer consumption and exportsMillions of tons

Source: FAO.

0

1970 1975 1980 1985

Consumption

Exports

1990 1995

40

80

120

160

Table A2.8 Fertilizer global balance(million tons)


1970 1980 1990 1997 1998 1999 1970–80 1980–90 1990–99

Nitrogen Production 33.30 62.78 82.26 87.60 88.48 90.85 6.53 3.12 1.11Consumption 31.76 60.78 77.14 80.12 82.62 85.53 6.86 2.60 1.15Exports 6.77 13.15 19.48 23.24 23.95 24.58 7.23 5.10 2.62

PhosphateProduction 22.04 34.51 39.35 32.81 32.99 32.65 3.72 1.70 2.05Consumption 21.12 31.70 35.90 33.34 33.17 33.15 3.85 1.39 .88Exports 2.92 7.51 10.50 12.24 12.54 12.90 8.37 5.01 2.31

PotashProduction 17.59 27.46 26.82 26.16 24.98 25.42 3.97 0.03 0.59Consumption 16.43 24.24 24.68 22.63 22.36 22.68 3.93 0.05 0.94Exports 9.45 16.72 19.82 22.52 22.13 22.63 4.89 0.73 1.48

Note: All data are in marketing years.Source: FAO.

cluding weak grain prices since 1996; highnatural gas prices in the United States andEurope in the past two years; reduced fertilizeruse in the EU because of environmental con-cerns and lower commodity intervention prices;and increased domestic fertilizer production inmajor importing countries such as China.

The slow recovery of agricultural commod-ity prices and weakness in the global economysuggest that prices may remain near current lev-els for several years or begin a modest recovery.Over the longer term, nitrogen prices are pro-jected to rise as production capacity is rational-ized and demand increases; phosphate pricesare expected to remain about constant follow-ing recent declines; and potash prices are ex-pected to decline as surplus capacity continues.

Metals and Minerals

The index of metals and minerals prices fell15 percent during the first nine months of

2001, with copper prices down 23 percent (seefigure A2.8). Production cutbacks have helpedslow the price decline, most notably in alu-minum where significant capacity has beenshut in the United States’ Pacific Northwest—and to a lesser extent in Brazil—because ofelectric power problems. Mergers and acquisi-

tions have also helped to rationalize surpluscapacity within the industry. However globaloutput continues to exceed demand and in-ventories have risen. Stocks of most metalshave risen by more than 60 percent this year,with aluminum and copper stocks more thandoubling (see figure A2.9).

The negative impact on the global economyfrom the terrorist attacks of September 11 willresult in lower demand for most metals andminerals, higher inventories, and lower prices.Further closure of high-cost production is likely,and this may help underpin prices somewhat.However the recovery in prices will likely be de-layed well into 2002, and will largely be deter-mined by the timing and the strength of the re-bound in global economic activity.

Higher prices will also bring forth new ca-pacity and the restart of idle facilities, and priceswill eventually recede. Real prices are expectedto decline in the longer term, as production costscontinue to fall due to new technologies and im-proved managerial practices (see figure A2.10).

AluminumAluminum prices have fallen 14 percent thisyear, while London Metal Exchange (LME) in-ventories have risen 124 percent. Prices havebeen partly supported by large reductions in


222

production in the United States because of theelectricity crisis on the West Coast and produc-tion curtailments in Brazil and Canada due tohydropower shortages.

About 1.6 million tons of capacity in the U.S.Pacific Northwest has been idled because ofelectric power shortages in the region. The Bon-neville Power Authority (BPA) asked aluminum

producers to stay off-line for up to two years orface high power prices when new contractswent into effect on October 1, 2001. The BPAannounced that load reductions by utilities andindustries helped reduce the rate increase to 46percent (approximately $34/MWh) comparedto possible rate increases of 250 percent, andspot power rates that were several times that


223

Figure A2.8 Aluminum and copper prices Dollars per ton

Source: London Metal Exchange.

1,100

Jan. 1996 Jan. 1997 Jan. 1998

Copper

Aluminum

Jan. 1999 Jan. 2000 Jan. 2001

1,500

1,900

2,300

2,700

Figure A2.9 Aluminum and copper stocks Thousands of metric tons

Source: London Metal Exchange.

0

Jan. 1997Jan. 1996 Jan. 1998 Jan. 1999 Jan. 2000 Jan. 2001

Aluminum

Copper200

400

600

800

1,000

amount. As compensation for not taking powerand curtailing production, aluminum smelterswill receive an average rate of $20/MWh.

Despite production cutbacks, the globalmarket is expected to retain a small surplusthis year, before moving into a deficit in 2002,but this will partly depend on any structuralimpact to demand following the Septemberterrorist attacks. Prices are expected to re-cover during the next economic cycle, but reallong-term prices are expected to decline. Newlow-cost capacity is coming on-stream, butprofitable new investments will continue to re-quire low-cost power supplies.

CopperCopper prices declined 23 percent in the firstnine months of 2001, due to weak demandand rising stocks.

LME inventories have more than doubledthis year, and are only 13 percent below thehighs in early 2000. World consumption fell 2 percent during the first six months, due tothe slump in economic activity. In the UnitedStates, the construction sector has been buoy-ant, but weakness in the auto and technologysectors has resulted in total demand falling

9 percent. Demand has been weak elsewhere,with the notable exception of China, partlydue to its infrastructure programs. Mean-while, world production rose 4 percent in thefirst half of the year.

With recovery of demand in 2002, the mar-ket balance is expected to slip into deficit,since only moderate growth in production isexpected. Prices could rebound sharply as thenext cycle commences, which could also pro-vide upward momentum to other metals prices.In the longer term, increases in new low-costcapacity are expected, and real prices are ex-pected to decline.

NickelNickel prices have fallen 31 percent this yearbecause supply has significantly exceeded de-mand. LME inventories have risen by 73 per-cent, but are still quite low compared with lev-els in recent years (see table A2.9). Productionin the first seven months increased by 2.7 per-cent, with Canada, Colombia, and New Cale-donia recording large gains. However first-halfworld consumption dropped 10 percent, withdemand in Japan and the United States downsharply, while China provided the one bright


224

Figure A2.10 Metals and minerals prices Price index (1990 = 100)

Source: Platts and World Bank.

20

1960

Real

Nominal

1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015

40

60

80

100

120

140

160

Forecast

Table A2.9 Metals and minerals global balance(thousand tons)


1970 1980 1990 1998 1999 2000 1970–80 1980–90 1990–2000

AluminumProduction 10,257 16,027 19,362 22,648 23,705 24,495 3.2 1.9 2.2Consumption 9,996 14,771 19,244 21,842 23,505 24,905 3.2 1.8 2.2LME ending stocks n.a. 68 311 636 775 322 n.a. 0.3 0.4

CopperProduction 7,583 9,242 10,809 14,145 14,455 14,788 1.9 1.1 3.5Consumption 7,294 9,400 10,780 13,364 14,094 15,099 2.5 1.0 3.3LME ending stocks 72 123 179 592 790 357 7.4 5.6 15.7

NickelProduction 0 717 842 999 1,073 1,140 n.a. 1.6 3.1Consumption 0 742 858 1,042 1,028 1,107 n.a. 1.5 2.6LME ending stocks (tons) 2,130 4,554 4,344 65,964 46,962 9,678 n.a. 0.5 8.3

n.a. = not available.Source: World Bureau of Metal Statistics; London Metal Exchange and World Bank.

spot of growth. Stainless steel production hasdeclined owing to the slowdown in economicactivity, which lowered demand and prices fornickel (and zinc). The market is tilting into sur-plus, and a small surplus is expected to endurein 2002 and 2003 as production increases.

GoldGold was the one major metal to rise sharplyimmediately following the September terroristattacks. After averaging $267/toz this year,

prices surged toward $300/toz as some in-vestors turned to gold as a safe haven. Oncecalm returns to world markets, gold pricesshould revert toward previous levels, as golddemand will be adversely affected by higherprices and the slowing global economy. Golddemand has been sluggish this year, falling 3percent in the second quarter, in part becauseof the higher U.S. dollar gold price. CentralBank sales continue (see table A2.10), with the U.K. government about to complete its


225

Table A2.10 Gold global balance(tons)

Tons (percent p.a.)

1991 1994 1995 1996 1997 1998 1999 2000 1991–2000

Jewelry 2,358 2,618 2,791 2,851 3,349 3,156 3,149 3,185 3.4Other fabrication 518 457 503 484 560 569 595 564 0.9Bar hoarding 252 231 306 182 325 173 240 211 2.0Other n.a. n.a. 6 n.a. n.a. 208 170 n.a.Total demand 3,128 3,305 3,606 3,518 4,234 4,106 4,154 3,971 4.0Mine production 2,159 2,279 2,274 2,361 2,479 2,538 2,568 2,576 2.0Net official sales 111 81 173 279 626 374 464 471 17.4Old gold scrap 482 617 625 640 628 1,097 616 607 2.6Net hedging 66 163 535 142 504 97 506 n.a.Other 310 173 95 297 316 0.7Total supply 3,128 3,305 3,606 3,518 4,234 4,106 4,154 3,971 2.4

n.a. = not availableSource: Gold Field Minerals Service; and World Bank.

planned series of auctions of 395 tons in early2002. Gold prices are expected to remainunder $300/toz over the forecast period, gen-erally trading in a relatively narrow range. Ashas been the case for some time, higher priceswill stimulate new supplies, encourage pro-ducer sales, and lessen demand, while lowprices will reduce investment and encourageconsumption. Mine production is expected tocontinue to increase moderately, as new low-cost operations come on-stream. An importantdeterminant of prices will be the decision byCentral Banks whether to further stem officialgold sales when the Washington Agreement ex-pires in 2004.

Petroleum

Since the rebound in oil prices that began inearly 1999—propelled by a large cutback

in OPEC production and sharp decline in in-ventories (see figure A2.11)—prices have heldfirm primarily because of OPEC production re-straint. Ten OPEC countries (excluding Iraq,which remains outside the quota system whileunder U.N. sanctions) are taking pre-emptiveproduction decisions to keep prices within their

recently chosen band of $22–28 a barrel for itsbasket of crudes. Due to the seasonality of oildemand, OPEC must both raise and lower pro-duction during the year to stabilize prices (seefigure A2.12). With non-OPEC supply increas-ing, it will be more and more difficult to coun-terbalance the downward pressure on prices.

The terrorist attacks on the United States on September 11, 2001, have accentuated thispicture, while at the same time uncertainty isexceptionally large. Following the attacks, oilprices slumped below $23 a barrel due to ex-pectations of weak oil demand, little immediatethreat to oil supplies, and no action by OPEC toreduce production and prop up sagging prices.However should there be a significant supplydisruption—either from military attacks, sanc-tions, or reactions from oil producers (for in-stance, from Iraq)—oil prices could rise sharply.

OPEC announced immediately after the at-tacks that it would raise production if necessaryto help prevent oil prices from spiking higher.Given surplus capacity of around four millionbarrels a day, the organization could easilymake up for a loss of, say, Iraq’s exports ofaround two million barrels a day. At its meetingat end-September 2001, the organization de-


226

Figure A2.11 Oil price and OECD stocks Dollars a barrel Millions of barrels

Source: World Bank and International Energy Agency.

10

Jan. 1996 Jan. 1997

Price

Stocks

Jan. 1998 Jan. 1999 Jan. 2000 Jan. 2001

15

20

25

30

35

2,400

2,450

2,500

2,550

2,600

2,650

2,700

2,750

2,800

2,850

cided not to cut production, despite the fact thatoil prices were starting to fall below the lowerend of its range. The organization felt com-pelled not to raise prices at this time because ofthe impact on the weakening global economy,and to show support for the allied coalition.

In 2002, the requirements for OPEC oil areprojected to be lower than in 2001, due to min-imal growth in global oil demand and contin-ued rise in non-OPEC supplies. Consequently,OPEC will need to lower production to keepprices within its band. OPEC is expected tostrive to maintain prices within the lower endof its range. However, in the present politicaland economic environment, it is expected tofall short because of weak oil demand, higherinventories, and overproduction by some mem-ber countries.

Once some form of normalcy returns to thepolitical and economic climate, and a global re-covery commences, OPEC is expected to con-tinue its policy of adjusting output to keep in-ventories lean and to maintain prices within itsband. However, this requires OPEC to micro-manage the market and to anticipate seasonalchanges in demand for its crude. Given themany uncertainties affecting underlying levelsof oil demand and supply, its production deci-

sions may result in both the over- and under-shooting of prices.

In the longer term, if OPEC is successful inkeeping prices above $25 a barrel, the impact ondemand, and particularly on competing supplies,will increasingly exert downward pressure onprices. While higher prices in 1999–2000 wereachieved relatively easily with little apparent im-pact on demand, supply, and economic activity,long-term responses are likely to be much higherand could thwart part—and possibly much—ofthe growth in demand for OPEC crude.

To the degree that higher oil prices aredeemed to be temporary, there will be littlestructural change to oil demand. But if highprices are perceived to be “permanent,” it willaccelerate advances in conservation and sub-stitution away from oil. High prices have al-ready generated policy responses, such as thenew U.S. energy policy, and increasing envi-ronmental pressures will also tend to restrainoil consumption over time. High prices willalso stimulate development of conventionaland unconventional oil supplies, and make al-ternative energy supplies more competitive.There are no apparent resource constraints farinto the future, and oil consumption has onlyrisen moderately over the past 20 years (see


227

Figure A2.12 OPEC production and quotas Millions of barrels a day

Note: OPEC-10 excludes Iraq.Source: International Energy Agency.

22

Jan. 1996 Jan. 1997 Jan. 1998 Jan. 1999 Jan. 2000 Jan. 2001

24

26

28

30OPEC-10 quota OPEC-10 production OPEC production

Table A2.11 Petroleum global balance(million barrels per day)

Million barrels per day Annual growth rates (percent)

1970 1980 1990 2000 2001 2002 1970–80 1980–90 1990–2000

OECD 34.0 41.5 41.5 47.8 47.8 47.8 2.0 0.0 1.4FSU 5.0 8.9 8.4 3.6 3.7 3.7 5.9 0.6 8.1Other nonOECD 6.8 12.3 16.1 24.4 24.6 24.9 6.1 2.7 4.3Total consumption 45.7 62.6 66.0 75.9 76.1 76.4 3.2 0.5 1.4OPEC 23.5 27.2 24.5 30.8 30.3 29.3 1.5 1.0 2.3FSU 7.1 12.1 11.5 7.9 8.5 8.8 5.4 0.5 3.6Other nonOPEC 17.4 24.6 30.9 38.0 38.0 38.7 3.5 2.3 2.1Total production 48.0 63.9 66.9 76.7 76.8 76.8 2.9 0.5 1.4Stock change, misc. 2.3 1.3 0.9 0.8 0.7 0.4

Source: British Petroleum; International Energy Agency; and World Bank.

table A2.11). In addition, new areas continueto be developed (e.g., deep water offshore andthe Caspian Sea), development costs continueto fall (shifting supply curves outward), andthe large profits being generated will lead tohigher investment. In addition, OPEC coun-tries are increasing capacity, and will add tothe supply competition in the coming years.

Due to rising supply competition andbelow-trend oil demand growth, oil prices are

expected to decline from $25 a barrel in 2001to $21 a barrel in 2002, and fall below $20 abarrel by mid-decade (see figure A2.13). A riskto the forecast is if OPEC takes strong, con-certed action on production levels over thenext few years to keep prices at or above $25a barrel. If successful, it will add to the grow-ing pressures on world demand and competingsupplies, and prices would still be expected tofall below $20 a barrel by mid-decade.


228

Figure A2.13 Crude oil prices Dollars a barrel

Source: World Bank.

0

1960 1965 1970

Forecast

1990 dollars

1975 1980 2000 2005 2010 20151985 1990 1995

10

20

30

40

50


229

Table A2.12 Commodity prices and price projections in current dollars

Actual Projections

Commodity Unit 1970 1980 1990 2000 2001 2002 2003 2005 2010 2015

EnergyCoal, U.S. $/mt n.a. 43.10 41.67 33.06 44.00 38.00 36.00 34.00 35.00 36.00Crude oil, average $/bbl 1.21 36.87 22.88 28.23 25.00 21.00 20.00 18.00 19.00 21.00Natural gas, Europe $/mmbtu n.a. 3.40 2.55 3.86 4.00 3.30 3.10 2.75 2.75 3.00Natural gas, U.S. $/mmbtu 0.17 1.55 1.70 4.31 3.95 2.50 2.60 2.75 3.00 3.25

Nonenergy CommoditiesAgriculture

BeveragesCocoa cents/kg 67.5 260.4 126.7 90.6 105.0 110.0 120.0 140.0 157.0 168.0Coffee, other milds cents/kg 114.7 346.6 197.2 192.0 136.7 138.9 154.3 209.4 265.0 280.0Coffee, robusta cents/kg 91.4 324.3 118.2 91.3 61.7 63.9 70.6 88.2 132.0 142.6Tea, auctions (3) average cents/kg 83.5 165.9 205.8 187.6 162.0 160.0 168.0 180.0 182.0 184.0

FoodFats and oilsCoconut oil $/mt 397.2 673.8 336.5 450.3 315.0 365.0 430.0 600.0 645.0 670.0Copra $/mt 224.8 452.7 230.7 304.8 200.0 350.0 400.0 450.0 480.0 500.0Groundnut oil $/mt 378.6 858.8 963.7 713.7 675.0 725.0 775.0 820.0 850.0 875.0Palm oil $/mt 260.1 583.7 289.8 310.3 290.0 330.0 360.0 400.0 450.0 475.0Soybean meal $/mt 102.6 262.4 200.2 189.2 180.0 183.0 190.0 215.0 235.0 245.0Soybean oil $/mt 286.3 597.6 447.3 338.1 357.0 385.0 395.0 425.0 460.0 505.0Soybeans $/mt 116.9 296.2 246.8 211.8 200.0 205.0 210.0 235.0 260.0 270.0

GrainsMaize $/mt 58.4 125.3 109.3 88.5 90.0 96.0 108.0 122.0 125.0 130.0Rice, Thai, 5 percent $/mt 126.3 410.7 270.9 202.4 170.0 185.0 205.0 235.0 260.0 270.0Sorghum $/mt 51.8 128.9 103.9 88.0 95.0 91.8 103.3 116.6 119.5 123.5Wheat, U.S., HRW $/mt 54.9 172.7 135.5 114.1 125.0 130.0 138.0 150.0 155.0 160.0

Other foodBananas, U.S. $/mt 166.1 377.3 540.9 424.0 610.0 523.6 523.6 529.1 568.0 590.0Beef, U.S. cents/kg 130.4 276.0 256.3 193.2 207.0 202.8 202.8 213.9 220.0 230.0Oranges $/mt 168.0 400.2 531.1 363.2 630.0 625.0 550.0 450.0 475.0 500.0Shrimp, Mexican cents/kg n.a. 1,152 1,069 1,513 1,575 1,550 1,600 1,660 1,690 1,720Sugar, world cents/kg 8.2 63.16 27.67 18.04 18.80 16.75 18.70 22.00 24.00 26.00

Agricultural raw materialsTimberLogs, Cameroon $/cum 43.0 251.7 343.5 275.4 265.0 265.0 275.0 300.0 338.0 385.0Logs, Malaysia $/cum 43.1 195.5 177.2 190.0 162.0 162.0 190.0 232.0 260.0 295.0Sawnwood, Malaysia $/cum 175.0 396.0 533.0 594.7 485.0 485.0 570.0 650.0 720.0 820.0

Other raw materialsCotton cents/kg 67.6 206.2 181.9 130.2 105.8 102.1 114.6 132.3 149.9 159.6Rubber, RSS1, Malaysia cents/kg 40.7 142.5 86.5 69.1 61.7 63.9 72.8 77.2 88.0 95.1Tobacco $/mt 1,076 2,276 3,392 2,976 3,011 3,080 3,150 3,250 3,300 3,450

FertilizersDAP $/mt 54.0 222.2 171.4 154.2 147.0 155.0 165.0 180.0 190.0 200.0Phosphate rock $/mt 11.00 46.71 40.50 43.75 41.75 41.00 42.00 43.00 46.00 48.00Potassium chloride $/mt 32.0 115.7 98.1 122.5 119.0 120.0 121.5 125.0 127.0 130.0TSP $/mt 43.0 180.3 131.8 137.7 125.0 126.0 127.0 138.0 145.0 165.0Urea, E. Europe, bagged $/mt 48.0 222.1 130.7 112.1 105.3 110.0 120.0 140.0 145.0 150.0

Metals and mineralsAluminum $/mt 556 1,456 1,639 1,549 1,440 1,500 1,650 1,800 1,850 1,900Copper $/mt 1,416 2,182 2,661 1,813 1,575 1,625 1,800 2,000 2,100 2,200Gold $/toz 36.0 607.9 383.5 279.0 275.0 280.0 275.0 275.0 300.0 300.0Iron ore, Carajas cents/dmtu 9.84 28.09 32.50 28.79 30.03 30.50 31.00 32.00 33.00 33.00Lead cents/kg 30.3 90.6 81.1 45.4 47.0 50.0 55.0 60.0 64.0 64.5Nickel $/mt 2,846 6,519 8,864 8,638 5,900 6,100 6,200 6,400 6,500 6,600Silver cents/toz 177.0 2,064 482.0 499.9 450.0 475.0 500.0 520.0 550.0 550.0Tin cents/kg 367.3 1,677 608.5 543.6 440.0 465.0 485.0 525.0 540.0 550.0Zinc cents/kg 29.6 76.1 151.4 112.8 89.0 90.0 95.0 100.0 110.0 120.0

n.a. = Not available.Note: Projections as of October 12, 2001.Source: World Bank, Economic Policy and Prospects Group.


230

Table A2.13 Commodity prices and price projections in constant 1990 dollars

Actual Projections

Commodity Unit 1970 1980 1990 2000 2001 2002 2003 2005 2010 2015

EnergyCoal, U.S. $/mt n.a. 54.71 41.67 33.94 47.33 39.31 35.68 31.97 30.48 29.17Crude oil, average $/bbl 4.31 46.80 22.88 28.98 26.89 21.73 19.82 16.92 16.54 17.02Natural gas, Europe $/mmbtu n.a. 4.32 2.55 3.96 4.30 3.41 3.07 2.59 2.39 2.43Natural gas, U.S. $/mmbtu 0.61 1.97 1.70 4.42 4.25 2.59 2.58 2.59 2.61 2.63

Nonenergy CommoditiesAgriculture

BeveragesCocoa cents/kg 240.6 330.5 126.7 93.0 113.0 113.8 118.9 131.6 136.7 136.1Coffee, other milds cents/kg 408.8 440.0 197.2 197.1 147.0 143.7 153.0 196.9 230.8 226.9Coffee, robusta cents/kg 325.7 411.7 118.2 93.7 66.4 66.1 69.9 82.9 114.9 115.6Tea, auctions (3) average cents/kg 297.7 210.6 205.8 192.6 174.3 165.5 166.5 169.2 158.5 149.1

FoodFats and oilsCoconut oil $/mt 1416.0 855.3 336.5 462.3 338.9 377.6 426.2 564.1 561.7 542.9Copra $/mt 801.6 574.7 230.7 312.9 215.2 362.1 396.4 423.1 418.0 405.1Groundnut oil $/mt 1349.5 1090.1 963.7 732.6 726.1 750.1 768.1 771.0 740.2 709.0Palm oil $/mt 927.1 740.9 289.8 318.5 312.0 341.4 356.8 376.1 391.9 384.9Soybean meal $/mt 365.7 333.1 200.2 194.2 193.6 189.3 188.3 202.1 204.6 198.5Soybean oil $/mt 1020.8 758.6 447.3 347.1 384.0 398.3 391.5 399.6 400.6 409.2Soybeans $/mt 416.8 376.0 246.8 217.5 215.2 212.1 208.1 221.0 226.4 218.8

GrainsMaize $/mt 208.2 159.0 109.3 90.9 96.8 99.3 107.0 114.7 108.9 105.3Rice, Thai, 5 percent $/mt 450.3 521.4 270.9 207.8 182.9 191.4 203.2 221.0 226.4 218.8Sorghum $/mt 184.7 163.6 103.9 90.3 102.2 95.0 102.3 109.7 104.1 100.1Wheat, U.S., HRW $/mt 195.7 219.3 135.5 117.1 134.5 134.5 136.8 141.0 135.0 129.6

Other foodBananas, U.S. $/mt 592.1 478.9 540.9 435.3 656.2 541.7 518.9 497.5 494.6 478.0Beef, U.S. cents/kg 465.0 350.3 256.3 198.4 222.7 209.8 201.0 201.1 191.6 186.4Oranges $/mt 599.1 508.0 531.1 372.9 677.7 646.6 545.1 423.1 413.6 405.1Shrimp, Mexican cents/kg n.a. 1,462 1,069 1,553 1,694 1,604 1,586 1,561 1,472 1,394Sugar, world cents/kg 29.32 80.17 27.67 18.5 20.2 17.3 18.5 20.7 20.9 21.1

Agricultural raw materialsTimberLogs, Cameroon $/cum 153.3 319.5 343.5 282.8 285.1 274.2 272.6 282.1 294.3 311.9Logs, Malaysia $/cum 153.8 248.2 177.2 195.0 174.3 167.6 188.3 218.1 226.4 239.0Sawnwood, Malaysia $/cum 623.9 502.7 533.0 610.5 521.7 501.8 564.9 611.1 627.0 664.4

Other raw materialsCotton cents/kg 241.1 261.7 181.9 133.7 113.8 105.6 113.6 124.4 130.5 129.3Rubber, RSS1, Malaysia cents/kg 145.2 180.8 86.5 71.0 66.4 66.1 72.1 72.6 76.6 77.0Tobacco $/mt 3,836 2,889 3,392 3,055 3,239 3,186 3,122 3,056 2,874 2,795

FertilizersDAP $/mt 192.5 282.1 171.4 158.3 158.1 160.4 163.5 169.2 165.5 162.1Phosphate rock $/mt 39.2 59.3 40.5 44.9 44.9 42.4 41.6 40.4 40.1 38.9Potassium chloride $/mt 114.1 146.9 98.1 125.8 128.0 124.2 120.4 117.5 110.6 105.3TSP $/mt 153.3 228.8 131.8 141.4 134.5 130.4 125.9 129.8 126.3 133.7Urea, E. Europe, bagged $/mt 171.1 282.0 130.7 115.1 113.3 113.8 118.9 131.6 126.3 121.5

Metals and mineralsAluminum $/mt 1,982 1,848 1,639 1,590 1,549 1,552 1,635 1,692 1,611 1,539Copper $/mt 5,047 2,770 2,661 1,862 1,694 1,681 1,784 1,880 1,829 1,783Gold $/toz 128.1 771.6 383.5 286.5 295.8 284.5 272.6 258.6 261.2 243.1Iron ore cents/dmtu 35.1 35.7 32.5 29.6 32.3 31.6 30.7 30.1 28.7 26.7Lead cents/kg 108.0 115.0 81.1 46.6 50.6 51.7 54.5 56.4 55.7 52.3Nickel $/mt 10,147 8,275 8,864 8,867 6,347 6,311 6,145 6,017 5,660 5,348Silver cents/toz 631.0 2619.4 482.0 513.2 484.1 491.4 495.5 488.9 478.9 445.6Tin cents/kg 1309.6 2129.3 608.5 558.0 473.3 481.1 480.7 493.6 470.2 445.6Zinc cents/kg 105.5 96.6 151.4 115.8 95.7 93.1 94.2 94.0 95.8 97.2

n.a. = Not available.Note: Projections as of October 12, 2001.Source: World Bank, Economic Policy and Prospects Group.


231

Table A2.14 Weighted indices of commodity prices and inflation

Actual Projectionsa

Index 1970 1980 1990 2000 2001 2002 2003 2005 2010 2015

Current dollarsPetroleum 5.3 161.2 100.0 123.4 109.3 91.8 87.4 78.7 83.0 91.8Nonenergy commoditiesb 43.8 125.5 100.0 86.9 79.1 80.4 86.9 97.4 106.8 109.5

Agriculture 45.8 138.1 100.0 87.7 80.1 80.9 88.0 100.3 112.3 114.8Beverages 56.9 181.4 100.0 88.4 71.8 73.4 80.5 101.4 123.6 130.8Food 46.7 139.3 100.0 84.5 86.5 87.2 91.6 100.4 107.4 100.4

Fats and oils 64.4 148.7 100.0 96.2 89.5 95.2 100.9 115.1 126.6 132.8Grains 46.7 134.3 100.0 79.5 77.4 82.0 90.0 101.0 106.7 110.6Other food 32.2 134.3 100.0 77.7 89.1 83.7 84.8 88.0 92.0 68.1

Raw materials 36.4 104.6 100.0 91.4 78.1 78.4 89.1 99.6 110.4 121.7Timber 31.8 79.0 100.0 111.0 91.0 91.0 107.0 123.1 136.6 155.5Other raw materials 39.6 122.0 100.0 78.0 69.3 69.8 76.8 83.5 92.5 98.6

Fertilizers 30.4 128.9 100.0 105.8 97.9 97.7 99.0 105.2 111.3 122.7Metals and minerals 40.4 94.2 100.0 83.0 74.9 77.3 82.9 89.3 92.6 95.2

Constant 1990 dollarsc

Petroleum 18.9 204.6 100.0 126.7 117.5 95.0 86.6 74.0 72.3 74.4Nonenergy commodities 156.3 159.3 100.0 89.2 85.1 83.1 86.1 91.5 93.0 88.7

Agriculture 163.3 175.3 100.0 90.0 86.2 83.7 87.3 94.3 97.8 93.1Beverages 202.8 230.3 100.0 90.7 77.2 75.9 79.8 95.3 107.7 106.0Food 166.5 176.8 100.0 86.7 93.0 90.2 90.8 94.4 93.5 81.3

Fats and oils 229.5 188.7 100.0 98.8 96.2 98.5 100.0 108.2 110.3 107.6Grains 166.6 170.5 100.0 81.6 83.3 84.8 89.2 94.9 92.9 89.6Other food 114.9 170.5 100.0 79.8 95.9 86.5 84.0 82.7 80.1 55.2

Raw materials 129.8 132.7 100.0 93.8 84.1 81.1 88.3 93.6 96.1 98.6Timber 113.3 100.3 100.0 113.9 97.9 94.2 106.0 115.7 118.9 126.0Other raw materials 141.1 154.9 100.0 80.0 74.6 72.2 76.2 78.5 80.5 79.9

Fertilizers 108.3 163.6 100.0 108.6 105.3 101.0 98.2 98.9 96.9 99.4Metals and minerals 143.9 119.6 100.0 85.2 80.5 80.0 82.1 84.0 80.7 77.1

Inflation indices, 1990=100d

MUV indexe 28.05 78.78 100.00 97.41 92.96 96.66 100.90 106.36 114.84 123.42Percent change per annum 10.88 2.41 –0.26 –4.56 3.98 4.38 2.67 1.55 1.45

U.S. GDP deflator 33.59 65.93 100.00 123.73 126.58 128.86 131.43 137.28 153.06 170.65Percent change per annum 6.98 4.25 2.15 2.30 1.80 2.00 2.20 2.20 2.20

a. Commodity price projections as of October 12, 2001.b. The World Bank primary commodity price indices are computed based on 1987–89 export values in U.S. dollars for low and middle-incomeeconomies, rebased to 1990. Weights for the subgroup indices expressed as ratios to the nonenergy index are as follows in percent: agriculture 69.1, fer-tilizers 2.7, metals and minerals 28.2; beverages 16.9, food 29.4, raw materials 22.8; fats and oils 10.1, grains 6.9, other food 12.4; timber 9.3, andother raw materials 13.6.c. Computed from unrounded data and deflated by the MUV index.d. Inflation indices for 2001–10 are projections as of October 3, 2001. MUV for 2000 is an estimate. Growth rates for years 1980, 1990, 2000, 2005,2010, and 2015 refer to compound annual rate of change between adjacent end-point years; all others are annual growth rates from the previous year.e. Unit value index in U.S. dollar terms of manufactures exported from the G-5 countries (France, Germany, Japan, the United Kingdom, and the UnitedStates) weighted proportionally to the countries’ exports to the developing countries.Source: World Bank, Economic Policy and Prospects Group; Historical U.S. GDP deflator; U.S. Department of Commerce.

Appendix 3Global Economic Indicators

Table A3.1 Growth of real GDP, 1971–2010(GDP in 1995 prices and exchange rates—average annual percentage growth)

2000 GDP(current

billions of Estimate ForecastU.S. dollars) 1971–80 1981–90 1991–00 2000 2001 2001–2010

World 31,981 3.8 3.2 2.6 3.8 1.3 2.9

High-income economies 25,599 3.4 3.1 2.4 3.4 0.9 2.5Industrial 24,811 3.4 3.0 2.4 3.3 0.9 2.4

G-7 21,028 3.4 3.1 2.3 3.2 0.7 2.4United States 9,873 3.1 3.2 3.2 4.1 1.1 2.7Japan 4,752 4.5 4.0 1.4 1.5 –0.8 2.0G-4 Europe 5,693 2.9 2.4 1.8 3.1 1.4 2.3

Germanya 1,872 2.7 2.2 1.8 3.1 0.6 1.9Euro Area 6,077 3.3 2.5 2.1 3.5 1.5 2.4Non-G7 Industrial 3,783 3.2 2.7 2.8 3.9 1.9 2.8

Other high-income 788 7.7 5.2 5.2 6.3 0.6 3.9Asian NIEs 571 9.5 7.4 6.1 7.8 0.4 4.2

Low- and middle-income economies 6,401 5.4 3.5 3.2 5.5 2.9 4.5Excluding ECA 5,365 5.5 3.5 4.8 5.3 3.1 4.7

Asia 2,595 5.4 7.2 6.8 6.9 4.6 5.8East Asia and Pacific 1,982 6.6 7.8 7.2 7.5 4.6 6.0

China 1,080 5.3 9.2 10.1 8.0 7.2 ...Korea, Rep. of 457 7.6 9.1 6.1 8.8 2.5 ...Indonesia 153 7.9 6.4 4.2 5.2 3.6 ...

South Asia 612 3.1 5.8 5.2 4.9 4.5 5.3India 479 3.0 5.9 5.6 5.2 4.5 ...

Latin America and the Caribbean 1,949 5.9 1.1 3.3 3.8 0.9 3.5Brazil 588 8.5 1.5 2.7 4.4 1.4 ...Mexico 584 6.7 1.8 3.5 6.9 0.6 ...Argentina 285 3.0 –1.5 4.6 –0.5 –1.9 ...

Europe and Central Asia 993 5.2 3.5 –2.3 6.3 2.1 3.4Russian Federationb 247 5.2 4.7 –5.2 8.3 4.7 ...Turkey 200 4.2 5.2 3.6 7.1 –7.4 ...Poland 158 5.0 –0.1 3.7 4.2 1.4 ...

Middle East and North Africa 549 6.6 2.4 3.2 3.9 3.4 3.3Saudi Arabia 149 10.3 0.4 2.3 4.0 1.5 ...Iran, Islamic Rep. 134 1.8 2.7 4.1 5.2 4.1 ...Egypt, Arab Rep. 96 6.6 5.5 4.4 5.1 4.3 ...

Sub-Saharan Africa 315 3.3 1.7 2.2 3.0 2.7 3.6Republic of South Africa 126 3.5 1.3 1.7 3.1 2.4 ...Nigeria 41 4.7 1.1 2.5 2.8 3.1 ...

a. Data prior to 1991 covers West Germany.b. Data prior to 1992 covers the former Soviet Union.Note: This table comprises a sample of 145 countries representing 99 percent of world GDP.Source: World Bank data and staff estimates.


234

Figure A3.1 Real GDP growth, 1991–2010Percent

High-incomeeconomies

Middle Eastand North

Africa


South Asia Latin Americaand the

Caribbean


Sub-SaharanAfrica

–4.0

–2.0

0.0

2.0

4.0

6.0

8.0

1991–2000

2001–2010

Table A3.2 Growth of real per capita GDP, 1971–2010(GDP in 1995 prices and exchange rates—average annual percentage growth)

2000 GDPper capita(current Estimate Forecast

U.S. dollars) 1971–80 1981–90 1991–00 2000 2001 2001–2010

World 5,530 1.9 1.4 1.2 2.4 0.0 1.8

High-income economies 28,751 2.6 2.4 1.8 2.8 0.5 2.2Industrial 29,395 2.6 2.5 1.8 2.8 0.5 2.2

G-7 30,421 2.6 2.5 1.7 2.7 0.3 2.1United States 35,840 2.1 2.2 2.2 3.2 0.3 2.0Japan 37,520 3.3 3.4 1.1 1.5 –0.9 2.0G-4 Europe 22,048 2.6 2.1 1.5 3.0 1.3 2.3

Germanya 22,821 2.6 2.1 1.5 3.1 0.7 2.1Euro Area 20,084 2.8 2.2 1.8 3.3 1.4 2.5Non-G7 Industrial 24,754 2.4 2.1 2.3 3.5 1.6 2.7

Other high-income 17,010 5.2 3.4 3.7 4.7 –0.7 2.8Asian NIEs 17,595 7.2 5.9 4.7 6.4 –0.7 3.4

Low- and middle-income economies 1,301 3.2 1.5 1.6 4.0 1.5 3.2Excluding ECA 1,211 3.2 1.4 3.1 3.6 1.5 3.3

Asia 861 3.2 5.3 5.2 5.4 3.2 4.7East Asia and Pacific 1,175 4.5 6.1 6.0 6.4 3.6 5.1

China 857 3.4 7.6 9.0 7.0 6.4 ...Korea, Rep. of 9,684 5.7 7.8 5.1 7.9 1.7 ...Indonesia 729 5.4 4.4 2.5 3.5 2.1 ...

South Asia 461 0.6 3.5 3.3 3.0 2.8 3.8India 472 0.7 3.6 3.7 3.3 2.8 ...

Latin America and the Caribbean 3,889 3.4 –0.9 1.6 2.2 –0.7 2.1Brazil 3,450 5.9 –0.4 1.3 3.0 0.2 ...Mexico 5,900 3.6 –0.3 1.7 5.2 –1.3 ...Argentina 7,703 1.3 –2.9 3.2 –1.7 –3.2 ...

Europe and Central Asia 2,174 4.1 2.6 –2.5 6.1 1.9 3.3Russian Federationb 1,693 4.2 3.8 –5.2 8.6 5.0 ...Turkey 3,062 1.8 2.8 2.0 5.5 –8.7 ...Poland 4,071 4.1 –0.8 3.5 4.1 1.4 ...

Middle East and North Africa 1,948 3.6 –0.6 1.0 1.9 1.5 1.4Saudi Arabia 6,714 5.1 –4.8 –1.1 0.7 –1.5 ...Iran, Islamic Rep. 1,415 –1.4 –0.7 2.4 3.5 2.5 ...Egypt, Arab Rep. 1,508 4.4 2.9 2.4 3.5 2.7 ...

Sub-Saharan Africa 484 0.5 –1.2 –0.4 0.5 0.3 1.3Republic of South Africa 2,942 1.2 –1.2 –0.3 1.4 1.0 ...Nigeria 325 1.7 –1.9 –0.3 0.4 0.3 ...


G L O B A L E C O N O M I C I N D I C A T O R S

235

Figure A3.2 Real per-capita GDP growth, 1991–2010Percent



Africa



Caribbean


Sub-SaharanAfrica

–4.0

–2.0

0.0

2.0

4.0

6.0

1991–2000

2001–2010

Table A3.3 Inflation: GDP deflators, 1971–2010(percentage changea)

Estimate Forecast1971–80 1981–90 1991–00 2000 2001 2001–2010

World 9.0 5.8 4.1 2.2 2.8 1.9

High-income economies 8.8 5.2 2.3 1.2 1.7 1.2Industrial 8.6 4.6 1.9 1.2 1.8 1.1

G-7 8.3 4.2 1.8 0.8 1.5 1.1United States 7.1 4.2 2.2 2.3 2.7 1.8Japan 7.8 1.9 0.1 –1.7 –0.6 –0.4G-4 Europe 9.7 5.7 2.7 0.7 1.5 1.4

Germanyb 5.3 2.8 2.9 –0.4 1.0 2.4Euro Area 9.4 6.0 2.9 1.2 1.8 1.2Non-G7 Industrial 10.4 6.9 2.8 3.1 2.9 0.8

Other high-income 19.3 32.1 15.7 –0.2 1.3 3.1Asian NIEs 9.5 4.7 2.4 –2.0 1.2 3.0

Low- and middle-income economies 9.8 8.3 11.8 6.4 6.7 4.6Excluding ECA 11.5 9.8 8.9 5.8 6.4 4.5

Asia 11.0 7.0 7.0 4.8 7.0 5.0East Asia and Pacific 11.0 5.6 5.4 3.4 7.1 4.5

China 1.8 5.5 6.3 1.0 5.1 ...Korea, Rep. of 20.8 7.1 4.8 –1.5 11.7 ...Indonesia 20.6 8.8 15.0 9.4 10.5 ...

South Asia 11.9 8.9 8.1 5.8 6.1 6.6India 8.9 8.3 8.4 6.9 3.3 ...

Latin America and the Caribbean 14.6 19.3 12.6 6.9 7.9 6.4Brazil 39.7 330.8 205.6 7.2 11.1 ...Mexico 18.1 63.7 18.1 11.8 10.9 ...Argentina 117.7 439.5 10.2 1.1 –0.5 ...

Europe and Central Asia 0.3 2.4 347.1 7.5 7.5 4.9Russian Federationc 0.3 2.3 179.1 41.1 18.1 ...Turkey 32.6 46.3 72.1 53.3 53.2 ...Poland 4.5 72.5 23.5 7.6 7.7 ...

Middle East and North Africa 11.8 7.7 5.2 3.4 4.5 4.1Saudi Arabia 23.8 –3.1 1.2 2.5 4.5 ...Iran, Islamic Rep. 20.2 15.6 25.6 22.5 20.7 ...Egypt, Arab Rep. 11.0 13.1 8.4 4.0 5.0 ...

Sub-Saharan Africa 10.3 9.4 9.7 6.3 6.0 4.4Republic of South Africa 13.3 15.1 9.9 6.9 6.9 ...Nigeria 13.4 16.6 28.8 26.1 18.5 ...

Note: Deflators are in local currency units: 1995=100.a. High-income group inlation rates are GDP-weighted averages of local currency inflation. Low- and middle-income groups aremedians. World is GDP-weighted average of the two groups.b. Data prior to 1991 covers West Germany.c. Data prior to 1992 covers the former Soviet Union.Note: This table comprises a sample of 145 countries representing 99 percent of world GDP.Source: World Bank data and staff estimates.


236

Figure A3.3 GDP inflation, 1991–2010Percent



Africa



Caribbean


Sub-SaharanAfrica

0.0

5.0

10.0

15.0

20.0

25.0

1991–2000

2001–2010

Table A3.4 Current account balances, 1971–2010(percentage of GDP)

2000 currentaccount

(billions of Estimate ForecastU.S. dollars) 1971–80 1981–90 1991–00 2000 2001 2001–2010

World –197 –0.2 –0.6 –0.3 –0.6 –0.7 –0.8

High-income economies –276 0.0 –0.3 –0.1 –1.1 –0.9 –0.6Industrial –328 –0.2 –0.5 –0.2 –1.3 –1.0 –0.6

G-7 –335 –0.1 –0.4 –0.3 –1.6 –1.3 –0.9United States –445 0.0 –1.9 –1.9 –4.5 –3.9 –2.3Japan 117 0.2 2.3 2.4 2.5 2.2 2.1G-4 Europe –25 0.1 0.3 0.0 –0.4 0.1 –0.7Germanya –21 0.5 2.6 –0.7 –1.1 0.1 –1.0

Euro Area –10 –0.1 0.3 0.3 –0.2 0.3 –0.1Non-G7 Industrial 7 –1.1 –0.8 0.3 0.2 0.7 0.7

Other high-income 52 5.9 3.9 3.2 6.6 4.1 1.2Asian NIEs 35 1.2 0.4 4.2 6.1 4.8 3.9

Low- and middle-income economies 79 –0.5 –1.2 –1.2 1.2 0.1 –1.3Excluding ECA 60 –0.5 –1.7 –1.4 1.1 –0.1 –1.4

Asia 64 –1.1 –1.3 0.0 2.5 0.9 –0.5East Asia and Pacific 73 –1.4 –1.0 0.5 3.3 1.4 –0.4

China 21 0.1 0.2 1.5 1.3 0.2 ...Korea, Rep. of 11 –6.9 0.7 0.9 2.4 1.2 ...Indonesia 8 –2.3 –3.1 –0.4 5.5 1.0 ...

South Asia –2 –0.5 –2.0 –1.4 –0.3 –0.5 –0.7India –1 0.2 –1.7 –1.1 –0.2 –0.6 ...

Latin America and the Caribbean –47 –2.8 –1.7 –2.8 –2.4 –2.8 –2.9Brazil –25 –4.3 –1.6 –2.2 –4.2 –4.8 ...Mexico –17 –4.0 –0.6 –3.7 –3.0 –2.8 ...Argentina –10 –0.4 –2.1 –3.2 –3.5 –2.9 ...

Europe and Central Asia 19 –0.6 –0.2 –0.5 1.9 1.2 –1.2Russian Federationb 46 2.1 3.5 4.7 18.7 10.5 ...Turkey –10 –2.1 –1.4 –1.1 –4.9 3.0 ...Poland –10 –3.0 –6.5 –2.8 –6.3 –5.1 ...

Middle East and North Africa 41 7.4 –1.6 –1.9 8.1 4.7 –1.1Saudi Arabia 25 21.7 –7.2 –5.8 16.6 9.2 ...Iran, Islamic Rep. 9 6.7 –0.4 0.8 10.1 7.6 ...Egypt, Arab Rep. –1 –5.2 –3.4 1.5 –1.2 –0.2 ...

Sub-Saharan Africa –5 –1.7 –2.6 –2.1 –1.5 –1.0 –1.8Republic of South Africa –1 –1.1 0.6 –0.2 –0.4 0.4 ...Nigeria 2 1.6 –0.7 1.0 4.6 5.2 ...



237

Figure A3.4 Ratio of current account balance to GDP, 1991–2010Percent



Africa



Caribbean


Sub-SaharanAfrica

–4.0

–3.0

–2.0

–1.0

0.0

1.0

2.0

1991–2000

2001–2010


238

Merchandise Average Effectiveexports annual market(US$ growth growth

millions) 1990–99 1990–99a

World 5,587,318 5.9 7.0

All developing ctrys. 1,374,752 7.1 7.0

Asia 621,080 12.0 7.5

East Asia and Pacific 564,636 12.3 7.6

China 194,931 16.0 7.4Fiji 538 4.0 6.2Indonesia 48,666 8.4 7.1Korea, Rep. 143,537 12.3 8.5Malaysia 84,052 10.8 7.3Myanmar 1,125 15.5 8.0Papua New Guinea 1,927 4.2 6.4

Philippines 34,210 12.4 7.3Thailand 56,775 9.1 7.3Vietnam 8,779 23.4 7.0

South Asia 56,444 9.2 6.7Bangladesh 5,458 14.6 6.6India 37,528 9.8 6.7Nepal 709 13.7 7.1Pakistan 8,164 4.8 6.9Sri Lanka 4,586 9.0 6.6

Latin America and the Caribbean 302,952 5.5 8.1

Argentina 23,333 5.8 8.1Bolivia 1,051 4.4 9.3Brazil 48,011 0.1 8.5Chile 15,555 3.8 7.8Colombia 12,030 4.4 7.8Costa Rica 6,668 12.9 7.6Dominican Rep. 5,137 14.6 7.9Ecuador 4,451 5.6 8.0El Salvador 2,500 11.3 8.9Guatemala 2,781 6.2 8.8Jamaica 1,490 1.5 6.8Mexico 136,392 12.0 7.9Panama 5,300 6.1 8.1Paraguay 2,707 4.4 10.3Peru 6,112 0.7 7.4Trinidad and Tobago 2,402 4.8 8.1

Latin America and the Caribbean (continued)

Uruguay 2,304 –0.9 10.5Venezuela 20,819 4.6 8.5

Europe andCentral Asia 253,930 2.6 4.9

Armenia 247 –1.5 1.8Azerbaijan 1,025 5.6 2.1Belarus 5,646 3.1 0.2Bulgaria 4,006 –10.0 5.3Czech Rep. 26,242 8.6 6.8Estonia 2,453 11.3 2.5Georgia 330 9.0 2.6Hungary 21,846 4.0 5.4Kazakhstan 5,989 1.9 1.3Kyrgyz Rep. 463 9.0 –0.1Lativia 1,889 6.8 2.2Lithuania 3,147 3.1 2.7Moldova 469 –4.9 –0.5Poland 26,347 7.5 5.5Romania 8,503 –1.9 6.2Russian Federation 75,900 –1.5 5.2

Slovak Rep. 10,201 5.4 6.5Tajikistan 689 –1.4 3.8TFYR Macedonia 1,192 –2.0 5.5

Turkmenistan 1,223 –5.1 4.1Turkey 29,326 9.1 5.3Ukraine 13,189 4.2 2.0Uzbekistan 1,976 0.9 2.1

Middle East and North Africa 115,635 3.9 6.7

Algeria 11,514 1.3 6.5Bahrain 4,140 2.7 6.5Egypt, Arab Rep. 5,236 4.9 6.3

Iran, Islamic Rep. 15,271 2.0 6.3

Iraq 10,838 5.5Jordan 1,832 8.4 6.2Morocco 7,509 5.2 5.9Oman 7,218 5.8 7.6Saudi Arabia 50,757 5.6 7.0Syrian Arab Rep. 3,806 2.9 5.1

Middle East and North Africa (continued)

Tunisia 5,873 2.4 5.5Yemen, Rep. 2,478 –3.5 8.1

Sub-Saharan Africa 81,154 2.7 6.6

Angola 5,009 5.2 7.7Botswana 2,671 2.2 0.0Cameroon 1,675 –1.0 6.8Cote d’Ivoire 4,104 5.5 6.5Ethiopia 467 3.6 6.7Gabon 3,459 6.3 7.4Ghana 2,117 11.2 6.5Kenya 1,740 6.9 5.3Madagascar 507 4.6 5.7Nigeria 12,876 5.0 7.2Senegal 1,027 2.2 5.9South Africa 28,624 1.0 6.4Sudan 780 5.9 6.1Zambia 864 –2.2 5.4Zimbabwe 1,879 4.4 5.6

High-income economies 4,221,189 5.6 7.0

Industrial 3,735,447 5.5 6.9

G-7 2,726,116 5.5 7.2Canada 245,832 7.6 7.7France 334,103 6.0 6.4Germany 544,281 5.7 6.2Italy 232,082 3.5 6.7Japan 402,647 2.7 8.4United Kingdom 268,921 5.3 6.6

United States 698,250 7.4 7.6

Other industrial 1,009,331 5.7 6.2

Australia 56,048 6.3 6.8Austria 64,424 6.7 6.3Belgiumb 154,069 5.1 6.3Denmark 49,823 2.7 6.5Finland 41,983 5.0 5.7Greece 5,249 –2.8 5.7Iceland 2,009 0.9 5.9

Table A3.5 Exports of goods, 1999(percent)


millions) 1990–99 1990–99a


millions) 1990–99 1990–99a


239


millions) 1990–99 1990–99a

Other industrial (continued)Ireland 71,375 11.4 5.9Netherlands 199,026 6.5 6.0New Zealand 12,594 2.7 6.6Norway 45,651 4.2 6.0Spain 113,490 8.7 6.3Sweden 84,849 6.0 5.9Switzerland 83,320 2.3 6.6

Other high-income 485,742 6.2 8.1

Brunei 2,552 1.6 6.3Hong Kong, China 173,865 8.3 8.6

Israel 25,564 6.8 6.8

Other high-income (continued)Kuwait 12,276 0.5 7.1Singapore 115,639 5.7 8.4Taiwan, China 121,129 5.3 7.8United Arab Emirates 27,645 4.7 5.7

Table A3.5 Exports of goods, 1999 (continued)(percent)


millions) 1990–99 1990–99a


millions) 1990–99 1990–99a

.. Not availablea. Effective market growth is a weighted average of import volume growth in the country’s export markets.b. Includes LuxembourgSource: See technical notes.

Figure A3.5a Merchandise exports as a share of GDP, 1999Percent

Industrialeconomies


Africa



Caribbean


Sub-SaharanAfrica

0.0

10.0

20.0

30.0

40.0

World

Figure A3.5b Average annual growth rate of export volumes, 1990–99Percent

Industrialeconomies


Africa



Caribbean


Sub-SaharanAfrica

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

World


240

Merchandise Average Merchan-imports annual dise

(US$ growth Imports/millions) 1990–99 GDP

World 5,604,722 6.2 18.1

All developing ctrys. 1,270,637 6.2 19.7

Asia 521,113 8.2 19.0

East Asia and Pacific 451,721 8.6 20.8

China 165,699 10.5 16.7Fiji 653 2.1 37.9Indonesia 24,003 5.0 16.8Korea, Rep. 119,631 8.1 29.5Malaysia 61,404 9.7 77.7Myanmar 2,160 19.6 6.2Papua New Guinea 1,071 –3.1 29.9

Philippines 29,252 9.4 38.4Thailand 47,847 4.8 39.2Vietnam 12,383 16.0 42.0

South Asia 69,392 5.5 12.1Bangladesh 7,420 7.2 16.1India 45,556 6.0 10.2Nepal 1,590 8.9 34.6Pakistan 9,533 1.2 16.4Sri Lanka 5,293 8.6 33.7

Latin America and the Caribbean 310,945 10.8 14.8

Argentina 24,103 18.1 8.5Bolivia 1,539 5.6 18.5Brazil 49,272 9.3 9.3Chile 13,951 6.4 20.6Colombia 10,254 7.4 11.8Costa Rica 6,008 13.3 38.6Dominican Rep. 8,041 14.6 46.2Ecuador 2,786 3.6 14.7El Salvador 3,859 11.2 31.0Guatemala 4,226 9.9 23.2Jamaica 2,628 4.4 39.3Mexico 141,973 14.5 18.9Panama 6,715 7.8 70.3Paraguay 3,041 9.8 39.3Peru 6,729 9.9 13.0Trinidad and Tobago 2,558 9.5 32.7

Latin America and the Caribbean (continued)

Uruguay 3,173 8.8 15.3Venezuela 13,213 4.7 12.8

Europe and Central Asia 265,272 2.5 30.6

Armenia 721 0.1 39.1Azerbaijan 1,433 3.9 31.8Belarus 6,216 –0.6 22.6Bulgaria 5,087 –7.3 42.0Czech Rep. 28,073 7.3 52.9Estonia 3,331 2.4 64.9Georgia 863 10.2 31.7Hungary 24,037 7.8 49.8Kazakhstan 5,645 –3.1 33.5Kyrgyz Rep. 547 –1.6 43.8Lativia 2,916 3.0 43.8Lithuania 4,551 1.6 42.7Moldova 597 –3.7 50.9Poland 40,727 11.9 26.2Romania 9,595 0.3 27.3Russian Federation 39,600 –5.0 21.0

Slovak Rep. 11,310 8.9 57.6Tajikistan 663 –2.5 61.2TFYR Macedonia 1,602 3.0 46.4

Turkmenistan 1,210 0.3 36.6Turkey 39,773 9.9 22.6Ukraine 12,945 –4.3 42.1Uzbekistan 2,621 –3.8 14.2

Middle East and North Africa 96,853 1.8 19.4Algeria 8,746 –1.0 18.3Bahrain 3,468 1.4 51.0Egypt, Arab Rep. 15,165 4.0 17.0

Iran, Islamic Rep. 12,483 –2.4 11.3

Iraq 5,516 21.7 19.9Jordan 3,292 4.6 40.8Morocco 9,957 5.6 28.4Oman 4,300 5.2 22.0Saudi Arabia 25,717 1.8 18.5Syrian Arab Rep. 3,590 5.6 22.5

Middle East and North Africa (continued)Tunisia 8,014 5.2 38.3Yemen, Rep. 2,120 –4.9 31.3

Sub-Saharan Africa 76,453 3.5 24.3

Angola 2,167 3.3 35.0Botswana 1,996 2.9 39.5Cameroon 1,218 –0.1 13.3Côte d’Ivoire 2,513 2.1 22.4Ethiopia 1,387 4.5 21.5Gabon 1,514 5.9 34.8Ghana 3,228 10.9 41.5Kenya 2,570 1.5 24.1Madagascar 518 4.0 13.9Nigeria 8,588 7.2 24.5Senegal 1,373 1.9 28.9South Africa 24,474 2.5 18.8Sudan 1,256 1.8 12.9Zambia 756 –1.4 24.4Zimbabwe 1,712 1.3 30.5

High-income economies 4,334,085 6.2 17.7

Industrial 3,856,210 6.0 16.3

G-7 2,866,532 6.2 13.9Canada 219,994 6.4 33.5France 304,819 4.7 21.2Germany 485,257 6.9 23.0Italy 218,111 4.0 18.2Japan 280,190 4.9 6.2United Kingdom 311,261 4.8 21.6United States 1,046,900 7.8 11.3

Other industrial 989,677 5.4 29.2

Australia 65,828 5.5 16.6Austria 67,749 6.8 32.3Belgiuma 146,814 4.5 66.2Denmark 43,135 3.7 24.5Finland 29,815 1.0 23.1Greece 21,700 3.4 17.3Iceland 2,317 4.7 26.3Ireland 47,252 9.0 50.6

Table A3.6 Imports of goods, 1999(percent)





Other high-income (continued)

Singapore 104,337 7.3 122.8Taiwan, China 110,585 8.6 38.5

United Arab Emirates 33,239 12.0 68.7

Other high-income 477,875 8.2 64.7

Brunei 1,328 2.2 48.4Hong Kong, China 179,861 9.2 113.7

Israel 29,972 7.1 29.7Kuwait 6,705 –0.7 22.6

Other industrial(continued) 989,677 5.4 29.2

Netherlands 181,152 7.0 45.5New Zealand 13,029 4.4 23.8Norway 35,532 2.6 23.3Spain 144,882 7.7 23.7Sweden 67,658 4.0 28.1Switzerland 83,602 3.8 32.3


241

Table A3.6 Imports of goods, 1999 (continued)(percent)







.. Not availablea. Includes LuxembourgSource: See technical notes.

Figure A3.6a Merchandise imports as a share of GDP, 1999Percent

Industrialeconomies


Africa



Caribbean


Sub-SaharanAfrica

0.0

10.0

20.0

30.0

40.0

World

Figure A3.6b Average annual growth rate of import volumes, 1990–99Percent

Industrialeconomies


Africa



Caribbean


Sub-SaharanAfrica

World

0.0

2.0

4.0

6.0

8.0

10.0

12.0


242

Table A3.7 Direction of merchandise trade, 1999a

(percentage of world trade)

High-income importers Low- and middle-income importers

LatinMiddle America All

Sub- East Europe East and low-Other All Other All Saha- Asia and and the and

United indus- indus- high- high- ran and South Central North Carib- middle-Source of exports States EU-15 Japan trial trial income income Africa Pacific Asia Asia Africa bean income World

High-income econ. 12.6 29.7 3.0 7.0 52.4 5.5 57.9 0.9 6.5 0.7 3.2 1.5 4.3 16.9 74.8Industrial 10.6 28.2 2.2 6.7 47.7 4.3 52.0 0.8 4.1 0.4 3.0 1.4 4.1 13.8 65.8

United States ... 2.7 1.1 3.6 7.4 1.2 8.6 0.1 1.1 0.1 0.2 0.3 2.7 4.5 13.1EU-15 3.6 22.3 0.7 2.4 29.0 1.4 30.4 0.5 0.9 0.2 2.7 0.9 0.9 6.2 36.5Japan 2.5 1.3 ... 0.4 4.3 1.4 5.7 0.1 1.6 0.1 0.1 0.1 0.3 2.3 8.0Other industrial 4.4 1.9 0.4 0.3 7.0 0.3 7.4 0.0 0.4 0.1 0.1 0.1 0.1 0.8 8.2

Other high-incomeb 2.1 1.5 0.8 0.3 4.7 1.2 5.9 0.1 2.4 0.2 0.1 0.1 0.2 3.1 9.0

Low- and middle-income economies 6.7 6.0 2.1 0.9 15.7 3.0 18.7 0.5 2.1 0.5 1.6 0.5 1.3 6.5 25.2

Sub-Saharan Africa 0.2 0.4 0.0 0.0 0.7 0.1 0.8 0.2 0.1 0.0 0.0 0.0 0.0 0.4 1.2East Asia and Pacific 2.4 1.6 1.6 0.4 6.0 2.3 8.4 0.1 1.4 0.2 0.2 0.2 0.3 2.4 10.8South Asia 0.3 0.3 0.1 0.0 0.6 0.1 0.8 0.0 0.1 0.0 0.0 0.0 0.0 0.3 1.0Europe and Central Asia 0.3 2.3 0.1 0.1 2.7 0.1 2.9 0.0 0.2 0.0 1.2 0.1 0.0 1.6 4.5

Middle East and North Africa 0.2 0.7 0.3 0.0 1.2 0.2 1.5 0.0 0.3 0.1 0.1 0.1 0.0 0.7 2.1

Latin America and Caribbean 3.4 0.7 0.1 0.2 4.4 0.1 4.4 0.0 0.1 0.0 0.1 0.1 0.8 1.1 5.6

World 19.4 35.7 5.2 7.9 68.1 8.5 76.6 1.3 8.6 1.2 4.8 2.0 5.6 23.4 100.0

a. Expressed as a share (percent) of total world exports. World merchandise exports in 1999 amounted to some $5,135 billion.b. Other high-income group includes the Asian newly industrializing economies, several oil exporters of the Gulf region, and Israel.Source: IMF, Direction of Trade Statistics.

Table A3.8 Growth of current dollar merchandise trade, by direction 1990–99a

(average annual percentage growth)

High-income importers Low- and middle-income importers

LatinMiddle America All

Sub- East Europe East and low-Other All Other All Saha- Asia and and the and

United indus- indus- high- high- ran and South Central North Carib- middle-Source of exports States EU-15 Japan trial trial income income Africa Pacific Asia Asia Africa bean income World

High-income econ. 6.6 3.8 3.0 5.0 4.5 7.7 4.8 2.0 8.5 2.8 9.3 3.5 10.6 9.0 5.4Industrial 6.7 3.6 2.4 5.1 4.3 7.0 4.5 1.6 7.2 0.8 9.1 3.5 10.6 8.6 5.0

United States ... 4.2 2.6 7.1 5.2 7.1 5.4 4.1 7.6 1.3 2.1 4.7 11.6 9.4 6.5EU-15 7.1 3.6 3.5 3.5 4.0 7.9 4.1 1.4 7.6 –0.1 11.0 3.3 9.8 9.5 4.6Japan 3.3 2.8 ... 0.7 2.9 6.5 3.6 –0.7 7.1 0.2 –3.2 2.6 7.9 6.3 4.2Other industrial 9.0 3.1 0.3 4.3 6.2 5.0 6.1 3.1 5.8 5.6 0.7 3.6 5.4 5.9 5.9

Other high-incomeb 6.2 7.6 4.9 4.4 6.2 10.7 7.0 6.3 11.3 8.1 16.6 4.2 10.5 10.7 8.1

Low- and middle-income economies 12.3 10.3 6.5 10.3 10.4 10.3 10.4 13.5 18.2 13.3 11.9 7.5 13.2 16.2 11.1Sub-Saharan Africa 3.7 3.9 6.7 14.0 4.3 23.6 5.0 14.2 24.2 23.7 3.1 10.3 18.5 17.3 7.5East Asia and Pacific 11.7 12.6 7.4 11.8 10.6 10.6 10.6 13.7 19.9 13.5 8.7 10.9 20.9 18.0 11.7South Asia 9.2 7.0 –0.7 8.4 7.0 11.7 7.6 21.4 10.5 11.4 9.7 7.3 27.9 12.8 8.5Europe and Central Asia 13.5 9.4 –3.1 10.5 9.3 15.2 9.5 6.1 7.9 2.3 4.9 2.3 7.9 12.3 7.6

Middle East and North Africa 1.2 4.5 6.0 –3.4 3.8 5.4 4.0 11.8 20.5 10.4 –0.3 3.5 6.3 11.6 5.5

Latin America and Caribbean 15.3 2.9 1.0 7.8 11.1 4.1 10.9 4.7 5.9 12.7 –1.0 6.5 11.4 10.1 10.5

World 8.2 4.3 4.1 5.4 5.4 8.5 5.7 4.6 10.0 5.6 7.5 4.2 11.1 10.1 6.3

Note: Growth rates are compound averages.Source: IMF, Direction of Trade Statistics.


243


244

Table A3.9 Structure of long-term debt, 1999Share of long-term debt (%): concessional debt; nonconcessional debt at variable interest rates; nonconcessional debt at fixed interestrates

Non-concessional

Concessional Variable Fixed

Non-concessional

Concessional Variable Fixed

All developing countries 19.0 43.4 37.6

Asia 28.1 39.0 33.0East Asia and Pacific 19.3 43.9 36.7China 21.7 26.7 51.6Indonesia 26.1 62.8 11.1Korea, Rep. 0.8 55.4 43.8Malaysia 6.5 61.9 31.6Myanmar 88.2 0.0 11.8Papua New Guinea 38.2 11.3 50.5Philippines 30.0 31.6 38.4Thailand 14.0 45.0 41.0Vietnam 27.4 12.3 60.3

South Asia 58.5 21.7 19.9Bangladesh 99.0 0.1 1.0India 49.5 23.9 26.6Nepal 99.3 0.0 0.7Pakistan 60.5 28.0 11.5Sri Lanka 90.0 5.3 4.6

Latin America and the Caribbean 4.6 59.2 36.2

Argentina 1.8 48.8 49.3Bolivia 62.9 22.3 14.8Brazil 0.8 77.7 21.5Chile 1.2 52.3 46.5Colombia 3.2 61.6 35.2Costa Rica 19.4 27.2 53.4Dominican Republic 41.6 30.9 27.5Ecuador 15.4 56.0 28.6El Salvador 39.5 36.9 23.6Guatemala 40.9 29.4 29.7Jamaica 32.5 27.4 40.1Mexico 1.0 49.1 50.0Panama 6.4 47.5 46.1Paraguay 53.5 20.8 25.7Peru 15.4 51.3 33.4Trinidad and Tobago 0.7 44.1 55.3Uruguay 4.5 50.3 45.2Venezuela 0.2 72.3 27.5

Europe and Central Asia 6.5 42.2 51.4

Armenia 69.0 18.2 12.8Azerbaijan 50.4 29.7 19.9Belarus 9.8 47.4 42.8

Europe and Central Asia (continued)Bulgaria 2.6 78.6 18.8Czech Republic 1.2 38.6 60.2Estonia 1.7 16.6 81.7Georgia 61.8 9.0 29.2Hungary 1.9 14.4 83.7Kazakhstan 8.1 40.7 51.2Kyrgyz Republic 55.1 16.3 28.6Latvia 4.7 36.4 58.9Lithuania 4.3 29.6 66.1Moldova 31.7 49.7 18.6Poland 15.1 45.7 39.2Romania 4.6 38.5 56.9Russian Federation 0.3 42.3 57.4Slovak Republic 5.1 24.3 70.6Tajikistan 74.0 8.7 17.3Turkmenistan 13.3 70.0 16.7Turkey 7.2 47.2 45.7Ukraine 30.5 31.4 38.1Uzbekistan 19.4 44.2 36.4

Middle East and North Africa 37.9 30.5 31.6

Algeria 12.7 51.0 36.3Egypt, Arab Rep. 86.3 4.2 9.5Jordan 53.7 24.3 22.0Morocco 32.0 34.3 33.6Oman 33.5 31.8 34.8Syrian Arab Republic 92.8 0.0 7.2Tunisia 25.1 22.0 52.9Yemen, Rep. 91.6 2.1 6.2

Sub-Saharan Africa 51.5 14.1 34.5Angola 29.8 10.4 59.9Botswana 60.6 9.5 29.9Côte d’Ivoire 39.1 46.6 14.2Cameroon 53.6 11.8 34.6Ethiopia (excludes Eritrea) 89.5 0.3 10.3Gabon 24.9 11.5 63.5Ghana 81.6 4.6 13.7Kenya 73.9 7.7 18.4Madagascar 72.6 5.2 22.2Nigeria 7.6 20.2 72.2Senegal 80.7 10.2 9.1Sudan 49.8 17.8 32.5Zambia 77.3 8.7 14.0Zimbabwe 45.1 21.7 33.2

Note: Nonconcessional debt data are available only for countries which report to the World Bank’s Debtor Reporting System.Non-concessional debt contains estimates of private non-guaranteed in addition to public and publicly guaranteed debt.For aggregate figures, missing values are assumed to have the same average value as the available data.


245

Figure A3.9a Structure of long-term debt, by group, 1999Percent

Severelyindebted

low-income

Severelyindebted

middle-income

Moderatelyindebted

low-income

OtherModeratelyindebted

middle-income

0

20

40

60

80

100

Fixed rate

Variable rate

Concessional

Figure A3.9b Structure of long-term debt, by region, 1999Percent

Sub-SaharanAfrica

South AsiaEast Asiaand Pacific


Africa



Caribbean

0

20

40

60

80

100

Fixed rate

Variable rate

Concessional


246

Table A3.10 Long-term net resource flows to developing countries, 1999(millions of U. S. dollars)

Private Official

OfficialPercentage Debt flows development

Total of GDP Total net FDI Portfolio Total assistance Other

All developing ctrys 264,900 4.37 219,214 –649 185,408 34,456 45,686 40,725 4,960

Asia 72,475 2.93 53,235 –28,322 59,111 22,445 19,241 13,796 5,444East Asia and Pacific 65,318 3.45 51,062 –26,112 56,041 21,133 14,257 9,533 4,724China 42,670 4.31 40,632 –1,854 38,753 3,732 2,038 1,798 240Indonesia –4,928 –3.49 –8,416 –6,944 –2,745 1,273 3,487 1,757 1,731Korea, Rep. 9,758 2.40 6,409 –15,350 9,333 12,426 3,349 1,514 1,835Malaysia 3,616 4.58 3,247 1,173 1,553 522 369 –111 480Myanmar 245 .. 203 –14 216 0 42 43 –1Papua New Guinea 568 15.85 499 –30 297 232 69 101 –32Philippines 4,955 6.46 4,915 3,920 573 422 40 887 –847Thailand 4,700 3.85 2,471 –6,269 6,213 2,527 2,229 893 1,336Vietnam 1,924 6.71 828 –781 1,609 0 1,096 1,086 11

South Asia 7,157 1.23 2,173 –2,209 3,070 1,312 4,984 4,264 720Bangladesh 1,247 2.71 198 15 179 4 1,049 1,041 8India 3,351 0.75 1,813 –1,658 2,169 1,302 1,538 1,367 171Nepal 227 4.54 –8 –13 4 0 235 237 –2Pakistan 1,145 1.97 53 –478 530 0 1,092 541 551Sri Lanka 366 2.33 109 –74 177 6 258 259 –1

Latin America and the Caribbean 116,526 6.41 111,302 17,058 90,352 3,893 5,224 3,335 1,889

Argentina 33,041 11.65 32,296 7,963 23,929 404 744 –230 974Bolivia 1,354 16.27 1,017 0 1,016 0 338 353 –15Brazil 23,515 4.44 22,793 –11,828 32,659 1,961 722 –18 741Chile 11,782 17.41 11,851 2,612 9,221 18 –69 7 –75Colombia 4,708 5.43 3,635 2,502 1,109 25 1,073 152 920Costa Rica 822 5.28 924 255 669 0 –102 –26 –76Dominican Rep. 1,542 8.86 1,404 66 1,338 0 138 61 77Ecuador 1,167 6.15 944 254 690 0 223 135 89El Salvador 508 4.07 360 129 231 0 148 77 71Guatemala 455 2.50 98 –57 155 0 357 199 157Jamaica 345 5.17 425 –99 524 0 –80 –49 –31Mexico 25,106 5.23 26,781 13,865 11,786 1,129 –1,674 –53 –1,621Nicaragua 931 42.08 382 82 300 0 549 579 –30Panama 635 6.64 620 597 22 0 15 –6 22Paraguay 206 2.67 109 38 72 0 97 25 72Peru 3,858 7.43 3,140 883 1,969 289 718 184 534Trinidad and Tobago 652 9.49 713 80 633 0 –61 5 –66Uruguay 326 1.56 66 –163 229 0 260 –1 261Venezuela 3,063 2.96 3,130 –124 3,187 67 –67 3 –70

Europe and Central Asia 52,483 5.97 43,164 13,080 26,534 3,550 9,319 8,311 1,008

Armenia 237 12.87 122 0 122 0 115 119 –4Azerbaijan 783 17.36 596 86 510 0 187 184 3Belarus 367 1.37 394 169 225 0 –27 4 –31Bulgaria 1,457 11.75 1,112 204 806 102 346 187 159Czech Republic 4,936 9.31 4,837 –756 5,093 500 99 119 –20Estonia 631 12.31 569 72 305 191 62 46 16Georgia 198 7.28 86 4 82 0 112 148 –36Hungary 5,169 10.67 4,961 2,418 1,950 592 208 86 122Kazakhstan 1,729 10.25 1,477 –110 1,587 0 252 112 140Kyrgyz Republic 211 16.90 –16 –52 36 0 227 194 33Latvia 650 9.75 303 –45 348 0 347 65 282


247

Table A3.10 Long-term net resource flows to developing countries, 1999 (continued)(millions of U. S. dollars)

Private Official

OfficialPercentage Debt flows development

Total of GDP Total net FDI Portfolio Total assistance Other

Europe and Central Asia (continued)Lithuania 1,320 12.38 1,148 661 487 0 172 70 102Moldova 114 9.73 11 –22 34 0 103 55 48Poland 10,499 6.77 10,452 2,461 7,270 721 47 294 –246Romania 920 2.61 714 –327 1,041 0 206 64 142Russian Federation 5,058 2.62 3,780 –173 3,309 644 1,278 1,040 238Slovak Rep. 575 2.92 281 –73 354 0 294 71 223Tajikistan 84 7.77 10 –14 24 0 74 74 0Turkmenistan 50 1.51 –54 –134 80 0 104 94 10Turkey 8,127 4.40 8,667 7,084 783 800 –540 –131 –409Ukraine 701 2.28 371 –125 496 0 330 47 283Uzbekistan 1,052 6.16 658 545 113 0 395 294 101

Middle East and North Africa 2,456 0.42 1,064 –1,066 1,461 669 1,392 3,418 –2,026

Algeria –1,797 –3.77 –1,486 –1,496 7 3 –311 71 –382Egypt, Arab Rep. 1,814 2.03 1,558 –57 1,065 550 255 460 –205Iran, Islamic Rep. –2,605 –2.62 –1,385 –1,470 85 0 –1,220 24 –1,244Jordan 501 6.21 112 –57 158 11 389 366 23Morocco –26 –0.08 –118 –212 3 91 91 302 –211Oman –390 –2.61 –413 –484 60 11 23 31 –9Syrian Arab Rep. 55 2.12 87 –4 91 0 –32 7 –39Tunisia 968 4.62 739 389 350 0 228 165 63Yemen, Rep. 155 2.28 –150 0 –150 0 305 323 –17

Sub-Saharan Africa 20,960 6.55 10,449 –1,399 7,949 3,899 10,511 11,865 –1,354Angola 2,690 43.43 2,373 –98 2,471 0 317 323 –6Botswana 14 0.28 36 –1 37 0 –22 9 –31Cameroon 206 2.24 –13 –53 40 0 218 313 –95Côte d’Ivoire 147 1.31 74 –283 350 8 73 291 –219Ethiopia 579 8.97 78 –12 90 0 501 505 –4Gabon 41 0.95 209 9 200 0 –167 14 –181Ghana 416 5.36 –16 –52 17 19 432 473 –41Kenya 13 0.12 –51 –70 14 5 64 227 –163Madagascar 299 8.04 52 –6 58 0 247 267 –19Nigeria 633 1.81 860 –146 1,005 2 –227 126 –353Senegal 379 7.97 54 –6 60 0 325 353 –29South Africa 4,778 3.67 4,533 –698 1,376 3,855 245 244 1Sudan 581 5.98 371 0 371 0 211 216 –6Zambia 466 15.01 151 –12 163 0 315 400 –85Zimbabwe 287 5.12 70 7 59 4 217 274 –57

Source: World Bank data.

Figure A3.10 Distribution of long-term net resource flows, 1999Percent


Africa



Caribbean


Sub-SaharanAfrica

0

20

40

60

80

100

Private Official

248

The principal sources for the data in this ap-pendix are the World Bank’s central databases.The cut-off date for data updates was August31, 2001; revisions/releases since that time havenot been incorporated.

Regional aggregates are based on the clas-sification of economies by income group andregion, following the Bank’s standard defini-tions (see country classification tables that fol-low). Debt and finance data refer to the 137countries that report to the Bank’s Debtor Re-porting System (see the World Bank’s GlobalDevelopment Finance 2001). Small economieshave generally been omitted from the tablesbut are included in the regional totals.

Current price data are reported in U.S.dollars. The cut-off date for data updates wasAugust 31, 2001; revisions/releases since thattime have not been incorporated.

Notes on tablesTables A3.1 through A3.4. Projections are

consistent with those highlighted in Chapter 1and Appendix 1.

Tables A3.5 and A3.6. Merchandise ex-ports and imports exclude trade in services. Im-ports are reported on a c.i.f. basis. Growthrates are based on constant price data, whichare derived from current values deflated by rel-evant price indexes. Effective market growth isthe export-weighted import growth rate of thecountry’s trading partners. The IMF’s Balance

of Payments database is the principal sourcefor data through 1999; in some cases these datahave been supplemented by UNCTAD and UNComtrade databases or by World Bank staff es-timates. Trade figures for countries of the for-mer Soviet Union reflect the total of non-CISand intra-CIS exports and imports.

Tables A3.7 and A3.8. Growth rates arecompound averages and are computed for cur-rent dollar measures of trade.

Table A3.9. Long-term debt covers publicand publicly guaranteed external debt but ex-cludes IMF credits. Concessional debt is debtwith an original grant element of 25 percentor more. Nonconcessional variable interestrate debt includes all public and publicly guar-anteed long-term debt with an original grantelement of less than 25 percent whose termsdepend on movements of a key market rate.This item conveys information about the bor-rower’s exposure to changes in internationalinterest rates. For complete definitions, seeGlobal Development Finance 2001.

Table A3.10. Long-term net resource flowsare the sum of net resource flows on long-termdebt (excluding IMF) plus non-debt-creatingflows. Foreign direct investment refers to the netinflows of investment from abroad. Portfolioequity flows are the sum of country funds, de-pository receipts, and direct purchases of sharesby foreign investors. For complete definition,see Global Development Finance 2001.

Technical Notes

Classificationof Economies


250

Table 1 Classification of economies by income and region, July 2001

Europe and Middle EastSub-Saharan Africa Asia Central Asia and North Africa

East and EasternIncome Southern West East Asia South Europe and Rest of Middle Northgroup Subgroup Africa Africa and Pacific Asia Central Asia Europe East Africa Americas

Low-income

BeninBurkina FasoCameroonCentral African

RepublicChadCongo, Rep.Côte d’IvoireGambia, TheGhanaGuineaGuinea-

BissauLiberiaMaliMauritaniaNigerNigeriaSão Tomé

and PrincipeSenegalSierra LeoneTogo

CambodiaIndonesiaKorea, Dem.

Rep.Lao PDRMongoliaMyanmarSolomon

IslandsVietnam

AfghanistanBangladeshBhutanIndiaNepalPakistan

ArmeniaAzerbaijanGeorgiaKyrgyz

RepublicMoldovaTajikistanUkraineUzbekistan

Yemen, Rep HaitiNicaragua

Middle-income

Subtotal

Lower

Upper

155

NamibiaSwaziland

BotswanaMauritiusMayotteSeychellesSouth Africa

25

Cape VerdeEquatorial

Guinea

Gabon

23

ChinaFijiKiribatiMarshall

IslandsMicronesia,

Fed. Sts.Papua New

GuineaPhilippinesSamoaThailandTongaVanuatu

AmericanSamoa

Korea, Rep.MalaysiaPalau

23

MaldivesSri Lanka

8

AlbaniaBelarusBosnia and HerzegovinaBulgariaKazakhstanLatviaLithuaniaMacedonia,

FYRa

RomaniaRussian

FederationTurkmenistanYugoslavia,

Fed. Rep.

CroatiaCzech

RepublicEstoniaHungaryPolandSlovak

Republic

26

Isle of ManTurkey

2

Iran, IslamicRep.

IraqJordanSyrian Arab

RepublicWest Bank

and Gaza

BahrainLebanonOmanSaudi Arabia

10

AlgeriaDjiboutiEgypt, Arab

Rep.MoroccoTunisia

Libya

6

BelizeBoliviaColombiaCubaDominican

RepublicEcuadorEl SalvadorGuatemalaGuyanaHondurasJamaicaParaguayPeruSt. Vincent

and theGrenadines

Suriname

Antigua andBarbuda

ArgentinaBrazilChileCosta RicaDominicaGrenadaMexicoPanamaPuerto RicoSt. Kitts and

NevisSt. LuciaTrinidad and

TobagoUruguayVenezuela,

RB

32

AngolaBurundiComorosCongo, Dem.

Rep.EritreaEthiopiaKenyaLesothoMadagascarMalawiMozambiqueRwandaSomaliaSudanTanzaniaUgandaZambiaZimbabwe


251

Definitions of groupsFor operational and analytical purposes, the World Bank’smain criterion for classifying economies is gross nationalincome (GNI) per capita. Every economy is classified as lowincome, middle income (subdivided into lower middle andupper middle), or high income. Other analytical groups,based on geographic regions and levels of external debt, arealso used.

Low-income and middle-income economies are sometimesreferred to as developing economies. The use of the term isconvenient; it is not intended to imply that all economies in

the group are experiencing similar development or that othereconomies have reached a preferred or final stage of develop-ment. Classification by income does not necessarily reflect de-velopment status.

This table classifies all World Bank member economies,and all other economies with populations of more than30,000. Economies are divided among income groups accord-ing to 2000 GNI per capita, calculated using the World BankAtlas method. The groups are: low income, $755 or less;lower middle income, $756–2,995; upper middle income,$2,996–9,265; and high income, $9,266 or more.

Table 1 Classification of economies by income and region, July 2001 (continued)

Europe and Middle EastSub-Saharan Africa Asia Central Asia and North Africa

East and EasternIncome Southern West East Asia South Europe and Rest of Middle Northgroup Subgroup Africa Africa and Pacific Asia Central Asia Europe East Africa Americas

High-income

AustraliaJapanNew Zealand

CanadaUnited

States

OECD

Total

Non-OECD

208 25 23

BruneiFrench

PolynesiaGuamHong Kong,

Chinac

Macao,Chinad

NewCaledonia

N. MarianaIslands

SingaporeTaiwan,

China

35 8

Slovenia

27

AndorraChannel

IslandsCyprusFaeroe

IslandsGreenlandLiechtensteinMonacoSan Marino

28

IsraelKuwaitQatarUnited Arab

Emirates

14

Malta

7

ArubaBahamas,

TheBarbadosBermudaCayman

IslandsNetherlands

AntillesVirgin

Islands(U.S.)

41

AustriaBelgiumDenmarkFinlandFranceb

GermanyGreeceIcelandIrelandItalyLuxembourgNetherlandsNorwayPortugalSpainSwedenSwitzerlandUnited

Kingdom

a. Former Yugoslav Republic of Macedonia.b. The French overseas departments French Guiana, Guadeloupe, Martinique, and Réunion are included in France.c. On 1 July 1997 China resumed its exercise of sovereignty over Hong Kong.d. On 20 December 1999 China resumed its exercise of sovereignty over Macao.Source: World Bank data.


252

Uzbekistan

Marshall IslandsMicronesia, Fed. Sts. ofWest Bank and Gaza

American SamoaIsle of ManMayottePalauPuerto Rico

Low-income

Middle-income

Lower

Upper

Afghanistan MaliAngola MauritaniaBenin MyanmarBurundi NicaraguaCameroon NigerCentral Nigeria

African PakistanRepublic Rwanda

Comoros São Tomé Congo, Dem. and Principe

Rep. Sierra LeoneCongo, Rep. SomaliaCôte d’Ivoire SudanEthiopia TanzaniaGuinea UgandaGuinea-Bissau ZambiaIndonesiaKyrgyz RepublicLao PDRLiberiaMadagascarMalawi

BoliviaBosnia and

HerzegovinaBulgariaCubaGuyanaIraqJordanPeruSyrian Arab

Republic

ArgentinaBrazilGabon

ArmeniaBangladeshBurkina FasoCambodiaChadGambia, TheGeorgiaGhanaHaitiKenyaMoldovaMongoliaMozambiqueSenegalTogoTurkmenistanVietnamYemen, Rep.Zimbabwe

AlgeriaBelizeColombiaEcuadorHondurasJamaicaMoroccoPapua New

GuineaPhilippinesRussian

FederationSamoaSt. Vincent and

the GrenadinesThailandTunisiaTurkey

ChileEstoniaHungaryLebanonMalaysiaMauritiusPanamaUruguayVenezuela, RB

AzerbaijanBhutanEritreaIndiaKorea, Dem. Rep.LesothoNepalSolomon IslandsTajikistanUkraine

Albania LithuaniaBelarus Macedonia, Cape Verde FYRa

China MaldivesCosta Rica NamibiaDjibouti ParaguayDominican Romania

Republic Sri LankaEgypt, Arab Suriname

Rep. SwazilandEl Salvador TongaEquatorial Vanuatu

Guinea Yugoslavia,Fiji Fed. Rep.GuatemalaIran, Islamic

Rep.KazakhstanKiribatiLatvia

Antigua and OmanBarbuda Poland

Bahrain Saudi ArabiaBotswana SeychellesCroatia Slovak Czech Republic

Republic South AfricaDominica St. Kitts and Grenada NevisKorea, Rep. St. LuciaLibya Trinidad and Mexico Tobago

Table 2 Classification of economies by income and indebtedness, July 2001

Income Sub- Not classifiedgroup group Severely indebted Moderately indebted Less indebted by indebtedness


253

Australia JapanAustria LuxembourgBelgium NetherlandsCanada New ZealandDenmark NorwayFinland PortugalFranceb SpainGermany SwedenGreece SwitzerlandIceland United Ireland KingdomItaly United States

Andorra KuwaitAruba LiechtensteinBahamas, Macao,

The Chinac

Barbados MaltaBermuda MonacoBrunei Netherlands Cayman Antilles

Islands New CaledoniaChannel N. Mariana

Islands IslandsCyprus QatarFaeroe San Marino

Islands SingaporeFrench Slovenia

Polynesia Taiwan, ChinaGreenland United Arab Guam EmiratesHong Kong, Virgin

Chinad Islands (U.S.)Israel

62

Definitions of groupsThis table classifies all World Bank member economies, andall other economies with populations of more than 30,000.Economies are divided among income groups according to2000 GNI per capita, calculated using the World Bank Atlasmethod. The groups are: low income, $755 or less; lowermiddle income, $756–2,995; upper middle income,$2,996–9,265; and high income, $9,266 or more.

Standard World Bank definitions of severe and moderateindebtedness are used to classify economies in this table. Se-verely indebted means either: present value of debt service toGNI exceeds 80 percent or present value of debt service toexports exceeds 220 percent. Moderately indebted means ei-

ther of the two key ratios exceeds 60 percent of, but does notreach, the critical levels. For economies that do not report de-tailed debt statistics to the World Bank Debtor Reporting Sys-tem (DRS), present-value calculation is not possible. Instead,the following methodology is used to classify the non-DRSeconomies. Severely indebted means three of four key ratios(averaged over 1997–99) are above critical levels: debt to GNI (50 percent); debt to exports (275 percent); debt serviceto exports (30 percent); and interest to exports (20 percent).Moderately indebted means three of the four key ratios ex-ceed 60 percent of, but do not reach, the critical levels. Allother classified low- and middle-income economies are listedas less indebted.

High-income

Total

OECD

Non-OECD

208 46 43 57

Table 2 Classification of economies by income and indebtedness, July 2001 (continued)

Income Sub- Not classifiedgroup group Severely indebted Moderately indebted Less indebted by indebtedness

a. Former Yugoslav Republic of Macedonia.b. The French overseas departments French Guiana, Guadeloupe, Martinique, and Réunion are included in France.c. On 20 December 1999 China resumed its exercise of sovereignty over Macao.d. On 1 July 1997 China resumed its exercise of sovereignty over Hong Kong.Source: World Bank data.

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