The Implications of International Trade Restrictions on Kenya

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THE IMPLICATIONS OF INTERNATIONALTRADE RESTRICTIONS ON KENYA:

A PRELIMINARY ANALYSIS

by

John Thinguri Mukui

[email: [email protected]]

Report prepared for the United Nations Development Programme(UNDP), Nairobi

25 November 2003


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ABBREVIATIONS

ACP African, Caribbean and Pacific countries

AERC African Economic Research Consortium

AGOA African Growth and Opportunity Act (US)

AMS Aggregate Measure of Support (in Agreement on Agriculture)

ATPSM Agricultural Trade Policy Simulation Model

CAP (European Union’s) Common Agricultural Policy

CARICOM Caribbean Community and Common Market

CGE Computable General Equilibrium (model)

CIDA Canadian International Development Agency

CIF Cost, Insurance and Freight

COMESA Common Market for Eastern and Southern Africa

DAC Development Assistance Committee of the OECD

EBA (European Union’s) Everything But Arms

EU European UnionFAO Food and Agriculture Organization of the United Nations

FTA Free Trade Agreement

GATT General Agreement on Tariffs and Trade

GDP Gross Domestic Product

GNI Gross National Income

GSP Generalized System of Preferences

GTAP Global Trade Analysis Project

HACCP Hazard Analysis and Critical Control Points

HIPC Heavily Indebted Poor Countries initiative

HS Harmonized Commodity Description and Coding SystemIMF International Monetary Fund

ISO International Organization for Standardization

KIPPRA Kenya Institute for Public Policy Research and Analysis

LDC Least Developed Countries

LDNFIDC Least Developed and Net-Food-Importing Developing Countries

MDG Millennium Development Goals

MFA Multifibre Arrangement

MFN Most Favored Nation

MUB Manufacturing Under Bond

N.E.S. Not elsewhere specified (jargon for “other ”)NFIDC Net-Food-Importing Developing Country

NTB Nontariff Barriers

NTR Normal Trade Relations (US)

ODA Official Development Assistance

OECD Organization for Economic Cooperation and Development

QUAD countries Canada, European Union, Japan and USA

SDT Special and Differential Treatment

SITC Standard International Trade Classification

SPS Sanitary and Phytosanitary measures

SSA Sub-Saharan Africa

TBT Technical Barriers to Trade


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TRIPS Trade-Related aspects of Intellectual Property Rights

TRQs Tariff Rate Quotas

UN United Nations

UNCTAD United Nations Conference on Trade and Development

UNDP United Nations Development Programme

UNIDO United Nations Industrial Development OrganizationVAT Value Added Tax

WTO World Trade Organization


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THE IMPLICATIONS OF INTERNATIONAL TRADE RESTRICTIONS ON KENYA:

A PRELIMINARY ANALYSIS1

John Thinguri Mukui

There are no statesmen in this business. Trade theory is about identifying whose hand

is in whose pocket and trade policy is about who should take it out – Joseph Michael

Finger (1981)

It ’ s hard to convince a layman of the advantages of free trade since it is easy to see

where the dollars go, but difficult to see where they come from. People have personal

experience with imports of foreign goods; but they rarely encounter their own

country ’ s exports unless they travel abroad extensively. Only by abstracting from

introspection can we see the total picture. – Hal R. Varian (1989; 2000)

1. INTRODUCTION

1. The World Trade Organization (WTO) agreement, signed in Marrakesh on 15th April 1994,

defines the new international framework for trade including a more effective and reliable dispute

settlement mechanism; global reduction by 40% of tariffs and wider market-opening agreements on

goods; and a multilateral framework of disciplines for trade in services and for the protection ofTrade-Related aspects of Intellectual Property Rights (TRIPS), as well as the reinforced multilateral

trade provisions in agriculture and in textiles and clothing (World Trade Organization, 2001a). The

main means for accomplishing this task are the adoption of tariff bounds, the dismantling of

nontariff barriers (NTBs) in the near future, and a full coverage of all sectors and activities

(including agriculture and services). The WTO mission also includes strengthening each country ’s

domestic policies, supply capabilities, and institutional frameworks so as to facilitate compliance

with the requirements of the WTO agreement. The GATT/WTO has had a powerful and positive

impact on trade – except in sectors of particular export interest to developing countries (such as

agriculture, textiles and clothing) – but also largely exempted developing countries from the

obligations to liberalize under the principle of Special and Differential Treatment (SDT), whichincludes longer periods to phase in obligations and more lenient obligations (Whalley, 1999;

Subramanian and Wei, 2003; Hoekman, Michalopoulos and Winters, 2003). As observed by

Frederic Jenny, “achieving free trade and competition is like going to Heaven: on the one hand,

there are many ways to get to heaven; on the other hand, everybody wants to get there, but not too

soon” (Hawk, 1998).

2. The purpose of this study is to provide some indicative figures on the impact to Kenya of

the current trade restrictions imposed in the developed countries, as a contribution to Goal eight of

1 A few footnotes have been added to the original text. These include (a) footnote 8 on the Swiss formula, (b)footnote 12 on the use of the consumer surplus approach to analyze the impact of policy changes, and (c)

footnote 13 on the association between trade policy reform and growth.


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the Millennium Development Goals (MDG). The study will focus on the cost of excluding Kenya

from substantial trade opportunities due to the constriction of productive capacity and investment

as a result of domestic support, market access and export subsidies in the rich countries. The trade

opportunities include exports of goods and services that Kenya may have comparative advantage in

producing, while imports would be from both industrial and agricultural sectors. In addition, local

industrial production and exports might prove relatively weak in the face of increased internationalcompetition that will result from the new global trading system. In such a situation one should

think about the appropriate corrective policies required to help domestic production activities to

face these new challenges.

3. The first seven millennium development goals focus on outcomes, identifying standards of

wellbeing to be achieved by 2015 and concern both the nature of the lives individuals lead and the

environment in which they live (Gore, 2003). Goal 8 focuses on relationships, identifying various

aspects of the global partnership for development that should be forged to support the realization of

these standards. The study will limit itself to Indicators 38-41 of Goal 8 dealing with market access,

namely, (a) proportion of total developed country imports (by value, excluding arms) from

developing countries and from Least Developed Countries (LDCs) admitted free of duties and

quotas, (b) average tariffs and quotas imposed by developed countries on agricultural products and

textiles and clothing from developing countries, (c) domestic and export agricultural subsidies in

OECD countries as percentage of their GDP, and (d) proportion of Official Development Assistance

(ODA) provided to help build trade capacity (United Nations Development Group, 2003).

4. Due to time constraints, the study does not introduce new ‘evidence’, but summarizes the

results of studies undertaken to estimate gains from global liberalization of merchandise trade. The

study does not investigate the links between trade liberalization and poverty reduction – factor

prices, income and employment on the income side; and cost-of-living on the household

expenditure side provide some of the linkages (see McKay, Winters and Kedir, 2000; Reimer, 2002;Winters, 2002; Winters, 2003; Winters, Mcculloch and Mckay, 2002; Hertel, Ivanic, Preckel and

Cranfield, 2003; Brooks, 2003). A review of the literature on trade liberalization and poverty by

Winters, Mcculloch and Mckay (2002; 2004) in four key areas (economic growth and stability,

households and markets, wages and employment, and government revenue) concludes that there is

no simple generalizable conclusion about the relationship between trade liberalization and poverty,

and the picture is much less negative than is often suggested. Finally, the study does not analyze the

role of complementary policies to ease the adjustment strains e.g. infrastructure support (including

telecommunications, reliable and affordable energy sources, and functioning credit markets),

development of market institutions, and measures to reduce transaction costs (Ng and Yeats, 1997;

Ng and Yeats, 2000). For example, high transport costs could also translate into relatively hightariffs since they raise the CIF value of imports, and thus tariffs levied on the total value of imports

(African Development Bank, 2004).

5. The 19-country study on Developing Countries and the Uruguay Round commissioned by

the Canadian International Development Agency (CIDA, 1996a) assesses the implications of the

Uruguay Round for countries who are significant recipients of CIDA assistance to better understand

the impacts of the Round at an individual country level, as distinct from the more aggregate

regional bloc level employed in model-based evaluation work. The 19 countries (or country groups)

are Jamaica, Guyana, Costa Rica, CARICOM, Peru, Bolivia, Ecuador, Mozambique, Zambia,

Zimbabwe, South Africa, Ghana, Côte d’Ivoire, Egypt, Thailand, India, Bangladesh, Indonesia andChina. The Caribbean Community and Common Market (CARICOM) currently comprises of 13

member countries, namely, Antigua and Barbuda, The Bahamas, Barbados, Belize, Dominica,


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Grenada, Guyana, Jamaica, Montserrat, St. Kitts and Nevis, St. Lucia, St. Vincent and the

Grenadines, and Trinidad and Tobago. Since Kenya is not included in the country-level studies,

apart from Mwega (2000) and Mwega and Muga (1999), the study tries to infer the possible effects

of global trade reform on Kenya based on global or regional-level impacts.

2. THE PERFORMANCE OF THE EXPORT SECTOR

6. The share of exports in GDP has stagnated around 26% for the last two decades, with

merchandise exports representing about 16% and services exports representing about 10%. The

share of manufactured exports in GDP has, however, registered a marginal increase from 1.9% to

2.4% between 1980-89 and 2002, reflecting the low international competitiveness of the

manufacturing sector. During the same period, Kenya’s share in world exports declined from

0.049% to 0.023%, mainly due to the sharp fall in coffee exports (World Bank, 2003a). The only

remarkable performance is the increase in exports of cut flowers, vegetables, and outer garments.

The latter increased greatly in 2002 due to response to the US African Growth and Opportunity

Act.

7. The contribution of coffee to total merchandise exports declined from 17.9% in 1990 to

about 6.1% in 2001, while that of tea increased from 25.5% to 28.4%, and horticulture increased

from 13.0% to 17.5%. In 2001, Kenya was the largest tea exporter in the world, the fourth largest

exporter of cut flowers, the twelfth largest exporter of vegetables, while its position in coffee

exports moved from 9th to 20th between 1980 and 2001 (World Bank, 2003a).

8. Tea production increased from 197,000 tons in 1990 to an estimated 294,600 tons in 2001,

with most of the increase emanating from the smallholder sector. During the same period, export

volume increased from 178,100 tons to 268,500 tons, the price declined from US cents 164.2 per

pound to 162.0, while the value of tea exports increased from $292.4 million to $435.0 million

(International Monetary Fund, 2003). The increase in export revenue was therefore on account of

change in export volume, other than for the short surge in international tea prices in 1997 and

1998.

9. Coffee production declined from 197,000 tons in 1990 to 52,000 tons in 2001. The volume

of exports declined from 115,000 tons to 62,000 tons, while the average price dropped from US

cents 75 per pound to 69, and the value of exports declined from $192 million to $94 million

(International Monetary Fund, 2003). Coffee has therefore experienced reduction in both export

volumes and prices.

10. The value of horticultural exports increased from $83 million in 1990 to $276 million in

2002. The share of coffee, tea and horticulture combined decreased from 56.8% to 40.9% between

1990 and 2001. The share of petroleum products (net of aircrafts and ships stores) in total exports

increased from 5.9% to 9.4% during the same period (International Monetary Fund, 2003).

11. Kenya’s export performance has been disappointing, as measured by export growth and

composition of exports. For example, the export products concentration index (using a modified

version of the Herfindahl-Hirschman index computed on the 239 products at three-digit SITC,

Revision No. 2 level) increased from 0.233 in 1990 to 0.297 in 2000, where a country with a

preponderance of trade value concentrated in very few products will have an index value close to


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1.0 (United Nations Conference on Trade and Development, 2002) 2. As argued by Rodrik (1998),

countries that export only a few commodities (high export products concentration) are presumably

more exposed to external risk than countries with a diversified set of exports.

12. The international prices of Kenya’s exports have on the whole been on a declining trend.

According to the World Bank’s World Development Indicators (World Bank, 2003b), the price ofcotton declined from US cents 225 per kg in 1970 to 110 in 2001, coffee arabica declined from US

cents 409 per kg to 143, and tea declined from US cents 298 per kg to 167. The international prices

of import-competing crops also declined, with maize from $208 per metric ton in 1970 to $93 in

2001, rice from $450 per metric ton to $180, wheat from $196 per metric ton to $132, and sugar

from US cents 29 per kg to 20. The data also shows that, in 2001, the EU domestic price of sugar

was comparatively high at US cents 55 per kg and 49 in the US, courtesy of the trade distortions in

the form of domestic support and import quotas in the EU and US.

13. “Nontraditional exports” is a commonly used phrase today. According to Barham, Clark,

Katz and Schurman (1992) [also cited in Thrupp, Bergeron and Waters (1995) and Murray (1999)],

an agro-export is considered nontraditional if it (a) was not traditionally produced in a particular

country (e.g. snow peas in Guatemala), or (b) was traditionally produced for domestic consumption

but now is exported (e.g. flowers in Costa Rica, apples in Chile), or (c) is a traditional product now

exported to a new market (e.g. Caribbean bananas to Russia). The definition thus stresses that the

crop may be newly introduced, or was traditionally produced for domestic consumption but has a

high exchange value in the global economy. In general, these crops share characteristics of high per

unit value and high intensity in production. The use of the concept is relative, as an export product

could be “traditional” in one country and “nontraditional” in another, for example, grapes are

traditional in Chile but not in other Latin American countries. Given this complexity, some

analysts prefer to use the term “high value” exports when referring to these emerging diversified

crops (Barham, Clark, Katz and Schurman, 1992).

14. Kenya’s exports can be divided into traditional and nontraditional exports. Most empirical

studies distinguish between “traditional” and “nontraditional” exports by employing export share

thresholds (Balassa and Associates, 1971; Balassa, 1977; Blackhurst and Lyakurwa, 1998; Ng and

Yeats, 2002). The World Bank’s World Development Indicators (1997) definition of traditional

exports includes the top 10 three-digit SITC commodity groups in a base year, unless they total less

than 75% of exports, in which case more three-digit groups are added until 75% is reached (see also

Mwega and Muga, 1999). Nontraditional exports are, by implication, all of the rest. Based on this

definition, Kenya’s traditional exports (taking 2000 as the base year) comprise the following 13

commodity groups accounting for 75.79% of total exports: fish SITC-034 (2.30% of total exports),vegetables SITC-054 (6.58%), fruits SITC-057 (1.11%), fruit preserved or fruit preparations SITC-

058 (2.17%), coffee (9.80%), tea and mate (29.75%), tobacco-manufactured SITC-122 (1.32%), other

crude materials SITC-278 (2.37%), crude vegetable materials n.e.s. which include cut flowers SITC-

292 (7.49%), heavy petroleum/bitumen oils SITC 334 (7.86%), medicaments including veterinary

SITC-542 (1.87%), lime/cement/construction materials SITC-661 (1.40%), and articles of plastics

SITC-893 (1.76%). The most important traditional exports are therefore tea, coffee, petroleum

2 See, United Nations Conference on Trade and Development (2002) on computation of the Herfindahl-

Hirschman index to measure (a) dispersion of trade value across an exporter ’s products (product

concentration index) and (b) dispersion of trade value across an exporter ’s partners (market concentrationindex) – see Hirschman (1945; 1964) and Herfindahl (1950) on the paternity of the Herfindahl-Hirschman

index.


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products, and vegetables. However, the contribution of petroleum products to foreign exchange

earnings is small as the country mainly re-exports imports after processing (Mwega and Muga,

1999).

15. Several studies have explored the impact of export platforms in promoting export trade.

Glenday and Ndii (2000) covers three export promotion schemes, or platforms, introduced topromote labor-intensive manufactures: bonded warehouse or manufacturing under bond (MUB),

export processing zones (both targeting new investments), and a duty and VAT exemption scheme

targeting existing manufacturers. An export compensation scheme was introduced in 1974 and

phased out in September 1993. Its implementation and misuse is the subject of an ongoing judicial

commission of inquiry. Alemayehu (1999) and Were, Ndung’u, Geda and Karingi (2002) indicate

the need for adopting policies which enable Kenya’s utilization of productive capacity. Among

these are improvements of infrastructure (the poor transport system, power and water rationing,

insecurity and other bottlenecks) so as to increase the competitiveness of exports.

3. KENYA’S DIRECTION OF TRADE

16. Kenya’s main destination of exports in 1990 was Western Europe at 46.5%, followed by

Africa (21.6%), Asia (12.5%), Middle East (3.7%), Eastern Europe (3.4%) and United States (3.4%).

In 2001, the shares were Africa (49.0%), Western Europe (28.1%), Asia (11.7%), Middle East

(6.0%), and United States (2.3%). However, the main sources of imports in 2001 were Western

Europe (28.5%), Middle East (25.3%), Asia (23.6%), Africa (11.7%), and United States (7.7%) –

(International Monetary Fund, 2003). In the last decade, exports to developed countries are

declining while imports, particularly cereals from developed countries, are increasing (Nyangito,

2003). Consequently, the balance of trade between Kenya and the developed countries is

increasingly becoming worse against Kenya.

17. Most of Kenyan exports to Africa were to countries under the Common Market for Eastern

and Southern Africa (COMESA), mainly Uganda, Tanzania and Egypt in that order. The main

exports to COMESA are tea (mainly Egypt and Sudan), followed by refined petroleum products

(Uganda, Tanzania, Rwanda, Burundi, Comoros and Mauritius), oils, perfumes, polishing and

cleansing preparations (Tanzania, Uganda and Ethiopia), paper and paperboard (Tanzania and

Uganda), and cement for building purposes (Uganda).

18. As shown in the Statistical Abstract 2002 , the main destinations for coffee (not roasted) in

2001 were Germany (31.59%), USA (10.03%), Sweden (7.81%), Netherlands (7.11%) and UK

(6.13%). The share of European Union was 56.94%, making it the single largest importer of coffeefrom Kenya. However, the share of European Union in tea exports was 22.06%, the bulk of which

was to UK (21.13%), while the share to Egypt was 19.75%. The main country destination for cotton

(raw) was USA at 3.62%, while the balance was for aircrafts and ships stores (56.60%) and 39.78%

to other countries including COMESA.


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19. The destinations of coffee and tea exports and the applied tariff rates in these export

markets in 1995 were as follows (%):

EU USA Canada Egypt Other

Coffee 68.1 5.6 1.3 0 25.0

Tariff 3.3 0 0 5 N/A

Tea 33.8 1.4 0.8 15.8 48.2

Tariff 0 0 0 30.0 N/A

Source: Mwega and Muga (1999)

4. TYPES OF TRADE RESTRICTIONS

20. The barriers to market access are mainly:

a)

Import tariffs and other price-based border measures that include import duties, tariff

quotas, and other border duties, levies, and charges;

b)

Nontariff border measures/non-price instruments that include quantitative restrictions

(import quotas, direct prohibitions, domestic content requirements, licensing); contingency

measures (antidumping, countervailing, and safeguard measures); technical barriers to trade

(regulations, standards, testing and certification procedures); and sanitary and phytosanitary

measures (food, animal and plant health and safety); and

c)

Domestic policy measures that are not applied uniformly to domestic and imported goods

and services, including trade-distorting export subsidies and domestic support

(International Monetary Fund and the World Bank, 2002) 3.

21. One of the important outcomes of the Uruguay Round (1986-1994) agreements was to bring

agriculture under the normal WTO disciplines as the original GATT excluded much of agriculture

from liberalization 4. The Agreement on Agriculture covers three main areas, namely, market

access, domestic support to producers, and export subsidies. Under the Uruguay Round, all

countries were to convert quantitative restrictions and other nontariff barriers into simple tariffs (a

process known as tariffication), to bind the tariffs against further increases, and to reduce them

over time (by 36% across the board over a six-year period for developed countries or a minimum

cut of 15% for each tariff line, and 24% for developing countries or a minimum cut of 10% for each

tariff line over a period of ten years). For the least developed countries, these tariff reductions are

not required, although they can bind their tariffs. The WTO reduction commitments are applied on“bound” rates rather than “applied” rates (what countries actually charge on imports). The

restrictions that were subject to tariffication include quantitative import restrictions, variable

import levies, minimum import prices, discretionary import licensing, nontariff measures

maintained through state-trading enterprises, voluntary export restraints, and similar border

measures other than ordinary customs duties.

3 See Bora, Kuwahara and Laird (2002) for definition and classification of nontariff measures, and their

measurement for use in the formulation of trade policy. 4 See also World Bank (1986; 1987) on trade and pricing policies in world agriculture and the threat and costs

of protectionism to both developing and industrial countries.


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22. The new discipline requires a reduction in the total Aggregate Measure of Support (AMS) to

producers especially in the agricultural sector. Total Aggregate Measurement of Support (Total

AMS) is the sum of all domestic support provided in favour of agricultural producers, and is defined

in the Agreement on Agriculture to include both budgetary outlays and revenue transfers from

consumers to producers as a result of policies that distort market prices. Developed countries were

to reduce AMS by 20% and developing countries by 13.3% from the 1986-88 levels. Leastdeveloped countries are again exempt. Many forms of assistance that have minimal effects on trade

are also exempt from this commitment. Developing countries were given the flexibility to

implement reduction commitments over a period of up to 10 years from 1995, and least developed

countries were not required to undertake reduction commitments.

23. The Agreement on Agriculture (World Trade Organization, 1999) covered the following

products: HS (Harmonized System/ Harmonized Commodity Description and Coding System)

chapters 1 to 24 less fish and fish products, HS code 2905.43 (mannitol), HS 2905.44 (sorbitol), HS

33.01 (essential oils), HS 35.01 to 35.05 (albuminoidal substances, modified starches, glues), HS

3809.10 (finishing agents), HS 3823.60 (sorbitol n.e.p.), HS 41.01 to 41.03 (hides and skins), HS

43.01 (raw furskins), HS 50.01 to 50.03 (raw silk and silk waste), HS 51.01 to 51.03 (wool and

animal hair), HS 52.01 to 52.03 (raw cotton, waste and cotton carded or combed), HS 53.01 (raw

flax), and HS 53.02 (raw hemp).

24. The Agreement on the Application of Sanitary and Phytosanitary Measures (SPS) takes the

form of inspection of products, permission to use certain additives, determination of maximum

levels of pesticides, and designation of disease (e.g. quarantine requirements). Member countries of

WTO are encouraged to adopt SPS measures that are less trade restrictive, technically defensible

and economically feasible. The SPS agreement can result in very high levels of protection,

especially where there is no justification based on assessment of risk to human life.

25. The Uruguay Round explicitly recognizes Special and Differential Treatment for developing

and least developed countries. The applicable reduction commitments are ten years in the case of

developing countries, while LDCs are not required to undertake reduction commitments in any of

the three areas of market access, domestic support to producers, and export subsidies 5. Finally theMarrakesh declaration noted the special difficulties of Least Developed and Net-Food-Importing

Developing Countries (LDNFIDC) who may suffer sharply increased food import bills following

reduction in food export subsidies by developed countries and possible increase in food import

prices (Oyejide, 1998; World Trade Organization, 1999). Kenya is not classified as a least developed

5 Bernal (2003) argues that most of the SDT provisions are meaningless for the large majority of developing

countries, which do not have the right to provide export subsidies or the means to do so, or administer Tariff

Rate Quotas (TRQs) or provide trade distorting domestic support to their agricultural sectors as most

developed countries do. Only those countries that provided export subsidies at the time of the Uruguay

Round and inscribed export subsidy commitments in their schedules of commitments have the right to

provide those subsidies. In addition, it was agreed that only those countries that undertook tariffication were

given the option to establish commitments on TRQs, but most developing countries did not tariffy but rather

established tariff ceilings. For example, Kenya chose a high uniform ceiling tariff binding of 100% for all

items included in Annex 1 of the Agreement on Agriculture, which exceeds the currently applied rates for all

agricultural imports (Harrold, 1995; Chanda, 1996). Sorsa (1995; 1996) concludes that Sub-Saharan Africa

failed to use the Uruguay Round to lock domestic reforms to an international anchor since most SSAcountries made no substantial liberalization commitments on border protection in agriculture, industry or

services.


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country, but is rated as a Net-Food Importing Developing Country (NFIDC) by the WTO in

accordance with Article 16 of the Agreement on Agriculture (World Trade Organization, 1999).

5. SUPPORT PROVIDED TO AGRICULTURE IN DEVELOPED COUNTRIES

26. In the OECD countries, total agricultural production in 2000 was valued at farm-gate at$632 billion, but to encourage this production, agriculture received support of $323 billion, close to

$1 billion per day or over $300 per capita (Vanzetti and Peters, 2003b). The major beneficiaries are

producers in the European Union (35% of OECD receipts), USA (27%) and Japan. In 2002, total

support to agriculture was $318.3 billion, of which around three quarters ($234.8 billion) went to

producers, and 17% ($55.3 billion) to general services support (OECD, 2003) 6. In addition, total

support to agriculture accounted for 1.2% of GDP in the OECD area in 2001 and 2002, compared

with 2.3% in 1986-88, but with wide variations across countries. The measures appear to increase

global production, forcing down world prices. This benefits net food importers in developing

countries at the expense of net exporters. The negotiations in the September 2003 Ministerial

Conference held by the WTO in Cancun, Mexico, collapsed after a group of 20 developingcountries refused to negotiate on the so-called Singapore issues (investment, competition,

transparency in government procurement, and trade facilitation or easing cross-border movement

of goods) in the absence of greater commitments by the developed countries to reduce agricultural

subsidies and lower import barriers on agricultural products.

27. Of the current 146 WTO members, 25 countries have scheduled export subsidy reduction

commitments for various groups of products (World Trade organization, 2001b). An estimated 90%

of all agricultural export subsidies are provided by the European Union. On the basis of enlightened

self-interests, USA therefore proposes elimination of direct export subsidies over five years, while

the European Union suggests a modest reduction of an average of 45% of budget outlays on export

subsidies. Several imports to EU are subject to expenditure or volume constraints including rice,

sugar, cheese and other milk products, poultry, fresh fruits and vegetables and incorporated

products (Peters and Vanzetti, 2003; Peters and Vanzetti, 2004).

28. The most protected segments are agriculture (mainly grains, dairy, livestock and sugar) and

textiles and apparel. In general, there is tariff escalation where processed agriculture is more

protected than primary agriculture 7. This may cause difficulties to commodity-dependent

developing countries in their attempt to establish processing industries for higher value export

commodities. A further issue concerning market access is the special agricultural safeguards.

Safeguards are contingency restrictions on imports taken temporarily to deal with special

circumstances such as a sudden surge in imports. Textiles and clothing are particularly affected by

6 General Services Support is the monetary value of gross transfers to general services provided to agriculture

collectively, and includes research and development, agricultural schools, inspection services, infrastructure,

marketing and promotion, and public stockholding (OECD, 2003).

7 Tariff escalation refers to a situation where tariffs are zero or low on primary products and then increase, or

escalate, as the product undergoes additional processing (World Trade Organization, 1996; Gibson, Wainio,

Whitley and Bohman, 2001). When tariffs on products escalate with the stage of processing, the effective rate

of protection, or the tariff expressed as fractions of value-added after deducting intermediate inputs from

product value, also increases. Lindland (1997) presents a detailed discussion of the measurement of tariff

escalation (the difference in nominal tariffs between the output commodity and the input

commodity/commodities), Yeats (1984) discusses the link between tariff escalation and bias in tradeprotection, while Yeats (1977) shows that shipping rates vary on a product-by-product basis, and transport

costs may fall or remain the same over different levels of fabrication or processing.


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the use of antidumping duties and special safeguards (Cernat, Laird and Turrini, 2002). The price-

based and volume-based special safeguards (sharp fall in import prices or surge in volume of

imports) are designed to add extra import duties to the existing ordinary customs duties if a

specified trigger level is breached. The aim of the measures was to address concerns of importing

countries about the potential for major disruptions to their domestic market from external market

instability and surge in imports (World Trade Organization, 2002).

29. As a result of producer support in OECD countries, average price received by producers (at

farm-gate) were 31% above border price in 2002 or a nominal protection coefficient of 1.31 (ratio

of farm-gate producer price to border price before the application of any customs duties). The

nominal protection coefficients were particularly high for rice (4.61), sugar (1.97), milk (1.83), beef

and veal (1.31), pig meat (1.27), poultry (1.17) and eggs (1.08). This means that the prices received

by producers (at farm gate) were on average twice the border price (measured at farm gate) for

sugar and milk, and about five times for rice (OECD, 2003).

6. THE COST OF PROTECTION TO RICH AND POOR COUNTRIES

6.1 A PROFILE OF SELECTED STUDIES

30. The emerging empirical work demonstrates that, in general, the bulk of the costs of

agricultural support fall on the country that imposes such policies and not on other countries;

agricultural subsidies benefit poor net food-importing countries through depressed world prices;

and tariff barriers inflict more damage to developing countries than subsidies since subsidies are

applied mostly on OECD exports that are not important sources of export earnings for developing

countries, with exceptions such as rice and cotton (Tokarick, 2003). Within the OECD countries,

import tariffs are highest in Japan for some specified products e.g. wheat, rice, milk and refined

sugar (Tokarick, 2003). In addition, only a quarter of imports to Japan from developing countries

are duty-free (Vanzetti and Peters, 2003b).

31. An important source of estimates on the impact of agricultural policy reform is the

Agricultural Trade Policy Simulation Model (ATPSM), initially developed by UNCTAD and further

refined by FAO and UNCTAD (Vanzetti and Graham, 2002; Peters and Vanzetti, 2003; Vanzetti

and Peters, 2003a; and Vanzetti and Peters, 2003b). The results are based on the simulations of the

likely impact of the US proposal, the EU proposal, and the Stuart Harbinson compromise proposal

for agricultural trade policy reform.

32. The US proposal (United States Department of Agriculture, 2002; United States Trade

Representative, 2003a) is to reduce applied tariffs according to a harmonizing Swiss Formula by


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which higher tariffs are reduced more than proportionately, with no tariff greater than 25% 8;

reduction in domestic support for nonexempt categories to at most 5% of average value of

agricultural production in the base period 1996-98; and elimination of direct export subsidies over a

five-year period. The EU proposal (European Commission, 2002) is a 36% average cut in bound

tariffs with a minimum 15% cut in each tariff line; reducing the Aggregate Measure of Support by

55%; and reduction of 45% of budget outlays on export subsidies. The Harbinson proposal (WorldTrade Organization, 2003b) is to reduce out-of-quota bound tariffs by a simple average for all

agricultural commodities subject to a minimum reduction per tariff line, with higher reductions for

developed than developing countries; reduce AMS by 60% in developed countries and 40% in

developing countries; and abolish export subsidies over a five-year period for developed countries

and 10 years for developing countries. Most of the agricultural export subsidies are provided by the

EU, hence the insistence by EU for a modest reduction in budget outlays on export subsidies.

33. The ambitious scenario in the Agricultural Trade Policy Simulation Model is reduction in

applied tariffs as per the US proposal, elimination of in-quota tariffs, a 20% expansion of import

quotas, and elimination of domestic support and export subsidies in all countries and all

commodities. The conservative scenario (an extension of the Uruguay Round approach) is a

reduction in bound out-quota tariffs of 36%, a 55% reduction in domestic support and 45%

reduction of export subsidy equivalent in developed countries, with two thirds of these cuts in

developing countries, and no reductions in least developed countries (Peters and Vanzetti, 2003;

Peters and Vanzetti, 2004).

34. Under the ambitious scenario, the estimated increase in world prices of Kenya’s exports and

import-competing crops would be wheat (14%), rice (3%), maize (5%), sugar (11%), coffee roasted

(1%), tea (5%), and cotton linters (2%). Kenya’s net gain in welfare is estimated at $15 million under

the ambitious scenario, compared with $25,766m for all countries (Vanzetti and Peters, 2003a;

Vanzetti and Peters, 2003b). Under the conservative scenario, the estimated increase in worldprices of Kenya’s exports and import-competing crops would be wheat (5%), rice (1%), maize (2%),

sugar (3%), coffee roasted (0%), tea (1%), and cotton linters (1%). Kenya’s net loss in welfare is

estimated at $9 million under the conservative scenario, compared with a net gain of $12,096m for

all countries (Vanzetti and Peters, 2003b). The expected changes in world prices of Kenya’s exports

and import-competing crops reported in Chanda (1996) and Vanzetti and Peters (2003a; 2003b)

under the conservative scenario are fairly close as they are an extension of the Uruguay Round

approach. Increases in world prices are a gain to food exporters and hurt importers, and thus net

food importing developing countries like Kenya would face higher food prices from an ambitious

agreement.

8 The Swiss formula reads: t1=(α × t0) /(α + t0), where t1 is the resulting lower tariff rate, t0 is the initial tariff

rate, and α is both the maximum final tariff rate and the coefficient to determine tariff reductions in each

country (Goode, 2003; World Trade Organization, 2003c). The coefficient can be negotiated. The Swiss

delegation proposed a coefficient of 14, which meant that the formula would not leave any duty in excess of

14%. The difference between the new and the old tariff is given by t1 - t0 = [(α × t0)/(α + t0)] - t0 = -(to)2 /(α +

t0). A coefficient of 30 (representing a final maximum tariff of 30%) applied to an initial tariff of 100%

produces a final tariff of about 23%, and an initial tariff of 15% produces a final tariff of 10%. The formula

was originally suggested by Switzerland during the Tokyo Round (1973-79) of negotiations for tariff

reductions in manufactured products (GATT, 1976a; GATT, 1976b; GATT, 1976c; Hoda, 2001), but it is not

supported by the Swiss in the current agricultural negotiations. The formula was defended by the Swissdelegation for its simplicity as “it involves three simple operations – one multiplication, one addition and one

division” (GATT, 1976b).


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35. Chanda (1996) examines the implications of the Uruguay Round for Kenya, and concludes

that it will not lead to any major changes since there could be some export losses arising from

erosion of preference margins (the difference between MFN tariff and preferential tariff) in key

export markets like the EU as a result of multilateral tariff liberalization, and lower world prices of

important agricultural exports 9. However, Kenya’s agricultural imports constitute a mere 2% of

total imports consisting mainly of wheat, rice, cotton, rubber, and vegetable and vegetablematerials, and the increase in world prices following trade liberalization will not lead to a

significant increase in the total import bill (Chanda, 1996) 10.

36. The study undertaken by the Centre for the Study of International Economic Relations,

University of Western Ontario, for the Canadian International Development Agency (CIDA,

1996a) shows that the impacts of the Round across regions, and even across countries within

regions, are uneven, with the largest gains appearing to accrue to the Asian economies (largely from

removal of restraints on textiles and apparel), while African and Caribbean economies tend to be

restrained by domestic supply bottlenecks and many have preferential trade arrangements of

various kinds which will be eroded by the decisions in the Round. The net food importers among

African and Caribbean economies will lose due to expected increases in agricultural prices. Finally,

Latin American economies have less to gain on the access side, and have fewer preference-related

concerns. The study also suggests some degree of ambiguity on the significance of the effects from

the Round since OECD tariff cuts are from a low base, and thus give the appearance of large

percentage cuts; and tariffication in agriculture may have raised rather than lowered some barriers

11. The study argues that the earlier model-based studies have largely been limited to aggregated

regional blocs and to a subset of quantifiable issues from the Round (textiles, agriculture, tariffs),

and some studies did not give sufficient focus on the negative effects due to a concentrated

economic structure and the concomitant adjustment costs for such economies (e.g. on import-

competing firms and tax/public expenditure reforms due to reduction in tariff revenues).

37. While various studies (e.g. Harrold, 1995) show that preference erosion resulting from the

Uruguay Round produces relatively small losses on exports from sub-Saharan African countries,

CIDA (1996b) shows that the effects for particular countries can be both significant and adverse.

For example, Zambia could face significant losses in exports of metals and face higher prices in

imports of cereals. Côte d’Ivoire is expected to suffer reductions in export earnings for cocoa, coffee,

and tropical nuts and fruits, while experiencing potential increases in the cost of imported cereals,

live animals, and dairy products. Mozambique is a least developed country and a large net food

9 Preference erosion refers to the gradual disappearance of or reductions in margins of preference as countries

proceed with nondiscriminatory trade liberalization (Goode, 2003). If an exporting country (or group of

countries) enjoys duty-free access to a market for a particular product with 20% Most-Favoured Nation

(MFN) tariff, the 20% margin of preference will be eroded if the importing country agrees to reduce its MFN

tariff to, say, 10%. In the WTO, MFN is the principle of treating trading partners equally.

10 See also Eiteljörge and Shiells (1995) for projected changes in world food prices and net food import costs,

due to implementation of the Uruguay Round Agreement on Agriculture, for a sample of 57 developing

countries including Kenya.

11 Hathaway and Ingco (1995) also examines the Agreement on Agriculture, and concludes that the tariff

bindings agreed in the Round were well above those previously prevailing, so that little liberalization will be

achieved despite the substantial cuts agreed in the Round, while developing countries were effectively

allowed to set their agricultural tariffs at any level they liked, using so-called ceiling bindings, and manycountries chose to set them at very high levels. The headroom between the legal ceilings and applied

protection was probably to provide negotiation margins for the WTO member country.


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importer, and the increase in the price of cereals would have an acute impact since cereal imports

account for about 60% of total agricultural imports.

38. Hertel, Anderson, Francois and Martin (2000) find the implications of a 40% reduction in

post-Uruguay Round agricultural tariffs and export subsidies to be an increase in global welfare of

about $60bn per year. This figure increases by $10bn if production subsidies are also reduced by40%. Measured in dollar amounts, developed countries capture the largest gains from liberalization,

reflecting the reduction in the cost of agricultural support policies for OECD consumers. Virtually

all developing regions experience overall gains, other than some net food-importing countries (see

also Anderson, Francois, Hertel, Hoekman and Martin, 2000; and Hertel, Hoekman and Martin,

2002).

39. A study by Diao, Somwaru and Roe (2001) shows that removing trade barriers, subsidies,

and other distorting forms of support would cause aggregate prices of agricultural commodities to

rise by almost 12% relative to an index of all other prices; and the price of wheat by about 18.1%,

rice (10.1%), sugar (16.4%), livestock and products (22.3%) and processed foods (7.6%). Elimination

of tariffs alone will have the greatest effect on livestock and sugar prices, while elimination of

domestic support will affect mainly wheat and other grains. Export subsidies have depressed global

prices mainly for sugar, livestock and products (including dairy products), vegetables and fruits, and

wheat.

40. The Australian Department of Foreign Affairs and Trade (Commonwealth of Australia,

2003) estimate that trade barriers and subsidies by developed countries depress world agricultural

prices across the board by a massive 12%. The agricultural polices of developed countries represent

a huge tax on African agricultural producers of up to $7.1bn per year, or over 85% of 2001 bilateral

aid flows to Africa of $8.3bn. In addition, developed country trade barriers and subsidies encourage

African governments to implement their own import restrictions, and as a result African economiesimpose average tariffs of 75% on food imports, thus raising prices for local consumers and removing

farmers’ incentives to boost productivity (Commonwealth of Australia, 2003).

41. According to Tokarick (2003), the estimated effects on world prices from multilateral

agricultural trade liberalization would be an increase in wheat prices of 3.9%, milk (23.6%), rice

(2.3%), maize (3.1%), cotton (2.8%), refined sugar (8.0%) and sheep meat (22.2%). The results also

shows that market price support (i.e. tariffs and export subsidies) have the largest distortionary

impact in comparison with production and input subsidies. In the case of Kenya, removing

agricultural support (tariffs and subsidies) in OECD countries would lead to an increase in annual

import costs of $2.93 million, mainly wheat ($1.21m), refined sugar ($0.77m) and maize ($0.58m) – Tokarick (2003). The increase in import costs would be mostly felt in the net food-importing

countries, especially in North Africa and Middle East. However, results of the Global Trade

Analysis Project (GTAP) general equilibrium model shows that liberalization of agricultural trade

by both developed and developing countries would raise real incomes in all countries by $128bn or

0.4% of world GDP (Tokarick, 2003).

42. Using GTAP general equilibrium model, Anderson, Dimaranan, Francois, Hertel, Hoekman

and Martin (2001a; 2001b) estimated that if all merchandise trade restrictions were removed


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globally, an aggregate welfare gain of more than $250 billion per year could be expected 12. A

reported 64.8% of the gains would come from liberalizing agriculture and food (48.0% from

liberalization in high income countries and 16.7% from low income countries). A further 6.8%

would come from liberalizing textiles and clothing and 27.3% from other manufactures. In total,

54.9% of the gains would come from liberalization in high income countries and 45.1% from

liberalization in low income countries. An estimated 57.5% of the gains would accrue to highincome countries and 42.5% to low income countries. Sixty six per cent of the gains to high income

countries are from liberalization within high income countries, while 60% of gains to low income

countries are from liberalization in their own countries. The results of the study therefore provide

support for liberalization in both developed and developing countries.

12 See, Huff and Hertel (2000), Hanslow (2000), Brockmeier (2001) and McDougall (2003) for definition and

derivation of welfare decomposition in the GTAP model, which includes resulting changes in allocative

efficiency, terms of trade effects, technical change, and per capita endowment to the representative regional

household of non-tradable goods (that includes agricultural land, labor and capital). As shown by Corden

(1957), the net change in welfare from any change in trade policy is comprised of a change in producer

surplus, consumer surplus, and net government revenue – see also Lloyd (1834), Jules Dupuit (1844)[reviewed in Hicks, 1939; Stigler, 1950; Scitovsky, 1954; Ekelund, 1972; Hines, 1999; and Rima, 2001],

Fleeming Jenkin (1870;1872) [reviewed in Brownlie and Prichard, 1963; and Hines, 1999], Jevons (1871)

[reviewed in Hines, 1999], Marshall (1890), Cunynghame (1904), Hotelling (1938), Corden (1975; 1997),

Harberger (1959; 1971), Johnson (1960; 1965), Anderson (2003) and Tokarick (2003). Students of the history

of economic ideas may also want to consult the relevant sections of some references cited by Jevons (1866;

1871) e.g. Dalrymple (1764), Davenant (1771), Henry Thornton (1802), Chalmers (1802), Lauderdale (1819),

Newman (1851), Thomas Tooke and William Newmarch (1857), and William Thomas Thornton (1869).

Cunynghame (1904) observed that the doctrine of final utility was clearly seen by Lloyd (1834) and Jules

Dupuit (1844); Gossen (1854) had not carried the matter any further; and that Richard Jennings (1855) did

not expound anything that Cournot (1838) had not already seen. The ‘discovery’ of these and other 18th and

19th

century studies has sparked debate on the paternity of the supply-demand curves, utility and valuetheory, and marginal cost pricing e.g. Ekelund (1968; 2000), Ekelund and Hebert (1976; 1985; 1999; 2002),

Ekelund and Thornton (1991), Groenewegen (1973), Gordon (1982), Thweatt (1983), Humphrey (1992),

Blackorby and Donaldson (1999), and Mosselmans (2000). The GTAP model derives welfare decomposition

using the concept of “equivalent variation” which dates back to Hicks (1939; 1942; 1956) – see also

Henderson (1941), Mishan (1947), Friedman (1949), Houghton (1958), Willig (1976), Chipman and Moore

(1980), Hausman (1981) and Haveman, Gabay and Andreoni (1987); and especially Harberger (1971) on the

use of the consumer surplus approach to analyze the impact of policy changes. The 19th century literature on

free trade and protection had already anticipated some of the recent debate on the merits of free trade and

the cost of protection (see, for example, Grosvenor, 1871; Byles, 1872; Cyrus Elder, 1872; Butts, 1875;

Fawcett, 1878; Hawley, 1878; Cairnes, 1878; Henry George, 1886; Bastiat, 1888; and Sumner, 1888). The so-

called ‘protectionists’ included Alexander Hamilton (Lodge, 1904), Hezekiah Niles (cited in Abbott, 1906;

Stone, 1933; and Normano, 1943), Henry Carey (1848; 1851), Colton (1848), Smith (1853), Bowen (1856;

1890), Greeley (1871), and Dixwell (1882; 1883a; 1883b; 1885-1886). For example, Henry Carey (1848) had

argued that “war is an evil, and so are tariffs of protection: yet both may be necessary, and both are sometimes

necessary”. The American writers were mainly concerned about economic exchanges between America and

England, and were also unwilling to embrace the entire science of English Political Economy (Bowen, 1890;

Normano, 1943). As argued by Sumner (1888), the protectionist school sometimes started “with a priori

assumption in regard to the kind of world they would like to make ” and then set to work to force it into that

form. The protectionists engaged in fallacious economic reasoning (sophisms), which enabled the advocates

of free trade to counter their arguments, blow-by-blow (see, especially, Bastiat, 1888, on sophisms of

protection; and Guthrie, 1971, and Waterfield, 2000, on sophism in Greek philosophy). For example, Fawcett

(1878), chapter 4, considers the arguments of the protectionists under thirteen headings, and concludes that

(a) “industrial development of a country would be far more surely promoted by freedom than by restriction”,and (b) “when the paths of restriction have once been entered upon, it becomes increasingly difficult for a

nation to retrace her steps”.


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43. Using the static GTAP model, Cernat, Laird and Turrini (2002) report an aggregate welfare

gain of $21.5 billion arising from a worldwide reduction of 50% in all agricultural tariffs, taking

into account the existence of preferential tariff schemes (e.g. GSP and regional trade arrangements).

The estimated gains for sub-Saharan Africa (SSA) and Latin America is lower than in other studies,

mainly because of inclusion of tariff preferences the regions already enjoy under existingpreferential schemes. A 50% reduction of all merchandise tariffs (in both agriculture and

manufacturing) almost doubles the global welfare gains to $39.6 billion. The simulations also show

that Africa and Latin American regions would be the main beneficiaries of liberalization in

processed agriculture because of the heavy protection faced by their processed agriculture and food

exports, especially in Western Europe and Japan.

44. Brenton (2003) argues that the EU’s Everything But Arms (EBA), which came into effect in

March 2001, will not have significant incremental effect as the majority of imports from LDCs were

entering the EU duty and quota free. The EBA initiative is provided to the UN-defined Least

Developed Countries, and is more generous in terms of duty reduction than the Cotonou

Agreement with ACP countries. Liberalization under EBA was immediate except for three products

(fresh bananas, rice and sugar) where tariffs will be gradually reduced to zero (in 2006 for bananas

and 2009 for rice and sugar). There are duty-free quotas for rice and sugar, which will be increased

gradually. However, unlike AGOA, the EBA preferences are not time limited, and thus provide

greater certainty for investors and traders.

45. Bora, Cernat and Turrini (2002) assess the effects of trade policy initiatives aimed at

improving market access for LDCs in Quad countries (Canada, European Union, Japan and United

States). This policy simulation refers to a hypothetical situation in which all Quad countries import

all goods from LDCs quota-free and duty-free as if the EU-EBA initiative would be adopted

together by all Quad countries. The first experiment was the elimination of all tariff and nontariffbarriers against LDCs in the EU to simulate the effects of the already approved Everything But

Arms initiative. The EBA extends duty-free and quota-free access to the EU, other than for

bananas, rice and sugar, which face safeguards measures and whose duties will be liberalized

gradually according to a set timetable. In this scenario, the gains mainly accrue to SSA countries

and are mostly explained by improved terms of trade for beneficiaries, and the key sectors are

paddy and processed rice, and sugar. LDC export gains are also expected in meat and meat products

and dairy products. When duty and quota-free market access occurs in all the Quad countries for

all goods from LDCs except arms, the benefits are ten times higher compared with EU-EBA, the

gains to SSA increase substantially, and additional products (in addition to rice and sugar) that

benefit include wearing apparel, and dairy products and other food exports. Kenya is not classifiedas an LDC, and is not therefore included in the analysis, although the findings of the study should

broadly be applicable to Kenya.

46. Ianchovichina, Mattoo and Olarreaga (2001) assess the impact of the ongoing initiatives to

improve market access for 37 sub-Saharan African countries (SSA-37) in the EU, Japan and USA

using the GTAP model. The policy experiment is similar to Bora, Cernat and Turrini (2002), other

than that preferential market access is targeted to Sub-Saharan African countries only. The SSA-37

does not include the Southern African Customs Union (Botswana, Lesotho, Namibia, South Africa

and Swaziland) since these countries are neither LDC nor HIPC. The gains to SSA-37 from

unrestricted access to the US market for apparel are small: $33.7 million or a 0.2% increase in non-oil export revenue. This reflects the fact that exports of apparel from SSA-37 account for a small

share of African exports (less than 3%). If the US were to grant duty-free access to all SSA-37


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products (the most generous interpretation of AGOA), the gains are only about twice the gains

arising from free access for apparel. The expansion is mostly in apparel and a small increase in value

added in the sugar-related sectors, as these are really the only sectors where SSA-37 faces

significant barriers in the US market.

47. The proposed liberalization of access to the EU market for all products except arms couldlead to higher gains: an increase of around $513 billion (2.8% of SSA-37 non-oil exports) in export

revenue and $317 million (0.2%) in welfare, or six times larger than the gains from free access to

the US market (Ianchovichina, Mattoo and Olarreaga, 2001). The largest expansion is in plant-

based fibers, livestock, meat and dairy products, followed by sugar-related sectors. The most

substantial gains for SSA-37 would arise from liberalization of the Quad markets: a $2.5 billion or

13.9% increase in non-oil export revenue, and $1.8 billion (1.2%) increase in welfare. This would

also lead to diversion of agricultural exports (mainly from EU) to Japan. The relative importance of

the industrial sector in SSA-37 would decline as resources are drawn into the agricultural sectors,

and would also lead to expansion in contributions of cereal grains, plant-based fibers, and livestock,

and meat and dairy products to agricultural value-added. If all agricultural subsidies (export and

producer) were removed in the Quad countries subsequent to giving preferential access, this would

generate additional benefits of around $412 million for the SSA-37 region.

48. Hoekman, Ng and Olarreaga (2003) assess the impact of reducing tariffs and domestic

support for a sample of 119 countries including Kenya using a partial equilibrium model. The

analysis excludes export subsidies as they represent only 8-10% of total domestic support. The

results show that a 50% cut in tariffs has a higher net gain in welfare than a similar reduction in

domestic support. A 50% tariff reduction leads to increase in exports of developing countries

(excluding LDCs) by $4.2 billion (or 6.7% of initial export revenue for the 158 product categories),

by $116 million in LDCs (or 3.7%) and $3.3bn in industrialized countries (4.7%). There is also an

increase in the import bill following the 50% tariff reduction. In industrial countries, the increasein imports is double the increase in exports (due both to an expansion in demand and higher world

prices), while the increases in exports and imports are roughly equal in developing and least

developed countries. A 50% cut in domestic support has less dramatic effect than a cut in tariffs.

49. For example, a 50% tariff cut would increase Kenya’s export revenue by 4.0% compared

with 1.4% for a similar cut in domestic support. The Kenya’s terms of trade would improve by 0.9%

for reduction in tariffs and 0.3% for reduction in domestic support. The change in welfare per

capita would be 0.3% for tariff cut and 0.1% for reduction in domestic support (Hoekman, Ng and

Olarreaga, 2003).

50. The simulation results of full and global tariff liberalization of agricultural and industrial

goods estimate net increase in world welfare at $1,212 billion (in 1995 prices) in the year 2010

which is equivalent to a 3% gain in world GDP (OECD, 1999). OECD would net $757 billion (2.5%

of GDP) and non-OECD economies $455 billion (4.9% of GDP). SSA countries as a group stand to

improve their GDP by 3.7% through annual gains of $11bn, which is almost equal to OECD Official

Development Assistance (ODA) to Africa in 1997 ($11.37bn). The estimated benefits are higher

than those generated by most authors because the model incorporates dynamic gains from tariff

liberalization, mainly from reductions in production costs following increased competition, and

from increases in imported technology that is embodied in non-substitutable intermediate and

capital goods following relaxation of foreign exchange constraints.


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51. Hoekman (2002) reports that OECD countries currently impose costs on developing

countries that exceed official development assistance (some $45 billion), benefits to developing

countries from abolishing their own protection are over $60bn, and global protection of

merchandise costs the world economy some $250bn. He stresses the need to address supply-side

constraints e.g. human capital (health and education) and infrastructure and cost of key inputs

(transport, telecommunications, insurance, finance) to provide the necessary complementaritiesbetween trade and development agenda. Hoekman (2002) notes that improving domestic policies,

strengthening institutions, and enhancing domestic supply-side trade capacity are necessary if a

country is to benefit from improved market access, but are not negotiating issues and therefore

require action outside the WTO framework.

52. Anderson, Dimaranan, Francois, Hertel, Hoekman and Martin (2001a; 2001b) and Scollay

and Gilbert (2001) provide synopses of results from various studies. Generally, models which are

dynamic, incorporate capital accumulation and induced productivity increases that result from

liberalization, or account for increased capital mobility, tend to predict larger gains than the more

traditional static models (Scollay and Gilbert, 2001). In addition, studies which consider the

elimination of a wider range of barriers (tariffs, nontariff barriers, liberalization of services and

investment) or which assume reductions in transaction costs due to trade and investment

facilitation measures, also produce larger estimates of potential gains.

53. The World Bank’s Global Economic Prospects and the Developing Countries 2001 (Chapter

3: Standards, Developing Countries, and the Global Trade System) provides a summary of

economy-wide studies assessing the impacts of trade liberalization on pollution. There are several

studies on environmental effects of trade liberalization (Ferrantino and Linkins, 1999; Jenkins,

1998; and Vasavada and Nimon, 1999) whose findings are of relevance to MDG Goal Seven (ensure

environmental sustainability) vis-à-vis competitive performance. As argued by Esty (2001), trade

and environmental policies are inescapably linked as a matter of descriptive reality and normativenecessity, and “the reliance on a distinction between product standards imposed on imports

(generally acceptable) and production process or methods restrictions (generally unacceptable)

makes little sense in a world of ecological interdependence”. This also implies that there is need to

analyze how the various MDGs interact, either to reinforce each other (e.g. global trade

liberalization and reduction in poverty) or to impose extra costs of attaining other goals (e.g. global

trade liberalization and environmental sustainability).

6.2 A SYNTHESIS

54. The World Bank’s Global Economic Prospects and the Developing Countries 2002 (Chapter

6: Envisioning Alternative Futures: Reshaping Global Trade Architecture for Development)

provides a synthesis of major studies undertaken to estimate the impact of global trade

liberalization – see also Whalley (2000), Francois (2000) and International Monetary Fund and the

World Bank (2002). The lowest estimate of world gains from full liberalization of merchandise

trade are $254.3bn, excluding any gains from services trade and investment liberalization, from

economies of scale and reductions in imperfect competition, and from dynamic effects of reform on

investment (Anderson, Francois, Hertel, Hoekman and Martin, 2000). The results of removing all

distortions in all sectors (excluding trade in services) reported by Goldin, Knudsen and

Mensbrugghe (1993) show that total global income gains sum to $450bn (1992 dollars) per annum,with gains of OECD countries adding up to $290bn; and positive gains in non-OECD countries at

$201bn and aggregate losses at $40bn. The highest estimates of world gains from liberalization


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reported in the World Bank’s Global Economic Prospects and the Developing Countries 2002 are

$1,212bn (Dessus, Fukasaku and Safadi, 1999) and $1,857bn (Brown, Deardorff and Stern, 2001).

55. The study by Dessus, Fukasaku and Safadi (1999) presents a scenario of full tariff

liberalization (complete elimination of tariffs for agricultural and industrial products for both

OECD and non-OECD economies) with dynamic gains in productivity, where estimated globalincrease in welfare would be $1,212bn (3.1% of GDP), with $757bn (2.5% of GDP) accruing to

OECD countries and $455bn (4.9% of GDP) accruing to non-OECD countries. An estimated $11bn

would accrue to sub-Saharan African countries (3.7% of its GDP).

56. A study conducted by the Australian Department of Foreign Affairs and Trade

(Commonwealth of Australia, 1999) estimates that a 50% cut in trade barriers would generate

additional annual welfare gains to the world economy of over US$400bn (US$90bn from

agriculture, US$66bn from manufactures, and US$250bn from services) and US$380bn from a 50%

cut in protection across the three sectors; and full liberalization of agriculture, manufactures and

services would take the gains up to US$750bn. Finally, a study by Brown, Deardorff and Stern

(2001) shows the global gains from global free trade with all post-Uruguay Round trade barriers

completely removed to be around $1,857bn, mainly from industrial products and services

liberalization rather than agricultural liberalization. The studies by Australian Department of

Foreign Affairs and Trade (Commonwealth of Australia, 1999) and Brown, Deardorff and Stern

(2001) include services trade liberalization in the complete package.

57. The World Bank’s Global Economic Prospects and the Developing Countries 2002 presents

its own estimates of the impact of global liberalization of merchandise trade (phased elimination of

all import tariffs, export subsidies and domestic production subsides). Measured in static terms,

world income in 2015 would be $355bn more with trade liberalization assuming fixed productivity.

In the simulation with fixed productivity, $248bn would result from liberalization of agricultureand food, $41bn from textiles and clothing, and $70bn from all other sectors. The introduction of a

link between openness and productivity increases the static gains, with global gains jumping to

$832bn. In the dynamic scenario (simulations with endogenous productivity), $587bn would result

from liberalization of agriculture and food, $189bn from textiles and clothing, and $62bn from all

other sectors. In both static and dynamic simulations, agricultural reform accounts for 70% of the

global gains. The differences in results using applied general equilibrium models are essentially

explained by three factors: (a) the base from which the reform is simulated, together with its

assumptions about initial levels of trade barriers (for example, pre- or post-Uruguay Round), (b)

whether productivity is fixed or responsive to trade opening, and (c) whether service sector

liberalization is included (World Bank, 2002). The World Bank (2002) report notes that the studiesdo not necessarily report the same indicator as a measure of the gains from trade (e.g. real GDP, or


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some measure of welfare such as equivalent variation), and the units of measurement are not always

identical (e.g. different base year dollars, or some cumulated discounted value) 13.

58. The studies on the impact of global trade liberalization are not necessarily linked to the

millennium development goals on aid, debt and trade. They are, however, important for several

reasons. First, they estimate global parameters on changes in prices of export and import items thatcan be used to estimate changes at the national level. Secondly, they provide estimates of lost

opportunities which would otherwise have assisted in attaining the goal of reducing poverty. The

lost opportunities include the cost of extra debt incurred that might have been unnecessary if the

developing country was getting the full benefits of free trade. Finally, the studies show the

importance of the World Trade Organization (in reforming the world trading system) on the

achievement of the MDGs. In particular, studies akin to those conducted on Developing Countries

and the Uruguay Round for CIDA (CIDA, 1996a), augmented by simulated price changes on

exports and imports from global modeling, could provide the clue to costing lost opportunities of

trade restrictions at the individual country level.

7. THE AFRICAN GROWTH AND OPPORTUNITY ACT

59. The African Growth and Opportunity Act (AGOA) was signed into law on May 18, 2000 as

Title 1 of The Trade and Development Act of 2000 as an initiative in United States trade policy

13 Rodriguez and Rodrik (2001) have criticized these studies on methodological grounds (e.g. their measures

of openness, causation between openness and growth, and other supportive policies and institutions required

in order to realize the benefits of trade liberalization), but the World Bank (2002) report notes that “the

preponderance of evidence points rather consistently to the fact that countries with more open trade and

financial regimes, complemented with other appropriate macroeconomic and social policies, have improvedgrowth performance”. Harrison and Hanson (1999) also note that the studies on the association between trade

reform and growth capture many other aspects of openness than pure trade policy. Perhaps the reportedly

low impact of trade policies on economic growth lies in what Rodriguez and Rodrik (2001) refer to as scarce

“administrative capacity and political capital”, which could include rent seeking and other types of

governmental corruption that normally accompanies trade barriers, and trade restrictions affecting imports of

capital goods. In his comments on Rodriguez and Rodrik (2001), Chang-Tai Hsieh (2001) notes that “a

country in which trade barriers are set in a discretionary manner with rampant rent seeking will probably

have poor growth performance”, and “restrictions on capital-good imports are even more harmful in a

developing country that has little domestic production of capital goods and would thus benefit the most from

purchasing capital goods embodying the most advanced technologies”; while Daron Acemoglu pointed out

that the correlation between restrictive trade policies and corrupt, rent-seeking governments means that one

benefit of more open trade is that it may reduce the scope for governmental corruption. See also Bhagwati

(1982) on rent-seeking and trade policies (e.g. tariff evasion and import licensing); Ades and Di Tella (1999)

on corruption and barriers to trade, in economies dominated by a few firms, or where antitrust regulations

are weak; Knack and Keefer (1995) on the impact of property rights on economic growth; De Long and

Summers (1991) and De Long (1992) on a strong association between equipment investment and growth; and

Jones (1994) on the negative relationship between growth and the price of machinery and equipment relative

to non-machinery component of capital. (Hill, 1964) had noted that “in so far as any general association exists

between growth and investment, it is largely due to investment in machinery and equipment”, and the

composition of capital formation therefore matters. De Long (1992) acknowledges that the link between

investment in machinery and productivity has a long tradition that includes Andrew Ure (1835), Babbage

(1846) and Blanqui (1880). Torrens (1834) had also observed that machinery “augment the funds for the

maintenance of labour, and have the effect of increasing both maximum and actual wages ”. However, therewere also skeptics on the effects of machinery on wages, e.g. Nicholson (1878) who states that his book

devoted greater space “to the evil than to the good results of machinery”.


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based on the general philosophy of “trade, not aid” (VanGrasstek, 2003). The scheme provides duty-

free access for almost all exports other than oil, certain textiles and apparel, most leather products

and a few other exceptions (Bora, Cernat and Turrini, 2002). AGOA is in the second tier of

preferential treatment, below free trade agreements (FTA) but above the generalized system of

preferences (GSP). In comparison with an FTA, there are a few products that AGOA does not cover

and the benefits are not permanent; and AGOA is more generous than GSP in product coverage andother limitations that may be included in a GSP (e.g. restrictive quantitative restrictions to protect

domestic producers in the country granting the GSP). The preference margins (tariff revenues for

AGOA products divided by the values of imports for the period 2000-2002) were estimated at about

15.7% for apparel and footwear, 8.9% for all agricultural products, 4.8% for all manufacturing and

mineral products, and 9.8% for all commodities excluding oil products (Shapouri and Trueblood,

2003). Within the agricultural commodity subgroup, the preference margin was highest for fruits

(10.5%), followed by vegetables (8.5%) and food (7.2%).

60. AGOA is a nonreciprocal regional preference that gave sub-Saharan African (SSA)

countries duty-free access for nearly all goods, and duty and quota-free access for textiles and

apparel from some designated SSA countries. Prior to AGOA, only Kenya and Mauritius were

subject to quotas on textile and apparel imports, and these were lifted in January 2001. The export

quotas imposed on Kenya by the US came into force in July 1994 and covered exports of two

categories of textile products: boys’ and men’s T-shirts made of cotton and manmade fibers, and

pillow cases made of cotton and manmade fibers (Mwega and Muga, 1999). The probable impact of

AGOA will be analyzed using the composition of SSA exports to USA, the Normal Trade Relations

(NTR) prior to AGOA, the types of preferences given under AGOA, and the relative importance of

tariffs vis-à-vis domestic support to US cotton producers 14.

61. SSA exports are primarily agriculture and natural resource-based. Oil accounts for close to

50% of exports, agriculture and other commodities for about 36%, and manufacturing for a meager12% (Mattoo, Roy and Subramanian, 2002). Nearly half of the oil is exported to USA and about a

third to the EU. However, oil is subject to hardly any protection in Quad countries. About 67% of

SSA non-oil exports are to the EU and 7% to USA. Textiles and clothing represent only 3% of SSA ’s

non-oil exports.

62. The US imported $7.6bn worth of goods under AGOA in 2001, of which $3.7bn (48.7%)

was liquid natural gas, $2.8bn (36.8%) was crude oil, $0.27bn (3.6%) was refined petroleum

products, while all other products accounted for less than 10% of the total (VanGrasstek, 2003). Oil

is subject to a low tariff which amount to about 0.2-0.4% ad valorem at recent prices, and its

designation as duty-free therefore extended a very small margin of preference. Many of theproducts US imports from SSA were already duty-free on NTR and GSP basis, and those that were

dutiable were subject to relatively low duties. For example, in 2001, US imports from Kenya were

$128.6m, of which 50.1% were textiles and apparels and 49.9% were classified under “other ”,

mainly coffee, tea and pyrethrum which were already duty-free on NTR basis (VanGrasstek, 2003).

63. However, the conditions are different for textile and apparel products. The tariffs range

from 16.8% to 17.3% ad valorem , which are quite high by US standards (VanGrasstek, 2003). The

14 The term “Most Favored Nation” (MFN) is no longer used in the United States, as it was replaced by

“Normal Trade Relations” (NTR) through section 5003 of the Internal Revenue Service Restructuring andReform Act of 1998 , which also required the new term to be used in all subsequent trade legislation. From a

practical perspective, there is no difference between NTR and MFN (United States Congress, 1998).


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benefits for these products are therefore substantial, provided that the exporting country is certified

for the benefits and meets the programme’s rules of origin. The rules require that the apparel be

assembled in eligible SSA countries and that yarn and fabric be made either in USA or in African

countries (this does not apply to the LDCs in Africa until 2004). The apparel exports made from

African fabric and yarn are subject to a cap of 1.5% of overall US imports, growing to 3.5% of

overall imports over an 8-year period (Mattoo, Roy and Subramanian, 2002). As demonstrated inthe UNCTAD’s preliminary assessment of AGOA (VanGrasstek, 2003), the additional benefits of

the AGOA preferences represent a modest expansion over the preferential treatment that SSA

countries already enjoyed under the GSP, apart from the textile and apparel sector where

substantial trade barriers imply equally substantial margins of preference for AGOA beneficiary

countries. Indeed, the United States International Trade Commission in 1997 estimated that quota-

free treatment would not have a very significant impact (given the fact that only two countries

were then subject to quotas), and US imports of apparel from SSA would increase between 0.4%

and 0.6%. However, if both quotas and tariffs were eliminated, imports of apparel from the region

would increase by 26.4% to 45.9%, while textiles imports would increase by 10.5% to 16.8%

(United States International Trade Commission, 1997).

64. The Cotonou Agreement rescinded the one-way preference that Europe gave countries in

Africa and the Caribbean under the Lomé Convention, and replaced them with free trade

agreements involving reciprocal obligations (Freund, 2003). In addition to reciprocity, ACP LDCs

are to be treated differently from ACP non-LDCs since LDCs are unlikely to have to reciprocate

and open their markets to EU exports as much as the non-LDCs in order to maintain their

preferential access to EU markets. The Cotonou rule of origin is based on the concept of “double

transformation”, i.e. if two of the processing stages (yarn to fabric – weaving; and fabric into

apparel – assembly) are done in the beneficiary country, duty free entry into the EU can be

enjoyed. Under Cotonou rule of origin, yarn can be sourced from anywhere in the world, whereas

under AGOA the yarn must come from a beneficiary SSA country or from the US (Mattoo, Roy andSubramanian, 2002). According to Mattoo, Roy and Subramanian (2002), the costs of complying

with the rule of origin include (a) the incremental cost of switching purchases of inputs

(yarn/fabric) away from the cheapest source (when the rule of origin does not apply) to the AGOA-

designated source (Africa or US), and (b) the incremental transport cost (which could be positive or

negative) of switching purchases of inputs (yarn/fabric) away from the cheapest source (when the

rule of origin does not apply) to the AGOA-designated source (Africa or US).

65. According to WTO Agreement on Textiles and Clothing, the Multifibre Arrangement

(MFA) quota regime is scheduled to vanish in 2005, after which the only protection in major

import markets will be tariffs and the contingent and trade-remedy laws e.g. safeguards andantidumping duties (World Trade Organization, 1999). This means that preferential quota

treatment will no longer be possible. The AGOA beneficiaries will still enjoy preferential tariff

treatment, subject to their meeting the strict rules of origin (VanGrasstek, 2003). In addition, the

provision on Lesser Developed Beneficiary Country use of third country fabrics, allowed under

AGOA, comes to a close in September 2004.

66. While African countries strongly support special trade preferences, studies show they

generate few benefits and could impose many long-term costs, mainly because (a) income gains

from preferences are trivial and a small fraction of the gains possible from eliminating developed

country agricultural trade distortions, (b) preferences only remove some of the tariff barriers toAfrican trade, but do nothing to address the damage caused by subsidies, (c) preferences are

incomplete, excluding many goods which Africa produces competitively, (d) preferences often are


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changed or revoked arbitrarily, (e) preferences are nonreciprocal, discouraging trade liberalization

and reducing exporters’ exposure to competition, and (f) along with tariff escalation, preferences

can lock producers into unprocessed, low value-added export lines, where long-run prices are

declining (Commonwealth of Australia, 2003; Ozden and Reinhardt, 2003). As observed in

Commonwealth of Australia (2003), preferences cannot overcome the much larger income loss

caused by reduced world agricultural prices due to domestic support and export subsidies, and onlyliberalizing multilaterally and winding back subsidies can overcome this major tax on agricultural

producers 15. In addition, Ozden and Reinhardt (2003) argue that “nonreciprocal preferences have

the perverse effect of delaying trade liberalization by recipients”.

8. THE COTTON TRADE IN A GLOBAL PERSPECTIVE

67. The cotton global trade is governed by a bizarre set of public policies, built on an Alice in

Wonderland economics and driven by powerful vested interests (Oxfam, 2003). The major obstacle

is not import tariffs but the heavy use of subsidies by the US.

68. The major cotton producers (China, US, India and Pakistan, in descending order) account

for about two-thirds of global production. The Central and West African countries account for

about 5% of world production (Badiane, Ghura, Goreux and Masson, 2002). Mo

Documents

The Implications of International Trade Restrictions on Kenya