Summary additional readings
Rodrik - What do trade agreements really do?
Economists largely agree on free trade over protection – comparative advantage and gains from trade
The enthusiasm for the North-American Free Trade Agreement (NAFTA) is curious. Rodrik argues that they
thought of questions of practical details and distribution as secondary to the primary gains from trade made.
The label ‘’free trade agreements’’ does not accurately describe recent agreements like the TTP and TTIP.
Contemporary agreements cover not just traditional trade restrictions, but also regulatory standards, health &
safety rules, the environment, and labour etc. New trade agreements go beyond national borders (deep
integration). New features require economists to rethink default attitudes toward trade agreements.
Main arguments Rodrik:
- Economists’ conflation of free trade with trade agreements is rooted in an implicit political-economy
perspective that views import-competing interests as the most powerful and dominant architect of trae
policy.
o Import protectionists are the main villains
o Trade agreements serve to counter their influence
Other perspective: trade agreements are shaped largely by rent-seeking, self-interested behaviour on the export
side. Rather than reining in protectionists, trade agreements empower another set of special interests and
politically well-connected firms. This may result in freer, mutually beneficial trade, through exchange of market
access.
Basic trade theory: free trade is the optimal policy for an economy, provided compensatory policies can be
implemented and adverse interactions with market failures can be addressed through complementary policies.
Exception: large countries are able to manipulate terms of trade using optimal tariff (provides rationale
to enter into agreements & prevents trade protectionism.
Contemporary trade agreements are harder to fit in this theory.
Issue areas in modern trade agreements:
- Trade-related intellectual property rights (TRIP)
In TRIPs, advanced countries’ gains are largely developing countries’ losses. High elasticity of global innovation
to developing countries’ patents. Intellectual property protection has become broader and stronger, and much
flexibility under WTO has been eliminated.
- Rules about cross-border capital flows
US agreements enforce open capital accounts as a rule. Many believe that direct restrictions on the capital
accounts have a second-best role to complement prudential regulation and to provide temporary breathing space
during moments of extreme financial stress.
- Investor-state dispute settlement procedures (ISDS)
Anomaly: enable foreign investors to sue host governments in special arbitration tribunals and to seek monetary
damages for regulatory, tax, and other policy changes that reduce their profit. Problems with ISDS:
o Operate outside accepted legal regimes
o Gives arbitrators too much power
o Allows no appeal
o Does not follow or set precedents.
- Harmonization of regulatory standards
1
, Justification: reduces transaction costs associated with doing business across borders. Unlike tariffs and quotas,
there is no natural benchmark that allows us to judge whether a regulatory standard is excessive or protectionist.
Regulatory standards are public goods over which different nations have different preferences.
It is curious that economists tend to be nearly unanimous in their view that trade agreements are a good thing.
Despite not knowing much about the details, they must believe such agreements regularly strike the right balance
in all areas of ambiguity.
Rodrik: tendency to associate ‘’free trade agreements’’ all too closely with ‘’free trade’’ may result from the fact
that the new (and often problematic) beyond-the-border features of these have not yet made their mark on the
collective unconsciousness of economists. Rodrik also suspects it results from an implicit, hand-waving kind of
political-economy analysis.
Political-economy perspective: protectionist interest are the dominant influence in determination of trade and
other policies. No trade agreements: barriers to trade are too high, and too little trade; trade agreements
neutralize protectionist interests. In other words, trade agreements must move us in a desirable direction because
they are a counterweight to protectionists.
Trade agreements about tariffs & quotas:
o High tariff before the agreements – tariff reduction after the agreement? Prima facie evidence that
protectionists were dominant influence before agreement and they were countervailed through.
This does not carry over to trade agreements on domestic rules, regulations and standards – there is no clear
efficient benchmark.
Logic of trade agreements:
Harry Johnson (1953): countries that are ‘’large’’ in world markets have the incentive to exploit their market
power. An import tariff restricts home demand for other countries’ exports and drive down the world price of
that imported good. Correspondingly, a trade agreement that enforced free trade could leave all the countries
better off.
The motive to manipulate the terms-of-trade provides a valid economic motive for countries to commit
themselves to free trade by signing on to trade agreements. Actual policy makers aren’t concerned about terms of
trade when they negotiate trade agreements. Trade policy practitioners tend to justify trade agreements by
reference to the politics of trade policy at home: trade agreements are what enable governments to say ‘’no’’ to
domestic import-competing interests. Without them, governments are too easily tempted to do the easy thing and
provide import protection when faced with short-term political pressures.
Forward-looking workers and capitalists understand the difference between the government’s short-run and
long-run incentives and behave accordingly. In particular, they make their investment decisions so as to ensure
the government provides them with trade protection. In these settings, trade agreements are a commitment device
for governments to withstand political pressure from future protectionists.
Government fears not just its future self, but also its future opponents, scenario: incumbent government enters an
international agreement to tie the hands of its opponents.
Now suppose further that the current government is captured by special interests – but by exporter lobbies
instead of import-competing lobbies. In this case, the government’s objectives are explicitly redistributive, to
transfer rents from the rest of society to a special interest. But unlike in the usual model, the rent-seekers are not
the traditional protectionists. In this setting, trade agreements serve to empower special interests, rather than rein
them in.
Who do trade agreements serve?
Initially, protectionist interests held the upper hand in the political equilibrium. Trade agreements succeeded in
lowering tariffs – evidence that agreements served to counteract protectionist interests.
2
Rodrik - What do trade agreements really do?
Economists largely agree on free trade over protection – comparative advantage and gains from trade
The enthusiasm for the North-American Free Trade Agreement (NAFTA) is curious. Rodrik argues that they
thought of questions of practical details and distribution as secondary to the primary gains from trade made.
The label ‘’free trade agreements’’ does not accurately describe recent agreements like the TTP and TTIP.
Contemporary agreements cover not just traditional trade restrictions, but also regulatory standards, health &
safety rules, the environment, and labour etc. New trade agreements go beyond national borders (deep
integration). New features require economists to rethink default attitudes toward trade agreements.
Main arguments Rodrik:
- Economists’ conflation of free trade with trade agreements is rooted in an implicit political-economy
perspective that views import-competing interests as the most powerful and dominant architect of trae
policy.
o Import protectionists are the main villains
o Trade agreements serve to counter their influence
Other perspective: trade agreements are shaped largely by rent-seeking, self-interested behaviour on the export
side. Rather than reining in protectionists, trade agreements empower another set of special interests and
politically well-connected firms. This may result in freer, mutually beneficial trade, through exchange of market
access.
Basic trade theory: free trade is the optimal policy for an economy, provided compensatory policies can be
implemented and adverse interactions with market failures can be addressed through complementary policies.
Exception: large countries are able to manipulate terms of trade using optimal tariff (provides rationale
to enter into agreements & prevents trade protectionism.
Contemporary trade agreements are harder to fit in this theory.
Issue areas in modern trade agreements:
- Trade-related intellectual property rights (TRIP)
In TRIPs, advanced countries’ gains are largely developing countries’ losses. High elasticity of global innovation
to developing countries’ patents. Intellectual property protection has become broader and stronger, and much
flexibility under WTO has been eliminated.
- Rules about cross-border capital flows
US agreements enforce open capital accounts as a rule. Many believe that direct restrictions on the capital
accounts have a second-best role to complement prudential regulation and to provide temporary breathing space
during moments of extreme financial stress.
- Investor-state dispute settlement procedures (ISDS)
Anomaly: enable foreign investors to sue host governments in special arbitration tribunals and to seek monetary
damages for regulatory, tax, and other policy changes that reduce their profit. Problems with ISDS:
o Operate outside accepted legal regimes
o Gives arbitrators too much power
o Allows no appeal
o Does not follow or set precedents.
- Harmonization of regulatory standards
1
, Justification: reduces transaction costs associated with doing business across borders. Unlike tariffs and quotas,
there is no natural benchmark that allows us to judge whether a regulatory standard is excessive or protectionist.
Regulatory standards are public goods over which different nations have different preferences.
It is curious that economists tend to be nearly unanimous in their view that trade agreements are a good thing.
Despite not knowing much about the details, they must believe such agreements regularly strike the right balance
in all areas of ambiguity.
Rodrik: tendency to associate ‘’free trade agreements’’ all too closely with ‘’free trade’’ may result from the fact
that the new (and often problematic) beyond-the-border features of these have not yet made their mark on the
collective unconsciousness of economists. Rodrik also suspects it results from an implicit, hand-waving kind of
political-economy analysis.
Political-economy perspective: protectionist interest are the dominant influence in determination of trade and
other policies. No trade agreements: barriers to trade are too high, and too little trade; trade agreements
neutralize protectionist interests. In other words, trade agreements must move us in a desirable direction because
they are a counterweight to protectionists.
Trade agreements about tariffs & quotas:
o High tariff before the agreements – tariff reduction after the agreement? Prima facie evidence that
protectionists were dominant influence before agreement and they were countervailed through.
This does not carry over to trade agreements on domestic rules, regulations and standards – there is no clear
efficient benchmark.
Logic of trade agreements:
Harry Johnson (1953): countries that are ‘’large’’ in world markets have the incentive to exploit their market
power. An import tariff restricts home demand for other countries’ exports and drive down the world price of
that imported good. Correspondingly, a trade agreement that enforced free trade could leave all the countries
better off.
The motive to manipulate the terms-of-trade provides a valid economic motive for countries to commit
themselves to free trade by signing on to trade agreements. Actual policy makers aren’t concerned about terms of
trade when they negotiate trade agreements. Trade policy practitioners tend to justify trade agreements by
reference to the politics of trade policy at home: trade agreements are what enable governments to say ‘’no’’ to
domestic import-competing interests. Without them, governments are too easily tempted to do the easy thing and
provide import protection when faced with short-term political pressures.
Forward-looking workers and capitalists understand the difference between the government’s short-run and
long-run incentives and behave accordingly. In particular, they make their investment decisions so as to ensure
the government provides them with trade protection. In these settings, trade agreements are a commitment device
for governments to withstand political pressure from future protectionists.
Government fears not just its future self, but also its future opponents, scenario: incumbent government enters an
international agreement to tie the hands of its opponents.
Now suppose further that the current government is captured by special interests – but by exporter lobbies
instead of import-competing lobbies. In this case, the government’s objectives are explicitly redistributive, to
transfer rents from the rest of society to a special interest. But unlike in the usual model, the rent-seekers are not
the traditional protectionists. In this setting, trade agreements serve to empower special interests, rather than rein
them in.
Who do trade agreements serve?
Initially, protectionist interests held the upper hand in the political equilibrium. Trade agreements succeeded in
lowering tariffs – evidence that agreements served to counteract protectionist interests.
2
