Political economy of self-delusion

Print edition : January 13, 2006

Union Commerce Minister Kamal Nath. India acted as a facilitator of a deal that has gone against the interests of developing countries. - MIKE CLARKE/AFP

India's stand at the WTO Ministerial Meeting was not just a betrayal of other developing countries - it suggests that the government has not understood the real interests of the Indian people either.

UNION Commerce Minister Kamal Nath was one of the first to celebrate the deal that was arrived at on the final day of the World Trade Organisation's (WTO) Hong Kong Ministerial Meeting. He claimed that the hastily patched-up agreement addressed all of India's concerns, and suggested that many of the areas where India has "aggressive interests" had been resolved in a manner that was satisfactory from its perspective.

Clearly, such enthusiasm could not have come from the result of the negotiations on agriculture, where the final declaration was almost identical to the July 2004 package that had been so heavily criticised until the previous week by the same Commerce Minister. The paltry offer of removing export subsidies by 2013, and the apparent concession with respect to subsidies on cotton, amount to almost nothing and the way they are phrased they are likely to involve almost no benefits for most developing countries. Indeed, the result in the agriculture negotiations is clearly failure from the standpoint of almost every developing country.

So the positive reaction of Indian negotiators must have come from the other important elements of the declaration, those relating to services and non-agricultural market access (NAMA). In fact, it is precisely with respect to services that India has been a "demandeur" in the WTO, with explicitly declared "aggressive interests" in terms of forcing countries to liberalise in certain areas of services.

The General Agreement on Trade in Services (GATS) categorises services according to their mode of delivery, which cross-cuts between different sectors and even activities. It allows for individual member-countries to specify both the extent and the pace of liberalisation in all of the modes, and operates on a "request-offer" basis, whereby members make requests for opening up to other members and make offers on liberalising their own regulations. These offers can be vertical (that is, confined to particular sectors) or horizontal (across sectors within a particular mode).

Thus far, developed countries have been keen on pushing for liberalisation under Mode 3, which relates to allowing foreign commercial presence for the supply of services. They are especially keen on allowing their multinational companies to open subsidiaries or branches elsewhere so as to benefit from their competitive advantage in activities such as banking, insurance and other financial services, in retail trade, as well as in utilities such as water supply and electricity distribution. Most of their requests and offers thus far have essentially been in this mode. Some other interests of developed countries relate to Mode 2 (consumption abroad, which occurs when the consumer travels to partake of the service delivery, as is the case in tourism or foreign travel for purposes of education or health services).

The government of India has recently been particularly keen on emphasising opening up and more market access for its services exports according to Mode 1 (which relates to cross-border supply, that is, activities that do not involve the cross-border movement of either the supplier or the consumer, but can be delivered through other means, such as IT-enabled services) and Mode 4 (which covers the movement of "natural persons", that is short-term migration of people for the delivery of a specific service). The recent boom in software services and the expansion of IT-enabled services, including offshore business process outsourcing (BPO), which have increased substantially in terms of both foreign exchange revenues and incomes generated from these activities, have been the source of great optimism in this area.

This is why in the WTO negotiations, India became a great votary of Annex C of the draft declaration, which was roundly condemned by most developing countries. It was, in fact, this "offensive interest" of India that led to it joiningdeveloped countries in pushing for the adoption of Annex C. This created some degree of distrust and dissension in the ranks of developing countries, and was one of the reasons why their much-publicised groupings were ultimately so ineffective in affecting the outcome of the negotiations.

It is certainly true that Annex C makes some concessions to the demands of India and other countries which see services exports as an area of potential export expansion. Thus, it emphasises that commitments under Mode 1 should include removal of existing requirements of commercial presence, which had hitherto militated against developing country suppliers who find it difficult and expensive to establish companies in the country where the service is being supplied. It also says that there should be new or improved commitments in Mode 4 on the categories of contractual services suppliers, independent professionals and others, again delinked from commercial presence, to reflect inter alia removal or substantial reduction of economic needs tests. These had been the demands of several developing countries, including India, and to that extent it could be argued that these inclusions represent some success for this particular position.

However, Annex C has a significant negative implication - and was strongly opposed by so many developing countries - because it implicitly changes the very structure of GATS, which had hitherto been based on voluntary unilateral commitments or bilateral requests and offers in the various modes. The Hong Kong Declaration says that "the request-offer negotiations should also be pursued on a plurilateral basis... Any Member or group of Members may present requests or collective requests to other Members in any specific sector or mode of supply, identifying their objectives for the negotiations in that sector or mode of supply... Members to whom such requests have been made shall consider such requests".

This is the real prize that the major developed countries had hoped for in Hong Kong: a change in the negotiating modalities in services. This will now allow them new instruments to pressurise developing countries to open up their key services sub-sectors under Mode 3 of commercial presence.

The newly proposed "plurilateral" approach, which will incorporate the sectoral and modal approaches, is being presented as only one alternative open to member-countries. But it is quite clear that is now set not just to add another option but actually to replace the bilateral request-offer approach as the main negotiating method. In fact, the Hong Kong Declaration says the plurilateral requests should be submitted to other members by February 28, 2006.

It is not surprising that several multinational service-providing companies, which have been actively lobbying for just such an outcome, and whose representatives were present even in Hong Kong, have already expressed delight at the outcome of the deal. It is evident that they are already preparing themselves and their governments to launch a first round of plurilateral negotiations involving many key sub-sectors, especially in finance, retail trade and areas like water provision. So developing countries will have to brace themselves for an almost immediate consequence in terms of greater pressure to open up various domestic services sectors to the commercial presence of large foreign firms.

Yet, the Indian government obviously felt that even this very significant and potentially dangerous concession was worth making, simply to ensure greater liberalisation by other (developed) countries in Modes 1 and 4. This is based on the notion that India's competitive position in terms of supplying professional and skilled labour through Modes 1 and 4 is now so strong that it justifies the aggressively liberalising stand that India has taken in the service negotiations. The problem is that this initial premise itself may be a mistaken one.

THE problem is not only one of class interests and the relatively small proportion of Indians who would benefit from such opening up in other countries. This is certainly true, of course: while the absolute number of skilled Indian workers appears to be large, in general the Indian workforce suffers from very substantial skill deficit and the vast majority of our workers are very poorly educated by international standards. Yet, the government could argue with some justification that even this small minority can play a role in generating both more domestic economic activity and more foreign exchange; besides, the expansion of such service activities could go some way in dealing with the still large problem of educated unemployment in India.

The real issue, though, is somewhat different. The government's negotiating position has been based on the assumption that the cross-border expansion of such service provision rests on the offers of liberalisation under Modes 1 and 4 made by various other (developed) countries. But, it is important to remember that the huge expansion of short-term economic migration as well as the boom in cross-border supply have already occurred without any such explicit liberalisation. While the expansion of such service provision has certainly been enabled by new technology, it has been fundamentally driven by demand - that is, by the labour market conditions and workforce requirements of receiving countries.

That is why most labour migration from India, as from the rest of South Asia, is still to the oil-exporting countries of West Asia. That is why the more recent wave of H-1B visa holders to the United States has reflected the needs of U.S. companies. That is why Indian teachers, doctors and nurses are now staffing the public education and health systems of Canada and the United Kingdom. If this is the case, then it is likely that such forces will continue to drive possibilities of short-term economic migration irrespective of any liberalisation under GATS, because the receiving economies require it.

Conversely, if the domestic social or political backlash against such migration - whether directly as Mode 4 or indirectly as Mode 1 - is strong enough, governments will take steps to control it no matter what the GATS requirements are. So pushing for further liberalisation under GATS is both unnecessary and ineffective as far as the possibilities for Indian workers are concerned.

IN any case, there is a deeper question: is such movement of Indian workers necessarily good for the economy? It is interesting to see how discussions of "brain drain" have completely disappeared from the Indian policy landscape, and how the outward movement of skilled labour is now almost always regarded as unequivocally good. Yet, the problem remains a real one, and it operates in many ways that affect not only the quality of life within India, but also the relative payments to particular workers.

Consider these recent trends. There are reports from across the country of animals dying because of the massive shortage of veterinarians, many of whom have migrated in response to increased demand from the West. The same is likely to be true for other health professionals. Even when the labour does not move, service relocation and off-shoring (which is Mode 1 delivery) have pushed up wage rates for particular occupations making for a very skewed and undesirable incentive structure. The number of science post-graduates has plummeted, and there are hardly any takers for research positions in science, because the income stream from management and financial sector professional occupations is so much higher that educated youth are no longer attracted to science as a career.

This is hardly the way that society can be built for the future, yet our policymakers and trade negotiators are actively encouraging precisely these tendencies. So much so that they are willing to give up on absolutely critical matters such as the livelihood of our farmers so as to push for more of this.

The other area which most developing countries see as a major loss in Hong Kong, and on which our own government is so complacent, relates to NAMA, or protection for domestic production of non-agricultural goods. It was already evident in July 2004 that the Indian government did not see the NAMA negotiations as much of a threat and was willing to make substantial concessions in this area. However, even the July 2004 package did not go as far in terms of forcing tariff reductions onto developing countries as the current agreement does.

Already, because of shifts from quantitative restrictions to tariffs, tariff bindings and progressive tariff reduction requirements, many developing countries have been experiencing deindustrialisation. The NAMA agreement will now force even more tariff reduction by developing countries, so that it may be difficult soon in some countries to find any material-producing sector that is internationally competitive and will survive.

The worst changes in the NAMA draft relate to the nature of the formula that is to be used for reducing tariffs. Earlier, developing countries had argued for a linear and average reduction for developing countries and a "Swiss" formula for developed countries. A Swiss formula essentially aims for progressive harmonisation, by making the required tariff reduction larger and keeping the initial level of tariff higher. For obvious reasons, developing countries have higher levels of industrial tariffs than developed countries, which anyway use many more non-tariff barriers to protect their own producers.

The Hong Kong Declaration actually states that "we agree to a Swiss formula" for tariff reduction although the precise nature of the formula is to be worked out. Further, this is to be adopted on a line-by-line (individual product) basis, rather than as an average reduction. This will definitely result in the loss of policy space and flexibility for developing country governments to protect their own industries. In fact, several African Ministers have already said that this approach will entail very substantial deindustrialisation.

All that remains is argument about the size of the coefficients that are to be used for different groups of countries. Very high coefficients will be required to protect local industries, but most developing countries will not have the capacity to negotiate such high levels. Some simple calculations suggest that to maintain their policy space, most developing countries will require a coefficient of about 290. But this is unlikely to be anywhere near being achieved - for example, the European Union has offered the developing world a coefficient of 15, compared to a coefficient of 5-10 for developed countries.

Another matter of concern is that the Declaration also says that applied rates will be used as the basis for treating unbound tariffs, by adopting a "non-linear mark-up approach to establish base rates for commencing tariff reductions". This is a very drastic treatment of unbound tariffs that will ultimately result in low-bound tariffs on previously unbound items.

AND what of India? The Commerce Ministry has argued in the recent past that there is no reason to be worried about such a NAMA outcome because these reductions all pertain to bound tariffs. Since our current tariff levels are well below our bound rates in most product lines, this will not affect actual tariff levels at all. However, this is a short-sighted view, since it completely disregards the possibility of international prices of manufactured goods falling from their present levels in the near or medium term future. If that were to happen (and it is not at all an unlikely possibility for several goods, given the rapid capacity creation in manufacturing internationally) then the current bound tariffs would already be too low, and further reductions in them would decimate domestic producers of those goods.

It is precisely this same mistake that was made by Indian negotiators during the Uruguay Round, when they did not anticipate price falls in agricultural trade and so actually specified zero bound tariff levels for many important crops. By the end of the 1990s, the Indian government was then forced to go begging to Geneva to renegotiate the bound tariff levels of agricultural goods. It is extraordinary to see that so little can be learnt from one's own experience. Clearly, as far as NAMA goes, trade negotiators in most other developing countries are actually more clear-sighted than those in India.

But is the self-delusion of the Indian trade negotiators simply a case of misplaced optimism and the triumph of hope over experience, or does it reflect more worrying underlying tendencies? The more depressing possibility is that, despite all the verbiage to the contrary, those who agreed to the Hong Kong deal were not really concerned with the interests of the vast majority of Indians, and concentrated on the possibilities for material betterment of a small elite. Let us hope, for the sake of Indian democracy, that the latter is not true.

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