Introduction
At the start of the Doha Round of WTO
negotiations, I warned against confusing the Economics and GeoPolitics of WTO
negotiations [Virmani(2003)]. I quote extensively from this note (below)
because it remains relevant today, in the context of the decision of the Indian
Government to make approval of the agreement of “Trade Facilitation” contingent
on a commitment to revise the agreement on Food subsidies. I conclude with an economic analysis of
protection and subsidies that clarifies the economic issues and puts them in
proper perspective
Geo-Politics Of Negotiations
“Economic theory and empirical analysis as
understood and accepted by academics in the USA, Europe and the emerging market
economies, says that removal of controls, restrictions and obstacles to Imports
will by and large lead to an increase in the welfare of both the importing and
the exporting countries. Then why is it
that each country ignores what its own academics tell it with respect to policy
reforms and focuses mostly on the import restrictions imposed by other
countries on its export items (whether these are goods, services or
factors)? The answer is politics. In every country, politics imposes a cost on
the nation as a whole while benefiting some sub-set of individuals. The geopolitics of negotiations is motivated
by a desire to transfer some of the national costs of policy distortions onto
other countries, while retaining as much of the benefits for sub-groups within
the country. A good example of this from
the rich countries is the multi-fibre agreement (MFA).
One implication of this
strategic approach to multilateral economic rules is that there can be an
apparent dichotomy between our domestic reform intentions and actions and our
public posture and negotiating stance at WTO.
Economic analysis must drive our (autonomous) reforms in the external
sector irrespective of what happens (or does not happen) at WTO. That is, liberalisation is beneficial to the
country and must continue independent of the WTO and at a pace and timing of
our choice. Economic analysis also
provides us with the true costs and benefits to our citizens, of specific
policy changes. This forms the basis of
our evaluation of what rules we should be willing to accept in the
negotiations- those resulting in policy change that have a higher benefit to us
in any case. Conversely it also
determines which changes we should resist conceding (those that have higher
cost). The public position that we take
at the negotiation need not however lay all this out publicly for other
countries. In the tactics and strategy of negotiations, politics/geo-politics
will inevitably play a substantial role.” Virmani(2003)
Trade Facilitation
“Trade facilitation is
the global equivalent of the Indian mantra,
‘red tape and bureaucracy’ in international trade (import-export)
system. Trade facilitation would
directly address this problem on which there is a national consensus (with the
exception of the customs bureaucracy).”
“From the perspective
of politics/geo-politics therefore, it is quite rational for India to concede
to others on any of the Singapore issues if
and only if we gain concessions and benefits in other areas. In other words
we must use these as counters to bargain for what would not be available to us
otherwise. It should be remembered however
that these bargains are sometimes informal, on the sidelines of the formal
negotiations or a meeting in another capital.” Virmani(2003)
WTO Negotiations on Agriculture
“Agriculture is an area where the economic arguments
of rich countries are very weak (because of high subsidies) while those of poor
countries are relatively strong. It is
quite clear that many countries in the EU and to a lesser extent the USA are
hostage to agriculture producers who constitute a small fraction of their
population. On our side a large
proportion of the population is dependent on agriculture, lives in rural areas,
is very poor and less educated and has little access to up to date and relevant
knowledge. This puts their lively hood
and sometimes even their survival at risk from exogenous shocks. Over the last few years we have also raised
the import duties on a number of agricultural products above the peak rate.[1]
The inter-ministerial expert group argued that in the interest of economic
efficiency, these should be brought down to the peak rate, with an intermediate
step of two times the peak rate. In the
meanwhile, we should carry out a thorough de-control and reform of the
agriculture, agro-processing and food retail sectors (as detailed in a Planning
commission working paper).[2]
As far as the
WTO negotiations are concerned, however, offence is the best form of
defence. We should marshal the global
NGOs to expose the hypocrisy of the rich countries vis-à-vis free trade and
verbal concern for the poor (while giving subsidies to rich farmers that
destroy poor agriculturists jobs). The
outcome of this will either be a stalemate (both rich and poor countries retain
their preferred distortions) or less likely a trade-off relating to (one or
more of) the Singapore issues. A
commitment to reduce rich country agricultural subsidies in return for a
reduction in (bound) tariff rates on agricultural goods in poor countries the
third but least likely possibility.” Virmani (2003)
Economics Of Food Subsidy
In several articles during the last year I opposed the Food Security
Bill on the grounds that it was barking up the wrong tree. As I showed the real
problem is child malnutrition and this requires improved sanitation not more
food.[i] However, we now have the food security Act and
the Govt. has to implement it as it stands, until it is amended or redirected. If the pessimistic calculations of the fiscal
critics of the Act come true, implementation will involve huge subsidies. There
is a fear in the Indian bureaucracy, that unless the exiting WTO subsidy limits
are changed, India could be constantly in the dock at the WTO, having to answer
to Global agricultural exporters for domestic subsidies. To put this fear in perspective, we need to
understand the three aspects of Agricultural protection-subsidy:
(1) Production Subsidies
(Sf)
Subsidies on agricultural inputs given to
the farmer, such as fertilizer, electricity and water, that reduce the cost of
production. If the subsidy per unit of output is Sf = s Pd this will reduce domestic market price from Pd
to Pd’ = Pd - Sf
= (1-s) Pd . The last WTO agreement on Agriculture
puts a limit on production subsidies of 10% based on a three year average of
prices prevailing at the time the agreement was signed (1986-88). This is
clearly outdated and needs to be updated to current/recent price levels. Once
this is done a 10% subsidy limit would mean that input subsidies cannot exceed
1.8% of GDP (as GDP from agriculture is about 18% of total GDP). Current input subsidies are less than 1% of
GDP.[ii] To
pump even more than this amount into agriculture input subsidies instead of
into enhancement of agricultural productivity, would be reflective of very bad
agricultural policy.[iii]
In the medium term, direct income transfers to poor farmers could eliminate
even the need for this level of input subsidy.
(2) Tariff Protection
(t)
Protection of domestic agricultural/food
output through tariffs (and QRs). If the effective tariff rate is t this will
mean that with World Price Pw , Pd’= (1+t) Pw or Pd = (1+t) Pw + Sf = [(1+t)/1-s)] Pw . The effective tariff rates on Wheat
and rice have varied between 5% and 10% in the recent past, without exceeding
the latter.
The
WTO agreements on tariffs, stipulates that the “actual” tariff rate cannot be
higher than the “bound tariff rates”. Even though our peak tariff rate on non-agricultural
goods is 10%, the bound rates on agriculture are two to three times the bound
rates on non-agriculture imports. Therefore elimination of input subsidies
could be offset by raising the import tariffs to t’ = s + t (1+s), thus keeping the degree of import protection
to farmers unchanged.
(3) Consumer subsidies
(Sc)
Consumer subsidies reduce the
price of food paid by the consumer (Pc) below the market price. Pc
= Pd’- Sc = (1+t) Pw - Sc . There are no WTO limits on
consumer food subsidies. However, our
consumer subsidies are provided through the FCI which also runs the price
support system for farmers. Therefore it is not always clear what part of the
subsidy given to FCI is compensation for its inefficiency and corruption and
how much is a subsidy to consumers.
Further, foreign producers argue that
the MSP acts as a subsidy to farmers and must be included in the production
subsidy calculation, as the Govt. does not allow foreign agriculture producers
to supply FCI imported agricultural produce at the MSP. Though this point is
debatable, it could be another issue for putting Government in the dock at the
WTO. If food subsidies were provided directly to consumers through a food
debit/credit card or a bank account (instead of through FCI), the issue would
not arise.
Conclusion
The Indian Government has stated that it is willing to continue
discussion on the Bali issues when the WTO meets again in September after a
recess. It seems to me that a reasonable
compromise that meets the domestic political objectives of India as well as of
Agricultural exporters such as the USA and Australia is possible before the end
of the year given a genuine desire to reach agreement, instead of trying to
scapegoat India.
[1] See references in Planning Commission Working Paper No. 4/2002-PC
(April 2002), “Towards a Competitive Economy: VAT and Customs Duty Reform,” by
Arvind Virmani, for a list of items (Table 3, p 30) and tariff rates (appendix
table).
[2] See Planning Commission Working Paper No. 5/2002-PC (May 2002),
“Excess Food Stocks, PDS and Procurement Policy,” by Arvind Virmani and P V
Rajeev.
[i] See articles & blogs at http://dravirmani.blogspot.in/p/blog-page_25.html
and research papers at https://sites.google.com/site/drarvindvirmani/social-welfare
.
[ii]
Even if highly questionable items are added from FCIs MSP operation (see below)
the total agricultural subsidy is less than 10% of Agricultural GDP.
[iii] For
a benchmark of good agricultural policy see, https://sites.google.com/site/chintan1997reg/economic-policy-and-regulation/agriculture
