|
Political economy of subsidisation |
|
Trade distorting subsidies provided by developed countries to their agricultural sector have proved to be the main obstacle to the completion of the Doha Round of multilateral trade negotiations. The reluctance of developed countries to eliminate their trade distorting subsidies is a classic example of how political interests dictate economic policies. A subsidy is regarded as an unfair trade practice, because it distorts trade. In the context of the WTO, distortion occurs if the quantities of goods produced and exchanged or their prices are higher or lower than they would be if conditions of competition prevailed. Government support or subsidisation ensures higher prices to producers than they would get otherwise. The higher prices, according to the law of supply, stimulate higher production. Since the prices of subsidized products are higher than those prevailing in the international market, subsidized products cannot face competition from imported products. In order to ward off such a threat, the subsidizing country imposes high and in some cases prohibitive tariffs on imports which make them more expensive than domestic products Domestic subsidies supported by higher tariffs lead to surplus production, that is the level of domestic supply is higher than domestic demand. In order to dispose of or dump the surplus production in foreign markets, the government provides export subsidies. Export subsidies are the subsidies which are contingent upon export performance. More an enterprise exports, the more subsidies it gets. Export subsidies bring down the prices of products in international market and make them more price competitive than they would be otherwise. Cheaper exports depress international market prices and price out producers/exporters of those countries which do not provide export subsidies. It is in this way that subsidies distort international trade. Subsidies have winners and losers. The winners obviously are the producers in the subsidizing country, and losers are their counterparts in other countries which do not subsidize. This victory or loss takes three forms. In the first place, higher tariffs, which are usually accompanied by subsidisation, make it difficult for foreign producers to compete in the market of the subsidizing country. In the second place, subsidized products being cheaper are difficult to compete with in foreign markets. In the third place, subsidies have the effect of driving down prices in international market and thus causing price depression. Consumers are also winners or losers depending on which side they are. Consumers in the subsidizing country are losers, as they have to pay higher price than they would give otherwise. Conversely, consumers in the markets where subsidized products are exported are winners, because they get cheaper products than they would get otherwise. It is with a view to minimising these trade distorting effects of subsidies that multilateral rules were designed. However, for reasons political and economic, which we will see later, agriculture has been treated as a special subject when it comes to the application of multilateral trade disciplines. The following are some examples: • Whereas quantitative restrictions on the import of industrial products were prohibited in principle, the same were permitted on the import of agricultural products (subject to certain conditions which were not complied with in practice). • Whereas export subsidies on industrial products were prohibited, the same have been allowed on agricultural products. • The Agreement on Agriculture (AoA) of the WTO (World Trade Organisation) provides for special safeguards for agricultural products which can be invoked more easily than those for industrial products. Safeguards refer to measures that a country can take to restrict imports temporarily in special circumstances. In case of industrial products, in order to take safeguards action, there is the need to prove injury to the domestic industry of the importing country. But in case of agricultural products, there is no need to prove injury. • In case of industrial products, if a country uses subsidies the importing country can levy countervailing duty to offset the effect of subsidized imports. However, Article 13 of AoA effectively suspended the application of such measures in case of agricultural products until 2004. The WTO members had to exercise due restraint in initiating countervailing action against an allegedly injurious or threatening subsidy. This provision was called the Peace Clause and expired in 2004. It may be asked why agriculture has been treated as a special subject, despite the fact that trade in agriculture accounts for less than 6% of global merchandise trade and agricultural output accounts for 4% of global output. The reasons are more political than economic. One, food being the primary human need, every country wants food safety. Food deficiency can have serious social and political consequences. Two, being a labour intensive sector, agriculture is a major source of employment. Three, in developed countries the landed class is politically very influential. It is in large measures the need to protect the interests of this class that accounts for the high level of protectionism that characterizes the agricultural policies of developed countries. Nothing probably illustrates this better than the common agricultural policy (CAP) of the European Union (EU). The CAP had its beginnings in the post world war II period. Partly the need to ensure food safety and chiefly the interests of the influential landed class forced the then European Economic Community (EEC) to provide support to farmers. Initially the support was in the form of price guarantees whereby the government would buy farm produce whenever the market price fell below a certain level. Thus farmers would often get price above the market price. The domestic support had a two-fold effect upon farmers. One, it made them produce more. Two, the guarantee that they would always get a certain price for their output made them inefficient and thus more dependent on domestic support. The result was that both the quantity and price of farm produce went up more than what the market forces would dictate. It is a fundamental principle of economics, that when quantity supply goes up, the price comes down. And this happens only when market forces are allowed to work. But in the EEC case, thanks to government intervention, both the price and the level of output went up. The EEC was not a closed economy and therefore, the fundamental problem before the policy makers was how to deal with imports from other countries where prices of agricultural produce were lower than those in the EEC. If imports were allowed, they would price out the local farm produce. For the policy makers, the solution to the problem was simple: Impose exceedingly high tariffs on agricultural imports so that when they are in the EC market after paying customs duties, they are as expensive, if not more, as the domestic commodities. High tariffs were one solution but not the panacea for the problem. High tariffs would help ward off competition with imports, but they would not solve the problem of surplus production. The only way to get rid of the surplus was to export it. But who will buy expensive products when cheaper products were available from elsewhere? The only way the surplus could be sold in foreign markets was to bring down the price. To induce producers to bring down their price it was necessary to provide them subsidies that were contingent upon export performance-export subsidies. The more they exported, they more subsidies they would get. This policy of high tariffs and subsidisation has characterized the CAP to date. The EU provides on average more than $800 subsidies per cow to its farmers. Expenditure on farm subsidies accounts for 45 per cent of total EU budget. France is the major beneficiary. What is important here is who benefits from these subsidies. Subsidies are granted on the basis of the amount of land and number of animals farmed. With such criterion, not surprisingly it is the wealthy landowners and mega agribusinesses who have been the major beneficiaries. Thus subsidies have re-distributed wealth from the ordinary taxpayer to the rich landowners making them richer. It is the political need to safeguard the interests of this influential class that is the major obstacle to the removal of trade distorting farm subsidies. The EU is not the only developed economy that does this. Countries like USA and Japan also dole out huge amounts in subsidies to their farmers. About Japan it is said that removal of subsidies will be too bold a political decision which no political party is willing to commit itself to. Subsidies are not the only instrument of protection. They are used in conjunction with high tariffs. Developed countries continue to have high tariffs on agricultural products. High tariffs reduce market access for developing countries' exports. During the Uruguay Round, which led to the creation of the WTO, developed countries were required to reduce their farm tariffs by 36 per cent on average during six years starting from January 1, 1995. Since the reduction had to be on average, the tariff reduction formula did not ensure that higher tariffs were reduced. A better approach would have provided for tariff ceilings, that is the maximum tariffs that could be maintained. But due to political sensitivity of the matter, the average reduction approach was used. Under Article 20 of the AoA, the members committed themselves to fundamental reforms for establishing 'a fair and market-oriented' agricultural trading system. Such a system is difficult to establish unless trade distorting farm subsidies are removed and agricultural tariffs slashed. But political factors have so far impeded the achievement of these objectives. E-mail: hussainhzaidi@yahoo.com Courtesy: The News Pakistan |
|
The mutually agreed upon rules fall far short of their ideal: minimising the distortions caused by subsidies |
|
By Hussain H. Zaidi |
