American and European leaders have been quick to link the push for freer trade with the fight against terrorism. “Trade is about more than economic efficiency,” declared Robert Zoellick, US trade supreme, “it promotes the values at the heart of this protracted struggle.” His EU counterpart, Pascal Lamy, echoed this view: “The greater the military and security pressures - and the greater the risk that resentment will be strong - the more we have to push for generous opening of our economies to developing countries.”

Reality does not live up to this rhetoric. Free trade is indeed a wonderful thing; it is a pity that rich countries do not practise what they preach. Not only do rich countries conspire to keep out poor countries’ main exports, agriculture and textiles, they are also busy carving up world markets through preferential pacts that make a mockery of free trade.

Perhaps rich countries will override their mercantilist instincts for the sake of fighting terrorism. But don’t bet on it. The dirty secret about Doha is that even the launch of a new WTO round of negotiations is unlikely to do much to bring about genuinely global free trade.

 

The Rise of the WTO

Surely, though, we already live in a global economy? That is what commentators and politicians everywhere keep telling us. It is true that many trade barriers have been slashed. Better transport and communications have drawn distant markets closer. The opening up of China and the collapse of the Soviet Union have brought another 1.7 billion people into the capitalist world. Many countries in the developing world, notably India and Mexico, have also liberalised their economies. Rich-country governments have privatised, deregulated and abolished most capital controls.

This globalisation has thrust the WTO onto centre stage. Its membership has swollen to 142 countries. After a long march that began in 1986, China is on the brink of joining. President Vladimir Putin has declared that Russia’s accession to the WTO is a “top priority”. One of Yugoslavia’s first acts after the removal of Slobodan Milosevic was to apply to rejoin the WTO. Even Saudi Arabia—which has grown rich by restricting rather than expanding its exports—is clamouring for membership. Another 30 countries are also in the queue.

The WTO’s role now stretches beyond liberalising trade. It is becoming a regulator of the would-be global economy. Its agreements span everything from agriculture, manufacturing and services to intellectual property, investment and subsidies. They stipulate, for instance, how high a duty Switzerland can impose on steel imports, which kind of government subsidies are acceptable, how countries must regulate their telecoms sector, as well as how long patents must be respected.

The WTO’s core principle is non-discrimination: governments are not meant to treat products differently on the basis of where they are made. They are encouraged to lower their trade barriers, which discriminate between domestic and foreign products; and when they do so, they are meant to lower them equally to all WTO members. That way all foreign producers compete on a level playing field. So, for example, Switzerland should tax American and Japanese steel equally and eventually aim to eliminate its import duties altogether.

WTO rules are enforced by a dispute-settlement mechanism that is binding on all its members. It operates much like a commercial court. When a country feels that another is breaching an agreement, it can appeal to a WTO panel. The panel can authorise the imposition of trade sanctions if a recalcitrant loser refuses to abide by its verdict.

No wonder, then, that everyone wants to be a member of the WTO. Countries want a say in setting the rules (the WTO operates by consensus, so every member’s consent is needed), as well as recourse to arbitration when they feel wronged. They want better access to export markets and the increased foreign investment that flows when investors know that domestic laws are bound by international agreement. In short, they want to avoid being left out of the ever-expanding global economy.

All of this is true. Yet it is only part of the picture. Talk of a global economy is overblown. National economies are not blending into one big global melting pot. Most economic activity still takes place within, not across, national borders. Whole swathes of the economy remain highly protected. When countries do trade, they do so predominantly with their neighbours. And increasingly, they do so according not to regional or bilateral rules, not global ones.

Consider the huge increase in international trade over the past 20 years. Cross-border trade in goods and services has tripled from $2,300 billion in 1980 to $6,800 billion in 1999. Yet over the same period, world output has also nearly tripled, from $10,700 billion to $30,900 billion. As a share of world output, cross-border trade has only inched up—from 21.5% in 1980 to 22% in 1999.

Some economies are more international than others. Whereas a huge continental economy like the US traded only 12% of GDP in 1999, a middling one like Britain traded 27% and a small one like Ireland 86%. While some economies are becoming more open, others are not. China traded twice as much in 1999 (21% of GDP) as it did in 1980. The US trades a bit more. Japan trades much less (down from 14.5% in 1980 to 10.5% in 1999).

Few countries are genuinely global traders. Most trade primarily with a handful of others, typically their neighbours. Take Western Europe. Over two-thirds of its merchandise trade is with other countries in the region. Among the 15 members of the EU, the figure is 63.5%. All EU countries trade more with each other than they do with the rest of the world. Look next at North America. The US, Canada and Mexico—the three members of the North American Free-Trade Agreement (NAFTA)—also trade mostly with each other. Over half of their exports are within Nafta, as are two-fifths of their imports. Finally, consider Asia. A little under half of Asia’s exports are to other Asian countries; nearly three-fifths of Asia’s imports come from the region.

Pull together all these statistics, and a different picture of the world economy emerges. Three largely self-contained regional hubs account for three-quarters of it: the EU, which trades a mere 11% of its collective output with the rest of the world; NAFTA, which trades just over 8%; and Japan, 10.5%. The rest of the world is linked to one, or several, of these hubs through a tangled web of bilateral trade agreements.

So much for the death of distance. Geography still matters. Transport costs are one reason why so much of the economy is not global. Shipping light bulbs across the world, for instance, is uneconomical. Another reason is that many companies need to be quite near their customers: Dell assembles and services computers for the European market in Ireland, not Asia. Indeed, since many services have to be provided on the spot, much of the economy is set to remain local. Nurses, hairdressers, fitness instructors and therapists cannot ply their trade from the other side of the globe. These “high-touch” services, as Adair calls them, are the fastest growing part of rich-country economies.

Politics remains important too. Companies do not operate in a borderless world. For a start, many trade barriers remain, notably in agriculture, textiles and many services. The average import duties on farm products is around 40-50%; Japan’s tax on foreign rice is nearly 1,000%; rich OECD countries spend more subsidising their farmers each year than the entire GDP of sub-Saharan Africa. National differences in accounting, tax and regulatory standards also segment markets. But the biggest reason why talk of a global market is fanciful is that three-fifths of world trade takes place on preferential terms.

Over 170 regional trade agreements are in force around the world, half of them concluded since 1990. A further 70 or so are in the making. Every WTO member, except Japan and South Korea, is a party to one—and both are now looking to join in.

Regional agreements may be bilateral or plurilateral, involve all trade or just some, be between neighbours or span continents. Some are customs unions, like the EU, with a common external tariff; others are free-trade areas, like Nafta, where each member has its own tariffs on imports from the rest of the world. They may have common institutions, like North American Development Bank or the European Commission. They may have a mechanism for settling intra-regional trade disputes, like both the EU and Nafta. But what they all have in common is that trade within them is freer than trade with the rest of the world. This preferential treatment encourages regional trade at the expense of global trade.

Take the EU. Meshing Europe’s markets together has skewed its pattern of trade. Trade within the EU’s single market, which is relatively cheap and easy, has grown much faster than trade with the rest of the world, where firms still have to contend with a thicket of tariffs and regulations. That is a big reason why Britain now sends 58.5% of its merchandise exports to the rest of the EU, up from 35% when it joined in 1973.

A similar process is happening in Nafta. Mexico has replaced Japan as the US’s second-biggest export market, behind Canada. Its two Nafta partners now account for 36% of US exports, up from 28% in 1990. Since 1997, US exports to non-Nafta countries have actually been falling. As for Canada and Mexico, nearly nine-tenths of their exports are now within NAFTA.

In this not-so-global economy, the WTO is less important than it seems. Regionalism makes a mockery of its core principle of non-discrimination. Admittedly, WTO rules do allow regional agreements, but only if they meet certain conditions: they must cover “substantially all trade”, eliminate internal trade barriers, and “not on the whole” raise protection against excluded countries. Few regional deals meet these criteria. Yet since all its members are rushing to conclude them, the WTO turns a blind eye. No country has challenged the legality of all these discriminatory deals—and none is likely to.

To be fair, regionalism is not all bad. Nafta has locked in Mexico’s economic and political reforms. The EU has cemented peace in Europe. It is building a single market with a single currency that promises huge economies of scale for companies and the benefits of increased competition, such as lower prices, for consumers. It has helped poorer countries, like Ireland and Spain, catch up with France and Germany. And it is a testbed and model for other countries that want to co-operate regionally.

Together, Europeans have more clout - not least when the Commission negotiates at the WTO or vets mergers, such as that between General Electric and Honeywell, that might otherwise harm European consumers. They can stand up to the US - over bananas, beef, steel, tax, planes, Cuba, and so on. The EU gives Europeans more policy options. Like Americans, they are freer to choose. That is a bonus - even if they sometimes choose the wrong things. But this added discretion comes at a cost, insofar as some Europeans’ interests diverge from others’. Acting alone, for instance, Britain might subsidise its farmers less.

All in all, the EU is a good thing. But its huge network of preferential pacts is not. The EU has “partnership” agreements with all most other European countries. It also has deals with Turkey, Israel and Morocco. It is negotiating agreements with most other Arab countries. By 2005, the only countries in its vicinity with which it is unlikely to have a sweetheart deal are Libya, Iraq and Yemen.

Further afield, the EU has struck deals with Mexico and South Africa. It is pursuing agreements with Chile and the four Mercosur countries (Argentina, Brazil, Paraguay and Uruguay). It is also pressing 71 poor African, Caribbean and Pacific (ACP) countries, mostly ex-colonies, to sign up to new regional arrangements. The EU’s network of preferences covers most of the world. There are just six countries—Australia, Canada, Japan, New Zealand, Taiwan and the US—with which it trades on a non-preferential basis.

The rationale for all these preferential pacts is partly political. The European Commission is keen on them because they are foreign policy by other means (something normally controlled by member states). Bilateral deals strengthen EU member states’ influence abroad. The Europe and Euro-Med agreements, for example, help to anchor Eastern Europe and North Africa in the EU’s sphere of influence. They may also help to keep neighbour governments stable and potential migrants at home. And they stir up less controversy with anti-globalisation protesters than negotiations at the WTO.

Economics is a bigger spur, however. Thanks to its bilateral deals, the EU is an export and investment hub with preferential access to markets in a great many spokes. That helps European exporters corner foreign markets. They have an edge not only over the Americans and the Japanese, but also over firms from “spoke” countries, since, for example, South Africa and Mexico do not enjoy privileged access to each other’s markets.

Poor countries, however, often lose economically from their deals with the EU. Consider the South African agreement. Undeniably, some South African firms can now sell their goods more easily in the EU. But their farmers, who are highly competitive, cannot, since “sensitive” agricultural products, such as cereals, are excluded. This gives them a perverse incentive to switch to making goods that the EU allows in more freely.

South African consumers get a raw deal too. Import prices are unlikely to fall, since South Africa is only lowering its tariffs to EU firms, who may well respond by raising their prices. But the Europeans will gain market share from the Americans—and Africans too—who still incur high tariffs. And they have stamped out some local competition by insisting that South Africa stop describing some of its products as grappa and ouzo, spirits that the EU says can be made only in Italy and Greece.

The biggest losers from all these sweetheart deals are the countries they exclude. Yet the deals create their own infernal logic, whereby those who are discriminated against seek their own preferential deal. The EU is well aware of this: it sought a deal with Mexico because its exports to that country have slumped since Mexico joined NAFTA.

The US has suddenly woken up to this European attempt to carve up world markets. The Business Roundtable, a big-business lobby group, warned in February that the US was “falling behind” in the race to sign new preferential deals. The Bush administration has taken note and given new impetus to plans to extend Nafta throughout the Americas. He aims to conclude the Free Trade Area of the Americas (FTAA) by January 2005.

Latin America is still to play for. And the scramble for Asia is now on. The big question is whether East Asia will manage to cobble together a regional hub of its own. A group that included China, Japan and South Korea plus the ten members of the Association of South-East Asian Nations, among them Singapore, Thailand, Indonesia and Malaysia, would be a heavyweight in international trade.

The creation of such a regional hub is no longer inconceivable. East Asians are still smarting from the high-handed way that they feel they were treated during the world financial crisis in 1997-9. They are offended by western crowing at the demise of the once-lauded Asian model. And they are furious that the US slapped down proposals for an Asian Monetary Fund. They have reacted by setting up a regional system of currency swaps to help them deal with future Asian crises. And they have made tentative steps on the trade front too.

To be sure, powerful obstacles remain. There is immense antipathy between many East Asian countries. Many see their neighbours as rivals rather than partners. Just as the EU would find it hard to admit Russia, so China’s neighbours would find it difficult to throw in their lot in with such a giant. Clearly, there is still an opportunity for the US, on which most of the region relies for its security, to carve up markets for itself in East Asia, as the EU is doing in eastern Europe, the Middle East and Africa.

This headlong rush for advantage is unlikely to lead to outright hostility between rival trade blocs. Fears about a Fortress Europe, for instance, have so far proved unfounded. But regionalism does end up making everyone worse off. A maze of preferential agreements, with differing tariff rates, rules-of-origin requirements and health regulations, distorts trade and creates huge new administrative burdens, not to mention opportunities for corruption. It is a lawyer’s heaven, and an economist’s hell.

The spread of regionalism would not be so worrying if global trade was getting freer. Privileges granted to a few would soon be eroded by better access for all. Regional hubs might turn out to be building blocks of a genuinely global economy. But since 1997, moves towards freer global trade have stalled. Efforts to launch a new WTO round in Seattle were a spectacular failure. Might there be a breakthrough in Doha?

The omens are not good. Most countries pay lip-service to the desirability of a new WTO round. Their rhetoric has taken on a new urgency since September 11th. But they show few signs of making the necessary compromises. The EU is not willing to make politically painful farm reforms. Its latest tactic is to seek guarantees that freeing farm trade would not harm the environment - this from the same EU that subsidises the pesticides that pollute our rivers and poison our wildlife. The Bush administration refuses to reform its iniquitous “anti-dumping” laws that allow it to keep out imports that it deems too cheap.

The uncomfortable truth is that neither the US nor the EU particularly wants a new WTO round. They can take it or leave it: they don’t need access to others’ export markets as much as others do to theirs. Why face down the powerful coalition of protectionists and protesters opposed to freer global trade when the status quo will do fine?

Perhaps the current terrorist crisis will concentrate minds enough to fudge the launch of a new WTO round. But meaningful liberalisation is another thing. Tightening the screws on regional preferences isn’t even on the agenda for Doha. We look set to continue living in a not-so-global economy.