Trade strategies for growth
& development
Inward vs outward-oriented
International trade strategies in LDCs have formed
the basis of growth & development strategies,
so one can hardly consider one without
considering the other.
To start industrialization, LDCs have two options:
1. Discourage IMPORTS whilst developing substitutes
→ import substitution / inward oriented
strategies.
2. Encourage EXPORTS to pay for needed imports →
export-led growth / outward oriented strategies.
Four periods
• 1950-60s: Import substitution with strong
government intervention
• 1960s-1970s: Export-led with strong
government intervention
• 1980s-1990s: Export-led with market
liberalization (Washington consensus)
• Late 1990s-2000: Export-led with selective
government intervention (New
Development consensus)
Import substitution (1950s-1960s)
• Also known as import-substituting
industrialisation
• Definition: growth and trade strategy
where a country begins to manufacture
simple consumer goods oriented towards
the domestic market in order to promote
the domestic industry. It depends on
protective measures that will prevent
entry of imports that compete with
domestic producers.
Rationale
1. Independence (from colonizers) seen as
opportunity to modernize. Instead of
continuing to export commodities to and
import manufactures from DCs: shut out
manufactured imports from DCs and
start producing those goods
domestically.
2. Historical experience of DCs, which used
import subs strategies in their initial
phases of development.
3. Export pessimism in the 50s-60s caused
by ↓Px and deterioration in balance of
payments plus expectation of long term
deterioration of ToT.
4. Avoiding BoP problems through
curtailment of imports.
5. Infant industry argument.
Import-substitution policies and
consequences
1. High protection of dom firms, inefficiency
and resource misallocation. Lack of
competition→ high costs + inefficiencies
+ high prices paid by consumers.
2. Overvalued exchange rates, making
imports of capital goods cheaper and X
more expensive.
Negative effects:
• Capital-intensive methods→ urban UE +
growth of informal sector
• X in agricultural sector more difficult
→worsen rural poverty
3. Excessive gov intervention, leading to
misallocation of resources and
inefficiencies in production.
4. Neglect of agriculture → ↑need for food
imports
5. Deterioration of BoP and debt position
due to:
a) ↑need for M of cap equipment and
intermediate goods
b) ↑need for food imports
c) Outward flow of financial capital caused by
repatriation of profits by MNCs and wealthy
elites seeking safety for their financial
investments
6. Encouragement of cap-intensive
production methods, but no effort to ↑
access to credit or support users of
labour-intensive technologies.
7. Negative impacts on employment and
income distribution.
8. Limited possiblities for growth over the
longer term on the basis of import-subs,
due to inefficiencies of production and
misallocation of resources. For example,
many firms enjoying protection never
became efficient.
9. More room for corruption favoured by
strong government intervention
(payments of bribes to gov officials in
order to secure particular policies).
• Problems with import-substitution became
apparent in the 60s:
– India, Egypt reacted by ↑protection for cap
goods imports and other intermediate goods
in order to allevaite BoP problems.
– Others (Brazil, Israel, Mexico, Singapore,
South korea, Taiwan, Southern European
countries) moved towards export promotion.
Export promotion (1960s-1970s)
• Export-led growth strategy: a growth and
trade strategy where a country attempts
to achieve economic growth by expanding
its exports. Based on strong government
intervention.
• It is an outward-oriented strategy since it
looks outward towards foreign markets
and provides stronger links between the
domestic and global economies.
• Strong gov intervention necessary to help
countries develop a strong manuf sector
oriented towards exports.
• Most LDCs that turned to export
promotion had began their
industrialization with import-substitution.
The stronger export industries were in
many cases the ones that had received
protection.
• China, Hong Kong (more market-
oriented), Indonesia, Japan, Malaysia,
Singapore, South Korea, Taiwan, Thailand
= Newly Industrializing Economies (NIEs)
or Asian Tigers. All of them pursued
export promotion of manufactured goods
strongly supported by gov intervention
and industrial policies.
Interventionist policies
1. State ownership and control of financial
institutions, in order to provide
subsidized credit to the industries being
promoted.
2. Targeting of industries for export.
3. Industrial policies to support export
industries: investment grants, production
subsidies to export industries, tax
exemptions, export subsidies...
4. Some (selective) protection of domestic
industries.
5. Requirements on MNCs in order to
maximize benefits of FDI: promotion of
R&D, transfer of targeted technologies
into the domestic economy, training of
dom workers, use of local inputs.
6. Large public investments in key areas:
education and skills, R&D, transport and
communications infrastructure.
7. Incentives for R&D by private sector for
high tech products. To encourage
development of domestic skill levels and
technology appropriate to local
conditions.
These policies resulted in successful export
performance and the achievement of very
high economic growth rates. Since the
1950s, NIESs have been the fastest growing
economies in the developing world.
The Success of the Asian Tigers
1. Expansion into foreign markets.
2. Benefits of diversification.
3. Major investments in human capital.
4. Appropriate technologies.
5. Increased employment (from the use of
labour-intensive technologies).
6. Export earnings avoided balance of
payments problems.
1980s-1990s: Export-led with
Market Liberalization: Washington
Consensus
• Early 80s:
1. Poor econ and export performance in many
LDCs and high indebtedness
2. Shift in thinking about econ growth and
development inspired by neoclassical model,
which stressed importance of limiting gov
intervention and allowing private sector to
operate in a competitive free-market
environment. Outward orientation based on
free-trade.
• Main policies recommended:
1.
2.
3.
4.
5.
Trade liberalisation
No restrictions to new FDI by MNCs
Sound fiscal policy (no excessive borrowing)
Tax reform
Changing priorities of gov spending towards
health, education, infrastructure
6. Interest rate liberalization
7. Market-determined exchange rates
8. Privatization
9. Deregulation
10.Securing property rights
• Rationale: reliance on market forces and
free trade maximizes efficiency, domestic
and global allocation of resources and
economic growth.
• LDCs that have adopted these policies
include Argentina, Brazil, China, Chile,
India, Kenya, Sri Lanka, Tanzania, Turkey.
They began a process of ↓gov intervention
in the market.
• Strong influence of the World Bank and
the IMF, which lent these countries funds
on the condition of reorienting their
economies towards freer trade and freer
market.
Impacts of economic and trade
liberalization
1. Limited benefits for export growth and
diversification:
• Countries lost export shares in world
markets, especially in Africa
• LDCs did not succeed in diversifying their
production into manufacturing. Countries
that performed best were those that had
already developed significant export sectors.
Causes of these negative impacts:
a. Protectionist policies by DCs
b. Growing reliance on free market policies
2. Limited impacts on economic growth
• No hard evidence suggesting that a
greater outward orientation based on
freer trade during 80s, 90s has been
responsible for more rapid econ growth.
• Great variability in performance.
• Some economists see no link between
econ growth and trade liberalization.
• Some countries better able to benefit
from freer trade. Low income countries
perform the worst→ ↑inequalities
between rich and poor.
3. Increasing income inequalities and
poverty within LDCs. World Bank study
reveals that the correlation between
trade liberalization and income growth is
– Negative among the 40% poorest of the
population
– Positive among the higher income groups
So it helps the rich get richer and the poor
get poorer.
Reason: econ and trade liberalization give
rise to winners and losers.
WINNERS
Workers in exporting
industries
Workers in growing
formal sectors
Higher skilled,
educated people, with
more chances in the
competitive
environment
LOSERS
Less educated people
Poor people with no
collateral (unable to
obtain credit)
People in remote
areas with no
transport links to
markets
People in agriculture
People affected by
lower levels of social
protection
People forced from
the formal to the
informal sector ...
• According to int’al trade theory, free trade
originates overall gains that are likely to
be greater than the overall losses.
However, in the real world this rarely
occurs, with the result that some people
are worse off due to freer trade and freer
markets.
• Late 1990s: the Washington consensus
was called into question even by the Chief
economist of the World bank, Joseph
Stiglitz.
Late 1990s-2000s: Export-led
growth strategies with selective
gov intervention: The New
Development Consensus
• Gov.’s role in LDCs should be
complemented (not substituted) by
markets.
• Governments must support education,
health and infrastructure development, as
well as R&D for both industry and
agriculture.
• Gov should pursue policies that promote
income equality and poverty alleviation.
• Gov must provide regulatory framework
for markets to work efficiently: regulation
of financial system and regulatory
framework for competition (to avoid
development of private monopolies.
• Market-supporting institutions (tax
systems, property rights, banking &
credit...) should be promotes.
• DCs must assist econ development by
↑foreign aid and providing increased
access to their markets by LDCs.
• Due to their special circumstances, LDCs
should receive special treatment by int’al
trade agreements regarding removal of
their protectionist measures.
Remark:
• Unlike the strongly interventionist supplyside policies pursued by the Asian tigers,
that focused on direct support and
protection against competition, the New
Dev Consensus favours the establishment
of institutions and conditions that assist
firms to do well in a competitive market
environment.
Support for:
– R&D in targeted areas
– Vocational training and education
– Small firms
– Development of infrastructure
• Justification for industrial policies:
numerous kinds of market failures that
may prevent countries/markets from:
– Setting up the needed private firms
– Undertaking the necessary R&D
– Innovating
– Importing appropriate technologies
Evaluation of Inward and
Outward-oriented strategies
• Benefits: those of international free trade
– Increased dom. production and consumtion
due to specialization
– Economies of scale
– Greater variety and quality of g+s
– Allows countries to acquire needed resources
– Flow of new ideas and technology
– Increased X + more efficiency = Larger
growth rates
• Obstacles
a) If countries specialize in production &
export of primary commodities:
– Unstable export revenues due to price
volatility.
– Deteriorating ToT for exporters of primary
commodities over long periods of time (due
to low YED for these exports, among other)
– Rich country protection of their farmers may
limit access to rich country markets and
cause price ↓ of protected commodities.
b) If countries specialize in production and
X of manufactured goods:
Protectionist policies imposed by DCs:
– Prevent access to the large and rich markets
– Discourage diversification of LDC into
manufacturing and higher VA activities (tariff
escalation, admin and technical barriers)
Can LDCs imitate the trade and
growth strategies of the Asian
Tigers?
1. The Asian Tigers faced lower trade barriers
on their X of manufactures to DCs. Some trade
barriers were increased during the 1980s, after
the entry of East Asian exports into DCs
markets. This was in order to protect
• domestic producers against low cost
competing goods and
• their workers against losing their jobs due to
entry of low cost imports
2. The Asian Tigers’ outward orientation was
export promotion with strong gov intervention,
whereas countries in the 80s opened to
international trade on the basis of marketbased policies. Interventionist supply-side
policies played a key role in the development
of manufacturing and higher VA production.
LDCs that opened up to int’al trade in the
context of market-based policies could not rely
on government support for their export
industries.
Concluding remarks
1. An outward oriented trade strategy is
superior to an inward-oriented one.
2. Significant advantages in an outwardoriented strategy based on diversification
of Xs into manufacturing and higher VA
activities.
3. DC protectionism is a major obstacle.
Role of the WTO
Bilateral and regional preferential trade
agreements (FTAs)
• Due to the slow progress made by the
WTO, the number of bilateral and regional
trade agreements has increased (159 in
2007, several hundreds in 2010). LDCs
see in trading blocs a way to benefit from
free trade without the obstacles imposed
by DCs.
• Examples: EMRCOSUR, ASEAN, COMESA,
CEMAC, CAIS, etc.
Regional FTAs
• They have the greatest potential to help
developing countries achieve growth &
dev when they involve:
– Regional agreements
– Geographical closeness
– Similar level of dev and technological
capabilities
– Similar market sizes
– Shared commitment to cooperation
• Benefits:
1. Expand markets (economies of scale) and
diversify production and exports.
2. Larger markets increase domestic and
foreign direct investment.
3. If similar level of development: more fair
competition.
4. If shared commitment to cooperation:
policies can be pursued that increase the
benefits of integration (investment in
infrastructure, R&D collaboration,
cooperation in environmental issues).
Bilateral FTAs: limitations
• Most bilateral agreements are between
developing and developed countries that
are not usually in the same geographical
region. US with LDCs, EU with LDCs and
transition economies, Japan with AsiaPacific region.
• The prospect of gaining access to the
market of the DC is the reason for LDCs to
enter into such agreements.
• There are some risks:
– The LDC must make equal and matching cuts
in tariff and other barriers. This puts even
efficient LDC firms at a competitive
disadvantage as they are forced to compete
with lower cost DC firms.
– Problem with many LDCs forming FTAs with
the same DC in order to gain market access,
as they must compete with each other for the
developed country market. They also face
competition from lower cost producers in the
DC.
– Trade deficits, Balance of payments problems
and foreign debt may be caused by increased
imports and only slightly increasing exports.
– In Bilateral negotiations LDCs have less
bargaining power than when they act as one
in multilateral negotiations.
– LDCs must often agree to other requirements,
such as on IP rights or freer rules on FDI.
– Bilateral agreements weaken regional trade
agreements when one of the members makes
a bilateral agreement with a third country.
• LDCs are better off pursuing regional
trade agreements (UNCTAD)
Diversification
• Benefits: More varied production,
increased employment, establishment of
more firms, use of higher skill and
technology levels.
• It allows countries to achieve the following
objectives:
1. Sustained increases in exports. Can only be
achieved through diversification into markets
for which there is a sustained increase in
global demand (not true for commodity
exports)
2. Development of technological capabilities
and skills. Diversification provides incentives
to acquire new technologies and higher
training, education and skill levels (success
of Asian Tigers).
3. Reduced vulnerability to short-term price
volatility and long-term price declines.
4. Use of domestic primary commodities. These
can be used as the basis for diversification
into manufacturing, as the domestic
availability of the raw materials can work to
stimulate industry (‘vertical diversification’).
Capital liberalisation
• Definition: the free movement of financial
capital in and out of a country. It occurs
through the elimination of exchange
controls (restrictions on the quantity of
foreign exchange that can be bought by
domestic residents of a country).
• Non-convertible currency: the domestic
currency cannot be freely exchanged for
foreign currencies. It may apply to current
account or financial account transactions.
• Fully convertible currency: can be freely
exchanged for other foreign currencies.
• Capital liberalisation involves the
elimination of exchange controls, making a
currency fully convertible.
Capital flight
• Definition: Large scale transfer of privately
owned financial capital to another country.
• It results from high uncertainty and risk of
holding domestic assets due to:
•
•
•
•
Risk of confiscation
Sudden ↑ taxation
Political instability
Anything leading to loss of value of the
domestic currency.
1. Non-convertibility for current
account transactions (mainly foreign
trade). Conversion of currencies is
subject to gov restrictions. For example ,
only for specific imports and exports
consistent with gov objectives.
• Today most countries have convertible
currencies for CA transactions.
• Benefits of currency convertibility: based
on the principle that Int’al trade should
be conducted in the context of
competitive mkts.
2. Non-convertibility for financial
account (FA) transactions. Implies
gov control over what flows are
permissible. Exceptions for: debt service
payments, funds to be used in inward
FDI, inward flows due to borrowing,
financial investment by foreigners.
Reasons:
a) To avoid Capital flight, as financial capital
cannot leave the country if the domestic
currency cannot be converted into foreign
currencies.
b) To avoid Currency speculation, which can
lead to currency instability.
c) Ability to conduct monetary policy
independently of exchange rate
considerations. In case of a recession, for
example, the interest rate can be lowered
without risk of a depreciation.
• Benefits of full convertibility for FA:
1. Access to foreign capital markets (ability
2.
3.
4.
5.
to diversify financial investments).
Access to more varied and cheaper
sources of finance.
Encourages FDI.
Permits inflows of financial capital, as
foreigners know they can sell their assets
if they wish.
↑ competition among financial
institutions → ↑ efficiency + ↓ costs.
6. Prevents black market for foreign
exchange
7. 1 to 6 contribute to greater economic
growth.
8. Facilitates efficient global allocation of
savings.
Conditions to be met before full convertibility.
1) Stable political system
2) Sound fiscal and monetary policies that encourage
confidence in domestic assets and currency.
3) Sound macro policies that work to avoid wide
exchange rate fluctuations and large BOP deficits.
4) Strong financial institutions that operate under gov
regulation to avoid excessive risks.
5) Mkt orientation, with well-functioning price system
that facilitates more efficient allocation of resources
and financial capital.
• Currency convertibility and financial crises.
Several East Asian countries experienced a severe financial
and economic crisis in the late 90s. These economies
had extended convertibility of their currencies to the FA
(under pressure from the IMF).
In 1997, recession + declining confidence in the economy
triggered attacks on their currencies, resulting in
massive capital flight and downward pressures on the
value of their currencies.
IMF stepped in with loans and imposed tight monetary
policy in order to curtail capital flight and help support
the currencies. However, confidence was low and
downward pressure on curr continued. High i created
negative growth, higher UE and poverty.
According to Stiglitz, FA liberalization ‘...was the single
most important factor leading to the crisis’.