Question

Mention at least two trade problems of the developing nations. What are some of the growth strategies that have been employed by the developing nations? How successful are these strategies? Which strategy do you think works the best? Please make sure to provide a real-world example and describe how a specific country adopted one of these strategies.

Answer 1

Developing countries are generally more dependent on trade than are developed countries. While large countries are understandably less dependent on trade than are small countries, at any given size, developing countries tend to devote a larger share of their output as merchan­dise exports than do developed countries.

Large countries like Brazil and India, which have had unusually closed economies, tend to be less dependent on foreign trade in terms of national income than relatively small countries like those in tropical Africa and East Asia. On the other hand, LDCs like India, Nepal, Bangladesh, etc. are more dependent on foreign trade in terms of its share in national income than the very highly developed countries are.

Productivity increase:

Most or all of the productivity increases that take place in devel­oped nations are passed on to their workers in the form of high wages and income. But productivity increases in developing countries lead to fall in commodity prices.

Income elasticity of demand:

International trade and international invest­ment have grown rapidly since the beginning of Industrial Revolution (1740).

For example, exports as a percentage of total national output grew from just 1% of the total value of world out­put in 1820 to about 14.1% in 2002. The process that we often refer to as globalisation in fact appears to be related to the economic growth that nations have enjoyed over the same period.:

The increasingly close relationship between economies, or globalisation, involves more than just the growth of international trade in goods and services. The flows of capital and people across national borders have also been growing rapidly in recent years.

Several recent economic crisis in developing countries such as the Mexican crisis of 1994 and the Thai currency crisis of 1997 have been linked to international capital mobility. This very fact suggests that capital flows can, under certain circumstances, slow economic growth. In fact, international lending, investing and aid are to all linked to economic growth in more ways than one.

There has occurred a rapid growth of world trade in the past two centuries (since the time of Britain’s industrial revolution). However, trade patterns today are quite different from those of the 19th century. Production at the center of the world economy tends to be resource-saving instead of resource-using, and synthetics have replaced many raw materials. Furthermore, the trade poli­cies of today’s industrialised countries are less liberal than those of the 19th century, which had no multi-fibre agreement (MFA) or common agricultural policy (CAP) of EU and no counter- veiling duties on Brazilian steel.

After World War I, tariffs rose sharply in both the USA and in Europe. In addition, many coun­tries started to use quotas and other controls to protect their economies against the spread of the depression. Trade liberalisation began in 1947 with the signing of the General Agreement on Tariffs and Trade and first rounds of GATT nego­tiations

During the 1950s, protectionist pressures in the USA slowed down trade liberalisation, but it regained momentum with the formation of the EEC, and the Kennedy Round of tariff cuts. In the 1970s, trade liberalisation took a new track. In the Tokyo Round, governments attempted to reduce non-tariff barriers, along with tariffs, and agreed on codes of conduct dealing with government purchases and with subsidies and dumping.

But protectionist pressures built up strongly in the 1970s and 1980s, when economic growth slowed down and unemployment rose especially in Europe. The new protectionism also testifies to the success of previous trade liberalisation. Economies have become more open and more sensitive to global competition. Old industries such as textiles, steel and automobiles have been exposed to intense competition from new produc­ers and new industries.

Growing protectionist pressures have also led to the more frequent use of antidumping and counter-veiling duties and to the introduction of market-operating measures in place of more tradi­tional GATT procedures for settling trade dis­putes.

In short two distinct trends have emerged in the post Second World War period, viz.::

(1) the growing use of non-tariff barriers to protect domestic industries; and

(2) the frequency with which dumping by foreign firms and subsidies by foreign governments have been used to justify protectionism.

In general, developed nations export mainly primary products, viz., food and raw materials in exchange for manufactured goods from deve­loped countries. Until the 1980s, it was widely believed that international trade and the function­ing of the present international economic system hindered development through declining terms of trade in the long run and widely fluctuating export earnings for developing countries.

This is why development economists advocated industrialisa­tion through import substitution (i.e., the domes­tic production of manufactured goods previously imported). They did not place much reliance on international trade for promoting growth in devel­oping countries.

They also advocated reforms of the present international economic system to make it more responsive to the special needs of developing countries. But most economists today believe that international trade, based on compar­ative advantage, can contribute significantly to the process of development of LDCs.

Developing countries are generally more dependent on trade than are developed countries. While large countries are understandably less dependent on trade than are small countries, at any given size, developing countries tend to devote a larger share of their output as merchan­dise exports than do developed countries.

Large countries like Brazil and India, which have had unusually closed economies, tend to be less dependent on foreign trade in terms of national income than relatively small countries like those in tropical Africa and East Asia. On the other hand, LDCs like India, Nepal, Bangladesh, etc. are more dependent on foreign trade in terms of its share in national income than the very highly developed countries are.

The greater share of developing country exports in GDP is probably due in part to the much higher relative prices of non-traded services, in developed than in developing countries. Moreover, the exports of LDCs are much less diversified than those of the developed countries.

Trade Related Problems Faced by Developing Countries:

1. Deterioration of the Terms of Trade:

According to some economists such as Prebisch, Singer and Myrdal, the commodity terms of trade (which is the ratio of the price index of exports to the price index of imports) -tend to deteriorate over time.:

There are two main reasons for this:

Most or all of the productivity increases that take place in devel­oped nations are passed on to their workers in the form of high wages and income. But productivity increases in developing countries lead to fall in commodity prices.

The demand for the manufactured exports of devel­oped nations tends to grow much faster than the latter’s demand for the agricultural exports of developing countries. This is due to much higher income elasticity of demand for manufactured goods than for agricultural commodities. For these reasons, self-sufficiency (no trade) is at times better than trade.

The demand for primary products in world markets is both price inelastic and shifting. It is price inelastic because most households in deve­loped countries spend only a small proportion of their income on such commodities as coffee, tea, sugar and cocoa. Consequently when the prices of these items change, households do not increase their purchases of these items much.

As a result the demand for such items becomes price-inelastic. On the other hand, the demand for various minerals is price inelastic because substitutes are not readily available. At the same time, the demand for the primary products of developing countries is unstable because of trade cycles in advanced countries.

Less developed countries (LDCs) have adopted two alternative strategies for achieving industrialisation— viz., inward-looking strategy and outward-looking strategy.

An inward-looking strategy is an attempt to withdraw, at least in the short run, from full participation in the world economy. This strategy emphasises import substitution, i.e., the production of goods at home that would otherwise be imported.

This can economise on scarce foreign exchange and ultimately generate new manufactured exports without difficulties associated with the exports of primary products if economies of scale are important in import substituting industries and if the infant industry argument applies. The strategy uses tariffs, import-quotas and subsidies to promote and protect import-substitute industries.

In contrast, an outward-looking strategy emphasises participation in international trade by encouraging the allocation of resources in export-oriented industries without price distortions. It does not use policy measures to shift production arbitrarily between serving the home market and foreign markets.

In other words, it is an application of production according to comparative advantage; the current expression is that, the LDCs should ‘get prices right’. This strategy focuses on export-promotion, whereby policy measure such as export subsidies, encouragement of skill formation in the labour force and the use of more advanced technology, and tax concessions generate more exports, particularly labour intensive manufactured exports in accordance with the principle of comparative advantage.

For various reasons, many LDCs have ignored primary-exports-led growth strategies in favour of import substitution (IS) development strategies. These policies seek to promote rapid industrialisation and, therefore, development by erecting high barriers to foreign goods in order to encourage domestic production. A package of policies, called import substitution (IS), consists of a broad range of control, restriction and prohibitions such as import quotas and high tariffs on imports.

The trade restrictions are intended to “protect” domestic industries so that they can gain comparative advantage and substitute domestic goods for formerly imported goods. IS policies are largely based on the belief that economic growth can be accelerated by actively directing economic activity away from traditional agriculture and resource-based sectors of the economy towards manufacturing.

The broad range of tariffs, quotas and outright prohibitions on imports that are part of IS policies are clearly not a form of infant industry protection. The infant-industry argument states that sectors and industries that can reasonably be expected to gain comparative advantage, after some learning period, should be protected..

Japan, for example, has saved and invested about as much of its GDP during this decade as it did in the 1960s, but the returns (at least in yen) have dropped from approximately 10 percent economic growth to approximately two percent. Japan's rising exchange rate has reduced domestic opportunities in a way that has negated much of the effect of its massive investments in human as well as physical capital. Its private sector, and notably its large manufacturing firms, are technically and financially stronger than ever, but they are not able to develop opportunities at home the way they did in previous decades. Thus, the notion of structural shifts, toward or away from future opportunities, and the role of public policy in those shifts is of central concern.