Fund economists whistle different trade tune

12 September 2005

In two recent papers, Fund economists have questioned the institution’s strict adherence to the free trade doctrine.

In a paper co-authored by Nancy Birdsall of the Center for Global Development and Dani Rodrik of Harvard University, Fund research department head Arvind Subramanian concedes the failure of IFI policies for the poorest countries: “Much of sub-Saharan Africa has been under IMF and World Bank programmes during the last three decades, and while a modicum of macroeconomic stability has been achieved, progress has been spotty at best.”

The key to development, say the authors, lies in providing “economic policy-making space”. The paper argues for the use of creative “heterodox policy innovations”; therefore, it asks why “international rule-making still operates as if we have a good fix on what kind of policies developing countries need”, specifically censuring IMF conditionality which “often goes beyond narrow monetary and fiscal matters to prescribe policies on privatisation, trade and industrial policy.”

poor countries have failed to recover revenue lost from trade reform

Much of the argument draws from the pioneering work of Ha-Joon Chang at Cambridge University who has exhaustively documented the usage of so-called ‘heterodox’ policy instruments by successful developing economies, and then subsequent attempts to eliminate those same policy options from the range of alternatives available to poorer countries. In his most recent paper, he credits the IMF and World Bank with setting off the current phase of shrinkage in policy space with the structural adjustment programmes of the 80s.

Trade liberalisation cripples governments

A working paper released in June from Fund economists in the fiscal affairs department, Thomas Baunsgaard and Michael Keen, asks a simple question: for each $1 of trade tax revenue that governments lose as a result of trade liberalisation, how many dollars have they recovered from other sources (usually through increased taxes). The worrying answer is not very much.

Baunsgaard and Keen find that low-income countries, whose social programmes are most dependent on trade tax revenues, have “very largely failed to recover from domestic sources such revenue as they have lost from trade reform”, recovering approximately 30 cents on the dollar. Middle-income countries do better, though still only recovering in the range of 45 to 65 cents per dollar.

In the face of this evidence, Fund economists conclude that the “auspices for further trade liberalisation are troubling.” The researchers temper their results by stressing that this does not imply that trade liberalisation was “unwise”: “It is possible that indirect effects have more than offset the direct loss of revenue”.

A paper from Alex Cobham at Oxford University questions the conjecture that unknown “indirect effects” might outweigh the known losses resulting from trade liberalisation: “The burden of proof – that growth benefits will outweigh the total damage – must be shouldered by those who would encourage poorer countries to liberalise.” Cobham recommends that liberalisation should be pushed only where benefits from trade reform can be clearly established, and in these cases “poorer countries should be provided with guarantees of long-term replacement revenues”. The paper is part of a growing research and advocacy focus on tax justice that is examining the key role played by tax policy in development. The Tax Justice Network will publish a book in September, Tax us if you can, looking at the culpability of the IMF in establishing conditions conducive to the erosion of developing country tax bases.

The key question remains whether these encouraging signs from ‘unofficial’ Fund research portend a shift in the institution’s economic paradigm. Fund watchers will remember a paper by former chief economist Kenneth Rogoff recanting Fund faith in capital account liberalisation that presaged his departure (see Update 33). If policy on trade liberalisation does not respond to research findings this could be just more whistling in the dark.