PSIA: Key Issues in Trade Policy PSIA: Key Issues in Trade Policy ReformReform

or How to Measure the Linkages between or How to Measure the Linkages between Trade Growth and PovertyTrade Growth and Poverty

March 2006

Maurizio BussoloDECPG

The World Bank

Based on the PSIA note on Trade Policy reform authored by Maurizio Bussolo and Alessandro Nicita.

Intro

Assessing the sign and the strength of the trade and poverty links is a complex task

No clear consensus/generalization has yet emerged, thus we should not push one-size-fits all policy advice

However important lessons are being learned: Distributional effects need to be addressed Country specific detailed studies are useful Trade policy can only play a part in a comprehensive

development strategy

Trade and Poverty Links: an overview

Trad e P o lic y

In com e leve l an d g row th

P overty

In com e d is trib u tion F is ca l is su es , R is k , V o la tility

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1st group of studies: the growth-inequality-poverty regression approach

Many recent studies [de Janvry and Sadoulet (1995,2001), Ravallion and Chen (1997), Dollar and Kray (2000)] focused on the statistical relationship between growth and poverty across countries and time periods

Main conclusion: growth strongly reduces poverty, Ravallion and Chen find an ε of 3;

Policy implication: if the ε is sufficiently high, poverty reduction strategies based mainly on growth may be justified.

The regression approach: some refinements

This approach postulates a constant ε across countries/time periods

Such an approach entails a naïve model that does not take into account the existence of an identity that links poverty reduction with growth and changes in the income distribution

A graphical representation…

Poverty-growth-income distribution

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Reduction due to Reduction due to Growth Growth

Reduction due to Reduction due to distribution change distribution change

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Trade and Poverty Links: an overview

Trad e P o lic y

In com e leve l an d g row th

P overty

In com e d is trib u tion F is ca l is su es , R is k , V o la tility

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Trade Reforms Reduction of protection of domestic markets by

elimination of quantitative restrictions (quotas), by lowering tariff rates, and regulate the use of Non Tariff Barriers (NTBs)

Typology: Multilateral liberalization (WTO negotiations) Unilateral liberalization Discriminatory liberalization (regional, bilateral

agreements) Different institutional arrangements and

different effects

Income distribution implications of Multilateral and Regional liberalizations, an example for

Nicaragua

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Full CAFTA

Kernel Distribution of Gains for Nicaraguan households for a multilateral (full) and a CAFTA liberalization scenarios

Trade and Poverty Links: more detailsa. goods prices (expenditure channel)b. factor prices, employment (income channel)c. government fiscal position (transfers, tariff

revenues, other taxes)d. Investment/productivity changes (long term growth)e. Short run adjustment costs (volatility, risk)f. Other external shocks (global lib., TOT)

Standard small country H-O-S model main predictions (focus on a. and b., magnification effect, type of lib.)

2 other groups of studies +1a. partial equilibrium / cost of living analyses (detailed micro)b. general equilibrium (macro top-down approach)c. micro-macro synthesis

These are all quantitative studies, data requirements can be a limitation in their implementation

Partial equilibrium / cost of living analyses: intro

Based on real households rather than representative ones

Have a central equation of this form:

The change in welfare is function of: a) the change in output prices, b) inputs prices, c) factor prices and d) consumption goods prices

cconscf

wfk

inputkj

outputj pwppW

W

Partial equilibrium analyses: advantages/disadvantages

the ’s are household specific: full heterogeneity is included

Key characteristics of the poor inform the analysis Examples: Ethiopia export/food crops regional

segmentation, and own consumption in Nicita Olarreaga (2003); Madagascar booming textile in Nicita Razzaz (2003)

Problems: price changes are partial equilibrium no substitutability (i.e. no quantity response)

Extensions (panels, ex-post studies: Winters on Vietnam, McCulloch on China’s province)

General equilibrium analyses: advantages/disadvantages

Based on representative households, disaggregated in many groups as to minimize the intra-group income heterogeneity

Generate GE consistent prices, accommodate different degrees of resource mobility and substitution, perfect identification

Many studies, starting Adelman and Robinson (1978) for Korea, up to a recent one for Brazil (Harrison, Rutherford and Tarr 2003) Main result: poorest household earn 4 times more than richer

households Decomposition exercises; test different type of liberalization

Problems: Within group variance is fixed No heterogeneity across the poor Perfect price transmissions

Micro-Macro synthesis

Top-down sequential approach Inclusion of the full household sample in the CGE

model Feed-back full models

Top-Down sequential approach: an example

Macro model is a global multi-sectoral CGE model Link variables are commodity and factor prices

(from CGE model to micro data) For the incidence analysis we use four household

surveys—Brazil, Chile, Colombia and Mexico Two policy experiments: FTAA and multilateral

global liberalization

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Brazil Chile Colombia

Global trade reform can reduce poverty more than proportionately(Poverty elasticities generated by household micro-simulation linked to global trade reform scenario)

Distributionally neutral elasticity

Low labor mobility

High labor mobility

Source: Staff simulations with Linkage model and country micro-simulation modules.

Other approaches

CGE + more complex micro model: Bourguignon, Robilliard and Robinson (2002) on Indonesia and Bussolo and Lay (2003) on Colombia

CGE+full household sample: Cogneau and Robilliard (2000) on Madagascar, Cockburn (2002) on Nepal

Full feed-back models: Savard (2003) on Philippines

Off-the-shelf methods simSIP PovStat

Both the above methods assess the (ex-ante or ex-post) effect of aggregate economic growth on poverty

Poverty Analysis Macroeconomic Simulator (PAMS) Maps macroeconomic results (differential

output, employment, labor revenues across sectors) into poverty effects

123PRSP

Difficulties

As Kanbur (2001) puts it: trade and openness is the archetypal, emblematic, area around which there are deep divisions, and where certainly the rhetoric is fiercest Level of aggregation Time horizon Market structure

Domestic policies (regulation and competition)

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Dynamic gains from trade: Increasing integration in global markets is associated with faster growth

(Average annual per-capita GDP growth, 1980-2003, percent)

Source: World Development Indicators and DECVP staff calculations

Increasing export share in GDP

Decreasing export share in GDP

Much is left out of the analysis…(Real income gains for developing countries in

$billion)

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Services Merchandise

Trade barriers EfficiencyCompetition

Merchandise trade vs. services, GTAP5 (1997) Merchandise trade and productivity, GTAP 6 (2005)

Source: Left panel, GEP 2002. Right panel, Anderson, Martin and van der Mensbrugghe (2006).

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Low income Middle income

Static Dynamic

Other elements in a good PSIA: Stakeholders analysis Trade policy is an economic inefficient but politically

efficient re-distributive tool Trade policy normally favors import-competing

sectors (and factors) rather than export-oriented ones (for historical reasons revenues collection)

Predictive analysis of the distributional effects is crucial for a successful and sustainable trade policy reform: Approach 1: the factor endowments model Approach 2: the sector specific model

Institutions Globalization and governance

WTO commitments Effects on domestic institutions Bonaglia, Braga,

Bussolo (2002) Coordination across different public institutions

Example: trade liberalization in Colombia Trade reform as part of a larger development agenda

Conclusions Poverty impacts are different across countries and scenarios We show that at least for one case, Mexico, a simple approach is

detecting a reduction in poverty, in contrast to an increase, as shown by an approach considering distribution

Strong distribution effects can dominate the average growth effects

Useful information for the design of trade reforms (capture, rent seeking) and compensatory measures (targeting); different emphasis for the short run and the long run

Volatility and risk (Loyaza on Managing Volatility Handbook) MDG context: Halving poverty requires about 5% yearly

reductions, with full trade lib, in the good cases, we get about 2% (static gains only)