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Risk and trade regimes: another exploration

Published online by Cambridge University Press:  22 May 2009

Robert H. Bates ,
Philip Brock  and
Jill Tiefenthaler
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Extract

An analysis of a small sample of countries shows that the higher the level of termsof-trade risk that a nation faces in international markets, the more likely it is to increase barriers. The analysis also shows that the greater the availability of social insurance programs mounted by a nation's government, the less likely it is to block free trade. In comparison with the small open economies of Western Europe, therefore, developing countries may remain protectionist because they lack the resources to mount internal programs of transfer payments as a means of coping with risk from international markets.

Type
Articles
Information
International Organization , Volume 45 , Issue 1 , Winter 1991 , pp. 1 - 18
Copyright
Copyright © The IO Foundation 1991

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References

Research for this article was supported by the National Science Foundation (grant no. SES 8821151) and the Ford Foundation. We thank Peter Lange, Stephen Krasner, Joseph Grieco, and several anonymous referees for their comments and criticisms and are grateful to Carlos Contreras for his research assistance.

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12. See Anderson, James E. and Riley, John G., “International Trade with Fluctuating Prices,” International Economic Review 17 (02 1976), pp. 76–97CrossRefGoogle Scholar. See also Jonathan, Eaton, “The Allocation of Resources in an Open Economy with Uncertain Terms-of-Trade,” International Economic Review 20 (06 1979), pp. 391–403.Google Scholar

13. See David, Newbery and Joseph, Stiglitz, The Theory of Commodity Price Stabilization: A Study in the Economics of Risk (Oxford: Oxford University Press, 1981), chap. 23Google Scholar; and Jonathan, Eaton and Gene, Grossman, “Tariffs as Insurance: Optimal Commercial Policy When Domestic Markets Are Incomplete,” Canadian Journal of Economics 18 (05 1985), pp. 258–72Google Scholar. See also the following articles by Avinash, Dixit: “Trade and Insurance with Moral Hazard,” Journal of International Economics 23 (11 1987), pp. 201–20Google Scholar; and “Trade and Insurance with Imperfectly Observed Outcomes,” Quarterly Journal of Economics 104 (Winter 1989), pp. 195–203.Google Scholar

14. Krasner, Stephen D., Defending the National Interest (Princeton, N.J.: Princeton University Press, 1978).Google Scholar

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17. For a treatment that adumbrates the principal themes of this article, see the approach taken by Stephen, Krasner in the following works: “State Power and the Structure of International Trade,” World Politics 28 (01 1976), pp. 317–47Google Scholar; and Structural Conflict: The Third World Against Global Liberalism (Berkeley: University of California Press, 1985)Google Scholar. For an able review of much of the broader literature, see Douglas, Nelson, “Endogenous Tariff Theory: A Critical Survey,” American Journal of Political Science 32 (08 1988), pp. 796–837.Google Scholar

18. World Bank, World Development Report, 1987 (New York: Oxford University Press, 1987).Google Scholar

19. See David, Greenaway, “World Development Report, 1987: Background Paper for Chapter 4,” unpublished manuscript, World Bank, November 1986.Google Scholar

20. The primary difficulty was assembling data regarding each variable for each nation over a sufficiently long period. Other empirical studies, starting with Alasdair, MacBean'sExport Instability and Economic Development (London: Allen & Unwin, 1966)Google Scholar, have used export figures to derive various measures of export instability. The studies then examined the empirical correlations between export instability and variables such as saving, investment, and rate of growth of the gross domestic product. Since we wanted to study the relationship between risk and public policy, we chose to use our measure of terms-of-trade risk rather than work with measures of export instability.

21. Dickey, David A. and Fuller, Wayne A., “Likelihood Ratio Statistics for Autoregressive Time Series with a Unit Root,” Econometrica 49 (07 1981), pp. 1057–72.CrossRefGoogle Scholar

22. One referee asked why we did not use either the degree of concentration of exports or the level of export of primary materials as a measure of risk. We offer three responses. We tried the first, and it bore no systematic relation to our measure of trade protection. Insofar as either measure is supposed to relate to protection, it is held to do so because it relates to increased levels of risk. And we measure risk directly and in a way that is consistent with the theory of risk and choice in economic behavior.

23. In order to make use of the classifications of trade regimes provided by the World Bank, our study focused on the two periods 1963–73 and 1974–84. Because of the small number of observations in each period, we could not employ the unit root or white noise residual tests. To assess the validity of our measure within the two sample periods, we therefore estimated first-order and second-order autoregessions. The results obtained when we included the second-order lag of the terms-of-trade variable were virtually identical to those obtained from the first-order autoregression. The empirical results that we report in this article therefore use the standard error of first-order autoregressions as the measure of terms-of-trade instability.

A referee contended that the real factor distinguishing the developed economies was the existence of futures markets for handling price risk. However, as is well known, such markets are incomplete. It is partly for this reason that the advanced countries devote so large an amount of their resources to programs of social insurance, as is documented in the data employed in this research.

24. Data were obtained from a telephone interview with MrGustavo, Ortiz., Department of Government Financial Statistics, Bureau of Statistics, International Monetary Fund, 2 March 1988, and from the International Monetary Fund's Government Financial Statistics Yearbook (Washington, D.C.: International Monetary Fund, 1981)Google Scholar, Tables 10 and 13.

25. Chenery was the first to demonstrate the importance of population as an explanatory variable for the volume of a country's international trade. See Chenery, Hollis B., “Patterns of Industrial Growth,” American Economic Review 50 (03 1960), pp. 624–54Google Scholar. Subsequent empirical work on patterns of development has also used population as an explanatory variable for trade patterns.

26. We assigned a 1 to the most protectionist (inward-oriented) countries and a 4 to the most open (outward-oriented) countries; we assigned a 2 or a 3 to countries with a moderately inward or moderately outward orientation, respectively.

27. The Time Series Processor (PC-TSP) Version 4.1B was used for all probit procedures and for ordinary least squares. The standard errors for the probit procedures were computed from analytic first and second derivatives.

28. One way of evaluating our equations is in terms of the degree to which they out-perform chance. If the task of classification is viewed as an assignment problem, then random assignment of a case to one of the four categories should yield a correct classification 25 percent of the time. If the task is instead viewed as an urn problem, then the random selection of a case should yield a member of the modal category of trade regime. As seen in Table 1, the modal category over the period 1963–73—that of moderately inward oriented trade regimes—contains nine cases, or 28 percent of the cases. Viewed as an urn problem, correct classifications should be made 28 percent of the time on the basis of chance alone.

29. Grossman emphasizes the role of government transfers in developing countries when domestic insurance markets are incomplete: “An important lesson that emerges from the analysis is that the size of the risk-bearing entrepreneurial class should not, in and of itself, be a policy target in less developed economies. Rather, policy should arise to provide mechanisms by which risk can be efficiently allocated across the population.” See Gene, Grossman, “International Trade, Foreign Investment, and the Formation of the Entrepreneurial Class,” American Economic Review 74 (09 1984), p. 613.Google Scholar

30. See Cameron, , “The Expansion of the Public Economy”Google Scholar; Peter, Katzenstein, Corporatism and Change (Ithaca, N.Y.: Cornell University Press, 1984)Google Scholar; and Peter, Katzenstein, Small States in World Markets: Industrial Policy in Europe (Ithaca, N.Y.: Cornell University Press, 1985). See also the sources listed in footnotes 6–8 (above).Google Scholar

31. Here, as elsewhere in this article, we refer to revenues levied from sources other than international trade.

32. They may also adopt these policies because tariffs form the major source of their revenues.

33. See footnote 28 (above). In the period 1974–84, the chance of a correct assignment remains 25 percent, but the modal category of trade regime now contains 34 percent of the cases.

34. However, for LInc, LPop, LRev, and LTrpa, regressions were based on data for 1981 (rather than 1984, the last year of period) because 1984 data were not available for all of the countries in our study.

35. To further explore the impact of national income on the choice of trade regime, we then dropped the seven European countries from the analysis. A major problem with this procedure was that it left Korea as the sole country with a strongly outward oriented trade policy. Using this reduced data set, we found that terms-of-trade instability remained a significant explanatory variable of choice of trade regime for the period 1963–73. We also found that the magnitude of the transfer payments made by a government bore a significant relationship to the level of protectionism that it practiced in its international trade policy for the period 1974–84. But because of the small number of cases per category of the dependent variable, we cannot place much reliance on these findings.

36. As forcefully put by one reader, it is not only the ability to pay that is at issue; it is alsc the willingness to do so. Some wealthy countries are unwilling to mount major transfer program; that would enable them to socialize the risks of international trade. The United States, for example, does little in comparison with, say, Sweden. This observation underscores the significance of factors that we have excluded from our analysis, such as political ideology. It also challenges us to account for variability in the behavior of governments that are wealthy am face relatively similar levels of risk. Rather than taking this comment as a hostile challenge however, we instead view it as sympathetic. For if our analysis is correct, then inclusion of such factors should improve the performance of our models.

37. See Richard, Cooper, The Economics of Interdependence (New York: McGraw-Hill, 1968)Google Scholar. See also John, Ruggie, “International Regimes, Transactions, and Change,” in Stephen, Krasner ed., International Regimes (Ithaca, N.Y.: Cornell University Press, 1983), pp. 195–232Google Scholar; Kenneth, Dam, The GATT: Law and International Organization (Chicago: University of Chicago Press, 1970)Google Scholar; and Grieco, Joseph M., Cooperation Among Nations (Ithaca, N.Y.: Cornell University Press, 1970).Google Scholar