Who Makes the Rules of Globalization? Corporate Influence in Global and Regional Trade Agreements Alan V. Deardorff The University of Michigan Paper presented at CESifo Venice Summer Institute 2004 Globalization Workshop July 21-22, 2004 Revised, December 28, 2004Paper: Venice Paper.doc ABSTRACT Who Makes the Rules of Globalization? Corporate Influence in Global and Regional Trade Agreements Alan V. Deardorff The University of Michigan In this paper I argue that profit maximizing firms, even though they contribute to social welfare when they compete in the market, may not do so when they influence the political process. In particular, I suggest, through several examples from both the real world and from economic theory, that corporations have played a significant role in the formulation of the rules of the international trading system. They did this in the formation of the WTO, where they were responsible for the expansion to cover both intellectual property and services. And they do this in preferential trading arrangements such as the NAFTA, where they inserted the notorious Chapter 11 and specified rules of origin for automotive products. All of this is quite consistent with economic theory, including the literature on the political economy of trade policy. I also use a simple duopoly model to illustrate a domestic firm’s interest in setting rules of origin. The corporate influence on rules need not be bad, but there is no reason why it should be good either, as these examples illustrate. Keywords: Political economy of trade Correspondence: Trade institutions Alan V. Deardorff JEL Subject Code: F13 Commercial Policy Department of Economics University of Michigan Ann Arbor, MI 48109-1220 Tel. 734-764-6817 Fax. 734-763-9181 E-mail: [email protected] http://www-personal.umich.edu/~alandear/Revised, August 26, 2004 Who Makes the Rules of Globalization? Corporate Influence in Global and Regional Trade Agreements* Alan V. Deardorff The University of Michigan I. Introduction When economists think of globalization, most of us think first of free trade and therefore the gains from trade that we have been studying and teaching for two centuries. But actual globalization takes many forms, including not only trade but also foreign direct investment (FDI), financial capital flows, and sometimes even migration of labor. More importantly, even the liberalization of trade has not been the simple move to zero trade barriers that we understand from our models, but has taken the form of trade liberalization that was only partial. Some of this is multilateral, but with barriers only partially eliminated. And increasingly it is minilateral, with barriers removed more completely but only between pairs or among small groups of countries in free trade areas (FTAs) and the like. Furthermore, in both of these cases the liberalization of trade typically is attached to a variety of other measures that may or may not generate the same sorts of benefits as reducing tariffs. Multilaterally, the World Trade Organization (WTO) has expanded beyond the General Agreement on Tariffs and Trade (GATT) to include services and intellectual property, as well as to address policies relevant to trade other than trade 1barriers. Minilaterally, FTAs routinely address issues other than trade, including not only investment but also labor standards and environment, the effects of which may be very different from tariffs. And even for trade, because FTAs are only partial liberalization, they have features that may reduce or even reverse the beneficial effects of free trade. The importance of all of this is that, while we have a solid understanding from economic theory and experience of the benefits of multilateral free trade, these actual modes of globalization are something else. Many of those who oppose or are skeptical of globalization – who tend not to be economists – base their doubts fundamentally on suspicion of corporations. Free trade increases the ability for large corporations to operate across national borders, thus – the skeptics would say – increasing their power over the economy and over peoples and governments around the world. Because corporations pursue only their self interest and not the social good, they exploit the world for their own profit. Thus Globalization ≡ Corporate Power ≡ Everybody Else Loses! As economists we take issue with the second of these identities, and perhaps also with the first. Economic theory tells us, since Adam Smith, that firms, pursuing their self interest but competing with one another, lead, under ideal conditions at least, to maximizing well being for society as a whole. And indeed their competition among themselves reduces and, again under ideal conditions, even eliminates their own profits. So the fact that corporations are controlling economic activity does not, as long as they compete with each other or with smaller firms, mean that society loses. On the contrary, it is society that gains, and the corporations themselves find their profits competed away. Indeed, by this argument globalization itself may reduce corporate power by forcing large 2firms to compete with each other across borders, rather than allowing each to enjoy market power behind its home country’s trade barriers. This would be fine if in fact globalization did entail simply the move to free trade. But as I have said, actual globalization includes both more and less than free trade. One implication of this is that the welfare theorems of trade theory need not apply, since their conditions are not met. This is the meaning of the Theorem of the Second Best, where partial moves toward free trade may be welfare reducing if other markets remain distorted. I am not too worried about that, however, except perhaps in cases where the importance of particular distortions and their implications for gains from trade are well established. I certainly would not in general want to reject partial trade liberalization based on just the vague fear that it may not be welfare improving. Distortions, after all, not only undermine the benefits of some moves toward liberalization; they also increase the benefits of others.1 My greater concern is that the particular ways that the world has embraced globalization have been selected for it not by obviously unbiased and high-minded academics, but
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