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Fair trade is better than free trade because

as the history shows, the pure free tradehas only led to domination of developedcountries on developing ones

Right from the days of AdamSmith and David Ricardo,economists have known thesignificant gains from freer

international trade. While other

economists such as Heckscher, Ohlin,and Samuelson further intensified thetheoretical arguments of why countries

benefit from trade, newer theorieshave continued the belief with evi-dence that free trade has been an en-gine of economic growth. In recent

years, fair trade argument notwith-standing, the free trade supporters,such as Prof. Jagdish Bhagwati, haveconvincingly argued that even unilat-eral free trade can bring about gainsfor an economy. There have been nu-merous opposite forces, however, thathave made this debate lively.

Take a case of infant industry argu-ment which concludes that a short

term loss of economic welfare is allworth it for the long term gains, if weprotect the domestic infant industry

with prohibitive tariffs or by othertrade impediments. Reality has shownthat infant domestic industries, whenseverely protected as such, rarely showinclination to technologically advanceand mature to a point when the trade

restrictions can be safely lifted in the

long term. The protected industriesenjoy the lack of competition to theextent that they lobby for continuationof the status quo and the theoreticallyperceived long term never arrives.Classic examples of this are the auto-mobile and airline industries in Indiaof yesteryears. In 1970s, many Indianindustries, but especially the automo-

bile industry was so heavily protected

(by as high import tariff rate as 355%)that it was almost a crime to buy aforeign car in those days. The domes-tic car makers loved the situation, asthey not only had almost 100% shareof domestic market, but also found noreason to change their production

ways. As a result, the Indian cars weremade without much variety. They were

DOES INDIA NEEDMORE FAIR OR

FREE TRADE?

Professor of Economics and Editor,

Indian Journal of Economics andBusiness

KISHORE G. KULKARNI

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WHO IS THE FAIRER OF ALL

technologically backward and veryhighly priced with production quotasdictated by government. The excessdemand for those even faulty cars wasso great that one had to wait years toget a new car. It was only when policymakers accepted their mistake, andallowed foreign competition to movein, the car manufacturers in Indialearned new technology, and competi-tion brought the prices down.

A similar story can be repeated forthe heavily protected, governmentowned, service intensive monopolybusiness called Indian Airlines, inairline industry before 1970s. Indian

Airlines planes were severely over-used, the company was loaded withlabor abundance, petty politics and

quality of service that was very poor.The apathy and inefficiency of airlineservice was a talk of all week-end par-ties. The trick was to allow the compe-tition to teach the lesson of cost cut-ting and service efficiency. The decadeof 1980s taught us a valuable lesson.

As a modification of infant industryargument, there arose another similaridea of strategic policy which some-times meant adopting either the ex-port promotion or import substitution.Neither of these is really economicallyefficient, but given the willingness to

pay some higher opportunity costs,both were applied in a few countriesanyway. Otherwise besides nationalpride there is no reason why Indiashould specialize in space technology

which is so capital intensive, and capi-tal is in such a short supply. Results ofexport promotion as a policy actionhave been noticed in Japan (auto),China (manufacturing), South Korea(electrical goods) and some othercountries. Nonetheless, the currentsituation in Japan and in some othercountries cannot claim too many gains

in such actions.So, the question remains, does pro-

tectionism offer a better alternativethan totally free trade? We are nowleft with following arguments in sup-port of Fair Trade which essentiallymeans a non-free trade or obstructedtrade. First, free trade is only a utopia,dream world of a few theoreticalcharmers. No country on this earthreally adopts it, even if western coun-tries profusely support it in theoreticalcircles. Even USA policy makers sub-

sidize the wheat farmers and cottonproducers to $3 billion (2012) to com-pete in world markets. EU has theCommon Agricultural Policy (CAP)

which gives $2 a day to the average EUcow: an expense 40% of the worldpopulation would heartily accept forsupport of a human being, as thisamount is more than their daily in-come. Plus, fair trade is better thanfree trade because as the historyshows, the pure free trade has only ledto domination of European countries

on developing ones. In fact, case ofNAFTA may point out that when freetrade is imposed, small and mediumrange businesses in Mexico went outof existence, and the Mexican govern-ment was unable to control the unem-ployment of two million people cre-ated in this fashion. As Ruffle pointsout in Global Affairs article, the

NO COUNTRY ON THIS EARTHREALLY ADOPTS FAIR TRADE, EVENIF WESTERN COUNTRIES PROFUSELYSUPPORT IT IN THEORETICAL CIRCLES

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Mexican economy now rests on drugdealing, remittances from familymembers living in the US sendingmoney home, oil and gas, and the in-formal economy. More recently, thegrowth in demand for agro-fuels suchas corn and maize has pushed foodprices up and left Mexico importingfood it used to grow naturally. So,reality sometimes does not conform to

the beautiful gains described by thetrade theorists.As our recent study (Kulkarni et.

al. 2007) has concluded, the gainsfrom trade are dependent upon twoimportant abilities of a country. Firstis the ability to address the com-modity diversification and second isthe ability to accept the regionaldiversification in trade. It is impera-tive that the economy comes up withnewer products to trade with othersand be a leader in some dominantexports. In case of India the software

technology and information systemswere an important invention thatallowed not only humongous earn-ings, but also the less reliance ontraditional exports such as diamonds,cotton, tea, clothes, mango and sug-ar. Relying on same exports year af-ter year, and decades after decadescan only lead to lower economicgains from trade. Indeed, a lack ofcommodity diversification can evenharm the economy if the exports donot stay competitive. Finding newerand more trading partners is equally

important. The regional diversifica-tion achieved by Indias trade wasmainly responsible for the tremen-dous gains in 1990-2010 period. Thetraditional trade partners of Indianeconomy have taken lower ranks,(read UK and other European coun-tries) and new countries (read USAand Malaysia or Singapore) have

popped up as the major trading part-ners for India. More efforts have tobe taken to continue on this path ofboth diversifications.

Second, free trade possibly makesgrowth only for some sectors which

will lead to rich getting richer andpoor, even if better off a little, face the

whims of income inequality. Poorpeople have no ability to change their

production ways, nor have savings tobuy the necessary raw materials. How-ever, notice that some economistshave already answered this questionby saying that economic growth rarelyleads to better income equality. Thevast amount of work done by SimonKuznets (inverted U hypothesis) showsthat after economic growth processbegins, income inequality in fact in-creases first, and then eventually de-clines in the long run. In any case thepolicy makers should take this as achallenge to manage the growth cor-

rectly, and we should not blamegrowth for such hardships in theeconomy as income inequality. Oth-erwise as the bumper sticker says, Ifgrowth hurts, try no-growth. As PaulCollier wrote, growth is not a cure-all, but lack of growth is a kill-all.

Third, there is the famous nationaldefense argument which tells us thatfree trade of such things as arms, de-fense weapons, or technology of ar-mory production should not be car-ried out. This obviously makes sensefrom a nationalistic point of view, and

is carried out by all countries equally.Of course the friendly countries arehelped by defense assistance whileadversaries are kept away from suchexchange. That leaves us with the lastargument of why the trade in realityis much more restricted than free.This is about the political relationshipand the countrys trust with other re-

gimes. It is almost impossible that thetrade can be completely free betweenIndia and Pakistan, or say betweenNorth and South Korea, or say Iranand Iraq. Politics dictates these coun-tries trade relations just like tradeamongst many other countries. Sostrained are Indian-Pakistani politicalrelations that their peace missionshave come up empty handed for thelast three times. The main conclusionhere is that politicians make eco-nomic decisions, especially when theinternational trade is concerned. Soit does not matter how theoreticallyone can argue about the benefits offree trade countries choose to fol-low fair trade policy by making sev-eral excuses for obstruction. Indian

policy makers are no exception. Inthat sense fair trade policy (eco-nomically speaking) is unfair.

This leaves us with following factsto consider and conclusions to make:Free trade has in fact benefittedcountries historically, and has shownpositive results for India and Chinain most recent times. While freetrade benefits everyone (includingthe poor sections of the society) it maycause a greater inequality of income,as it leads to higher economicgrowth. Only in the long run this

growth is more equitable. Commod-ity diversification and regional diver-sification can boost the gains fromtrade, lack of these diversificationscan retard the benefits and in thelong term, has the potential to createharm, popularly called the DutchDisease. Trade policy decisions aredominated by politics (and politi-

cians), so the reality is that interna-tional relations dominate decisionmaking in this field. Therefore thereis no concrete answer to the questionraised in the title of this column, and

does not matter which side you be-long to, the politicians by taking ac-tions that suit their self-interest,would prove you wrong.

The views expressed in the article arepersonal and do not reflect the officialpolicy or position of the organisation.)

IT IS ALMOST IMPOSSIBLE THAT THETRADE CAN BE COMPLETELY FREEBETWEEN INDIA AND PAKISTAN, OR

SAY BETWEEN IRAN AND IRAQ

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C o p y r i g h t o f G r e a t I n d i a n D r e a m i s t h e p r o p e r t y o f I I P M T h i n k T a n k a n d i t s c o n t e n t m a y n o t

b e c o p i e d o r e m a i l e d t o m u l t i p l e s i t e s o r p o s t e d t o a l i s t s e r v w i t h o u t t h e c o p y r i g h t h o l d e r ' s

e x p r e s s w r i t t e n p e r m i s s i o n . H o w e v e r , u s e r s m a y p r i n t , d o w n l o a d , o r e m a i l a r t i c l e s f o r

i n d i v i d u a l u s e .