Essential post-Doha reading

It's not difficult, or unusual, to find a book that blames the US for the problems in world trade after the Doha Round fiasco, given that its intransigence on farm subsidies played a big role in the talks collapsing. But what makes Deepak Lal's book important is that, while describing the rise of the first global trade order after the repeal of the Corn Laws in 1846, it explains why this new US-dominated world order is different from the earlier British-dominated one, and how the seeds of destruction lie here. Lal argues that while the British were quintessentially liberal at heart, and understood the classical argument that even unilateral lowering of tariff barriers is good for the economy, the US position has always been a reciprocity-based one. Indeed, during the depression of the 1930s, the US failed to do what Britain had during the earlier depression of the 1870s; maintaining open markets for trade and finance was not a possibility with the Smoot-Hawley tariff and blue-sky laws that banned US banks from lending to foreign governments.

With the use of simple demand and supply curves, Lal shows how the distortion of free markets "" be it through import tariffs, bans on child labour or even other standards that the US wanted as part of the world trade agenda "" causes significant loss of welfare. Hence his conclusion that unilateral liberalisation is a good thing.

But if world incomes grew to unprecedented levels in the first phase of globalisation that ended with World War I, why were governments the world over drawn so strongly towards protectionism? The Stolper-Samuelson theorem provides the explanation, namely that trade boosts the returns to the abundant factor of production (so BPO salaries go through the roof), domestically, and lowers those to the scarce factor of production.

Naturally then, those that lose out tend to try and capture the political class. Not all lowering of returns to the scarce factor, Lal insists though, can be laid at the altar of foreign trade "" many in the US blame globalisation for the falling of wages in the US at the lower end of the skills scale. This is where it pays to understand the Stolper-Samuelson theorem's working rather than just applying its results blindly "" the lowering of returns to the scarce factor (in this case, unskilled US labour) takes place through the fall in domestic relative prices of unskilled labour-intensive goods in the US. This, however, hasn't happened due to various forms of protection in the US market. In other words, Lal avers, technological change must get the blame for low unskilled wages (like typists losing work after the PC came in).

The other big reason for the rise of protectionist forces, ironically, is the World Bank. The World Development Report of 2000-01, as Lal quotes, argued that the average income in the richest 20 countries is 37 times that of the average of the poorest 20, and the gap has doubled in the past 40 years. In other words, the rich have got richer and the poor poorer.

But country groupings can be misleading. It's here that Surjit S Bhalla's seminal Imagine There's No Country comes to the rescue. Analysed in terms of absolute numbers of the rich and poor, incomes rising in India and China are enough to ensure that the world's rich-poor gap is actually reducing. The claim that poverty in India is not declining, in Bhalla's elaboration, is based on National Sample Survey (NSS) data, which is flawed because it undercounts nationwide consumption quite scandalously""reporting only about 55 per cent of what may be deduced more reliably from GDP data. Now, to a World Bank that switched in the early 1990s from the use of standard PPP-based exchange rates to consumption-based ones""derived from the NSS numbers (!)""the poverty ratio would look a lot worse than it is.

Voila""the puzzle is solved. Apply the correctives, and liberalisation has not been bad for the poor (which makes intuitive sense too, given China's use of trade to cut poverty).

Lal tongue-lashes not just governments, but also NGOs in favour of the Kyoto Protocol or bans on DDT and the like. He cites figures to show how the costs of such market interventions far outweigh the benefits. It's difficult to comment on the environment debate, given the wide variance between scientists, but it can safely be said that with progress in science, many of yesteryear's fears do seem excessive in retrospect.

---

REVIVING THE INVISIBLE HAND
THE CASE FOR CLASSICAL LIBERALISM IN THE TWENTY-FIRST CENTURY

Deepak Lal
Academic Foundation
Price: Rs 895; Pages: 320