14022 Global Economic Prospects and the Developing Countries February 1995 International Economics Department Development Economics The World Bank FmILE COPUrY --. +---- e ..w . . - 日日国日日日日日日日日日日日日日日日日日日日園国日日日日日日日日日日日国 -.，二．・―& Abbreviations, acronyms, and data notes AA American Airlines LIBOR London Interbank Offer Rate AFTA Asian Free Trade Agreement LMIC Low- and Middle-Income Countries APEC Asia-Pacific Economic Cooperation MENA Middle East and North Africa ASEAN Association of South East Asian Region Nations Mercosur Latin America Southern Cone trade CFA Communaut6 Financi6re Africaine bloc (Argentina, Brazil, Paraguay, CPI Consumer Price Index Uruguay) ECA Europe and Central Asia Region WA Multifiber Arrangement EEC European Economic Community MFN Most Favored Nation EU European Union (formerly the EQ MNA Middle East and North Africa FDI Foreign Direct Investment Region FSU Former Soviet Union MUV Manufactures Unit Value (index) FTA Free Trade Area NAFTA North American Free Trade G-5 France, Germany, Japan, United Agreement Kingdom, and United States NIEs Newly Industrialized Economies G-7 Canada, France, Germany, Italy, NRC National Research Council Japan, United Kingdom, and United NTB Nontariff Barrier States OECD Organization for Economic GATS General Agreement on Trade in Cooperation and Development Services OPEC Organization of Petroleum GATT General Agreement on Trade and Exporting Countries Tariffs PPP Purchasing Power Parity GDP Gross Domestic Product R&D Research and Development GSP Generalized System of Preferences REER Real Effective Exchange Rate GTAP Global Trade Analysis Project RTAs Regional Trade Arrangements ICORs Incremental Capital-Output Ratios RUNS Rural-Urban North-South (model 1CP International Comparisons Project systems) IDB Integrated Database S&P Standard and Poor's IFC International Finance Corporation SSA Sub-Saharan Africa ILO International Labor Organization STF Systemic Transformation Facility IMF International Monetary Fund TFP Total Factor Productivity ISDN integrated Services Digital Networks TNCs Transnational Corporations IT Information Technology TRIPs Trade-Related Aspects of Intellectual LAC Latin America and the Caribbean Property Rights Region UK United Kingdom LAFTA Latin American Free Trade us United States Agreement VERs Voluntary Export Restraints LDCs Least-Developed Countries WTO World Trade Organization Data notes The Classification of Economies appendix classifies economies by income, region, export category, and indebtedness. Unless otherwise indicated, the term "developing countries" as used in this report covers all low- and middle-income countries, including the transition economies. In general, data for periods through 1993 are actual; data for 1994 are estimated; and data for 1995 onwards are projected. GLOBAL ECONOMIC PROSPECTS AND THE DEVELOPING COUNTRIES Table of Contents S u m m a ry ............................................................................................................................... i 1. Developing Countries in an Integrating W orld Econom y ........................................ 1 O v e rv iew...................................................................................................................... A favorable external environm ent ................................................................................. 4 Prospects for developing countries: better policies to capitalize on the better environm ent ......................................................................................... 23 Risks in the outlook.................................................................................................... 26 2. W ider M arkets for Trade: the Uruguay Round...................................................... 32 O v erv iew .................................................................................................................... 3 2 The outcom e: an assessm ent....................................................................................... 33 Som e developing country concerns............................................................................. 45 Challenges beyond the Round..................................................................................... 49 3. M ore to Trade: the Internationalization of Services............................................... 53 O v e rv iew .................................................................................................................... 5 3 The services revolution............................................................................................... 54 Opportunities for developing countries ....................................................................... 61 Capturing the opportunities ........................................................................................ 67 4. Reverse Linkages: G row ing Together ..................................................................... 72 O v e rv iew....................................................... ........................................................... 7 2 Gains from greater trade integration............................................................................ 73 Gains from financial integration .................................................................................. 77 Gains from rapid growth in developing countries ........................................................ 79 Transitional costs........................................................................................................ 81 M anaging the transition .............................................................................................. 83 Conclusion ................................................................................................................. 84 Annex: Regional Economic Prospects Statistical Appendix: Global Economic Indicators Classification of Economies Bibliography Summary World merchandise exports have risen from 11 to 18 percent of world GDP over the past two decades. Services have increased from 15 percent of world trade to over 22 percent since 1980. One of seven equity trades worldwide involves a foreigner as a counterparty. And world sales of foreign affiliates of multinational corporations may now well exceed the world's total exports. What do these statistics have in common? Globalization, a change that is transforming the world economy, and a theme that cuts across this report. This change is reflected in widening and intensifying international linkages in trade and finance. It is being driven by a near-universal push toward trade and capital market liberalization, increasing internationalization of corporate production and distribution strategies, and technological change that is fast eroding barriers to the international tradability of goods and services and the mobility of capital. Markets for merchandise trade are expanding, more and more services are becoming tradable, and capital is flowing in increasingly diverse ways across countries in search of profitable investments. While international economic integration has taken major strides, and recently received another shot in the arm with the successful conclusion of the Uruguay Round, its smooth progression is by no means assured. Protectionist pressures are never far beneath the surface when the process of change involves both gainers and losers and exacts adjustment as the price for the benefits it offers, as international economic integration inevitably does. Such pressures from industries and groups that will need to adjust to stronger international competition will continue to test the firmness of policymakers' commitment to more open markets, in both developing and industrial countries. A prominent feature of the ongoing global economic change is that the developing countries are active participants in it, both as agents and beneficiaries of the change. The outward-oriented reforms being embraced by a growing number of developing countries are both contributing to globalization and expanding opportunities for them to share in its benefits. By promoting domestic efficiency and productivity and providing an environment that is friendlier to exports and foreign investment, these reforms lie at the heart of developing countries' improved economic prospects. In the seven years since the launching of the Uruguay Round in 1986, developing countries were responsible for 58 of the 72 autonomous liberalization actions reported to the GATT. Since 1986, international trade in goods and nonfactor services (exports plus imports) as a proportion of their GDP has risen from about 33 to 43 percent, and foreign direct investment inflows have increased sixfold. Alongside the new opportunities in trade and external finance offered by globalization have come new challenges of economic management in an increasingly open, integrated, and competitive global economy. Policymakers are confronted more and more with a new discipline, the need to maintain the confidence of markets, not only domestic but, increasingly, also international. In this setting sound economic policies command a rising premium. To an extent, globalization is having the effect of "endogenizing" policy reform in developing countries. Greater integration into the world economy raises the payoffs to increased competitiveness, but also compounds the losses from failure to act. Increasingly, it is the more efficient policy regimes that will win out. Global Economic Prospects and the Developing Countries: Summary {i} Countries best placed to benefit from the new opportunities offered by globalization are those that are successfully transforming their policies and structures to support outward-oriented growth. Some of the poorest countries are least integrated internationally. Finding ways to accelerate their integration into the international economy is a special challenge. The increasing global economic role and integration of developing countries also implies growing economic feedback from developing to industrial countries, making the links between them increasingly important in both directions. For example, about one-fifth of industrial country exports went to developing countries in the late 1980s. Today, this share has risen to about one- quarter, and it appears likely to exceed one-third by the end of the next decade. Globalization in these various dimensions is the unifying theme of this report. The report reviews the prospects of developing countries in the context of their increasing integration into world markets for goods, services, and capital, highlighting the new opportunities and challenges that stem from this process of integration. It also develops the argument that the integration of developing countries brings them major benefits but holds important benefits for industrial countries as well. The realization of these benefits, however, will require adjustment. The report's central message: the increasing integration of developing countries into the global economy represents a major-perhaps the most important-opportunity for raising the welfare of both developing and industrial countries over the long term. The process of integration will not be frictionless, or without bumpiness, but both groups of countries have a large stake in ensuring that it continues. As elements of this central message, the report develops five main points: The global economic environment is brighter, and provides a propitious setting for continued integration of developing countries into the world economy. The global economic environment, invigorated by buoyant world trade that promises to grow at more than 6 percent over the next ten years and benefiting from low inflation, is better than it has been since the 1960s, but better policies are needed to capitalize on it. Important challenges remain. Industrial countries need to foster a sustained economic recovery. Developing countries need to take advantage of the improved external environment, including strong commodity prices, to further their reforms and strengthen the foundations for continued robust growth. A key element of reform will be continued progress on opening up economies to international trade and investment. Provided policies remain supportive, growth in the next ten years could approach 5 percent in developing countries and average 2.8 percent in industrial countries. The aggregate growth outlook for developing countries masks significant differences. Growth is expected to recover in Sub-Saharan Africa and the transition economies, but will likely average well below overall developing country growth. Outward-oriented structural reform will be an especially important challenge in countries in Sub-Saharan Africa and elsewhere that are at an early stage of this process. Also, there are risks in the outlook that policymakers in developing countries in general need to be alert to, in particular the risk of a slackening of macroeconomic discipline and structural reforms induced by the favorable economic conditions. Global Economic Prospects and the Developing Countries: Summary {ii} But the road ahead will not be smooth, as the crisis in Mexico shows. The increasing integration of developing countries into the global capital market brings them important benefits, but as Mexico's experience shows, it also requires stricter discipline in economic management as it leaves them less room for policy errors. Mexico's is an individual country crisis, not a systemic one threatening a general reversal of private flows to developing countries. But it serves to underscore the critical role of sound country policies in sustaining the confidence of financial markets. It also shows that when a crisis of confidence develops, its impact can be sudden and damaging and with some spillover to other countries that market participants perceive as being in a similar situation. Nevertheless, the rise in private capital flows to developing countries is underpinned by important ongoing structural shifts in the world economy. It may take some time for confidence in emerging markets to be reestablished following the Mexican crisis, but in the medium term private capital flows to developing countries are expected to resume growth, albeit at a slower pace than in the early 1990s. The Uruguay Round advances international trade integration significantly, but much remains to be done. The Uruguay Round's achievements in improving market access and security are significant: average reduction of tariffs on manufactures of over one-third; major scaling back of nontariff barriers with the abolition of the Multifiber Arrangement and voluntary export restraints; extension of multilateral discipline to trade in agriculture and services; stronger and clearer rules, standards, and dispute settlement procedures; and strengthening of the trading system through the creation of the World Trade Organization. But these are not grounds for complacency. A sizable agenda for reform remains in all the areas tackled by the Round, but especially in agriculture where the liberalization achieved was limited and in the use of antidumping measures where stricter discipline is needed. Firm implementation of the Round and building on its achievements will be necessary to ensure that international trade remains the "engine of growth" it is today. Gains from improved market access under the Round will be widespread, but unevenly distributed across regions and countries. Countries' overall gains from trade liberalization will depend more on their own trade policy actions than those of others. Losses to developing countries in two areas of major concern to them during the negotiations-preference erosion and higher food import costs-are likely to be smaller than initially feared, the latter in part because the liberalization in agriculture has been more limited than expected earlier. The internationalization of services will likely lead the next stage of economic globalization. Services are internationalizing rapidly. In both trade and foreign direct investment, services are the fastest-growing component. For developing countries, promising new avenues for exports are opening, such as relatively labor-intensive long-distance services, which alone could potentially double their commercial service exports, now valued at around $180 billion. But access to efficient services is becoming increasingly important to the competitiveness of the whole economy, reflecting the rising service intensity of production in general. Together with creating Global Economic Prospects and the Developing Countries: Summary {iii} new possibilities for exports, the increasing tradability of services is expanding the access of firms and businesses in developing countries to efficient, state-of-the-art producer services and a widening body of technical know-how through imports. In particular, the declining costs of information technology and telecommunications are opening up possibilities for developing countries to leapfrog stages of technological development. To maximize benefits from the internationalization of services, adopting a liberal trade and investment regime will be essential. The increasing integration of developing countries into the global economy carries major benefits for industrial countries, but also entails adjustment costs. Managing the transition successfully will be a difficult, but crucial challenge. Contrary to populist rhetoric, the growth of developing countries and their increasing integration into world trade and finance benefit rather than hurt industrial countries. Gains to industrial countries from increased trade integration with developing countries are potentially larger than from additional integration among industrial countries, as cost/price differences between developing and industrial countries can be more than twice as large overall as those among industrial countries. Beyond a more efficient use of resources, medium- to long-term gains through increased investment and innovation and higher productivity growth are likely to be substantial. These gains arise from increased market size, competition and technology spillovers. Insufficiently recognized in traditional analyses of trade, such dynamic gains are likely to be a multiple of the initial efficiency gain from trade integration. Dynamic gains from trade are likely to be especially important in the case of integration with developing countries, which are forecast to grow about twice as fast as industrial countries. Industrial countries also stand to gain from increased financial integration with developing countries. Increased foreign direct investment allows firms in industrial countries to reap the benefits of specialization in production and distribution on a global scale. In portfolio investment, emerging markets provide an outlet offering higher returns and risk diversification to the savings of the aging populations of industrial countries. But the process of increased integration with developing countries will not be without adjustment costs. Labor-intensive and low-skill industries and low-skill workers in industrial countries are likely to be disproportionately affected. Economy-wide and over time, these costs should be far outweighed by the gains from integration. Trade with developing countries will spur other industries and services where industrial countries will retain comparative advantage. But the reallocation of resources that this structural change entails is not easily accomplished, and will inevitably generate frictions and protectionist demands. Indeed, possible intensification of protectionist pressures poses a major risk to the realization of increased, mutually beneficial integration between developing and industrial countries. A successful transition will depend heavily on industrial country policies aimed at mitigating the social costs of adjustment and facilitating the reallocation of resources toward activities that will be spurred by integration. Increasing the flexibility of labor and product markets will be central to this effort. Protectionist pressures to slow or reverse integration must be resisted, as that would make both industrial and developing countries lose, and dearly. Global Economic Prospects and the Developing Countries: Summary {iv} 1. Developing Countries in an Integrating World Economy Overview The industrial countries are firmly in recovery. World trade is growing at near 7 percent rates. Industrial country inflation is below 3 percent. Commodity prices are strong. Although interest rates have risen more than expected a year ago, they are no higher than the average of the last eight years. Thus it is no exaggeration to say that the external environment for developing countries is better than it has been since the 1960s. Yet, while many developing economies are booming, and there are indications of a turnaround even in slow-growing Africa, others are mired in crisis, including several transition economies and some middle-income countries, including, most recently, Mexico. These crises stem from country-specific imbalances, policy errors, or political difficulties. But the depth and, in some cases, the suddenness of these crises reflect a broader underlying change. As developing countries become more closely integrated into international markets, policymakers in these countries face the increasingly demanding requirements of a new discipline-the need to maintain the confidence of markets. The premium on sound economic policies has risen. In a more integrated global economy, rewards to such policies are larger, but so are penalties for policy errors. The increased market discipline on policies is enforced by private agents-savers, investors, firms-in both domestic and foreign markets. When market confidence in policies dips, not only does foreign financing dry up but domestic capital also tends to flee.' And sometimes the reaction of market participants may be compounded by information lags or herd instincts, causing the financial crisis to intensify and also to spill over to other countries that have different attributes. A recurring theme of this report is that one effect of globalization is to expand the options available to private individuals and firms while reducing those of policymakers. Even with a favorable external environment the performance of individual developing countries will differ according to their ability to manage opportunities and challenges in a more globalized environment. The performance of the many increasingly outward-oriented developing countries in Asia and Latin America will depend on the effectiveness of their policies in maintaining macroeconomic stability, encouraging domestic saving and investment, and providing an incentive structure that promotes competitiveness and attracts international business. Successful performers in this group provide examples for other countries, in Africa and elsewhere, that are now beginning to open up their trade and investment regimes. Timely adjustments to changes in the external environment-at present to the upward phase of the business cycle and the accompanying commodity price boom-will also be important. For economies that remain relatively closed, however, the risk of becoming marginalized is greater than ever; the stream of process and product innovation fed by surging international trade and investment will continue to pass them by. For all countries the current favorable external environment provides a window of opportunity for accelerating structural reforms that will underpin their growth prospects in the long run. Global Economic Prospects and the Developing Countries: Chapter 1 Page 1 The baseline projections discussed below contain some significant revisions to those reported in Global Economic Prospects and the Developing Countries 1994. Seven points stand out: * World trade will be a major engine of growth over the next ten years. Assuming liberalization policies continue, world merchandise trade is projected to grow at more than 6 percent a year, faster than at any time since the 1960s. Trade in services will advance even faster, especially as advances in information and telecommunication technology expand trade in long-distance services (data-entry, accountancy, engineering design, software development). * The integration of developing countries in world trade will proceed much more rapidly than was true until the start of this decade. Their rate of merchandise trade integration-the excess of international trade over output growth-was actually negative in the fifteen years to 1985. It revived in the second half of the 1980s and soared to almost 7 percent in 1991-94. It is projected to average a little over 2 percent a year in the next decade. * Provided policy reforms in developing countries stay on track, their output growth is expected to accelerate from 2.2 percent in 1981-94 to 4.9 percent over the coming decade, partly as the transition economies swing from large declines toward 4 percent growth and also as growth strengthens in Sub-Saharan Africa, the Middle East and North Africa, and Latin America, regions which experienced slow growth in the last 15 years as a whole (Table 1-1). Developing countries' share in world output will rise from 21 percent in 1994 to over 24 percent in 2004. Their exports are expected to grow 1 to 1.5 percentage points faster than those of industrial countries. * The aggregate figures for developing countries mask wide differences. Only East and South Asia will exhibit real per capita income growth higher than the 2.3 percent projected for industrial countries over the next decade. Other developing regions, including Sub-Saharan Africa, should see resumed growth in per capita terms. But average real per capita GDP in Sub-Saharan Africa, the Middle East and North Africa and in many of the republics of the former Soviet Union (FSU) in 2000 could still be below the levels of 1980. * Recovery in the industrial countries has been faster than expected, and the prospects for sustaining recovery over the medium term appear good, thanks to progress already made in reducing inflation and the continued anti-inflationary orientation of monetary policies. Industrial country growth is expected to average 2.8 percent in 1995-04, with inflation averaging a muted 2.7 percent (Table 1-2). The growing importance of developing countries in world trade and output growth helped dampen the effects of the recession in industrial countries and is also likely to contribute to their output growth in recovery. * Capital flows to developing countries should resume moderate growth as confidence in emerging markets becomes reestablished following the crisis in Mexico, but the share of countries whose rising external deficits have become difficult to sustain will decline. Total world demand for capital will rise as recovery progresses. This will keep real long-term interest rates moderately high, near current levels of 4 to 4.5 percent. The expected slower Global Economic Prospects and the Developing Countries: Chapter 1 Page 2 growth of capital inflows and higher debt-service charges sharpen the need for many developing countries to improve domestic savings and export performance. The industrial countries are firmly in recovery, and many developing countries are enjoying stronger growth Table 1-1 World growth summary (percentage change per year in real GDP i Estimate Forecasts Regions 1966-73 1974-80 1981-90 1991-93 1994 1995-96 1995-2004 World total 5.1 3.4 3.2 1.2 2.8 3.2 3.3 High-income countries 4.8 3.0 3.2 1.3 3.0 3.0 2.8 OECD countries 4.8 2.9 3.1 1.2 2.9 2.9 2.8 Non-OECD countries 8.4 7.0 5.0 6.2 5.8 6.0 5.6 Developing countries 6.9 5.0 3.2 0.8 2.0 4.0 4.9 East Asia 7.9 6.8 7.6 8.7 9.3 8.1 7.7 South Asia 3.7 4.0 5.7 3.2 4.7 5.0 5.4 Sub-Saharan Africa 4.7 3.4 1.7 0.6 2.2 4.0 3.8 Latin America and the Caribbean 6.4 4.8 1.7 3.2 3.9 2.4 3.5 Europe and Central Asia 7.0 4.9 2.9 -9.4 -7.5 0.7 3.4 Middle East and North Africa 8.5 4.7 0.2 3.4 0.3 2.7 3.2 Memorandum items: Eastern Europe and former Soviet Union (FSU) 7.0 5.1 2.7 -12.5 -9.1 0.1 3.5 Developing countries excluding E. Europe and FSU 6.2 4.9 3.3 4.6 4.6 4.8 5.2 a Measured at market prices and expressed in 1987 prices and exchange rates. Growth rates over historical intervals are computed using least squares regression. Source: OECD National Accounts Statistics; World Bank data and staff estimates. World trade will be a major engine of growth over the next decade Table 1-2 Global conditions affecting growth in developing countries (average annual percentage change except LIBOR) Estimate Forecasts Indicator 1974-80 1981-1990 1991-93 1994 1995-96 1995-2004 Real GDP in G-7 countries 2.4 2.9 1.3 2.9 2.9 2.7 Inflation in G-7 countries' 10.0 4.6 3.2 2.1 2.6 2.7 World tradeb 4.9 4.3 4.1 7.1 7.1 6.2 Nominal LIBOR (6 months) $U.S. 9.5 10.0 4.5 5.1 7.1 6.6 Price indices ($U.S.) Export unit value of manufactures (MUV)' 11.6 3.3 1.3 3.2 1.7 2.3 Price of petroleumd 26.7 -6.7 -11.6 -5.0 0.9 1.3 Non-oil commodity priced -1.5 -6.3 -3.2 18.8 1.0 -1.1 a Consumer price index in local currency, aggregated using 1988-90 GDP weights. b Merchandise exports. Data for G-5 countries (France, Germany, Japan, UK, and U.S.) are weighted by their exports of manufactures to developing countries. d Based on World Bank indices and deflated by the export price of manufactures. Source: World Bank data and staff estimates. Global Economic Prospects and the Developing Countries: Chapter 1 Page 3 * Their recent cyclical surge notwithstanding, the long-term outlook for commodity prices remains unfavorable. Commodity-exporting countries should use the present temporary boost to their revenues to strengthen structural reforms, avoiding mistakes of the past when similar temporary revenue boosts led to unsustainable spending growth and a slackening of reforms. There are significant risks to this broadly favorable baseline outlook. These include higher interest rates as a result of a more pronounced cyclical recovery or a failure to make headway on fiscal consolidation in industrial countries, and policy slippages in developing countries, especially in the context of the shock to the confidence of financial markets caused by the Mexican crisis. These risks are explored, at the end of this chapter, in an alternative scenario in which many developing countries delay reforms as they enjoy a global boom induced by accelerating demand in industrial countries. A bust ensues as industrial countries tighten monetary policy to curb rising inflation. Interest rates rise sharply. Countries that squandered the proceeds of the boom suffer disproportionately as they are penalized by domestic and foreign investors. Recently, a combination of high commodity prices, strong world trade growth and increased flows of private capital has generated sizable inflows into many developing countries. These inflows need to be carefully managed if countries are to avoid such an outcome as the world economy inevitably slows again. Even if the industrial countries achieve a "soft-landing" (avoid a boom-bust cycle), there is a risk that a serious loss of financial market confidence in developing countries stemming from the Mexican crisis, especially if combined with policy slippages in these countries, could result in a "contagious" series of balance of payments crises in some developing countries triggered by reversals of private capital flows. A favorable external environment The prospects for growth in developing countries will be influenced significantly by changes in the external environment they face and by their policy responses to those changes. The principal dimensions of the external environment are growth and inflation in the industrial countries, interest rates, capital flows, world trade, and commodity prices. Industrial country outlook: recovery spreads, inflation stays low The recovery strengthened in 1994, spreading to most parts of the industrial world, while inflation continued its multiyear decline, falling in 20 of 25 OECD countries. Growth ranged from about 4 percent or more in the United States and other early-recovering countries to 2 to 3 percent in Continental Europe and near 1 percent in Japan. (Figure 1-1). The continued disparity in growth rates among major countries meant that the pick-up in overall high-income OECD growth from 1 percent in 1993 to 2.9 percent was more restrained than in previous cyclical recoveries. This pattern is expected to continue, with growth in these countries running at 2.9 percent in 1995-96 as stronger growth in Europe and Japan is offset by slowing growth in the United States. With the recovery shifting toward Europe in 1995, exports from Eastern Europe, Africa, and the Middle East will benefit proportionately more than those from regions such as Latin America that are oriented more toward U.S. markets. Moderate aggregate growth and significant output gaps in Europe and Japan should restrain average inflation in the G-7 countries to less than 3 percent. Global Economic Prospects and the Developing Countries: Chapter 1 Page 4 With a favorable inflation outlook, the current recovery in industrial countries is more likely to be sustainable and to contribute to a more stable environment for developing countries. Inflation, a lagging indicator of activity, fell in the United States in 1994 for the fourth consecutive year to 2.6 percent in CPI terms, while growth accelerated to about 4 percent on the basis of robust investment and expanding export and consumer spending. But resource-use measures also reached levels at which inflation pressures are thought to start accumulating: unemployment fell below the 6 percent mark at which wage pressure is estimated to build, and capacity utilization neared its peak of the late 1980s. Tightening labor markets and smaller cyclical productivity gains could put upward pressure on unit labor costs in 1995. On the other hand, intensifying international competition is exercising a dampening effect on inflation. The impact on inflation of higher primary commodity prices is expected to be small: the 23 percent rise in prices in 1994 is estimated to add only 0.1 percentage points to OECD inflation in each of the next four years (OECD 1994). Monetary tightening into 1995 is expected to slow growth in the United States to its potential rate of about 2.5 percent by 1996. Inflation during this soft landing is expected to rise by perhaps 0.5 percentage points in 1995. The recovery strengthens. Figure 1-1 Real GDP growth in G-3 countries Percentage change per year 8 8 Japan 6 . 6 -2 -Germany - 2 I - I -_ -4 *. * " 4 83 84 85 86 87 88 89 90 91 92 93 94 Source: IM The strongest rebound in activity in 1994 occurred in Continental Europe where growth moved into the 2 to 3 percent range, driven by exports, housing investment, and inventory rebuilding. The focus of recovery in industrial countries is likely to shift further to Europe in 1995-96 as the upturn there broadens to encompass business investment and consumer spending. Inflation is likely to stay low. Wage growth will be moderated by an average 11.5 percent unemployment rate, whose cyclical component is estimated at 1.5 to 2 percent. Capacity utilization, though rising, was still 5 to 10 percent below previous peaks. Growth in 1994 was weakest in Japan where the business sector continued to suffer the effects of the strong yen and overcapacity built up in the boom of the late 1980s. Public spending increases and stronger private consumption and Global Economic Prospects and the Developing Countries: Chapter 1 Page 5 residential investment induced by tax reductions and low interest rates allowed growth to strengthen toward 1 percent in 1994. It is expected to strengthen further to more than 2 percent in 1995 and more than 3 percent in 1996. Competitive pressures from the high yen, continuing deregulation of the economy, and low industrial capacity utilization levels should keep inflation below 1 percent through 1996. Long-run growth in the high-income OECD countries in 1995-2004 is projected to average 2.8 percent a year, slightly above the trend in 1974-93 and above estimates of potential output growth of 2.5 percent. Output gaps of 2 to 4 percent of GDP in Japan and Europe should allow growth to exceed its potential rate for a time without generating inflationary pressures. Three key assumptions underpin the projection of sustained, low-inflation growth: continued adherence to prudent monetary policies to keep inflation low, sustained progress on fiscal consolidation, and a reduction of structural rigidities in labor and product markets that keep unemployment high and constrain productivity growth. Fiscal consolidation can contribute to higher potential output growth by releasing more resources for private investment.2 Reduction of structural unemployment will contribute to the same objective by permitting higher employment growth consistent with price stability. High structural unemployment seriously affects long-term output growth and inflation performance in Europe, so labor market reforms are high on the policy agenda there. A fall in Europe's structural unemployment from 10 to 7 percent over ten years could increase its annual potential output growth by 0.2 percentage points, raising that of industrial countries as a whole by a little under 0.1 percentage point. There has been no pronounced recovery in productivity growth yet Flgure 1-2 Total factor productivity growth In OECD, 1960-93 Percent 5 5 2 2 0------ --- - --- - ----- 0 am 0 -1 -1 OECD USA Japan OECD Europe 1 1960-73 U 1974-79 U 1980-85 M 1986-93 Sare Englader and Ourney 1994; Wold Bsak Beyond growth in labor and capital inputs, the pace of potential output growth will depend on the growth of total factor productivity (TFP).3 There is thus far little clear evidence of a significant or widespread recovery from the slowdown in productivity growth that became apparent after 1973 (Figure 1-2). TFP growth in the business sectors of OECD countries rose from 0.5 percent in 1974-79 to 0.8 percent in 1980-93 (Englander and Gurney 1994). There was some improvement in the United States, the United Kingdom and a number of smaller European countries, and, to a Global Economic Prospects and the Developing Countries: Chapter 1 Page 6 minor extent, in Japan, but TFP growth in Germany, Italy and France slowed further. If such ongoing changes as the acceleration of world trade growth, the opening of large new markets in developing countries, extensive deregulation and business restructuring, and rapid technological advances continue, some analysts suggest that TFP growth in industrial countries could rise above the 0.8 percent trend for 1980-93 used in this report's baseline projections. More rapid productivity and GDP growth in industrial countries would have important implications for developing countries. These include faster export market growth, faster technological catch-up possibilities and a more stable external environment due to the dampening effect of higher productivity growth on inflation.4 A recent analysis of TFP trends presents a plausible high-case scenario suggesting that productivity growth in industrial countries could be 0.4 to 0.6 percentage points higher by 2010 as a result of growing international trade openness, increased spending on research and development (R&D), and faster technological change and increased competition in the services sector (Table 1-3). Industrial country trade openness (the ratio of imports to GDP) rose through the postwar period and is likely to rise even faster in the future for reasons discussed in subsequent chapters of this report: the Uruguay Round and other trade liberalization initiatives, internationalization of services, and more rapid growth in developing countries. By this analysis, the contribution of trade openness to industrial country TFP growth could rise to 0.9 percentage points from 0.7 percentage points in 1973-93.5 The ratio of R&D expenditures to GDP in industrial countries also rose through the postwar period, accelerating in the 1980s. With more competition from developing countries in low-end manufactures and between industrial countries in high-tech manufactures and services, spending on R&D (relative to GDP) is likely to continue increasing at an accelerated pace. If so, its contribution to TFP growth could rise from 0.6 percentage points in 1973-93 to 0.7 percentage points in the next decade. Finally, productivity growth in services may improve because of investment in new technology (notably computers and communications), competition due to deregulation, and increased outsourcing and tradability of services.6 These services-related effects, not shown in the table, could add another 0.2 percentage points to TFP growth in the long term, raising it to 1.4 percent. Long-term industrial country growth could then rise to about 3 percent a year, creating conditions for stronger growth in developing countries than shown in the baseline. Increasing trade openness and technological progress could boost productivity growth in industrial countries in the next decade Table 1-3 Effects on TFP growth in industrial countries: a high case scenario for 2010 (percentage point contribution to average annual TFP growth) 1960-73 1973-93 2010 International trade 0.5 0.7 0.9 Research and development 0.5 0.6 0.7 Catch-up effect 0.5 0.3 0.2 Structural change 0.5 -0.1 -0.1 Other -0.1 -0.5 -0.5 Sum of explained 1.9 1.0 1.2 Unexplained 0.4 -0.2 - - TFP growth 2.3 0.8 1.2 Note: Countries included are: Australia, Belgium, Canada, Denmark, Finland, France, Germany (Western), Italy, Japan, Netherlands, Norway, Sweden, United Kingdom, and United States. Source: Wolff (1995). Global Economic Prospects and the Developing Countries: Chapter 1 Page 7 Interest rates: world capital markets tighten Rapid and sizable increases in long-term interest rates in 1994 provoked concern that rising demand for capital during the recovery could run up against limited supply (in part a result of large OECD fiscal deficits), pushing rates up to levels that could choke off investment demand and bring the recovery to an early end (Figure 1-3). That outcome is not expected in the baseline outlook (Box 1-1). But the rise in rates does sharpen the need for fiscal consolidation in industrial countries and for adjustment in developing countries to achieve the improvements in productivity, savings, and export performance demanded by higher financing costs and debt-service burdens. Interest rates have moved up strongly with recovery in industrial countries Figure 1-3 10-year government bond yields in G-3 countries Percent 10 10 8 G.ermany 8 6 - -..-'.6 4 % - . / e' 4 United States ; e Japan 2 2 2 Jw Apr Jul Oct Jm Apr Jut Oct Jw Apr Jut Oct JM Apr Jul Od Jm Apr Jul Oct Jm Apr Jul Oct Jim 1989 1990 1991 1992 1993 1994 1995 Source: IMF By the fourth quarter of 1994, real long rates had returned to 4 to 5 percent in the United States and Germany and close to 4 percent in Japan, near the average levels of the second half of the 1980s. Real rates appear to have risen for both cyclical and longer-term structural reasons. Investment spending in OECD countries in 1995-97 is expected to be about 1 percent of GDP higher than in 1991-94, implying increased demand for credit. In a longer-term perspective higher long rates also appear to have been associated with a rise in returns to capital in the OECD business sector. Returns to nonresidential gross fixed capital stock are estimated to have increased from 13.3 percent in 1978-85 to 15 percent in 1986-93 and are expected to rise to more than 16 percent in 1994-96 (OECD 1994). At the same time policy reforms and improved growth prospects in developing countries have attracted increased private capital flows, in net terms worth about 0.8 percent of OECD GDP in 1994. Interest rate increases arising from such demand increases are not in principle a policy concern, since they reflect higher global capital productivity, though they will price less efficient firms and countries out of the market and increase pressure on them to improve performance. Global Economic Prospects and the Developing Countries: Chapter 1 Page 8 Box 1-1 A global "capital shortage"? A concern has emerged recently that the combination of strong demand for capital from developing countries and recovering Investment in industrial countries would collide w%ith a supplN of capital that is limited bN failing private savings rates in the industnal countnes and a nsing drain on those savings from government deficits, causing cro%dng-out on a global scale, with interest rates rising sharply and capital flows to developing countries plummeting. Analysis suggests that such an outcome is unlikely. The demand for capital in developing countries is likelh to rise more rapidlN than in the past. Current Bank projections are for a 6 percent average annual growth in real gross domestic investment in developing countnes in 1995-2004. But, as in the past. most of the increased capital demand Is lIkelN to be financed by higher domestic savings In East Asia, for example, investment %%ill be high. but the resulting high growth should support continued lugh saving rates (o%er 30 percent of GDP on a%erage). enabling most inestment to be financed domestically Bank projections show the aggregate current account deficit of de%eloping countries averaging around 1.8 percent of GDP o%er the next ten Nears. Allowing for increase in reserves to maintain adequate import cover, this translates into a total net capital flow to these countries of close to $1 5 to 2 0 trillion over this period. Relatve to prospecti%e industrial country saings and GDP. the net capital flow% to developing countnes will remain small-about 2 7 percent and 0 6 percent, respectively Saving rates in industrial countries have been on a declining trend. The average gross national savings rate in OECD countnes has declined bN about four percentage points of GDP since the late 1970s, w%ith the decline split about equally between pnate and public savings But there are reasons to think this trend could be reversed, at least for a time Sa%ings in industrial countries over the next 15 years or so are likely to be temporarily boosted by the entry of the baby boom generation into their prime saving years. The proportion of industnal countrN population aged 40-64 years-typically net savers-is expected to rise from 40 percent today to 45 percent by 2010, with the proportion of populauon aged 20-39 years-typically net borrowers-declining from 42 percent to 34 percent. It is estimated that this demographic shift will for a while more than offset the negative effect on savings of a continuing rise in the share in populaton of those over 65. who typically dissave. This could cause total net household financial sa% ings in industrial countries to rise in real terms over a ten-year period by about $5 trillion on top of a trend increase of about $7 trillion. yielding a total of $12 tnilion (McKinsey 1994) Whether tus boost to capital supplN %ill be adequate will depend crucially on fiscal outcomes in industnal countries It is estimated that net pnvate investment in these countnes financed through capital markets could account for up to $5 trillion of the increase in net household financial sa%ings o%er a ten Near-period That would leave roughly an equivalent amount of net household financial savings available for financing government deficits, after allowing for net capital flow to de%eloping countnes of $1 5 to $2 0 trillion On current policies, aggregate borrowing requirements of golernments in industrial countries could appreciably exceed $5 tillion over a ten-year penod But governments in these countries are responding to the fiscal challenges theN face, making it likely that their aggregate borrowing needs could be kept w%ell below the levels implied by current policies, thereby helping to avoid a crowding-out scenano. A major area of reform will be social secunty the present %alue of unfunded public pension liabilities in several major countries already exceeds 150 percent of GDP On balance. the outlook for global capital demand and supply suggests that while international capital markets will be relaumely tight in the Nears ahead. they are unlikely to become much tighter than todaN. provided there is continued progress on fiscal consolidation in Industrial countries. Pressures on interest rates arising from high OECD fiscal deficits are, however, a cause for concern. OECD fiscal deficits increased by 3 percent of GDP between 1989 and 1993, a little under half the increase being structural (OECD 1994). The OECD-wide structural deficit is estimated to have fallen by 0.3 percentage points of GDP in 1994 as a result of fiscal consolidation in the United States, Germany, and the United Kingdom. Given current fiscal reform plans, the bulk of future fiscal consolidation will be in the EU, where the Maastricht Global Economic Prospects and the Developing Countries: Chapter 1 Page 9 deficit-reduction targets for 1997 are expected to be substantially, though not fully, met. OECD structural deficits are expected to fall by another 0.5 percent of GDP on average over the next two years, suggesting room for long-term interest rates to ease from the current heights. McKibbin (1994) suggests that a credible 1 percent of GDP reduction in OECD structural deficits could lead to a 0.5 to 1 percentage point fall in long-term bond yields. The rise in long-term rates also appears to reflect somewhat higher inflation expectations. The gap between yields on ordinary and inflation-indexed bonds, sometimes identified with inflation expectations, increased over the first three quarters of 1994 in Canada, the United Kingdom, and Australia by an average of 150 basis points, more than consensus forecasts of future inflation increases. Increases in nonindexed yields in 1994 were strongly correlated with countries' historical inflation trends and levels of net public debt, suggesting that, despite recent low inflation, investors are unlikely to overlook countries' long-term inflation track records, especially during recovery. The positive implication is that long-term interest rates could come down if governments are able to enhance credibility by averting a significant rise in actual inflation. Fiscal consolidation and firm monetary policies should allow real long rates to move to the 4 to 4.5 percent range (rather than the 5 percent G-7 average at the end of 1994), implying, together with higher short-term rates, a flattening of yield curves. Real rates at this level imply that capital markets will remain tight. Additional fiscal consolidation could achieve larger reductions in long- term rates in the medium term, with beneficial implications for developing countries. It is estimated that a 1 percent reduction in interest rates sustained for five years could add 0.3 percentage points to developing countries' annual growth over that period, with growth effects as high as 0.5 percentage points a year in more indebted areas such as Latin America and parts of Sub-Saharan Africa (Petersen and Srinivasan 1994). Private capital flows: growth moderates Growth in private capital flows to developing countries decelerated markedly in 1994, after having almost quadrupled in net terms in 1990-93 (Figure 1-4). Flows to some countries in Latin America fell during the year, culminating, in Mexico, in a balance of payments crisis. This, in turn, has resulted in contagion effects on several Latin American stock markets and a correction in emerging markets in general. The Mexican crisis has renewed questions about the sustainability of capital flows to developing countries and the appropriateness of policies in dealing with them. The crisis in Mexico is a result of problems largely specific to that country, as are recent balance of payments crises in Venezuela and Turkey. While in the latter countries the underlying cause was serious fiscal imbalance, in the case of Mexico the main problem was the unsustainability of large and growing current account deficits. These resulted primarily from domestic rather than external factors. Significant domestic factors contributing to higher current account deficits included a fall in domestic savings rates and an appreciation of the real exchange rate, which was not sufficiently offset by higher productivity, in the wake of the surge in capital flows. In the last year, concerns about political stability, loose monetary policy, an associated rise in off-budget spending through development bank lending, and the rise in U.S. interest rates helped trigger the Global Economic Prospects and the Developing Countries: Chapter 1 Page 10 crisis. Once confidence began to deteriorate, excessive reliance on short-term borrowing aggravated the looming liquidity problem. Private capital flows to developing countries slowed sharply in 1994, following rapid growth in 1991-1993 Figure 1-4 Net private capital flows to developing countries Annual average ($billions) 1978-82 1983-90 1991-93 1993 1994 180 160 5 FDI FDI 8.5 16.0 50.2 66.6 77.9 140 NPortfolio Equity Portfolio equity 0.0 1.3 22.9 46.9 39.5 120 D Bonds Bonds 2.6 2.6 22.5 42.0 20.8 100 Loans 40.3 15.1 12.7 3.6 34.8 80 0 Loans 60 Total 51.4 34.9 108.3 159.1 172.9 40 20 .. Percent of GNP 2.4 1.0 2.4 3.5 3.6 0 00 0) N~ 00 0 .4 Nt Percent of exports 8.6 4.7 10.6 15.1 14.9 Source: World Bank While it is too early to draw general conclusions from the Mexican crisis, our analysis suggests that this is not 1982: a generalized reversal of private capital flows, as happened in 1982, is unlikely, the Mexican crisis notwithstanding. But major uncertainties continue to attach to the impact of the crisis on the state of financial market confidence and to the outlook for portfolio flows (on which Mexico was disproportionately dependent). In fact, Mexico alone accounted for about one-third of all portfolio flows to developing countries in 1993. While the rise in flows in 1991-93 was supported in part by cyclical developments in industrial countries (low interest rates, weak economic activity), it was also underpinned by improved economic policies and prospects in most recipient countries. The continuation and strengthening of these policies should help sustain the flows. The higher returns on investment in developing countries that attract foreign capital are fundamentally supported by the stronger economic growth prospects of these countries. On the supply side, demographic shifts in industrial countries are likely to increase the pool of financial savings available for investment worldwide (Box 1-1). The composition of private flows to developing countries has also become more diversified. Foreign direct investment (FDI), which is driven primarily by longer-term or structural factors, rose 19 percent in 1994, even as portfolio flows fell, and at two-fifths of private flows now accounts for the largest share. The increase in the share of non-debt creating finance in total inflows provides a more favorable sharing of risk between recipients and investors than in the past. A further sharp rise in international interest rates on top of the 1994 increases would surely have a serious effect on private flows, but, as noted in the preceding section, such an increase seems unlikely. Overall, private capital flows to developing countries are likely to continue to increase in the medium term, though at a much slower pace than in the early 1990s. Global Economic Prospects and the Developing Countries: Chapter 1 Page 11 FDI flows should continue to rise with the further globalization of corporate production and distribution strategies induced by trade liberalization, technological change, and deeper reforms in an increasing number of host countries. In addition to finance, these flows bring important supplementary benefits in technology and export market development. Higher projected growth in developing regions such as Africa and Eastern Europe and FSU should encourage more flows to countries there than in the past, making the distribution of private flows less concentrated in a few countries. A recent study (Bhasin et al. 1994) finds host country growth the single most important determinant of FDI inflows: a 1 percentage point increase in the average GDP growth rate of developing countries is found to raise FDI inflows, at current levels, by about $10 billion. Gross FDI flows have risen as a share of developing country exports and domestic investment by 4 to 5 percentage points since 1988. If these ratios rise by, say, 2.5 percentage points in the next decade as a result of further international integration, FDI to developing countries would rise by 10 to 15 percent a year, or 7 to 12 percent in real terms, compared with average annual real increases of 39 percent in 1991-94 and 11 percent in 1981-90. Portfolio flows will no doubt go through a period of stagnation after the Mexico crisis. However, once confidence is reestablished, growth in portfolio flows to developing countries is likely to be supported by growth in global financial assets, growth in developing countries' exports and capacity to service foreign liabilities, continued development of capital markets in developing countries, and increased diversification of investor portfolios. Global equity market capitalization quadrupled between 1984 and 1993 to $14.1 trillion, with the share of emerging markets rising to 12 percent. A conservative projection would be for global equity market capitalization to at least double by 2004, with the share of emerging markets rising to more than 20 percent.7 At the same time, the share of developing countries in investor portfolios in industrial countries can be expected to increase from its still very low level (about I to 2 percent of U.S. pension fund financial assets are currently invested in emerging markets). Assuming an increase in this share, on average, to 5 percent (much less than the 20 percent or so typically suggested by optimal risk- return calculations), the stock of developing country equity held by foreigners could increase fivefold over the next decade, with gross flows rising on average again by 10 to 15 percent annually in nominal terms. Net private capital inflows are expected to grow less rapidly than gross flows, depending on the current account paths of different developing countries and regions. Many countries are at the limit of prudent borrowing, so at most their net liabilities can rise in line with exports. Current account deficits in Latin America, Sub-Saharan Africa, and the Middle East and North Africa, in particular, are expected to be reduced to more sustainable levels. Given projected trends for current account deficits, official financing and reserve accumulation, net private capital flows are expected to grow on the order of 7 to 10 percent a year over the next decade. Within this overall trend, Asia and several transition economies are likely to see the largest increases, while private capital flows to Latin America are likely to grow at a slower pace as a result of current account adjustments in the wake of the Mexican crisis. Although a generalized reversal of the increased private capital flows to developing countries appears unlikely, individual countries may be vulnerable to volatility in flows, depending on their circumstances. Maintaining strong economic fundamentals is the key to ensuring stability and Global Economic Prospects and the Developing Countries: Chapter 1 Page 12 steady growth in private capital inflows. When a reversal of inflows occurs, as recently in Mexico, it may appear sudden, but its causes can be traced to slippages in economic policy and performance. Despite the extreme reaction of financial markets to the devaluation of the Mexican peso, the unsustainability of Mexico's current account deficit and the need for adjustment had been widely recognized.8 A number of "early warning signals" had been present in the case of Mexico. One lesson that may be drawn from the Mexican crisis is for policymakers to pay particular attention to such advance warnings of looming problems. One important indicator of an emerging crisis in capital flows is a large appreciation of the real exchange rate, often arising from persisting for too long with a fixed nominal exchange rate initially introduced as part of a stabilization program, and aggravated by large capital inflows attracted by high domestic interest rates needed to support the exchange rate. Other signals for capital recipient countries to watch for, often associated with a substantial real exchange rate appreciation, include declining domestic savings rates (indicating that the inflows are going into consumption rather than investment), inadequate investment in the tradables sector, weak export growth and a rise in current account deficits to levels that are inconsistent with prudent targets for foreign liabilities (given such factors as the size, growth rate and volatility of exports, initial debt levels and expected interest rates). Another warning indicator is a growing reliance on short-term capital inflows. Though country cases differ and no one indicator is infallible, monitoring a combination of these indicators can help in detecting an emerging external financial crisis and initiating timely adjustments. Given the speed at which capital can move in and out of countries today, there is an increased premium on sounder, more agile economic management. The current international economic environment is a favorable one for recipient countries to reduce their vulnerability to potential volatility in private flows by strengthening their economic fundamentals. Adjustment is necessary in countries where the rise in inflows has been associated with unsustainable increases in current account deficits. Boosting export growth is central to achieving a soft landing for external deficits. Failure to adjust risks undermining market confidence and triggering an abrupt reversal of inflows that would force a hard landing. In assessing their capacity to service rising external liabilities, countries need to allow for both debt and nondebt external obligations: FDI and other equity inflows bring important benefits, but also tend to require higher returns. Among major recipients the need to adjust to a slower growth in external liabilities is in general greater in Latin America (Box 1-2). This has been underscored by the Mexican crisis. Box 1-2 Contrasts in managing capital inflows: a tale or two regions The recent surge in pn%ate capital flows has been concentrated in East Asia and Latin America. but there are seeral differences between the tw,o regions in the composition and management of the flows These differences. brought into sharper relief by recent de%elopments in Mexico, ha%e important imphcations for future flo%%s to these regions and provide an important case study in policies for managing the flows East Asia has underpinned larger iuflows with a more stable macroeconomic en% ironment and one that is more faNorable to sustained high growth While regionwide macroeconomic indicators mask appreciable %ariations among individual countries (with Chile's performance. for example. resembling that of successful East Asian countnes), they nevertheless re%eal some important differences between regions (inset table). First. East Asia has maintained lugh national savings and mvestment rates, exceeding those in Latin America on average by as much as 13 percent of GDP Higher investment and GDP growth in East Asia (w%here growth a%eraged 7 percent in 1990-93. compared w%ith 2 4 percent in Latin America) has been primarilN domestically financed. Complementing Global Economic Prospects and the Developing Countries: Chapter 1 Page 13 domestic savings, inflows into East Asia have tended to increase investment rather than consumption, while in some countries in Latin America the inflows have fed a consumption boom (inset chart). The average national savings rate in Latin America fell in the 1990s, the period of high capital inflows, but rose in East Asia. Second, East Asian export growth has been stronger, and exports represent a much larger share of GDP, signaling a better future capacity to service foreign liabilities. Foreign liabilities to export ratios in Latin America substantially exceed those in East Asia and have risen as the increase in inflows outstripped the growth in exports. Third, East Asia has continued to provide investors and exporters with a more stable financial environment, reflected both in lower inflation and a lower variability of inflation and real exchange rates than in Latin America. Fourth, East Asian countries (except the Philippines) have avoided significant appreciation of real exchange rates, thereby protecting external competitiveness, despite larger capital inflows. In contrast, real exchange rates appreciated significantly in several Latin American countries, despite efforts by the authorities to mitigate the impact of capital inflows through sterilization or, in some cases, capital controls The erosion of competitiveness in turn was associated with sharply widening current account deficits In East Asia's comparative success in avoiding real currency appreciation, the higher proporion of FDI in total inflows and the channeling of more inflows to investment have been contributory factors. In general, East Asian countries have also made greater use of fiscal restraint in coping with inflows (Corbo and Hernandez 1994). East Asia has also attracted a more favorable mix of flows In 1990-93, FDI comprised about 55 percent of net private flows to East Asia, compared wvith about 40 percent for Latin America Withun portfolio investment, equity flows accounted for about 65 percent of the total in East Asia and 55 percent in Latin America. Most FDI in East Asia has been in new investments-greenfield operations and joint ventures. In Latin America, it has largel) been associated with privatization of existing enterprises, which raised almost S17 billion in fbreign exchange between 1988 to 1993 (only $5 billion in East Asia), and debt-equity swaps The higher iflow of FDI into East Asia has been supported by higher returns. Estimated average returns on U S FDT in East Asia in 1990-93 were more than twice the average worldwide return on U.S. FDI, while returns in Latin America were below it. Gi%en East Asia's stronger economuc fundamentals and sounder macroeconomic responses to large capital inflows. the likelihood of capital flows being sustained is higher for countries in this region than in Latin America. Latin American countries, such as Mexico, experiencing large increases in current account deficits, need to adjust to lower capital inflows. East Asia's greater success in attracting nondebt creating and longer-term flows also makes it less vulnerable to volatility in flows. Evidence of the greater resilience of East Asian inflows to external shocks is provided by the behavior of portfolio flows in 1994. Despite rising international interest rates and difficult bond and equity market conditions. East Asian countries were able to increase their international equity and bond and debt issues by $13 billion. compared with a drop of S13 billion for Latin Amiencan countries Macroeconomic indicators: Latin American and East Asian countries Total private capital inflows (4nnual average posi-cuoff AfacrGeeonomei inducarors- annual means fo individual countries' date) GDP Grossnat. Grasydom Gowi. Total Annual Et Monthly Mfont hlMonthly REER Couunry Cutoff Amount .As% of growth sangs investmini consunp exports exports debt inflation REER inflation appreci- date (Sil) 1992 GXP growth exporrs variance variance argon Nf1 1% GAPi M, GNP) f4 GAP 6 GNvP) ,' 9 %) 9 1%) (941b Latin America Brazil 1991 S8 1 i 0 7 211 21 1 1 1 1 8 4 3 303 ' na n 260 -59 Argentma 1991 -.l 24 35 1.3 193 84 109 41 4'1b3 na n 16.s 1518 Colomba 1993 1 3 2 36 225 196 12 1 193 66 16' 2 (0 3 1 1 9 146 Venezuela 1991 I 30 2' 200 165 92 254 60 1818 7? 194 31 38 Coa Rica 1991 02 3 1 5 1 201 292 1'6 40 2 1) 7 2088 05 1 4 1 4 -10 2 Memco 1990 II 8 3' 2 6 17 b 22 8 93 20 3 3 1 2239 3 5 80 1 ? 40 7 Chile 1990 16 4 2 11 252 283 10 4 354 Ill 1 ri 4 0 7 24 1 3 95 Average 40 29 36 206 224 116 233 66 2530 26 69 74 87 Ear Asia Korea 1991 66 22 I 364 36 'I III 5 448 02 60 05 -100 Philappmes 1992 1 4 2 6 L 0 20 6 22 6 95 32 v 62 226 0 04 158 09 69 Indonesia 1990 3' 30 66 333 ' 6 66 41 61 221' 011 14 0? .41 Thailand 1988 4 4 2 95 321 3' 6 95 34 3 1' 3 140' 04 1 6 03 7 1 Chma 1992 2'6 64 89 465 419 91 191 146 862 01 23 08 -126 Malaysia 1989 41 75 88 518 32 13 37 131 662 0I1 34 03 125 Average 80 43 3) 335 351 94 358 Ii i 1309 03 51 06 -66 Notes B l3Lsuated over a period starLmg two years before aigricant minlows began (the curoff datei and endmg in 1993 The average for Latin America excludes Argentma Sourn.e World Bank, IMF Global Economic Prospects and the Developing Countries: Chapter 1 Page 14 Change in consumption and investment between 1985-87 and 1991-93 (% of GNP) IlCensumptien M]Investment TailAnd Ko.rea .Iexico Chile Indonesi:i Arpentina Branil The mix of policies appropriate to fostering sustained private capital inflows depends on individual country circumstances. The intensity of the undesirable macroeconomic side-effects of inflows, such as overheating and real exchange rate appreciation, varies with the behavior of private savings, growth in productivity, and other factors. But cross-country experience offers some general policy lessons. These point to the importance of fiscal restraint, structural reforms which guide resources toward investment and exports rather than consumption, and a sound institutional and regulatory framework governing the banking system and capital markets. World trade: developing countries lead a marked acceleration World merchandise trade (exports plus imports) surged by an estimated 7 to 8 percent in 1994, up from about 4 percent in the 1991-93 recession. Trade growth is expected to continue at this brisk pace through 1996. Trade in services should grow even faster, partly because of higher flows of foreign direct investment, increasingly directed at the services sector, and growth of long-distance services (see Chapter 3). In the longer run (1997-2004), merchandise trade growth is projected at 6 percent, about the same as in 1986-90. Supported by a shift toward outward-oriented policies that are increasing their integration in the world economy, trade growth in developing countries is expected to exceed that of industrial countries by 1 to 1.5 percentage points. This forecast represents a continued trend toward more rapid global trade integration that took hold in the mid-1980s (Table 1-4) .9 This, in turn, may represent a resumption of the trend of the 1950s and 1960s before the macroeconomic instabilities of the 1970s and early 1980s-the twin oil shocks and the debt crisis. Six factors underpin the expected strength of world trade growth: in the nearer term (1995-96), the cyclical recovery in industrial countries, yen appreciation and market opening in Japan, and the increased purchasing power of primary exporters from higher commodity prices; in the longer term, faster growth in developing countries, integration of world capital markets (reflected in the rise of private capital flows to developing countries), and Global Economic Prospects and the Developing Countries: Chapter 1 Page 15 accelerated trade liberalization, including the extension of regional trading arrangements to encompass some developing countries. In a remarkable departure from historic relationships, world trade continued to grow by about 4 percent in 1991-93, despite the recession in industrial countries. This contrasts with previous recessions in 1974 and 1981 when it declined. Three factors contributed to this outcome: asynchrony in growth in industrial countries, the resumption of positive net private flows to developing countries as the debt crisis receded, and the emergence of some developing regions as new growth poles, notably East Asia and Latin America. Global trade integration has accelerated, but the regional picture varies Table 1-4 Trends in world trade integration 1971-85 1986-90 1991-93 1994-96 1997-04 World trade growth a 3.7 6.1 3.9 7.3 6.0 World output growth 3.2 3.3 1.1 3.0 3.3 Speed of integration b 0.5 2.8 2.8 4.3 2.7 High-income OECD 0.8 3.2 0.8 3.6 2.7 Developing countries -0.6 0.6 6.7 5.0 1.9 Sub-Saharan Africa -1.5 -0.7 0.4 1.4 0.4 East Asia 1.0 1.4 5.8 5.1 1.7 South Asia -0.4 -0.2 4.1 3.2 1.5 Europe & Central Asia 0.0 -2.1 7.3 8.3 1.4 Middle East & North Africa -1.5 3.1 0.3 0.9 1.3 Latin America -1.6 2.0 9.6 2.8 2.2 a Growth rate of the sum of merchandise export and import volumes. b Growth rate of trade minus growth rate of output. Source: World Bank data and staff projections. The asynchrony in industrial country business cycles in 1991-93 allowed their aggregate imports to grow by about 1.5 percent a year in 1991-93, compared with declines of 11 percent and 3 percent in the recession years of 1975 and 1981-82, respectively. Europe provided a floor for trade in 1990-1991, the United States from 1992, and Japan from late 1993 as a result of yen appreciation and market deregulation. The OECD business cycle will likely remain out of phase in a more attenuated way in 1994-96, but, with demand in all three OECD areas expanding together, the high-income OECD contribution to world import growth is expected to rise to more than 55 percent from 26 percent in 1991-93. This will be an important factor in world trade growth in 1994-96. Domestic demand growth in developing countries (excluding the transition economies) was buoyed in 1991-93 by successful adjustment policies and by rising private capital inflows. Export growth also accelerated to more than 8.5 percent from only 3.7 percent in the preceding decade. Exports to industrial countries, comprising about 60 percent of the total, grew by 5 to 6 percent a year in nominal dollar terms, while those to other developing countries grew at twice that rate. The share of intra-developing country trade in world trade rose from 10 percent in 1990 to 12.5 percent in 1993. With strong domestic demand and improved financing through export revenues and capital inflows, import growth of developing countries (excluding transition economies) soared to more than 10.5 percent in 1991-93 from just 2.2 percent in the preceding Global Economic Prospects and the Developing Countries: Chapter 1 Page 16 decade. Exports to developing countries accounted for 2.8 percent of the nominal 3 percent increase in world export values in 1991-93. (This figure might fall slightly with an expected upward revision of intra-EU trade in 1993.) Developing countries have been more important in world trade growth since the mid-1980s Figure 1-5 Contributions to world import growth Percent 10 10 8 8 6 _. 6 4 .. - 4 2 2 -2 . -2 -4 1-4 75 77 79 81 83 85 87 89 91 93 95 Attributed to Attributed to World Import Volume OECD developing countries (a) (a)Exhkding Eamn E..npe and FSU Suc Word Bank dat ad Kaffprojedios Output growth in developing countries is expected to strengthen to about 5 percent in 1995- 2004 with wider adoption and deepening of reform policies and the expected return to growth of transition economies, supporting growth in developing countries' trade of about 7.3 percent a year. Private flows to developing countries may retreat in the near term, given higher interest rates and the crisis in Mexico, but can be expected to grow moderately in the medium term, providing further support for the projected growth in trade. World trade integration, measured as the ratio of trade to GDP, has accelerated since the mid- 1980s, supported by the surge of Japanese overseas investment after the 1985 Plaza Accord and by trade arrangements such as expansion of the EU, and the U.S.-Canada free trade agreement. (Table 1-4, Figure 1-6). Among developing countries, trade integration trends have varied widely. It was most rapid and sustained in East Asia. Until 1985, trade integration fell or was flat in all other developing country regions, reflecting predominantly inward-oriented policies and the debt crisis. The trend toward greater integration among developing countries became more widespread and stronger after 1985, especially in the early 1990s. Trade integration trends strengthened in Latin America, South Asia and Eastern Europe, spurred by the revival of private inflows and outward-oriented policy reforms. In Sub-Saharan Africa and the Middle East and North Africa, however, ratios of trade to GDP are still substantially lower than 30 years ago (Otsubo 1995). Global Economic Prospects and the Developing Countries: Chapter 1 Page 17 Trade integration has been rising quickly since the mid-1980s Figure 1-6 Trade integration, 1970-2004 (export plus import merchandise volumes as share of GDP) Percent 55 55 Forecast .50 5 454 - - 40 - 40 Developing countries 35 - -- 35 30 - - 30 High-income OECD 25 .. ..-- . - . .- - 25 20 20 1970 1974 1978 1982 1986 1990 1994 1998 2002 Source: World Bank data and staff projections. Trade integration is likely to be reinforced by new initiatives. Recent studies suggest that the Uruguay Round could add 0.5 to 1.4 percentage points a year to the growth of world trade in the period to 2005 (Francois, McDonald and Nordstrom 1995). Additional contributions will come from: NAFTA; the recently agreed expansion of free trade to the whole of the Americas by 2005; the equivalent Asia-Pacific trade initiative agreed by APEC; the inclusion of some Scandinavian countries and Austria in the EU; EU Association agreements with Eastern European nations; and the creation or expansion of subregional trade initiatives, such as Mercosur in Latin America. Will these regional trade arrangements have a big impact on world trade growth? The evidence is sparse, but probably yes. After Spain and Portugal entered the EU in 1986, the speed of their trade integration (the difference between trade and GDP growth rates) increased by 5.5 and 6.8 percentage points, respectively, averaging over complete business cycles before and after entry. If the EU expands to include non-EU OECD Europe and Eastern Europe, an increase of 5 percentage points in the speed of integration over the rate in 1986-90 would raise world trade growth by 0.4 percent a year in 1997-2004. Even rougher calculations suggest that an expansion of NAFTA to the whole of the Americas might raise world trade growth by 0.2 percentage points, and APEC free trade by 0.5 percentage points (Box 1-3). Box 1-3 Will the neA regional trading arrangements succeed? The past year has seen the greatest surge in regional trade arrangements involving de%eloping countries This has increased developing countries' interest in similar arrangements to accelerate industrialization and gromth This interest is based on expectations of benefits such as scale economies or increased export and employment opportunities that may result from preferential access to regional markets. Past experience w%ith regional trade arrangements has been mixed. ho%%e%er Man% ha%e failed, in part because of lo%% complementarity in member countries" trade (i.e . when countries" production structures are simlar and their exports match the impons of their Global Economic Prospects and the Developing Countries: Chapter 1 Page 18 trading partners only poorly). In such a setting, countries have little to gain from regional arrangements, and should focus mainly on unilateral or multilateral trade liberalization. A trade complementarity index can be used to provide some indication of the likelihood of successful integration in possible new% regional trade arrangements, such as the extension of NAFTA to the rest of Latin America (AFTA), Asia-Pacific free trade under APEC, or trade arrangements among countries in Sub-Saharan Africa. The index is zero when no good exported by one country is imported by the other. and one when the shares of one country's imports correspond exactly to those of the other's exports MichaelN (1994) suggests that the higher the index the more likely is a proposed regional trade arrangement to succeed in stimulating trade between its members.'O There is a wide range betueen the index %alues for pre% ious successful and unsuccessful arrangements at the time they were formed (box table) Index values for the EEC Six averaged 0 53. while an even higher degree of complementarity existed betvieen the trade of the United States and Canada In contrast, the indices for the unsuccessful LAFTA were less than 40 percent of the EEC/U.S.-Canada average. The Andean Pact index (0.07) shows that the export structures of Bolivia, Colombia. Ecuador. Peru, and Venezuela vere almost completely dissimilar from those of their imports at the time this arrangement was initiated. Among recent arrangements, complementarity among NAFTA members is as high as among the early EEC members In Mercosur (Argentina. Brazil, Paraguay. Uruguay). the a%erage complementanty index (0.29) is about half that of the most successful precedents. though bem-een the two central partners. Argentina and Brazil. the index is closer to 0 35. This suggests that while the arrangement has a reasonable chance of promoting trade among members, countries must avoid an inward-looking "regional bloc" approach that deemphasized continued multilateral or unilateral trade liberalization, as has sometimes happened in regional arrangements %%ith high trade complementanty. Much the same could be said for two prospective free trade areas, the expansion of NAFTA to the rest of Latin America and APEC in the Asia-Pacific, the complementarity indices for which are around 50 to 60 percent of the EEC/U.S.- Canada average Sub-Saharan African countries have low trade complementarity. the index for 20 countries averaging only 0 09, slightlN above the failed Andean Pact. This strongly suggests that the structure of African countries' exports and imports differ so widely that regional trade integration efforts hold little promise of help in accelerating industrialization and growth (regional cooperation can, of course. be beneficial in other areas, such as joint border projects, consolidation of peace, etc.) Liberalization of trade barriers in the region either unilaterally or within a multilateral framework appears to be a far more prousing option. More broadlN. as regionalism emerges as an integral part of the world trading enironment, it should not be allowed to divert attention from the fact that the first-best policy remains most-favored-nation (IFN) liberalization and the ultimate goal multilateral free trade Therefore. it is important that regional arrangements be implemented in a manner that harnesses them securely to the long-run goal of multilateral liberalization and that these arrangements develop as building blocks to such liberallization Trade complementarity indices for selected trade arrangements Trading arrangement Index iTrading arrangement Index (a) Successful arrangements (c) Recent arrangements EEC (6) 0.53 NAFTA 0.56 Canada-U S. FTA 0 64 Mercosur 0.29 (b) Unsuccessful arrangements (d) Potential arrangements LAFTA 0 22 Americas "AFTA" (NAFTA+5) 0 31 Andean Pact 0.07 Asia-Pacific "APEC" (17) 0.35 Sub-Saharan Africa (20) 0 09 Source: COMTRADE, Michaely (1994). Commodity prices: temporary recovery, temporary windfall The surge in non-oil commodity prices in 1994 and expected increases in 1995 will generate large windfall gains for many low-income primary producing countries: terms of trade gains in 1994-95 are expected to average about 4 percent of GDP among the twenty largest gainers (Table 1-5). Global Economic Prospects and the Developing Countries: Chapter 1 Page 19 The rise in prices is expected to be temporary however, the result of transitory supply shocks and normal cyclical forces whose influence is expected to fade over the next 1 to 2 years. The longer- run trend remains one of gradually declining real prices. Prudent management of near-term windfall gains to strengthen stabilization and structural reform policies will be crucial if they are to contribute to higher long-term growth in primary exporting countries. But if, as in the 1970s, temporary price increases are mistaken for permanent ones and lead to weaker commitment to reform and large increases in inefficient public spending and external borrowing, then the commodity price boom could lead to even worse long-term growth performance than if it had not happened. The Bank's index of non-oil commodity prices rose 19 percent in real terms in 1994 and is projected to rise by 7 percent in 1995. But analysis of the forces underlying the boom suggests that it will be temporary. Adverse weather and pest damage were a prime factor in price increases in coffee, cotton, rice, coarse grain and other agricultural products. Low investment and deteriorating production capacity, as a result of weak prices in the 1980s, have exacerbated shortages for plantation and tree crops with long lags between investment and production. For example, new coffee plantings take three years before they can be harvested and eight to reach maximum yield. Thus, prices are expected to stay high until about 1996-97, followed by sharp price declines thereafter. In most cases such price cycles based on supply lags are expected to be shorter, lasting from one to three years. Prices of metals and minerals are more sensitive to economic activity. Copper, aluminum, and nickel prices all rose 50 to 60 percent in 1994, but because many price rises were only making up for steep falls in 1993, the overall metals index averaged only 10 percent higher in 1994 than in 1993. Metals prices are projected to rise another 13 percent or so in 1995 with the strengthening recovery, but the presence of substantial excess production capacity is expected to restrain further increases. Higher interest rates will also tend to dampen prices by depressing inventory accumulation and speculative purchases. Terms of trade gains for major commodity exporters are likely to be sizable in 1994-95 Table 1-5 Largest net terms-of-trade gains in 1994-95 relative to 1993 (Average for 1994 and 1995 as percent of GDP) Country Gain Country Gain Country Gain 1 C6te d'Ivoire 12.0 11 Fiji 2.8 21 Burkina Faso 1.8 2 Uganda 6.9 12 Costa Rica 2.6 22 Tanzania 1.7 3 Ghana 6.8 13 Colombia 2.6 23 Madagascar 1.6 4 Papua N Guinea 6.6 14 Benin 2.4 24 Namibia 1.6 5 Surinam 5.3 15 Guyana 2.2 25 Guatemala 1.5 6 Chad 5.1 16 Burundi 2.1 26 Zimbabwe 1.5 7 Cameroon 4.8 17 Malaysia 2.1 27 Kenya 1.5 8 Zaire 3.8 18 Liberia 2.1 9 Togo 3.4 19 Honduras 2.1 10 Mali 3.1 20 Malawi 2.0 Source: World Bank The longer-run outlook for non-oil commodity prices is not particularly favorable. In real terms the non-oil index is projected to decline on average by about 2 percent a year in 1996-2004, metals and minerals by about 1 percent, agricultural commodities by about 2.5 percent, and beverages by 5 to 6 percent. Indeed, only one commodity group, timber, is expected to see any real price appreciation in 1996-2004, about 2 percent a year. The income elasticity of demand for Global Economic Prospects and the Developing Countries: Chapter 1 Page 20 food is generally low. For a staple like rice it ranges from 0.01 to 0.30 in developing countries, in contrast to elasticities for manufactured goods ranging from 0.74 to 3.38 (World Bank 1994). Demand for intermediates such as metals or agricultural raw materials is affected significantly by efficiency improvements, technological substitution and a declining materials-intensity of production. The materials-intensity of industrial production in OECD countries has fallen since the 1960s, declining by an average 0.6 percent a year in the 1980s. On the supply side, studies have shown that TFP growth in agriculture in many OECD and developing countries has been as (or more) rapid than in manufacturing. The significant (but most likely temporary) windfall gains generated by the non-oil commodity price boom pose difficult policy choices for the countries enjoying them. First, what proportion of the windfall should be consumed? The rational response is to consume only that part that is permanent. For example, the positive terms of trade shock for Tanzania is projected at 3.4 percent of GDP in the next two years, after which it is likely to disappear. Assuming a 6 percent real rate of return on assets, Tanzania's permanent income would increase by 0.2 percent of GDP, so it should increase consumption by only that amount and invest the rest.12 Commodity prices are expected to be no higher in 2004 than in 1990 Figure 1-7 Non-oil commodity prices, 1948-2004 (deflated by the MUV index) Index, 1990=100 350 Fore 350 30 Agricultural 300 - ~ 300 A All Non-OiI 250 250 200 -200 150 150 100 Minerals & Metals 100 50 50 48 52 56 60 64 68 72 76 80 84 88 92 96 00 04 Source: World Bank data and staff projections. Second, should the remainder be used to reduce foreign debt or invested at home? Unless the return to capital in Tanzania has increased a lot (unlikely in view of the temporary nature of the shock), the bulk of the windfall should be used to cut foreign debt or be invested in a world portfolio, at least initially. Tanzanian assets represent only a tiny fraction of the world portfolio. Since residents are likely to hold a high share of their net worth in domestic assets, this also helps diversify their holdings and reduces exposure to risks specific to the economy, such as a fall in export prices. The foreign assets of Tanzanians may be drawn down over time, or foreign debt increased, as the domestic economy generates investments with a higher return than that on the world portfolio. If a country is credit-constrained because international investors perceive a high Global Economic Prospects and the Developing Countries: Chapter 1 Page 21 level of sovereign risk, that could represent a rationale for a higher share of the windfall being invested domestically, but the supply of viable projects is likely to be limited in the short run. The number of worthwhile projects may increase in the medium term to the extent the country takes advantage of a favorable external environment to accelerate reforms that raise the efficiency of capital. Third, what role should the government play in these decisions? Some economists believe governments need only worry about their own accounts, using their own temporarily higher revenues to reduce government debt rather than increase current spending, and increasing public investment only so far as social returns exceed world returns. In this view the government's role vis-a-vis the private sector is only to inform, since individuals and firms can be relied upon to act rationally. This view underplays the risk of speculative bubbles induced by the price boom and ignores the distorting effect that government policies can have on private behavior, e.g., by letting the exchange rate appreciate. Restrained macroeconomic policies are needed to keep inflows of large windfalls into the private economy from causing overheating, while accelerating structural reforms to expand the economy's capacity to absorb larger inflows productively. Depending upon the circumstances of the case, taxing the windfall may also be considered, provided the proceeds are used to reduce budget deficits rather than to increase spending. More often than not, countries have failed to follow the rational course. In earlier price booms (e.g., C6te d'Ivoire in the 1976 coffee boom, Mexico and Nigeria after the second oil-price increase), beneficiaries have tended to consume much of the windfall and to increase investment predominantly at home, most often in large public sector projects with low rates of return. In oil- exporting countries, investment rose from 15 percent of GDP in 1965-73 to 25 percent in the 1970s, while ICORs deteriorated from 4 percent in 1965-73 to more than 10 percent after the oil shocks. Countries that consume rather than save windfalls, and that invest the windfall disproportionately at home rather than reduce foreign debt or invest abroad, can penalize themselves in three ways. They adopt an unsustainable pattern of consumption. They obtain low returns on investment and fail to diversify their assets. And they tend to suffer from "Dutch disease", where the real exchange rate appreciates and the growth of tradables is stunted, compromising the role international trade can play as an engine of growth and innovation for the whole economy. In fact, the appropriateness of the response to favorable shocks goes some way toward determining the growth performance of developing countries. In 1973-92, East Asian countries saved (improved current account balances) on average around 70 percent of favorable shocks, compared to only 30 percent for countries in Africa and Latin America. In real terms, oil prices in 1994 were about as low as any time since the 1973 oil shock. They are expected to increase very little in real terms in 1995-96, the result of global demand increases of around 1 million barrels a day being offset by the presence of spare capacity of roughly 3 million barrels a day in OPEC producers (excluding Iraq). The potential return to the market of Iraq, which had a prewar production of 3 million barrels a day, will also weigh on the market, given the risk that other OPEC producers will have difficulty in accommodating it by cutting production. By the end of the decade, real oil prices may show slight recovery as world demand increases of about 2 percent a year (3.5 to 4 percent a year growth in developing countries, a little below 1 percent in industrial countries) reduce surplus capacity, and as more moderate growth in non- Global Economic Prospects and the Developing Countries: Chapter 1 Page 22 OPEC production improves OPEC's market position. But there is much uncertainty, both on the demand side (e.g., the prospects for higher energy conservation) and on the supply side (possible advances in exploration and production technology, improved incentives for exploration, and recovery in production in FSU). Prospects for developing countries: better policies to capitalize on the better environment The favorable global economic environment reviewed in the preceding sections provides developing countries with a more propitious setting in which to deepen and extend reforms that will assist them better exploit new opportunities in the world economy-the Uruguay Round trade liberalization, growing internationalization of services, increased access to private capital markets-and enhance their prospects for sustained growth. At the same time, furthering reforms will position these countries better to withstand possible adverse developments in the external environment down the road (some risks to the outlook are analyzed in the next section). The need to bolster adjustment and reform has been intensified by the rise in interest rates, and the slowing of capital flows to developing countries in the wake of the Mexican crisis. Growth opportunities for developing countries are increasing, but so, too, is the price of access to them, requiring improvements in productivity, domestic savings, and export growth consistent with more competitive global trade and capital markets. In the past decade, only two developing country regions-East and South Asia-achieved per capita GDP growth higher than the 2 percent achieved by high-income countries. Per capita income growth was less than 1 percent in Latin America and negative in the other developing country regions. Leaving aside the transition economies, regions with the weakest growth performance-Middle East and Africa-in general had the slowest rates of export growth, the largest budget deficits, the largest current account deficits, the smallest private capital inflows, and among the highest government consumption and lowest national savings rates. Fiscal deficits have been of significant concern also in the Europe and Central Asia and South Asia regions. Structural reforms, for example, liberalization of trade and investment regimes, have been initiated in a broad range of developing countries, but, again, progress has been less in countries experiencing slower growth. A clear implication of this experience is that better policies will be needed to improve performance and to capture the new opportunities offered by a fast integrating world economy. In many countries, macroeconomic stabilization and fiscal consolidation are needed to reduce pressures on prices, real exchange rates and the balance of payments while increasing domestic savings for more investment. Governments also need to press ahead with outward-oriented structural reforms that maximize competition in goods and labor markets, expand the opportunities for private enterprise, improve efficiency, and raise productivity growth. In this regard, rationalization of large public sectors, trade liberalization, deregulation of investment, and reforms to create more flexible labor markets are all important. With progress on reform, the more favorable global environment projected in this report is expected, to allow a rise in average developing country per capita GDP growth to a little over Global Economic Prospects and the Developing Countries: Chapter 1 Page 23 3 percent a year in the next decade from virtual stagnation in the last. The baseline projection sees GDP growth in developing countries accelerating from an average of 2.2 percent since 1980 to 4.9 percent over the coming decade (Table 1-6). Part of this sizable improvement is expected to result from a swing in the transition economies from large output declines in the first half of the 1990s toward 4 percent growth. Excluding the transition economies, developing country growth is expected to accelerate from 3.6 percent in 1981-94 to 5.2 percent in 1995-04. Though some convergence in growth rates is expected, notably an acceleration in slow-growing regions including Sub-Saharan Africa and the Middle East and North Africa, wide differences in growth are expected to persist. Only East and South Asia are expected to see real per capita income growth in excess of that in industrial countries. But, unlike the past decade, all other regions, including Sub-Saharan Africa, should see positive per capita income growth. Developing country economic performance is expected to improve but will remain uneven Table 1-6 Growth of real GDP in developing regions (percentage change per year) Estimate Forecast Region 1974-90 1992 1993 1994 1995-96 1995-04 All developing countries 3.5 0.2 1.7 2.0 4.0 4.9 Sub-Saharan Africa 2.2 0.3 0.8 2.2 4.0 3.8 Middle East and North Africa 0.7 3.5 1.8 0.3 2.7 3.2 Europe and Central Asia 3.6 -12.3 -7.5 -7.5 0.7 3.4 South Asia 4.9 4.9 2.9 4.7 5.0 5.4 East Asia 7.1 9.2 9.4 9.3 8.1 7.7 Latin America & the Caribbean 2.7 2.7 3.8 3.9 2.4 3.5 Memorandum items Eastern Europe & FSU 3.6 -16.0 -9.5 -9.1 0.1 3.5 Eastern & Central Europe 2.4 -11.6 -2.4 1.8 3.5 3.9 Former Soviet Union (FSU) 3.6 -19.7 -13.0 -13.1 -1.3 3.3 Developing countries excluding 3.5 4.8 4.9 4.6 4.8 5.2 East Europe & FSU Source: World Bank data and staff projections. Of all developing regions East Asia is likely to be the one that continues to exploit rapidly expanding global trade and investment opportunities to the fullest. Besides economies with an established record of strong growth (China, Indonesia, Korea, Malaysia and Thailand), Philippines appears to be getting back on track with renewed growth. Also, Indochina is starting well on its transition toward market economy. Average economic growth in East Asia rose to 9 percent in 1991-94 from 7.4 percent in the preceding decade, supported by large private capital inflows and buoyant export growth responding to outward-oriented policies. Regional growth is expected to ease to a still remarkable 7.7 percent in 1995-2004, in part as growth in the over-heating Chinese economy cools to about 9 percent from about 12 percent in 1991-93, and, more generally, as capital inflows slow to a more sustainable pace and the available infrastructure comes under increasing pressure from rapidly rising demand. Among risks, "on-off' application of monetary and fiscal restraint policies and continued high inflation raise the possibility that China may repeat its cyclical growth pattern of the past 15 years (see the annex on "Regional Economic Prospects" for more details on the outlook for major developing country regions). Global Economic Prospects and the Developing Countries: Chapter 1 Page 24 South Asia is likely to see an improvement in economic performance if reforms to enhance outward-orientation and the role of the private sector quicken and if emerging global opportunities are seized. These opportunities stem from favorable evaluation of the regional reforms in international capital markets and increased access to private capital flows, strong growth in world trade, and expanding economic ties to the fast-growing East Asian region. Private capital flows to the region surged to $10.4 billion in 1994 from $5.7 billion in 1993. Risks include difficulties in cutting fiscal deficits and the still large size of the state sector, obstacles to labor market reform, and upward pressures on real exchange rates arising from capital inflows. South Asian output growth is forecast to average 5.4 percent a year in 1995-2004, much better than in the early 1990s. In the Latin America and Caribbean region, the rise in U.S. interest rates and downturn in private flows to the region in 1994 exposed weaknesses and vulnerability in some countries. Witness Mexico, where real exchange rate appreciation, declining domestic savings rates, and mounting current account deficits and foreign liability accumulation culminated in last December's collapse of the currency. Current account adjustment in large deficit countries, such as Mexico, Argentina, and Peru, will slow growth in 1995-97. Brazil also faces important stabilization challenges in cutting fiscal deficits, avoiding overvaluation of the real exchange rate and consolidating recent progress on inflation. On the other hand, Chile provides an example of countries in the region that are better placed to take advantage of growth opportunities. If countries stay the course with adjustment and reform so as to build on recent progress on inflation, fiscal consolidation and trade and investment liberalization, regional growth in the longer run could rise by 0.5 percent to 1.0 percentage points above the 3.5 percent average projected for 1995-04. But the risks, especially in the near term, are high. Higher interest rates, loss of investor confidence and capital outflows could threaten other stabilization programs based on fixed nominal exchange rates, risking both recession and higher inflation. Besides skillful macroeconomic management, placing the currently overextended financial systems on a sounder footing would be a challenge in some countries. Successful reform of the social security system in Chile, which contributed to a large rise in savings rates, provides an example to several countries in the region where the development of financially sustainable social safety nets is becoming an important issue. Economic performance in Europe and Central Asia became more differentiated in 1994. Early- reforming countries in East and Central Europe achieved positive growth, because of rising private sector activity and private capital inflows, better policy implementation, and the recovery in Western Europe. Officially recorded growth ranged from 3 percent in the Czech Republic to 5 percent or more in Poland and the Baltics. But measured output continued to dive in most countries of the FSU. In Russia, macroeconomic stabilization was again delayed as budget targets were overshot, inflation rose, and the ruble fell sharply. Under favorable conditions, policies and performance could converge more closely in the second half of the 1990s and long-run potential growth could move toward 5 percent a year. But there are big challenges, including major difficulties in achieving macroeconomic stabilization in most countries of the FSU and severe internal political conflict in many, a large unfinished agenda for structural overhaul, the potential for sharp increases in unemployment, and rising requirements for foreign finance. Global Economic Prospects and the Developing Countries: Chapter 1 Page 25 Over the past decade, growth in the Middle East and North Africa averaged only 0.9 percent a year. Real per capita GDP fell by 2 percent a year, the largest such decline in any developing region, with the exception of the transition economies. The major reasons: falling oil prices, war, large and ineffective public sectors, failure to achieve private-sector led diversification, and, as a result of these, growing internal unrest, exacerbated by high unemployment and falling real wages. Average regional growth may improve to a little over 3 percent in 1995-2004 if efforts at stabilization and structural adjustment are strengthened, more peaceful regional political conditions are achieved, and oil prices improve in the long term. But all of these carry uncertainties, and the region risks being left farther behind, as reforms in Asia, Latin America, and Europe and Central Asia attract an increasing share of foreign trade and investment. Growth in Sub-Saharan Africa (including South Africa) is estimated to have recovered to a little over 2 percent in 1994 from under 0.5 percent in 1993. It is projected to strengthen to 3.8 percent a year in 1995-2004 from 1.7 percent in the preceding decade, implying per capita income growth of a little under 1 percent a year, after a cumulative 15 percent fall in the previous twenty years. This turnaround could happen if the present more favorable external environment, including higher commodity prices, is used to strengthen economic and political reforms and build on positive regional developments, such as the end of apartheid in South Africa, strengthened adjustment in the CFA zone, the ending of some prolonged civil wars, and steps toward political liberalization in some countries. Recent studies show that countries that have gone furthest with macroeconomic and structural adjustment have improved economic performance to well above the low regional averages (World Bank 1994). But much remains to be done, in particular, reducing fiscal deficits (9 to 10 percent of regional GDP in 1993) and encouraging competition and efficiency through deregulation, privatization, and trade liberalization. Risks are plentiful, including that of the better external conditions prompting a relaxation rather than a strengthening of reform efforts, a substantially weaker outlook for commodity prices, significant reductions in OECD foreign aid budgets, or new civil wars and internal strife. Risks in the outlook The baseline scenario sketches a favorable outlook for the global economy, but stresses the importance of improved economic policies that will be needed to make it happen. Downside risks to this outlook are several. An alternative scenario (mismanaging the boom) discussed in this section explores the risk of a possible boom-bust outcome in which higher-than-anticipated growth in 1995-96 in the United States and Europe generates a global boom which reduces incentives to adjust and induces policy slippages in both industrial and developing countries, leading to a bust. Growing inflationary pressures fed by lax macroeconomic policies induce a "monetary crunch," sharply higher interest rates in industrial countries, and a pronounced downturn in economic activity in 1997-98. The effect on developing countries is aggravated by a sharp drop in private capital flows to countries with weak policy performance and heavy debt. Long-term growth is further lowered by foregone reforms and deterioration in productivity spawned by even more overextended public sectors. By 2000 developing countries' GDP could be 3.5 percent below baseline, the effect on individual developing regions varying widely, depending on the quality of policies pursued. Global Economic Prospects and the Developing Countries: Chapter 1 Page 26 Another, nearer-term risk analyzed in this section is that of a "mini-debt crisis" developing as a result of an accelerated loss of confidence in financial markets in the wake of the crisis in Mexico, especially if there are policy slippages in other major recipients of private capital flows. The Mexican crisis sends an important message. The external economic environment for developing countries may be favorable, but they will not automatically benefit from it; sustained pursuit of policies of macroeconomic stability and structural reform will be needed. Buoyant world trade is a central element of the favorable baseline economic outlook. International trade can play the role of an engine of growth, but only if the implied reallocation of labor and other resources in line with countries' different and evolving comparative advantage is allowed to occur. Such resource shifts inevitably generate protectionist pressures, and these may increase as competition intensifies as a result of increasing international trade integration. These pressures will need to be firmly resisted, in both developing and industrial countries (see Chapter 4), if present projections of world productivity and output growth are to be realized Mismanaging the boom In this scenario U.S. growth slows in 1995 as a result of earlier interest rate increases, leading the Federal Reserve to forego further tightening. But growth reaccelerates in 1996. Fiscal consolidation wavers as Congress and the administration cannot agree on budget cuts. A continued soft dollar supports exports and pent-up demand rekindles private spending. The Federal Reserve's response is hampered by the approach of national elections. In Germany and Europe, the 1995-96 expansion is also more rapid than expected. Private consumption and investment, particularly in Eastern Germany, are strong. Cyclical increases in government revenues and worries about unemployment encourage relaxation of fiscal consolidation efforts. Unemployment and still low inflation lead to an under-estimation of the need for monetary tightening. In Japan, the recovery receives support from additional growth in exports, helping to restore fragile consumer and business confidence. Higher industrial country growth fuels higher commodity prices, with real oil and non-oil commodity prices outpacing baseline growth in 1995-96 by about 6 and 2 percentage points a year, respectively (Table 1-7). Inflationary pressures and expectations in industrial countries increase, pushing U.S. inflation to near 5 percent. After the elections the Federal Reserve tightens decisively and interest rates jump to an 8 to 10 percent range by early 1997. In Europe central banks hike interest rates in response to higher U.S. rates and the perception of fast-closing output gaps. The United States falls into recession in 1997 as interest-rate-sensitive sectors contract against a background of a more restrictive federal budget. Lower U.S. import growth exerts additional drag in Europe, where higher interest rates also slow domestic demand. Japan's recovery is side-tracked by contracting trade, deteriorating consumer sentiment and renewed fears of financial difficulties. G-7 output and import growth in 1997-2000 fall 1.6 percent and 3.5 percent a year below baseline, respectively. Recession and higher real interest rates depress oil and non-oil commodity price gains. Global Economic Prospects and the Developing Countries: Chapter 1 Page 27 The external environment for developing countries in this scenario is markedly more cyclical. During the boom export growth in developing countries rises 2.7 percentage points above baseline, with Latin America seeing a slightly stronger impact because of greater orientation toward the buoyant North American market (Table 1-8). Developing country terms of trade rise by one percentage point, with oil exporters in the Middle East and North Africa and non-oil commodity exporters in Sub-Saharan Africa experiencing particularly large gains. After long difficult years of adjustment and subject to growing social pressures, a range of countries in the Middle East, Africa, and (to a lesser extent) Latin America and the Europe and Central Asian region succumb to the temptation of the foreign exchange windfall. Public consumption, transfers and subsidies are boosted and, as in the 1970s, take on their own dynamic, increasing current account deficits and continuing to grow into 1997 when the original external stimulus disappears. As a result, growth in developing countries is boosted by 1.3 percentage points above baseline in 1995-96. Mismanaging the boom carries high risks for both industrial and developing countries Table 1-7 Global conditions in the baseline and alternative scenarios (Average percentage growth for baseline (except LIBOR); percentage point difference from baseline for alternative scenario) Boom 1995-96 Bust 1997-2000 Alternative Alternative Baseline scenario Baseline scenario Real GDP in the G-7 countries 2.9 1.3 2.8 -1.6 Imports of the G-7 countries (vol.) 6.6 2.9 4.9 -3.5 World exports 7.1 2.4 6.1 -2.5 Nominal $U.S. LEBOR (six months) 7.2 0.3 6.5 2.4 Inflation, G-7 CPIa 2.1 0.8 2.6 1.5 G-5 MUV ($ index)b 1.7 0.5 2.6 1.4 Real commodity prices Non-oil 1.0 1.7 -2.9 -1.6 Oil 0.9 5.8 1.9 -5.1 Notes: G-7 countries : Canada, France, Germany (Unified), Italy, Japan, United Kingdom, and United States. Consumer price indices expressed in dollars at current exchange rates, aggregated using GDP weights. b Unit value index of manufactures exports from G-5 countries to developing countries, expressed in dollars. Deflated by MUV. Source: World bank data and staff projections The ensuing bust is a difficult period for developing countries, especially those that squandered the gains of the boom. Export growth in developing countries slumps while their terms of trade decline by 1.2 percent a year in the face of weak demand for oil and non-oil commodities, instead of rising 0.1 percent a year as in the baseline. The sharp 240 basis point rise in nominal interest rates and the higher foreign liability stocks carried over from the boom increase developing country interest service by some $17 billion a year. Creditworthiness indicators deteriorate markedly. Reduced foreign financing for countries with poor policies forces them to compress demand and imports. Deterioration in resource allocation efficiency, incentive structures and productivity growth caused by the expansion of the state sector further sap growth. Output growth in developing countries in 1997-2000 falls 1.5 percentage points a year below baseline. Global Economic Prospects and the Developing Countries: Chapter 1 Page 28 A bust would hit those developing countries harder that squander the gains of the boom Table 1-8 Developing countries in the alternative scenario (Average percentage growth for baseline, percentage point difference from baseline for alternative scenario) Boom 1995-96 Bust 1997-00 Alternative Alternative Baseline scenario Baseline scenario Output Developing countries 4.0 1.3 5.0 -1.5 Sub-Saharan Africa 4.0 2.1 3.7 -2.1 Latin America and Caribbean 2.4 1.3 3.7 -1.5 Middle East and North Africa 2.7 2.0 3.3 -3.1 East Asia 8.1 1.0 7.5 -1.0 Europe and Central Asia 0.7 1.3 3.9 -1.4 South Asia 5.0 0.6 5.3 -0.8 Exports Developing countries 8.3 2.7 6.7 -2.1 Sub-Saharan Africa 5.2 2.7 3.4 -2.8 Latin America and Caribbean 7.6 2.9 6.1 -2.7 Middle East and North Africa 4.2 2.5 4.2 -2.5 East Asia 11.3 2.8 9.0 -1.9 Europe and Central Asia 7.0 2.1 4.9 -1.6 South Asia 8.2 2.7 6.7 -2.0 Terms of Trade Developing countries 1.0 1.0 0.1 -1.3 Sub-Saharan Africa 1.1 2.1 -0.4 -1.6 Latin America and Caribbean 0.6 1.1 -0.2 -1.4 Middle East and North Africa 2.7 4.7 1.9 -3.7 East Asia 0.2 -0.1 -0.3 -0.8 Europe and Central Asia 1.5 0.6 0.5 -0.8 South Asia 0.9 -0.6 -0.4 0.0 Source: World Bank data and staff projections The Middle East and North Africa and Sub-Saharan Africa regions are hit hardest by the worsened external climate, including lower oil and non-oil commodity prices, higher debt burdens, binding credit constraints, and supply-side deterioration, associated in part with expanded public sectors. Per capita incomes in these regions resume their decline of the past decade. In Latin America, the third most seriously affected region, the dependence on North American markets, which contract sharply in recession, and the rise in interest rates make external constraints much more binding, forcing a fall in output growth of 1.5 percentage points. Europe and Central Asia also suffer a 1.4 percentage point decline in output growth, the adverse effects being slightly mitigated by lower export dependence on U.S. markets and smaller terms of trade losses. Opportunity costs and political risks, however, are more significant, as global recession at a critical juncture in the transition process could serve to undermine continuing efforts at reform. East and South Asia show the most resilience during the bust. In East Asia, low reliance on primary commodities, competitive positioning of manufactured exports, the growing importance of intra-regional trade, policy choices in the boom to save more of the windfall gains, lower debt, and continued access to external financing all cushion the impact of the bust, with growth slipping by only 1 percentage point. South Asia gains the least in the boom and also suffers the least in the Global Economic Prospects and the Developing Countries: Chapter 1 Page 29 bust, partly because of its lower dependence on exports, more diversified commodity and market structure of exports, and lower interest-sensitivity of debt, but also because of the assumed more prudent policy choices in the boom phase. This alternative scenario underlines a central message for developing countries. They should use the present favorable external environment to accelerate reforms that would strengthen economic fundamentals, positioning them better to take advantage of the new opportunities arising from a rapidly integrating world economy but also making them more resilient to possible adverse shocks. The need to reduce vulnerability to shocks is especially acute for countries that are now enjoying windfall commodity revenues (e.g., in Africa) and for countries that are over-exposed because of the large external liabilities they are carrying (e.g., in Latin America). A "mini-debt crisis" Even if industrial countries avoid a boom-bust cycle and achieve a "soft-landing," a downside scenario in which policy slippages in developing countries combine with an accelerated loss of confidence and "herd effects" in financial markets in the wake of the Mexico crisis could result in a significant deterioration in the developing country outlook relative to baseline. Such an outcome would undoubtedly have a major effect on countries that have sharply increased their dependence on private portfolio inflows in the last several years and are already characterized by fundamental weaknesses, such as low or declining domestic savings rates, over-valued exchange rates, weak productivity and export growth, and (as a result) large increases in current account deficits. It would also affect countries where such weaknesses develop because of fresh policy slippages. Countries which are expected to receive increased private capital inflows in future (for example, in Europe and Central Asia or South Asia) would be shut out in the presence of policy deterioration. The possibility of such an outcome points to the even greater importance of an appropriate domestic policy stance in developing countries in the wake of the Mexican crisis. If policy slippages are avoided, the impact of a temporary loss of confidence in financial markets would be considerably smaller than otherwise, in terms of both its intensity and the number of countries affected. Countries that are both heavily dependent on private inflows and in a weak macroeconomic position are small in number. A large number of developing countries did not receive significant private flows in 1991-94, nor are they expected to in the next several years. Among countries that have received large private inflows there are few with such large imbalances as developed in Mexico. In East Asia current account deficits and indebtedness are much lower, savings and export growth rates are much higher, and a considerable portion of net inflows into the region has been used to build up foreign reserves and other external assets, so that adjustment to a contraction in private flows would be more muted than in the highly exposed countries. Indeed, in some cases (e.g., in South Asia) temporarily lower inflows would ease macroeconomic management problems generated by the sharp rise in inflows. These considerations suggest that a pullback in private flows due to a loss of confidence in financial markets and "contagion" effects is unlikely to become a self-fulfilling prophecy in which lower flows lead to a widespread deterioration of developing country economic performance leading, in turn, to further declines in flows. Absent such a vicious circle, "herd effects" in financial markets are likely to be temporary, Global Economic Prospects and the Developing Countries: Chapter 1 Page 30 with financial managers and investors returning over time to a clearer evaluation of developing country economic fundamentals. In 1990 the stock of flight capital from developing countries was an estimated $700 billion, more than these countries' long-term foreign debt from private sources (World Bank 1993). 2 McKibbin (1994) estimates that a permanent cut in the U.S. fiscal deficit of 1.6 percent of GDP would lower long-term interest rates by 1.4 percentage points and raise the level of output in the long run by 0.3 percentage points. 3 TFP growth is the portion of real output growth not accounted for by increases in inputs of labor and capital. In this discussion capital and labor inputs are measured without adjustment for quality changes such as education for labor and vintage effects for capital. TFP is therefore measured inclusive of these influences. 4 About 60 percent of developing country exports go to industrial countries. Wolff (1995) estimates that a 0.6 percent faster TFP growth in industrial countries stimulates a 0.2 percent faster labor productivity growth in developing countries. s Other studies identifying a link between trade openness and productivity growth in developing and industrial countries include World Development Report 1991, Harrison (1991), Maddison (1991) and Helliwell and Chung (1990). 6 Studies finding productivity gains from computerization include Lichtenberg (1993), Brynjolfsson and Hitt (1993) and Hendel (1994). Studies of deregulation include Berndt et al. (1991), Lichtenberg and Kim (1989), Oniki et al. (1994), and Olley and Pakes (1994). 7 This calculation presumes no further increase in price-earnings ratios, which were relatively high in both industrial and developing countries in 1993. In industrial countries the ratio of market capitalization to GDP is assumed to remain constant at about 67 percent, while in developing countries (excluding transition economies) it is assumed to rise to 54 percent by 2004, closing half the existing gap in market capitalization to GDP ratios between industrial and developing countries, as a part of the process of deepening capital markets. In transition economies the market capitalization to GDP ratio is assumed to rise from negligible levels to 20 percent by 2004. For example, Dornbusch and Werner (1994), together with comments by Fischer and Calvo, and DRI/McGraw Hill (1994). Trade integration is here defined as the ratio of total trade (exports plus imports) to GDP. The speed of integration is defined as the difference between the growth rates of trade and GDP. 10 Michaely (December 1994). The index (Cjk) is defined as: Cjk = 1-(Y|mik-xij |)+2 where: xij - is the share of good i in total exports of country j mik - is the share of good i in total imports of country k. A number of qualifications must be added. It is assumed that the structure of trade is not heavily distorted by trade barriers in the two partners. Otherwise it may not be a reliable indicator of the potential success of an agreement. Second, if a small country with a limited range of traded products can dispose of all its exports (under more favorable terms) in the larger partner, a free trade area may still be attractive even though the structure of its exports does not match that of its partners' imports well. " The Americas free trade area is proxied by NAFTA plus the next five biggest economies, Argentina, Brazil, Chile, Colombia, and Venezuela. 12 Of course, if a favorable shock is likely to be more than reversed later by a negative shock, permanent income may not rise at all, implying that the whole of the current windfall be saved. Global Economic Prospects and the Developing Countries: Chapter 1 Page 31 2. Wider Markets for Trade: The Uruguay Round Overview Buoyant world trade is a central factor underpinning the favorable global economic environment that we reviewed in the preceding chapter. An important source of the new dynamism in trade is the shot in the arm it has received from the successful conclusion of the Uruguay Round. This trade agreement is the most extensive ever signed, and its effective implementation will have a significant bearing on the economic prospects of developing and industrial countries alike over the next decade. The new round of trade liberalization initiated by this agreement is a major dimension of this report's overarching theme of increasing economic globalization. In this context, this chapter assesses the likely impact of the Uruguay Round agreement, especially from the perspective of developing countries. The chapter focuses on merchandise trade; the next chapter examines trade in services. As significant as the achievements of the Round are, they are far from a cause for complacency. The analysis in the chapter makes the following points: * Trade in manufactures will benefit from the substantial tariff reductions under the Round-which are as extensive as those under the Kennedy and Tokyo Rounds-and from the abolition of the Multifiber Arrangement and voluntary export restraints. In industrial countries average tariffs will be reduced by 40 percent and the coverage of nontariff barriers (NTBs) against developing country exports will decline from 18 percent to around 5 percent. In developing countries the agreed maximum tariffs will fall by 36 percent. * Bringing agricultural trade under multilateral discipline and converting NTBs to tariffs are important achievements of the Round, but the actual liberalization achieved is limited and substantially less than earlier expectations. Largely for this reason estimates of the global income gain from trade liberalization under the Round are now smaller than before, though still significant-around 0.9 percent of GDP, including income from induced investment increases. * Gains from improved market access will be widespread, but unevenly distributed across regions and countries. Countries' overall gains from liberalization will depend more on their own trade policy actions than those of others. * Though difficult to quantify, gains from improved security of market access- increased coverage of bindings, strengthened dispute settlement procedures under the new World Trade Organization (WTO), clearer rules and standards-are an important benefit of the Round. Progress in disciplining the use of antidumping measures appears less tangible. The strengthening of the trading system through the creation of the WTO Global Economic Prospects and the Developing Countries: Chapter 2 Page 32 is crucial to the delivery of the Round's benefits, to completing the remaining negotiations, and to building on its foundations. * Two areas of major concern to least developed countries during the negotiations- preference erosion and higher food import costs-are unlikely to cause significant adjustment strains. The losses are likely to be small and can easily be outweighed by improvements in domestic efficiency and gains from other aspects of the Round. * Important future challenges include further liberalizing trade in agriculture, services, and parts of manufacturing where protection remains high (e.g., textiles and clothing); better disciplining the use of antidumping measures; and dealing responsibly with new issues, such as interactions between trade and the environment and labor standards. A notable feature of the Uruguay Round was the prominent role played by developing countries. For the first time a large number of developing countries actively participated in the multilateral negotiations. Their increased involvement can be explained by several factors: a growing appreciation of outward-oriented development strategies; a better understanding of the limits to "free-riding" on the multilateral trading system; and the realization that multilateral discipline offers the best hope for curbing unilateral actions by large economies. Thus, developing countries are parties to nearly all elements of the Round, and although they have agreed to smaller liberalizations than industrial countries, they have accepted international discipline on most of their trade-related policies. Because of the growing importance of developing countries in world trade, this is good news for the world, but more importantly, it is good news for the developing countries themselves. By accepting multilateral discipline they make their own policy reforms more credible and, therefore, more effective. But that is not enough: in several respects, the commitments made by developing countries are either too limited or insufficiently firm to ensure full and effective implementation, so further unilateral and multilateral efforts will be necessary. Also, the realization of gains from the Round is not automatic. All countries will have to embrace the need to make adjustments, and those that do so most quickly and thoroughly will gain the most. The outcome: an assessment Market access gains in manufactures Tariffs. Contrary to expectations at the start of the Round, significant improvements have been achieved in market access for industrial goods. The main achievements in industrial countries include the expansion of bindings (commitments on maximum tariffs) to cover 99 percent of imports, the expansion of duty-free access from 20 to 44 percent of imports, and the reduction of the trade-weighted average tariff by 40 percent from 6.2 percent to 3.7 percent (Figure 2-la). For developing countries' exports to industrial markets the reduction in the average tariff is 30 percent, although labor-intensive manufactures Global Economic Prospects and the Developing Countries: Chapter 2 Page 33 (textiles and clothing, leather goods) and certain processed primary products (fish products) are regarded as "sensitive" and therefore have below-average tariff reductions. Average tariff levels are only part of the story. They may conceal tariff peaks that effectively close the markets for particular goods to imports. The incidence of such peaks in industrial countries' tariff schedules has been reduced in the Round, but they remain a significant problem in several areas. In textiles and clothing 28 percent of imports face tariffs of more than 15 percent (as did 35 percent of imports at pre-Round tariff rates); in leather and rubber goods 11 percent (14 percent) and in transport equipment 7 percent (9 percent) face such tariffs. A second issue is tariff escalation, whereby a product faces higher tariffs as it becomes more processed. Escalation is pernicious; it offers the processing activity higher levels of protection in industrial countries than is apparent from the simple schedules, and it hinders developing countries' attempts to industrialize. While escalation remains, its extent has been reduced somewhat. The main features of developing countries' market access commitments concern tariff bindings-commitments that tariffs will not exceed particular "bound" levels. The developing countries expanded their bindings to cover 61 percent of imports, compared with the pre-Uruguay Round level of 14 percent, and offered a decline in their trade- weighted average bound tariff of 36 percent, from 17 percent to 11 percent (Figure 2-1b). Thus tariffs still are much higher in developing countries than in industrial countries-at least as far as bound levels are concerned. On imports from industrial countries developing Asia will levy 8 percent on average, compared with 15 percent in developing Europe (excluding members of the EU), 18 percent in Latin America, and more than 23 percent in Africa. Averages on imports from other developing countries are slightly lower. To the extent that the data in Figure 2-lb refer to reductions in ceiling bindings (maximum permissible tariffs) rather than to applied rates, they overstate the degree of current protection and of the tariff reduction introduced by the Round. Bindings are important, however, because by setting maximum tariff levels, they introduce much greater security into trading relationships. Even though many developing countries offered proportionately smaller reductions in bound tariffs, their cuts were from relatively high levels, and, at $15 billion, their offers on tariffs on manufactures amounted to more than a third of the world total. Developing countries' commitments were substantially more important to the United States than those of either the EU or Japan and, similarly, substantially more important for the EU and Japan than those of the United States. Global Economic Prospects and the Developing Countries: Chapter 2 Page 34 Reductions in tariffs on manufactures are significant, but uneven Figure 2-1a Average MFN tariffs in industrial countries on imports of manufactures from industrial and developing regions 10 - 8- 2 0 ports i ot ort rt orts iPot OgC at A sa gia Poe * Post-Round Pre-Round Figure 2-lb Average tariffs in developing countries on imports of manufactures from industrial and developing countries 30- 25- S20 15 10- i Post-Round Pre-Round Source: Bank staff estimates Global Economic Prospects and the Developing Countries: Chapter 2 Page 35 Nontariff barriers. For some manufactured goods tariffs are less important than nontariff barriers (NTBs). The prime example is textiles and clothing. For over thirty years exports of these goods have been constrained by the quantitative agreements embodied in the Multifiber Arrangement (MFA) and its predecessors (Box 2-1). Other examples include chemicals, leather, footwear, and steel. One of the Round's major achievements was to agree to eliminate voluntary export restraints (VERs) within four years and the MFA within ten. These actions would scale back the coverage of NTBs on developing countries' trade from 18 percent to 5.5 percent of their 1992 exports. And because trade in the derestricted product lines will tend to grow faster than other trade, the coverage on developing country exports could fall to only 4.2 percent by 2005 (Figure 2-2). Implementation of the Round should bring a sharp reduction in the coverage of nontariff barriers. Figure 2-2 Coverage of developing countries' nmoil exports by OECD nontariff Share ofaxports barriers before and after the Uruguay Round, by region covered by NTBs (]porcent) 30 East Asia EaStern Europe Latin America 0MIm Note: The width of each bar is proportional to the regions share of developing country exports. The hig indicates the NTB coverage beofre the Uruguay Round and the shaded ares the NTB coverage after the Round. Source: Low and Yeats 1994. The potential benefits of abolishing VERs and the MFA are large. But unless they are phased out as agreed and countries consciously decide not to replace them with safeguard protection, which has become easier to use as a result of the Round (see below), these benefits are not guaranteed. A start on agricultural liberalization The exclusion of agriculture from previous GATT rounds and its effective exemption from GATT disciplines allowed agricultural protection to run largely out of control. Many agricultural products were protected by ordinary tariffs, but these tariffs were bound for Global Economic Prospects and the Developing Countries: Chapter 2 Page 36 only 55 percent of the items in industrial countries and 18 percent in developing countries. The GATT (1994) estimates that annual domestic support for agricultural products averaged $173 billion in industrial economies and $24 billion in developing economies over 1986-88, and that export subsidies averaged $18.2 billion and $3.2 billion, respectively, over 1986-90. The OECD (1994) calculates that industrial countries transferred more than $22,000, on average, to each full-time farmer in 1993. These policies depressed and destabilized world prices and prevented efficient producers from realizing the benefits of their comparative advantage. Box 2-1 Liberalization of the Multifiber Arrangement is a major achievement BN imposing discrminatory quotas on individual suppliers of textiles and apparel. the MFA violates the most fundamental principle of the multilateral trading system-the principle of nondiscrimination. The importing (industrial) countries paid a price to obtain this derogauon; they allowed the exporting (developing) countries to administer the quotas and to retain at least some of the quota rents. The exporting countries also paid a price Competitive producers found it necessary to divert their exports to less profitable third markets, and their ability to use this industrn as a sprngboard to industrial development was restricted Welfare impact of abobstung the Multifiber Over the 35 Nears of MFA-tpe restrictions the growth Arrangement, 2005 (billions of 1992 U.S. rates of quotas have been progressively reduced from their dollars) target level of 6 percent per year, and products have orth America 29.3 continually been brought under restnctions. Under the uropean Union 27 6 Uruguay Round Agreement on Textiles and Clothing apan Iquota growth rates w%ill almost double and products will Is -6 be progressively removed from the MFA's maze of SEAN 4 6 restrictions. China 5.4 hia Hertel et a]. (1995) estimate that immediate abolition of thin.mea -3. 7the MFA %ould contribute about 20 percent of the total est of world -10.3 welfare gains from the Uruguay Round. As shown in the table, the largest gains will go to the MFA importers, who will be able to import basic cloting and textiles from the more efficient suppliers in such regions as ASEAN. China. and South Asia. Suppliers in these regions will gain as they are freed to take advantage of their competitive strength Some losses would be expected among the Asian NIEs, whose competitive strength is now greater in more sophisticated products. Some small losses might also occur among higher-cost suppliers in Latin Amenca and among net importers of texules and clotlung, such as the European Free Trade Area and the Middle East and North Africa (included in rest of w%orld in the table), which now benefit from products di%erted a%a) from restricted markets The Uruguay Round agreement provides for a major shift from nontransparent quantitative restrictions on agricultural trade to transparent tariffs. From the first year of the agreement's implementation, nearly all border protection is to be provided by bound tariffs, which, in principle, are to be no higher than the tariff equivalent of the protection levels prevailing in the base period, 1986-88. Thereafter, in industrial countries each tariff is to be reduced by at least 15 percent over six years, with an (unweighted) average cut of 36 percent; in developing countries the corresponding requirements are 10 percent and 24 percent over ten years. For ordinary tariffs not previously bound, developing countries were permitted to offer ceiling bindings in the Round (i.e., commit to maximum tariffs Global Economic Prospects and the Developing Countries: Chapter 2 Page 37 unrelated to previous protection levels). The agreement also contains minimum market access clauses, whose effects are most significant for rice. The agreement on export subsidies calls for a reduction over six years of at least 21 percent in the volume of subsidized exports and of at least 36 percent in the value of subsidies, relative to a 1986-90 base. Where actual 1991-92 quantities exceed the base levels, the excess can also be reduced gradually. Developing countries have few export subsidies-Poland and Mexico are the main users-and are subject to somewhat smaller reductions (14 percent and 24 percent). But all countries are bound not to introduce subsidies where none previously existed. Food aid is exempt from the subsidy reduction requirements. Domestic support also is subject to discipline-with 20 percent reductions over six years in the total level of trade-distorting support from a 1986-88 base (14 percent over ten years for developing countries). Certain policies-most notably income support not related to output, direct payments for limiting output, and development and environmental expenditures-were exempted from this discipline. Given the range of exemptions and the fact that the cuts in tariffs and export subsidies count toward the 20 percent reduction, the domestic support component of the agreement is unlikely to impose much discipline on agricultural policy. Ingco (1994) has evaluated the effects on post-Round border protection of the tariffication and export subsidy concessions on major commodities in 63 participating countries. She compares the tariff equivalents of nominal border protection during 1982-93 with the post-Round ad valorem tariff equivalents based on the agreed tariff and export subsidy commitments. She shows that the base for tariffication, 1986-88, was the period of highest border protection in recent history. She also found evidence of extensive "dirty tariffication," whereby an agreed bound tariff rate for the post-Round period was higher than the estimated tariff equivalent for the base period.2 This implies that tariffication could result in levels of protection for many products significantly higher than those in 1986-88, which in turn exceed current levels. Of seven major product groups, Ingco found dirty tariffication in six in the European Union, and for four of these even the final bound rates (after the reductions agreed in the Round) exceed the 1986-88 levels of protection. The largest differences between the agreed rates for 1995 and those in the base period are for rice (207 percent), milk (112 percent), sugar (64 percent), and wheat (64 percent). The United States exhibits dirty tariffication for five of the same seven products, although to a much milder degree, while Japan does so for only one, and then only marginally, having offered tariff equivalents well below 1986-88 levels on most commodities. The equivalent of dirty tariffication also occurred in developing countries. For example, for wheat, a major import in developing countries, agreed tariff offers exceed historical tariff equivalents in India (by 98 percent), Pakistan (171 percent), Colombia (118 percent), and Morocco (210 percent). Several countries also made bindings above current levels of Global Economic Prospects and the Developing Countries: Chapter 2 Page 38 protection for rice imports (notably Bangladesh, Colombia, and Mexico) and for imports of coarse grains (Colombia, Indonesia, Jamaica, Mexico, Morocco, and Republic of Korea). Bangladesh offered a uniform ceiling binding of 200 percent, and Pakistan a range of 100 to 150 percent; and in Sub-Saharan Africa, Nigeria bound most rates at 150 percent, Zimbabwe at 150 percent, and Kenya at 100 percent. Some other developing countries, however, have bound their agricultural protection at much lower rates, e.g., Bolivia at 40 percent, Honduras at 35 percent, Madagascar at 30 percent, and Suriname at 30 percent (Table 2-1). Many tariff bindings on agricultural goods are well above the previously applied rates Table 2-1 Border protection for selected agricultural goods (percent) Wheat Cane sugar Milk Beef and veal Actual As bound in Uruguay Actual As bound in Uruguay Actual As bound in Uruguay Actual As bound in Uruguay protection Round protection Round protection Round protection Round 1986-88 1995 2000 19995 2000 1986-88 1995 2000 1986-88 1995 2000 U 106 170 82 234 297 152 177 289 178 83 125 7C S 20 6 4 131 197 91 132 144 93 3 31 26 apan 651 240 152 184 126 58 501 489 326 87 93 50 Norway 266 495 347 NA 302 211 148 435 357 145 405 344 Australia 1 0 0 12 52 20 49.3 6.7 1 0 0 0 Thailand NA 64 27 NA 104 94 NA 93 82 NA 60 50 Chile -18 25 25 43 35 32 NA 35 32 NA 25 25 Hungary -13 50 26 23 80 68 1 80 51 60 112 72 ores NA 12 9 NA 24 18 103 220 176 96 45 42 Turkey 36 200 180 12 150 135 35 200 180 -4.4 250 225 Egypt -32 5 5 -57 30 20 NA NA 60 NA 13 9 Mexico -1 74 67 -58 173 156 -3 75 67 42 50 45 Source: Ingco 1994. That the maximum permitted rates of agricultural protection exceed current levels does not necessarily imply that actual rates will. But the record, particularly in industrial countries, of governments' inability to resist pressures for farm protection does not bode well. Having missed the opportunity to curtail agricultural protection significantly in concert with other countries and with the backing of all export interests worldwide, governments would likely find it more difficult to do so unilaterally in the future. The new transparency in agriculture is undoubtedly a big plus, for it helps reveal to consumers the costs of protection. It also helps reduce instability in world prices by making the transmission of world to domestic prices more direct. These benefits, however, appear to have been purchased at the expense of a golden opportunity to reduce distortions significantly. It is estimated that if the specified tariff reductions had taken place from actual recent levels, rather than from the initial levels permitted by the Round, global welfare gains from agricultural liberalization would have been more than two and a half times larger (Goldin and van der Mensbrugghe 1995). Improved market security One of the greatest enemies of enterprise is uncertainty. Thus, the increased market security resulting from the Uruguay Round is likely to have significant beneficial effects. The first and most obvious dimension is the large increase in the number of tariff bindings. Global Economic Prospects and the Developing Countries: Chapter 2 Page 39 A second is the strengthened dispute settlement procedures for the World Trade Organization (WTO), which came into being in January 1995. Under the GATT trade complaints were heard by panels of experts, who then advised the GATT Council on whether the practice in question violated GATT and thus required correction under threat of retaliation. However, a single dissenting party in the Council, even the transgressor, could prevent the adoption of a panel report. This did not make the process entirely useless -indeed the substantial majority of panel reports have been adopted since 1947- but it did reduce its effectiveness both in terms of the number of complaints made and the bargaining power of the complainant when the matter came to be settled by negotiation. Moreover, since 1989 fewer than one half of the panel reports presented have been adopted. Under the WTO panel reports must be accepted unless they are rejected by a consensus of member governments. Although it remains to be seen how this new approach works out in practice, it is expected to impose more discipline on member governments. The Round has clarified several technical issues, reducing the risk that they will be abused as protectionist devices. These include sanitary and phytosanitary regulations, technical standards, customs valuations, import licensing, and preshipment inspection. Some uncertainties surrounding the application of countervailing duties have been removed-for example, certain subsidies have been ruled non-countervailable (such as subsidies for disadvantaged regions and those on R&D). The Round appears to have done little to constrain the use of antidumping duties, however, although certain practices in calculating antidumping margins have been regulated. Although a country may view antidumping action as justified because "foreigners are cheating," it is, in fact, simply ordinary protection with great public relations (Finger 1991). There is little evidence to suggest that dumping in the economic sense ever occurs. Moreover, in an unfortunate example of technology transfer, antidumping has spread from industrial to developing countries, where its undisciplined-albeit WTO-consistent-use could undermine the liberalization achieved in the Round. It is difficult to predict the net liberalizing effects of the Agreement on Safeguards, which provides for more flexible arrangements for introducing safeguard protection but sets out tighter rules for their application. Discrimination between suppliers is now allowed in exceptional circumstances, and no compensation is required during the first three years that a safeguard measure is applied. However, safeguards can now be applied only for a limited period, they must be progressively liberalized, and they are subject to surveillance and review by the WTO. While the commitment to abolish VERs implies a significant reduction in nontariff measures, governments might exploit the safeguards agreement to replace them with tariffs or import quotas, which are still permitted under the new rules. One advance, however, has been the extension of all these agreements to all members of the WTO; under the GATT most such agreements applied only to (the relatively small number of) signatories. Among the major achievements of the Round is the Agreement on Trade-Related Aspects of Intellectual Property Rights (TRIPs), which obliges members to offer national treatment to foreign owners of intellectual property-i.e., to protect their interests no less Global Economic Prospects and the Developing Countries: Chapter 2 Page 40 strongly than those of nationals-and to install, by the end of a transition period, legal structures to ensure that this protection is at a reasonable level. For example, patent protection will have to be extended for twenty years, copyright extended to computer software, and the burden of proof shifted to the party accused of patent violations. Such measures significantly enhance the security of developing country markets for suppliers of intellectual property. The TRIPs agreement will allow these suppliers, mostly from industrial countries, to extract higher payments for their rights. But the increased security will encourage the development and transfer of information geared to developing countries, and so in the long run the TRIPs agreement should also benefit these countries. The establishment of the WTO, which has wider responsibilities than the GATT, stronger dispute settlement procedures, and greater ministerial involvement, will strengthen the world trading system. This is central to the implementation of the Uruguay Round agreement. Not only must the negotiations be completed (e.g., in services) and the interim reviews be made (e.g., in agriculture in 1999), but the agreed liberalization must not be undermined by recourse to alternative measures. Estimating the gains from the Round "How much is it all worth?" is the most natural question to ask about an agreement like the Uruguay Round, but it is also the most difficult to answer. Some aspects of the outcome currently defy quantification, such as the effects of the new dispute settlement procedures or of the standards agreement. Some can be assessed only impressionistically, such as the agreements on services and intellectual property. Some depend on unforseeable details of implementation: will governments raise agricultural protection as far as they are permitted to, or will subsidization increase under the new rules? The results of attempts to quantify the effects of the Round depend on guesses about what would have happened if it had failed (Box 2-2) and on the details of the model of the economy being used. As a result, the current efforts at quantification are both partial-dealing only with explicit distortions in industrial and agricultural goods markets-and speculative. The World Bank asked several economic model builders to estimate the effects of the Round.3 The details of these models differ substantially, as do their representations of the outcome of the Round and the "base economy" to which they are applied. But compared with estimates published in 1993 and 1994, before a full analysis of the Round was possible, all model builders have revised downward their estimates of the agricultural liberalization achieved. That is one major reason why current estimates fall short of earlier hopes for the Round. Summary estimates based on these modeling exercises of the annual benefits of the Round after it has been implemented and its effects have worked through illustrate vividly the difference that different modeling strategies make (Table 2-2). The RUNS model concentrates mainly on agricultural goods and assumes perfect competition throughout the world economy. In its standard form which recognizes only changes in border protection, it finds relatively modest welfare gains-$48 billion (in 1992 prices) for the world Global Economic Prospects and the Developing Countries: Chapter 2 Page 41 economy in 2002. Allowing for the hoped-for reductions in domestic support for agriculture increases the gains to $68 billion. Where there are real wage rigidities which cause unemployment, these gains rise to $235 billion. The Round creates some unemployment because certain sectors contract when faced with import competition, but it predominantly creates jobs by increasing the value of output per worker and raising real wages through its effects on consumer prices. The gains are larger in models with imperfections and rigidities because these imply that the world economy is initially further from optimality and hence allow the Uruguay Round to constitute a larger step in that direction. Box 2-2 Measuring the effects of the Round: how long is a piece of rope? Measuring the amount of trade liberalization achieved in the UruguaN Round might seem straightforward. but it is not-particularly in agriculture The measurement requires a comparison of the level of protection agreed in the Round with what w%ould ha%e prevailed in its absence To see the difficulties, consider the barriers to %%heat imports applied by the European Union (EU) The EU offered to bind specific duties for wheat in its UruguaN Round schedule--e.g . at 149 ECU per ton for common wheat in 1995. falling to 95 ECU b) 2001 To express this tariff as a degree of protection, we need a vorld price for w%heat Based on World Bank price forecasts. the tariff translates into 147 percent in 1995 and falls to 77 to 93 percent in 2001. an estimate that allows for both the negotiated fall in the tariff and the likelh range of increase in world prices. Since the bound tariff is a maximum rate, the EU may well choose to apply a lower rate What do we compare this with? What would protection have been in the absence of the Round? Duties in 1995 were expected to be fired at the taniff equivalent of protection in 1986-88--106 percent in this case The actual level of protection in 1993 (the latest available) was 67 percent Alternatively, because protection varied from %ear to Near. as it pro%ided the wedge between a fixed domestic price and a variable world pnce, the average of se%eral years' data could be considered the best estimate of what protection would have been in the absence of the Round the average over 1979-93 was 57 percent. Or. since protection was on a rising trend and the failure of the Round would have exacerbated trade tensions, the estimate of protection without the Round rmght be much higher, saN 150 percent. A simple estimate of the effect of the Round on trade barriers can be made bi subtracting any number in the previous paragraph from an3 in the one before that The answers for 2001 range from a liberalization of 73 percent to an increase in protection of 36 percent. Sinular ambiguities characterize manN trade flows. especially into developing countries that have offered high ceiling bindings The situation for manufactures is somewhat less confused than that for agriculture because industrial countries generally charge their "bound" ratcshe rates agreed to and submitted to the GATT. For de%eloping countries actual and bound rates still frequently differ br large amounts Thus, when considenng quantitative estimates of the effects of the Uruguay Round. it is important to ascertain what basis was used in estimating protection both with and without the Round So how long is the piece of rope' At least in agriculture, the length is in part in the e)e of the beholder The other two models treat agriculture and industry more symmetrically and in their simple forms also find rather modest effects--roughly a $50 billion gain if the agreement were applied in the 1992 world economy. The BANK model suggests that agricultural liberalization accounts for a little over half of the benefit of the Round and the abolition of the MFA for an eighth. This model predicts some developing country losses as the rents created by the MFA are eliminated. But to the extent that the MFA rents accrue partly to Global Economic Prospects and the Developing Countries: Chapter 2 Page 42 importers in industrial countries and the developing countries dissipate part of what they receive through rent-seeking, there is less rent to lose and these negative effects will be reversed. The BANK model also contains smaller elasticities of demand for traded goods than the GATT model, which causes it to be less bullish about how much the developing countries can offset the loss of rents by increases in sales. Overall gains are smaller than earlier estimates, but still significant Table 2-2 Estimates of the benefits of the Uruguay Round trade liberalization based on various models ($billion 1992 prices) Increase in welfare Industrial Developing Model/Variant Year World countries countries RUNS (OECD/World Bank: Goldin and van der Mensbrugghe 1995) Full employment 2002 48 32 16 Unemployment/domestic support reductions 235 179 56 BANK (Harrison, Rutherford, and Tarr 1995) Static/constant returns/perfect competition 1992 52 47 4 Static/increasing returns/imperfect competition 53 48 5 Induced investment/increasing returns/imperfect competitionb 188 126 62 GATT (Francois, MacDonald, and Nordstrom 1995) Static/constant returns/perfect competition 1992 51 39 12 Static/increasing returns/imperfect competition 115 52 63 Induced investment/increasing returns/ imperfect competitionb 251 114 137 Notes: a Including Hong Kong and Singapore. b Change in income, not welfare. Sources: Goldin, van der Mensbrugghe 1995; Francois, MacDonald, Nordstrom 1995; and Harrison, Rutherford, Tarr 1995. Estimates reported in Table 2-2 incorporate two modifications to these basic results: the introduction of product differentiation and economies of scale, and allowance for capital accumulation over the medium to long term. Associated with these changes is also the greater flexibility (higher elasticities) in the functioning of economies over the medium to long term. The GATT model stresses the product differentiation aspect of imperfect competition and finds that the Round significantly increases available variety: this is of direct benefit to consumers, but it also benefits firms as they can now choose from a wider, more specialized set of inputs. This effect is particularly marked in developing countries. The BANK model stresses the market power aspects of imperfect competition. Trade liberalization makes markets more competitive, forcing firms to reduce their margins and either to cease production or to increase efficiency by raising their output. Global Economic Prospects and the Developing Countries: Chapter 2 Page 43 The effects discussed so far are static: they refer to once-and-for-all improvements in resource allocation and efficiency rather than to processes operating through time. Economists have long felt that the dynamic gains to liberalization, acting through improved growth rates, are likely to be greater, but they are difficult to quantify. One second-round effect that is easier to quantify, however, arises from the fact that, by increasing efficiency, trade liberalization increases the incentive to invest. The resulting induced investment further increases the income gain from trade liberalization as the investment starts to pay off. But because this additional income gain depends on the income being invested rather than consumed, it is not equivalent to an increase in welfare, as the first-round income gain is.4 The induced investment effect roughly doubles the estimated income effects of the Round. This is plain in Table 2-2 for the GATT model, but for the BANK model it is augmented by the equally strong effect of increasing the economy's flexibility as we move from the medium to the long term. Indeed, the latter effect dominates for developing countries because the higher elasticities greatly increase the estimated longer-term gains from abolishing the quantitative restrictions inherent in the MFA. No estimate of the effects of something as complex as the Uruguay Round can be precise. Our best guess is that, for the simple effects quantified, the total benefits lie somewhere between the BANK and the GATT estimates in Table 2-2. Thus, on a 1992 base, income effects of, say, $200 billion (about 0.9 percent of GDP), and welfare effects of about half to two thirds that much, look reasonable.s About a third of these gains accrue to developing countries, equivalent to about 1.3 percent of their GDP. These figures, of course, are underestimates once all the unquantifiable effects are allowed for, such as services, intellectual property, security of market access, disputes settlement, and genuine dynamics, but we do not know by how much. Sharing the gains from the Round The various model builders have also calculated the expected benefits from the Round for individual or groups of developing countries. These are likely to be even less precise than the aggregates just quoted and it seems premature to place much reliance on them. Coupled with other information, however, the models do seem to suggest certain features that will underlie the distribution of the gains from the Round. The gains from the Uruguay Round will not be evenly spread because the degree of liberalization achieved varies across regions: in trade policy what you do to yourself matters more than what others do to you. Thus, industrial countries, which achieved some liberalization in virtually every area of the economy, are expected to be the major beneficiaries absolutely. Developing countries offering significant liberalization, as in East and South Asia, should also gain substantially, but the gains are modest (or in some estimates even negative) for countries offering only minimal cuts in protection, as in Sub- Saharan Africa. Global Economic Prospects and the Developing Countries: Chapter 2 Page 44 Among developing countries the largest liberalization will occur in "other manufactures," and in this area every region can expect to gain. However, in the two other categories- agriculture and textiles and clothing-the picture is more mixed because the benefits of developing countries' (mostly minor) liberalization of their own trade need to be balanced against the negative effects of adverse movements in their terms of trade. In agriculture the liberalization effect should dominate in Latin America and much of Asia, but the increased cost of food imports is likely to be important in Africa, China, Europe, and the Middle East. In textiles and clothing, nearly all developing countries will suffer some loss of rents due to the elimination of the MFA, but in Asia, the region apparently best able to expand exports to the restricted markets, the positive sales effect should be stronger. This supply response is the key to gaining from the Round. By liberalizing their own trade, passing price changes through to their producers, and pursuing flexible economic policies at home, developing countries will be able to exploit the market access advantages offered by the industrial countries and reap the benefits of the induced investment. Overall, the analysis suggests substantial gains to developing countries as a group, and to the major developing country regions. Although the uncertainties in model results are large for particular regions, and especially for regions such as Africa where the data are sparse, for most developing country regions all of the available models predict gains from the Round. Only for Africa is there a divided assessment, with the RUNS model and the BANK model suggesting small losses and the GATT model suggesting a moderate gain. It needs to be reemphasized that this analysis attempts to capture gains from trade liberalization only, leaving out potential gains from other aspects of the Round, such as improved security of market access, which may be sizable. Some developing country concerns Preference erosion One of the major worries expressed about the Uruguay Round by low-income countries was the erosion of their margins of preference in industrial country markets. The principal mechanism for granting developing countries such preferences is the Generalized System of Preferences (GSP) afforded by most industrial to most developing economies. The European Union supplements the GSP by the Lom6 Convention, which gives 68 African, Caribbean, and Pacific developing countries more preferential access, and by various Association Agreements, which offer even better access to Mediterranean and European partners. The benefits of the GSP are widespread but shallow. GSP schemes impose tight rules of origin, exclude certain critical sectors from preferences (especially foods and textiles), constrain other sectors by quotas that limit the preferences to certain quantities, and are unilateral concessions that may be withdrawn at any time. They are insufficiently secure to allow exporters to build an export strategy on them. In 1992 less than a quarter of beneficiary countries' total exports to donor countries benefited from the GSP (Page and Davenport 1994). The bulk of the benefit accrues to a small number of countries. Global Economic Prospects and the Developing Countries: Chapter 2 Page 45 Langhammer and Sapir (1987) suggested that three-quarters of the trade generated by the U.S. scheme accrued to Hong Kong, Korea, and Taiwan (China), which are now excluded from the scheme. Laird and Sapir (1987) estimate that the GSP increased developing countries' exports to donor countries by $4.6 billion in 1983 (excluding textiles and clothing), equivalent to 3.8 percent of the donor countries' dutiable imports or about 2.0 percent of their total imports from beneficiary countries. Most of these trade effects are considered trade creation (preferred imports replacing domestic sales) rather than trade diversion (replacing imports from elsewhere). Data are not yet available that would allow an assessment of the consequences of the Uruguay Round for the trade effects of the GSP, but it is clear that the overall consequences will be small.6 Even assuming that a 30 percent cut in average tariffs (the average cut on goods exported by developing countries) translates into a 50 percent cut in margins of preference and that half of the trade effect is trade diversion, preference erosion from the Uruguay Round will reduce developing country exports by only perhaps 0.5 percent. The bulk of these effects will be felt by the group of more advanced developing countries in Asia and Latin America because of their size and the commodity composition of their exports, and for these countries the effects will be more than offset by IFN tariff cuts and other liberalization under the Round. Moreover, preference erosion could also lead to an increase in developing countries' exports: as MFN tariffs fall, some of the preferential advantages that industrial countries grant to each other are eroded-to the advantage of developing country exporters. One group of particular interest is the 47 least developed countries which generally receive unrestricted duty-free access to industrial country markets under the GSP. If we assume that all exports eligible for preferences actually receive them (which is not the case because bureaucratic barriers, e.g., the need for certificates of origin, frequently exclude trade from the preferential class), we can equate preferential access with these countries' total exports and preference margins with MFN tariffs. That means that we can analyze the trade effects of the Round with data currently available. Lal (1994) makes some simple market-by-market estimates of the extent of preferences --GSP and Lom6-that the least developed countries receive in Japan, the European Union, and the United States. (In 1990-92, about two-thirds of these countries' exports went to these three markets.) Using these countries' export structure for 1988 and 1988 prices, he notes first that, since these countries export mostly goods with relatively low MFN tariffs, preference margins offer, at most, only a 3 to 4 percent price advantage relative to other suppliers. In fact, in the EU, the principal preferential market, roughly 20 percent of the export lines of each of the least developed countries face MFN tariffs of zero, so that preferences cannot exist. Lal then estimates the impact of the Uruguay Round agreements on the exports of the least developed countries to the three markets (Table 2-3). If we take account of both the Global Economic Prospects and the Developing Countries: Chapter 2 Page 46 trade losses as trade diversion is undone and the gains from trade creation as the MFN tariffs faced by these exporters are reduced, the least developed countries as a group would lose about $6.3 million worth of exports in the EU and $3.4 million in Japan but gain about $52 million in the United States. The resulting net gain of $42.3 million equals 0.44 percent of their total exports. The reason for the gain is that textiles and clothing receive no preferences in the United States, so that these countries' exports benefit only from the reduction in MFN tariffs. This effect is largest for Bangladesh (whose exports would rise by about $30 million) and Haiti ($11 million), two of the group's principal clothing exporters to the United States. But they may have to wait some years before they can reap these benefits because their exports to the United States are now subject to restrictions under the MFA. Other countries have less advantageous commodity and market mixes. For example, Zambia could suffer net export losses of $3.9 million (mostly metal exports to Japan) and Mauritania losses of about $3.1 million (mostly fish to Japan). Losses from preference erosion are small, and they are outweighed by gains Table 2-3 Effects of Uruguay Round tariff changes on exports of least developed countries to selected markets United States European Union Japan Total Least developed $ million % of total $ million % of total $ million % of total $ million % of total countries in: exports exports exports exports Asia 36.41 6.41 -0.82 -0.10 2.14 1.40 38.43 2.37 Africa 4.21 0.38 -5.47 -0.10 -6.45 -0.64 -7.71 -0.10 Other 11.40 2.79 0.01 0.02 0.17 0.51 11.59 2.19 Total 52.03 2.51 -6.28 -0.10 -3.44 -0.28 42.31 0.44 Source: Lal 1994. Calculations such as these are necessarily approximate, but they certainly suggest that preference erosion is not a major issue for the least developed countries' exports of industrial goods. The losses are real, of course, though small, but they should be easily offset through small improvements in domestic efficiency. For example, in many cases, making customs more efficient or reducing tariffs on imported inputs would be sufficient to make up the price advantages lost through preference erosion. Impact on net food importers The industrial countries' vigorous intervention in agricultural markets tends to reduce world prices of agricultural products, especially food. Both import protection and export subsidies tend to increase industrial countries' agricultural output and to reduce their excess demand for food on world markets. It follows that, to the extent that the Uruguay Round reduces the breadth and depth of these interventions, it will increase world food prices. This will be to the benefit of net food exporters, actual and potential, and it explains why exporters pressed so strongly for agricultural liberalization in the Round. Correspondingly, however, an increase in food prices imposes a cost on countries that import food. This was a major expressed concern of poor food-deficit countries-especially in Africa-which feared that this effect could outweigh their gains Global Economic Prospects and the Developing Countries: Chapter 2 Page 47 from negotiations. In recognition of their concerns, food aid was exempted from the cuts in export subsidies. Since the agricultural liberalization actually achieved by the Round is relatively limited, price changes ranging only from -1 to 4 percent are expected for major food groups (Table 2-4).8 As a consequence, changes in world food prices resulting from liberalization are expected to have only a very minor impact on the welfare of developing countries. Even for net importers of commodities such as wheat, whose price is expected to rise, there are several reasons why the impact of the price change is likely to be less than would be implied by simply applying the price change to current trade volumes. Food prices will not rise by much Table 2-4 Change in agricultural prices from benchmark levels due to agricultural liberalization, 2002 (percent) Wheat 3.8 Vegetable oils -0.2 Rice -0.9 Dairy 1.2 Coarse grains 2.3 Other food products -1.4 Sugar 1.8 Beef, veal, and mutton 6 Wool -0.9 Other meats -0.6 Cotton -1.2 Other agriculture 0.8 Coffee -1.5 Cocoa -0.7 Tea -1.4 Source: Goldin and van der Mensbrugghe 1995. First, faced with price changes, economic agents adjust their behavior, and so we would expect some reduction in net food imports, which would reduce (or eliminate if the country becomes a net exporter at the new price) the apparent cost of the price increase. This is particularly likely to be true if governments passed on the changes in world prices to farmers and consumers: doing so would both increase local output-of substitute goods if not of the products actually imported-and switch consumption to cheaper substitutes. Second, many poor countries import food partly because of inappropriate policies-taxes on output or subsidies to consumption and imports. In these countries, if higher world food prices affect behavior, they will reduce the burden of these distortions-may be enough to more than offset the extra cost of imports. For example, higher production would boost tax revenue, and lower imports would cut subsidy costs. More important, if higher food prices encourage governments to reform these policies, there will be yet further gains; indeed, if this occurs some net food importers could change into net exporters and thus benefit directly from higher world prices. Third, food aid is exempt from the cuts in industrial countries' export subsidies, so concessional and emergency food imports will not be subject to price increases. Whether Global Economic Prospects and the Developing Countries: Chapter 2 Page 48 the Round will affect the volume (and thus the explicit or implicit price) of food aid is now unclear. If industrial countries' food surpluses fall, less food would be available for transfer to developing countries, but since subsidies to commercial exports must fall, there will be stronger incentives to dispose of surpluses through food aid. Even the small degree of agricultural liberalization achieved will inevitably have a negative impact on some developing countries, but analysis suggests that it will be small (and, since liberalization takes up to six years, slow to arrive). Such impacts can easily be outweighed by mild domestic policy reforms designed to improve agricultural efficiency and by other aspects of the Round. Indeed, it is in the nature of negotiations to balance gains in one area against losses in another, so it is not even particularly helpful to focus solely on food price effects. Challenges beyond the Round Only time will tell whether the Uruguay Round is a great leap forward for the liberal world trading order. Ensuring that the actions agreed to are implemented will be important. Countries retain many elements of discretion in their trade policies. The new rules and dispute settlement procedures improve on the old system, but they cannot prevent a slide into protectionism if that is what domestic political pressures demand. Moreover, despite the notable progress achieved in the Round, a substantial unfinished agenda remains in all the areas that it tackled. This agenda includes further reform in the new areas that the Round has brought under multilateral discipline-agriculture and services-more liberalization in manufacturing where protection remains relatively high-for example, in textiles and clothing-and further improvements in market security by establishing stricter discipline on the use of antidumping measures. Beyond effective implementation of and follow-up on trade liberalization agreed to in the Round, at least three sets of challenges seem likely to arise for the world trading system over the next few years. The first is regionalism. Since the Uruguay Round negotiations were completed, two major initiatives to create free trade areas have been announced-the Asia Pacific Economic Co-operation (APEC) in Bogor and the Western Hemisphere Free Trade Announcement in Miami. These arrangements appear likely to be fairly open; indeed APEC explicitly allows countries to extend concessions offered within the group to nonmembers. It will be necessary, however, to be vigilant to ensure that these blocs do not turn against nonmember trade as the pressures to adjust to freer trade grow. Vigilance will be even more necessary to ensure that the creation and enlargement of more deeply integrated blocs is not at the expense of the rest of the world. Prominent here will be the admission of Chile to NAFTA, the Association Agreements in Europe and the possible accession of Eastern Europe to the EU, Mercosur in Latin America, and the Cross Border Initiative in Africa. Despite some clarification of the GATT rules for regional blocs, the WTO has no additional powers to discipline such groups. The second challenge on the horizon is the interaction of environmental concerns with the trading system. The Uruguay Round agreement established a committee to explore some Global Economic Prospects and the Developing Countries: Chapter 2 Page 49 of the issues at stake and to report to the first ministerial meeting of the WTO in 1996. There are important interactions between trade and the environment (Box 2-3). The appropriate tools for environmental protection operate predominantly on production or consumption as a whole, however, not just those parts that are traded internationally. It is, after all, not trade but production or consumption that creates pollution or exhausts resources. The challenge for the world community will be to ensure environmental protection while eschewing environmental protectionism-to preserve the huge benefits that a liberal world trading order has brought over half a century while preserving the environment for future generations. Meeting this challenge will require strengthening WTO disciplines, not relaxing them. The final challenge we note is the issue of labor standards. Preventing the gross violation of human rights or the extreme exploitation of child labor in other countries may well be legitimate goals for foreign policy. Just as for environmental issues, however, trade policies generally are not the appropriate tools for tackling such labor issues. Restricting imports produced under unacceptable standards will not help the victims directly-indeed, it will often worsen their plight-and there are other ways to give indirect help. Thus, it is important to keep the desire to impose higher labor standards on the rest of the world separate from the desire of certain parts of an economy to avoid adjusting to import competition. To mix these impulses would be to give import-competing interests a potent public relations tool with which to frustrate changes in comparative advantage around the world. Box 2-3 Good trade policy can be good also for the environment The UruguaN Round explicitly acknow%ledges the need for sustainable de%elopment and for institutionalizing enuironmental protection The preamble to the WTO agreement allows for "the optimal use of the w%orld's resources in accordance w%ith the objecti%e of sustainable development. seeking both to protect and preserve the environment and enhance the means for doing so in a manner consistent with (the) needs and concerns at different le%els of economuc de%elopment." The operational implications of this statement are to be explored by the WTO's Committee on Trade and Environment Interactions between trade and the en% ironment will be an important issue for the WTO In principle, the signatories agree that there should not (and need not) be a conflict between an open and equitable trading system and en%ironmental protecuon. What are the main interactions and issues? Trade and enironment In general. environmental problems stem from policit distortions (e.g., subsidies, tariffs. quantuative restrictions) and markei failures (e g . externalities, unclear property rights). In examining the environmental implicaLions of trade policies, key questions to ask are- Do the policies reduce or increase economic distortions' Do they mitigate the problem of market failure? Since trade liberalization reduces economic distortions and promotes efficiency, it is generall. good for the environment But in the presence of market failures or policy distortions increased trade may aggravate environmental problems The correct response is not to avoid trade reform, however, but to introduce complementary measures that will correct the market failure or policy distortion that is causing the environmental damage (Munasinghe and Cruz 1994). Trade liberalization leads to an increase in the scale of economic actnL%ty as efficiency gains are realized The resulting higher inconies in poor countries can lead to environmental benefits in at least two ways- through desire for better enironmental policies (since demand for en%ironmental quality is income elastic, at least above a threshold level of income). and through a lower rate of population growth, which Global Economic Prospects and the Developing Countries: Chapter 2 Page 50 reduces the stress on natural resources. In addition to this scale effect, other changes with potential environmental implications mail occur in the composition of output, the production techniques used, and in the location of economuc activity. Enwronment and trade. In examining the impact of environmental policies on trade, one issue is whether environmental regulations place a country at a disadvantage relative to others with weaker regulations. This issue has several variants In one, it is referred to as "environmental dumping", i.e., countries with lax environmental policies have lower costs of production and, therefore, an unfair trade advantage In another, it is known as the "pollution haven" hypothesis, i e., firms relocate in countries with weaker environmental standards Most studies show that. except in a few industries, the costs of pollution control are a small fraction of total production costs. Thus, stronger environmental regulations may not lead to reduced trade competitiveness. And countries that adapt early to improved environmental regulations will have a competitive advantage in the future as environmental controls progressively tighten worldwide. Similarly, evidence does not support the pollution haven hypothesis (Tobey 1990. Birdsall and Wheeler 1992). On the contrary, open economies, by attracting foreign industrial partners, promote the adoption of cleaner technologies and better pollution standards. A second issue is how a country should respond to emironmental dumping or pollution havens and whether trade restrictions are the optimal way to "level" the environmental playing field. Trade measures typically are not the first-best instruments for achieving environmental objectives. Their use in lieu of more efficient instruments that target environmental issues more directly unnecessarily reduces global economic welfare and may even exacerbate global environmental degradation. For example, a proposed ban on the import of tropical hardwood logs bN European countries led to a preemptive Indonesian ban on log exports. But felling continued. reducing domestic log prices and generating huge subsidies for Indonesian timber-based industries. Low timber prices led to the use of less of each tree. Moreover, the environment may simplN be an excuse to erect trade barriers Actions of this kind invite retaliation and can threaten the entire trading system. An important corollary is that rigid standardization of environmental regulations across countries would be counterproducuve Some harmonization of regulations may be useful, however, especiall) among trading partners, and if transnational environmental externalities are present (e g., acid rain, ozone layer destruction, global warming). These data cover the 26 developing country participants in the GATT's Integrated Database (IDB). Figures on the scope of commitments are not available for the remaining 67 developing country participants in the Uruguay Round. The incomplete coverage of developing countries in the IDB could have a substantial effect on estimates of the percentage of tariff lines bound by developing economies since the 26 participants for which data are available account for less than one-third of the total tariff lines of developing economies; it has less effect on estimates of the coverage of bindings based on import values, however, since the 26 participants account for roughly 80 percent of the total merchandise imports of developing economy participants in the Uruguay Round. 2 These rules pertaining to the calculation of post Uruguay Round tariffs were laid out in negotiating documents, not in the agreement itself. The legally binding tariffs and reductions in them were set out in the schedules of concessions appended to the agreement and only these have legal force. Hence "dirty tariffication" is not illegal; it is merely a gap between actuality and the rhetoric of the Round. 3 Why have several models? First, different economists represent the world differently and, since there is no perfect representation, it is important to see whether estimates of the effects of the Round are sensitive to these differences. Second, different models stress different features, and because the benefits of international trade depend on differences between countries, models tend to find the greatest effects where they have most detail. For particular purposes, it is valuable to have a model which focuses on the issue at hand. For a more general assessment, it is useful to be able to average across models. 4 See Chapter 4 for more discussion of potential second-round income gains from trade integration. Global Economic Prospects and the Developing Countries: Chapter 2 Page 51 This figure is well below the GATT's much-quoted figure of $510 billion from October 1994. The figures differ by so much largely because the GATT estimate is based on the world economy in 2005, which is estimated to be some 60 percent larger than the economy in 1992, but also because the degree of agricultural liberalization has been scaled back from estimates available earlier. 6 The data required cover the preferential tariff rates along with estimates of actual trade entering at preferential rates and, ideally, the quantitative limits of preferential access. This observation prompts a cautionary note on measuring preference erosion. The standard approach of reporting the percentage decrease in the margin of preference is quite misleading. For an exporter with duty-free access, a reduction in an MFN tariff from 10 percent to 5 percent is a 50 percent erosion of preference, while one from 1 percent to 0 percent is a 100 percent erosion, even though the first causes a loss of price advantage (5 percent) five times larger than the second (1 percent). The most useful metric is the loss of price advantage as a percentage of the initial price, which in nearly all cases is rather small. 8 The prices of tropical and nonfood items decline because, having already been largely free from protection at the start of the Round, these products suffer from falling demand as liberalized products become relatively cheaper in industrial countries and from increasing supply as those products become relatively cheaper in developing countries. Global Economic Prospects and the Developing Countries: Chapter 2 Page 52 3. More to Trade: the Internationalization of Services Overview Not only are the markets for trade widening, as reviewed in the preceding chapter, but more is becoming internationally tradable. In both trade and foreign direct investment (FDI), services are the fastest-growing component. Services now account for close to one-quarter of world trade and three-fifths of FDI flows. The internationalization of services will likely lead the next stage of economic globalization. This outlook and its implications for developing countries are the subject of this chapter. Key points of the discussion are: * The boundaries of tradability are fast expanding. Many services considered nontradable only a few years ago are now being traded actively. Rapid advances in telecommunications and information technology (IT)' are a central force underlying this change, complemented by deregulation of service industries and liberalization of foreign trade and investment regimes. For developing countries, the growing internationalization of services is creating opportunities for developing new exports and attracting more FDI, and is expanding the range of producer services and technical know-how that they can import. * By rendering more activities in industrial countries contestable, technological progress has created major new opportunities for long-distance service exports from developing countries-an estimated potential that could possibly double their commercial service exports, now running at about $180 billion. * With these opportunities comes the challenge of improving efficiency in the provision of services. This is necessary not only to capture the new export opportunities, but also because access to efficient services will be an increasingly important determinant of the competitiveness of the whole economy, reflecting the rising service intensity of production in general. * Adopting a liberal trade and investment regime will be essential for countries to maximize benefits from the internationalization of services. A supportive physical and human infrastructure is also important, especially the development of telecommunications and IT networks and related skills upgrading needed to take advantage of export possibilities in the fast-growing IT-intensive services. The General Agreement on Trade in Services (GATS) marks a major achievement in establishing a framework for multilateral liberalization, but much remains to be done. The declining costs of IT create opportunities for developing countries to leapfrog stages of technological development and explore new avenues of comparative advantage. Countries able to exploit these opportunities will find that the internationalization of services is fostering economic convergence with high-income countries. In contrast, countries that fail to establish conditions conducive to efficient provision of services run the risk of falling further behind. Global Economic Prospects and the Developing Countries: Chapter 3 Page 53 The services revolution Advances in technology, especially IT, are revolutionizing the image of services. Until recently, it was common to view the services sector as a collection of mainly nontradable activities with low productivity growth potential. Its expansion in developed economies has often been attributed to the perverse side effects of deindustrialization, and in developing countries, to the growth of the informal sector, chaotic urbanization, and a swelling public sector. Overall, the growth of services has tended to be perceived at best as a by-product of developments in the primary and secondary sectors, and at worst as a drag on the prospects for long-term economic growth. This conventional view of services is fast changing. As computer and communications technology transforms the image of services, and as awareness grows of the importance of efficient producer services to any competitive economy, the development of certain services is coming to be regarded not as a consequence of economic growth but as one of its preconditions. Services comprise a wide array of economic activities. The main thrusts of the "services revolution" are the rapid expansion of knowledge-based services (typically producer services) and the growing tradability of services. It is the knowledge-based services (such as professional and technical services, information technology services, banking and insurance, modem health care, and education) that constitute the dynamic edge of the services economy today. These services, especially the IT-based services, defy the stereotyped view of services (derived from traditional personal, social, and distributive services) as activities with low capital intensity-physical and human-and low productivity growth. In fact, service industries have been the main investors in IT. In the United States, for example, these industries accounted for an estimated 85 percent of the total investment in IT hardware over the past ten years (NRC 1994). Changing boundaries of tradability Services are often characterized as the textbook example of nontradables (e.g., a haircut). However, technological innovation has expanded the opportunities for services to be embodied in goods that are traded internationally-software in diskettes, films in video-tapes, and music in compact disks. Another important driving force behind the internationalization of services is the expansion of electronic networks (Box 3-1) and the new possibilities for trade in long-distance services associated with these networks. Progress in IT is making it increasingly possible to unbundle the production and consumption of information-intensive service activities. These activities-research and development, computing, inventory management, quality control, accounting, personnel administration, secretarial, marketing, advertising, distribution, and legal services-are performed in all economic sectors. They play a fundamental role not only in service industries, but also in manufacturing or primary industries. In the United States, for example, as much as 65 to 75 percent of employment in manufacturing may be associated with service activities (Quinn 1992). With progress in IT, outsourcing of these activities has become feasible. And as communication costs fall, the potential for international outsourcing grows. Global Economic Prospects and the Developing Countries: Chapter 3 Page 54 Box 3-1 Information technology: the cufting edge of the services revolution The costs of informaion processing and long-distance telecommurucalions ha%e declined dramatically (inset charts) The real pnce of microcomputers, for example, fell at an a%erage annual rate of 28 percent between 1982 and 1988 (Berndt and Griliches 1993) At the same time. the qualitN of ser% ices deliwered by information technolog- applications has impro%ed significantl1 In the United States, for example, a %oice-image hookup for a one-hour coast-to-coast teleconference cost approximately the same in 1994 as a coast-to-coast phone call of four minutes cost in 1915 Mayo 1994) The con%ergence of computer and communication technologies is promoting the development of computer- mediated (or electroruc) netmorks. These neiorks are formed by sNsiems of computers and communication hardw%are, and softfiare that allo%%s users to communicate and transmit data and other t-pes of information As digital switches (i e.. computers) replace electromechanical switches and integrated serxices digital networks (ISDNs) emerge, the technical feasibilit) of ne%% %alue-added ser% ices expands at a fast pace Falling prices for hardw%are and software generate a posite feedback effect because the demand for netw%ork ser% ices is affected not onlN by pnces. but also bN the expected size of the network In other w%ords. in the absence of congestion costs. the appeal for outsiders to join a netA%ork increases as its size grow%s This process of expansion is expected to accelerate as the cost of communication band%%idth (i e.. the capacity to ransnut more bits of information simultaneously falls by a factor of tw%o per year tBaruch 1994) Moreo%er. the cost of communication is also becoming independent of distance. and net%orks are becoming more international Transnantonal corporations, for example, are acti%ely building international dedicated networks to address their communication needs But the most dramatic example in this area is pro% ided bN Internet. Internet (or the "net") is a netmork of netmorks that had its ongins in the United States in the late 1960s. Its birth was related to attempts to establish a communications system that could sur ive a nuclear w%ar Access to Internet was onginally limited to the research communiy in unersities and to defense contractors. but entry was opened to individuals in 1986 Since then, growth has been explosive (traffic is gro%%ing at a rate of approximately 20 percent per month). and international links hale proliferated. The inset map show%s the international expansion of Internet in the 1990s By mid-1994 there %%ere more than 2 million computers registered in the net around the globe. more than 700.000 of which w%ere located outside the United States (AlacKie-Mason and Varian 1994) The system still is pnmani% a conduit for communication and data exchange among researchers Corporations. ho%%e%er. are rapidly disco%ering Internet companies registered in the net rose from 100 in 1990 to nearl 20,000 b nud-199-4 They use the net not onl1 for e-mail and file transfer, but also for ad%enising (online press releases. multimedia clips. etc.), research. and customer support The National Semiconductor Corporation, for example. is using Internet to create a truly global laboratory The company operates integrated circwt design laboratories in Santa Clara. California. and in Tel A%i% and Tok-No. It uses its global net%ork of computers to expedite simulaion-a time-consuming but cntical task in circuit designs At the end of a day. researchers in Santa Clara hand off simulation analysis to their colleagues in Tel AW who in turn after a full da.N of w%ork pass it on to researchers in Tokyo. By the beginung of the next day. the results of simulation and further responsibility come back to the Santa Clara staff Thus. the netv,ork is used to conduct research around the w%orld and around the clock In this wa'%. the net is contributing both to the emergence of a worldwide communitN of infornation and to the process of economic globalization Box 3-1 continued Global Economic Prospects and the Developing Countries: Chapter 3 Page 55 〕〕．俗 Service activities involving the manipulation of symbols (collection, processing, and dissemination of information) are the archetypal information-intensive activities. Development of computer software, new financial products or chemical processes, analysis of income statements, and data entry are examples of activities that fall in this category and that are prime candidates for long- distance provision. The impact of IT on services tradability is not limited to the increasing feasibility of long-distance provision, however. The introduction of new products (e.g., financial derivatives) and expansion of access to market information (e.g., computer reservation systems for airlines) have been greatly facilitated by IT. Even services in which consumer-provider interaction has traditionally been high (e.g., education and health) are now amenable to disaggregation and eventually cross-border trade. Advances in computer-mediated technology (including online access to information, two-way student-teacher communication, multimedia systems), for example, are facilitating long-distance education (Boh 1994). Teleconferencing, using satellite links for contacts between medical colleges and physicians in remote areas, is becoming a popular means of continuing education. And telemedicine is becoming a reality with Integrated Services Digital Networks, which allow the transmission, for example, of ultrasound scans for evaluation by specialists in better-equipped hospitals. The Memorial University of Newfoundland, Canada, has held a series of teleconferences on nutrition, immune response, hepatitis, and emergency pediatric medicine for physicians in Kenya and Uganda. Health practitioners in developing countries and their counterparts in North America are using international networks, such as HealthNet, to exchange information. The Global Health Network (GHnet) is establishing a "university" based on the Internet offering public health improvement services on a global scale (LaPorte et al. 1994). Experiments in North-South telemedicine are being attempted, as illustrated by the recently established international link between Saudi Arabia and the radiology and pathology department of the Massachusetts General Hospital (Houlder 1994). Rapid growth of trade in services International trade in services is, of course, not a new phenomenon: transportation, travel, and insurance, for example, have long been important traded activities. What is new is the rapid expansion of international service transactions over the last decade or so and the advent of new modes of supply, as in the case of services transmitted over electronic networks. Services statistics have many deficiencies (Box 3-2), but it is clear that trade in commercial services has grown faster than trade in merchandise over the last decade (Table 3-1). Commercial services encompass transport (shipment and other transportation services), travel, and "other private services," with the last category comprising finance and brokerage, communications, nonmerchandise insurance, leasing and rental of equipment, technical and professional services, and income generated by the temporary movement of labor and property income. Long-distance services are typically recorded under "other private services." Average annual growth in trade in commercial services over 1980-93 was 7.7 percent, compared with 4.9 percent for merchandise trade (in nominal terms). Global Economic Prospects and the Developing Countries: Chapter 3 Page 57 Services account for a rising share of world trade Table 3-1 World trade in services 1980 1985 1990 1992 1993 Trade in commercial services ($billion) 358.0 379.6 790.8 936.1 933.7 OECDa 283.3 298.5 648.2 764.9 752.0 Rest of the worldb 74.6 81.1 142.6 171.1 181.8 Share of services in total trade (%)c 17.0 18.2 20.4 21.9 22.2 OECD 18.8 19.3 21.2 22.7 23.1 Rest of the world 12.7 15.3 17.5 19.0 19.1 Note: Only countries reporting to the IMF were considered in preparing this table. a. Mexico is included in the rest of the world. b. Figures for the 1990s include estimates for some developing countries for which actual data for these years are unavailable. c. Total trade = merchandise trade + commercial services. Source: IMF Balance of Payments Box 3-2 Reported statistics seriously underestimate trade in senices Balance-of-payiments statistics. the main source of information for international trade in services, contain many weaknesses. Until recently, some large econormes (e.g., the former Soviet Union) did not report data on trade in services The le%el of disaggregation is limited and varies significantly across countries, and there are tnconsistencies in the methodologies used to report certain items (countries do not report exactly the same items, for example, under "port serices") Moreover, net recording is a common practice for some items (e.g., insurance transactions are often recorded as prernums less claims). All of these factors contribute to generate a downward bias in the value of the services trade reported in the balance of payments Efforts are being made to improve the coverage. quality, and consistency of the data. OECD and Eurostat, for example. are working together to improve the collection of statistics on trade in services in member countries The IMF is engaged in the implementation of the new classification of trade in services introduced in the fifth edition of the IMF's Balance of Payments Manual (IMF 1993). As countries adopt tis new reporting system, an improved statistical picture should emerge Unfortunately, this picture will remain at best partial. gi%en the difficulties in capturing all the dimensions of internauonal trade in services Cross-border intrafirm service transacuons are increasing at a fast pace as foreign direct investment expands and electroic networks become pervasive Intrafirm financial and technical advice, for example, is increasingly exchanged internationally. but it is not captured by conventional balance-of-payments statistics. This includes the use of mainframe computers around the clock by transnational corporations exploiung time-zone differences between the home country and the host countries of the affiliates for data processing and other activities (eg , software development). Another important dimension of services trade not captured by conventional balance-of-payments staustics is establshment trade-sales in the host country by foreign affiliates Sources: GATT (1989) and Goldfinger (1994). Global Economic Prospects and the Developing Countries: Chapter 3 Page 58 Non-traditional service exports are rising in importance The share of commercial services Fgur 3-1 Relatiw i"tance of main categoies of in global trade grew from connercial senices in wddtrade 17 percent in 1980 to more than 1000 22 percent in 1993. Within wo 9commercial services, "other private 700* 450. services" have been the most 42e E3 Ofh:r pival sevice T oo dynamic component. Trade in 500- 40 . 26v 1Trd other private services grew at an 300 [37% 9F 8. average annual rate of 9.5 percent 20 37% ov330.24OVer 1980-93. The share of this 100 - _ I e 1o I 2r. i0 category of services in total 1980 1985 1990 i commercial services trade Year increased from 37 percent in 1980 to 45 percent in 1993 (Figure 3-1). Source: IMF Balance of Payments. Foreign direct investment in services and "establishment trade" As in trade, services are the most dynamic component of FDI flows. Privatization and deregulation of service industries, together with liberalization of market access, have spurred FDI in services. Over the 1980s total inward FDI stock rose by 14 percent and 11 percent annually in high-income and developing countries, respectively; the corresponding figures for service industries were 17 percent and 14 percent. Data for the early 1990s for some high-income and developing countries show that service industries accounted for 50 to 60 percent of total FDI inflows (Figure 3-2). Strong complementarity exists between trade in services and FDI. As FDI increases, transactions in long-distance services (communications and information services, technical advice, etc.) and movements of service providers (intracorporate transferees) expand. Large FDI inflows are also reflected in growing establishment-trade (sales of foreign affiliates in the host country) in services. Although these transactions are not captured by balance-of-payments statistics (they do not involve exchanges between residents and nonresidents), they are an important mode of supply for many services, for which direct contact between producers and consumers remains important. Indeed, in the United States, establishment trade has become the main mode of international delivery of services: by 1992, sales of majority-owned affiliates of foreign companies in the United States were 21 percent larger than U.S. imports of services (they were 15 percent smaller in 1987). On the export side, sales of services to foreigners through majority-owned affiliates of U.S. companies abroad were equivalent to 85 percent of U.S. exports of services over 1986-92.2 Ratios of international to establishment trade in services, however, vary widely across industries, reflecting barriers to trade and establishment as well as the nature of the services in question. Global Economic Prospects and the Developing Countries: Chapter 3 Page 59 Services are a major recipient offoreign direct investment Demand for modern producer Figure 3-2 Cumulative foreign direct investment inflows sevce is g oin f aover by sctor 199-92services is growing fast all over the world. Regulatory barriers to entry in service industries are 3Terdary being reduced either through 350 Eunilateral reforms or reciprocal 300 negotiations. Developing C 13Ihm, countries increasingly are looking at FDI in services as an especially 200 powerful means of transferring 150 technical and managerial know- how. Moreover IT is increasing 10 economies of scale and scope in 50 oservice industries and, as a result, O -the appeal of transnationalization Selected developing c i-income to service firms. For many countries services (e.g., computer services, This information is available for the following countries: advertising) FDI will remain the High-income countries: Australia, Canada, Denmark, Finland, France, Germany, Greece, main mode of supplying foreign Ireland, Italy, Japan, Netherlands, Spain, Sweden, United Kingdom, and United States. markets This imlies that FDI Developing Countries: Argentina, Brazil, Korea, Mexico, Portugal, and Thailand. . mp Source: OECD (1994a, 1994b). and transnational corporations will continue to play a key role in the internationalization of services. Accordingly, FDI policies merit special attention. Transition from industrial to service economies Impetus to trade in services, and services-related FDI, will also come from the continuing transformation of rich countries from industry- to service-dominated economies. Services already are the largest sector in these countries. Between 1960 and 1993, the average share of services in the employment and GDP of industrial countries rose from 42 percent and 53 percent to 65 percent and 61 percent, respectively.' In the United States the services share in employment had risen to about 75 percent by 1993. The rising share of the services sector in the economy is being accompanied by notable changes within the sector. First, advances in technology, especially in IT, are imparting an increasingly dualistic character to the sector. The most dynamic service activities today are those that are intensive users of communication and information technology. Spurred by technological progress, these activities are experiencing high productivity growth. For example, total factor productivity (TFP) in transportation and communications in industrial countries rose at an annual rate of 2.4 percent during 1979-93, much higher than the 0.8 percent overall TFP growth rate over the same period. These dynamic service activities coexist with the traditional personal and government services that are characterized by low productivity growth: average TFP growth in personal and government services was negative over the same period. Second, technological progress is allowing increasing outsourcing of services. An important factor contributing to the rise in the relative size of the services sector is the increasing service Global Economic Prospects and the Developing Countries: Chapter 3 Page 60 intensity of manufacturing coupled with the outsourcing of more and more service inputs into production. Taking into account both demand- and supply-side factors, including differential sectoral productivity growth prospects, Wolff (1995) finds that the structural shift in industrial countries toward services will continue, but at a slower pace than in the last three decades. His analysis suggests a likely further rise in the average employment share of services in these countries to around 75 percent by 2010.4 The continuing structural shift toward services in rich countries has important implications for the structure of their trade with developing countries. As services grow further in relative importance in their economies, and the service intensity of their output increases, rich countries will experience a progressive shift in the structure of their exports to developing countries toward services and service-intensive goods (e.g., customized manufactured products that require continuous interaction between producers and consumers). The rising output share of services and the associated decline in the share of manufacturing in rich countries also imply a relative decline over time in their demand for imports of industrial raw materials from developing countries. For developing countries, these structural shifts imply increasing opportunities for export of traditional manufactures, as industrial countries vacate more room in the markets for these goods to imports from developing countries. The rising share of services in aggregate demand in industrial countries means that markets for some of developing countries' service exports, e.g., tourism, will also expand. At the same time, technological change is likely to expand opportunities for new service exports from developing countries, e.g., long-distance provision of relatively labor-intensive information and clerical services (see below). Thus, continued rapid growth of trade in services is likely. Opportunities for developing countries Why efficient provision of services matters There is growing awareness of the role producer services play in the development process. For example, transportation, communication, and distribution services are essential elements in the process of industrialization and productivity growth. Also, the quality of these and other producer services greatly influences the costs of doing business in an economy. With a rising service intensity of production, access to efficient producer services is becoming an increasingly important determinant of the competitiveness of the whole economy-of both goods- and services-producing industries. A major new dimension has been added by IT, which is not only expanding the scope for specialization in the production of related services (e.g., professional services), but is also increasing the international contestability of services. Together with declining communication costs, IT is opening up possibilities for developing countries both to develop new exports and to improve the access of domestic producers to efficient, state-of-the-art services through imports. Besides producer services, access to IT-based international services can help raise the quality of domestic social services, such as health and education and training. Global Economic Prospects and the Developing Countries: Chapter 3 Page 61 Efficient producer services are important to the pursuit of an outward-oriented strategy of development. In manufacturing, for example, access to global networks in communication and transportation is becoming a necessary condition for international competitiveness in products that are time sensitive (e.g., fashion clothing, electronic products). Efficient producer services allow firms to shorten product cycle time and to improve their responsiveness to customer demands. The newly industrializing economies in East Asia, for example, have been particularly successful in developing a modem infrastructure for producer services (Box 3-3). Box 3-3 Servicing competitiveness "Ship-and-forget" trade is becoming a thing of the past (Cooper 1988). To compete internationally. dynamic exporters increasingly rely on reduced product cycle times, prompt delivery. and improved customer services As a result, the service content of their final exports is increasing. Inno%ative senice providers are enhancing transportation and communication systems, generating what can be termed an advanced infrastructure. Availability of advanced infrastructures, in turn, is becoming a major criterion in the locational decisions of exporters. East Asian newly industrialized economies have been attentive to the de%elopment of advanced infrastructures In these economies, service providers are enhancing the effectiveness of local physical infrastructure by offering transport logistics systems (airlines or freight forwarders, door-to-door delivery, express pick up, cargo tracking, document processing, and customs clearance). terminal and facility operations (application of electronic data interchange to cargo movement, "intelligent" warehouse facilities), and value-added networks for exchange of information. Singapore has been particularly active in these efforts. Air express services are currently available with a "door-to- door break-bulk service which includes: separation and boxing, by store, at the point of manufacturing or consolidation, preparation of all the necessary accompanying documentation; cartage to the port of departure, air transport; customs clearance; delivery; and tracking and tracing of every individual package" (Reinfeld 1993). This type of service provides sigificant savings in time and in costs to Singapore exporters, compared w%ith conventional shipment. A case study in the electronics industry identified savings of seven days in terms of delivery time and about 15 percent in distribution costs per unit of product. Even in industries (e g., clothing) in which distribution costs are not significantly reduced by integrated transport logistic services. the benefits can be substantial in terms of the reduction in inventory investment that is allowed by shortened distribution time. The availability of electronic data interchange for customs clearance is another example of the impact of advanced infrastructures on trade. Since 1989 TradeNet links the shipping community to government agencies in Singapore, creating a paperless system of customs clearance that has allowed users not only to expedite the process, but also to improve the management of cargo movement. Average cargo clearing time now stands at approximately 30 minutes, compared with more than one day in the past. Electronic networks such as OrderLink in Singapore foster the adoption of just-in-time management strategies and permit closer relations between manufacturers and retailers, buyers, and supplicrs Companies using these networks cut down on paperwork while improving their ability to monitor sales trends and inventory investments. These examples illustrate how modern services can enhance the physical infrastructure and improve the competitiveness of firms. They corroborate the view that in time-sensitive industries, firms are either "quick" or "dead." Increasingly, access to enhanced transportation, information, and communication systems will affect the chances of success of exporters from developing countries. Source Mody and Reinfeld (1994) Dynamic comparative advantage As service industries rely increasingly on IT, they tend to become more dependent on capital and human capital inputs. This has led some analysts to suggest that developing countries cannot Global Economic Prospects and the Developing Countries: Chapter 3 Page 62 compete internationally in services and that liberalization policies would be of limited interest to them. This view is mistaken. Within IT-based services, those developing countries able to supply labor with requisite skills at lower cost already are carving out areas of comparative advantage, a process that will continue to evolve. Moreover, liberalization is not only about expanding particular exports; also important is its role in allowing domestic producers access to more efficient and a wider array of services on the world market, helping to improve the competitiveness of the economy more generally. High-income economies as a group are relatively specialized in exports of commercial services: these services have a larger weight in their total exports than is the case for the world as a whole. The same holds for transport, and for "other private services," such as finance, technical, and communication services. In the case of developing countries, the picture is more varied. But many developing countries have a revealed comparative advantage in services and are significant service exporters (e.g., Egypt, India, Malaysia, Mexico, and Thailand). Areas of their comparative advantage vary widely: Korea's success in the 1970s and 1980s in construction services is well known; Asian countries are major exporters of personal services; and many small developing countries are highly specialized in tourism. In the developing countries' traditional service export areas, there remains much scope for expansion. This certainly applies to tourism, which remains the largest single source of foreign exchange earnings from services for developing countries as a whole, but also to the other service exports of these countries mentioned above, especially if regulations on labor movement, through which some of these exports take place, are not unduly restrictive. Also, in some service areas where industrial countries are the dominant exporters, developing countries are beginning to make inroads, either by creating niches in industrial country markets or by supplying neighboring developing countries. Examples are the international success of East Asian airlines and hotel groups, Thai efforts to turn Bangkok into the financial and transport hub for Indochina, and Singapore's increasing role as the regional corporate headquarters and media base. What is more, the growing tradability of services is opening new areas of service exports for developing countries in relatively labor-intensive long-distance services, as discussed below. Long-distance services: an area of special promise Long-distance provision of services dates back several years, but its growth has accelerated in recent years as a result of advances in computer and communications technology. Data entry was one of the first service activities to be internationally outsourced. Pacific Data Services has been contracting data entry services from China since 1961 (Noble 1986). This type of activity requires only a low level of computer literacy and limited interaction between the customer and the supplier. The customer mails paper-based data forms, or electronically sends scanned images of data forms, to the foreign provider for processing. The supplier sends the computerized data back via telecommunication lines or by mailing magnetic tapes. Software programming is another activity that increasingly is being traded across borders, with subsidiaries or partners overseas entrusted with developing software that is transmitted electronically back to the parent or partner company. "Back-office" service activities are also being traded internationally. The arrangements involve overnight air shipment of the forms (e.g., Global Economic Prospects and the Developing Countries: Chapter 3 Page 63 insurance claims or tax forms) to be processed and online access to the parent company's computer systems. In manufacturing, service activities such as product design, logistics management, R&D, and customer service are being outsourced internationally (Box 3-4). How large is the potential market for long-distance services that can be captured by developing countries? Services that are good candidates for long-distance provision share the following characteristics: they are information-intensive, a characteristic that both makes them more amenable to long-distance provision using IT and gives developing countries a cost advantage because of the labor-intensity of information processing; they require limited direct contact with customers; and they do not involve the manipulation of physical objects (i.e., the movement, transformation, or creation of physical objects).' Applying these criteria to occupational categories in developed countries, the number of jobs that are vulnerable to disaggregation, i.e., for which long-distance provision is technically feasible, can be estimated. Some results for G-7 economies are presented in Table 3-2, which shows that such jobs range between 12 and 16 percent of the total employment in services in these countries. Market potential for long-distance service exports by developing countries is sizable Table 3-2 Estimates of market size for long-distance service exports from developing countries, 1990 Total Jobs with high Potential number ofjobs for Potential value of long- services potential for international outsourcing distance service exports jobs disaggregation 10% ratio 30% ratio 10% ratio 30% ratio Country (millions) (millions) (millions) (millions) ($billions) ($ billions) Canada 9.0 1.1 0.1 0.3 1.8 5.3 France 13.2 2.2 0.2 0.7 2.2 6.5 Germany 21.8 3.5 0.3 1.0 6.3 18.9 Italy 12.5 1.7 0.2 0.5 2.6 7.9 Japan 36.9 4.1 0.4 1.2 9.6 28.8 United Kingdom 17.9 2.5 0.3 0.8 3.5 10.4 United States 87.7 10.2 1.0 3.1 14.4 43.1 Total G-7 198.7 25.3 2.5 7.6 40.3 121.0 Sources: Adapted from Apte (1994), ILO (1993), and national sources of labor statistics. Technical feasibility is a necessary, but not sufficient, condition for long-distance provision. Companies demonstrate a natural resistance to outsourcing activities that are strategically important and that involve proprietary information. This is particularly true for international outsourcing. In a survey of outsourcing practices among large U.S. companies, Sobol and Apte (1995) found that only 17 percent of the firms surveyed were engaged in international outsourcing. But long-distance provision of services by foreign subsidiaries, in the context of Global Economic Prospects and the Developing Countries: Chapter 3 Page 64 Box 3-4 Serving long distance: the "end of geography" As the American Airlines (AA) jet comes to a stop at the airport in Bridgetown, Barbados, the passengers look fonard to vacationing on the sunny island But for Caribbean Data Senices (CDS), a sister company of AA, the work in processing tons of tickets and boarding passes is about to begin CDS was established by AMR Corp, parent of AA. in 1983 to cut costs in its data entry operations With 1.100 emplojees in 1993, CDS has become the largest private employer in Barbados Speed in processing tickets and boarding passes is crucial to the success of CDS, because the faster it can verify the travel to credit card companies and other airlines, the faster AA collects the cash. CDS employees are paid $3.25 per hour, a rate higher than the average rate in Barbados. but about half the rate paid for similar work in the United States In 1993 CDS processed about 190 million documents. up from 38 million a decade ago. In recent years CDS has begun accepting work from other companies. The company performs data entry for credit card applications and medical claims forms for U S. insurance companies. Most computers and terminals used by CDS emplo)ees are hooked to the computers of its clients This linkage allows for same da) turnaround, an important criterion for the client Some other U.S. airlines ha%e similar off-shore data entry arrangements. Other important examples of long-distance services include: * Data processing in teleports The Montego BaN free zone in Jamaica is serviced by the Jamaican Digiport International Communication System which links data-processing firms in Jamaica with their clients in the United States. Canada. and the United Kingdom. Jamaica's literate. English-speaking w%ork force, competitive telecommunication prices, and inestment incentives (corporate tax exemptions, duty-free imports, 100 percent profit repatriauon, streamlined customs procedures for firms in the zone) have attracted many information-processing firms to Montego BaN (there were 28 in 1990) Currently. about 3,500 people w ork in office parks in Jamaica linked by satellite dishes to the United States alone. Teleports have also been established in the Dominican Republic and St Lucia. Handling off-shore toll-free calls is another teleport activity that has emerged in some Caribbean countries (e.g.. Jamaica) * Sofitare programming. Many leading internanonal computer and software companmes-Apple, IBM, Intel, Oracle, Texas Instruments-have set up R&D and production joint ventures in Bangalore. India. The Indian subsidiary of Texas Instruments, for example. develops software for computer-aided design of integrated circuits, and transmits the programs electronically back to the United States using its own satellite dish. Strategic alliances ha%e emerged between Indian software companies and companies from industrial countries. The usual arrangement in%olves a division of labor whereby a foreign companN handles the client-end w,ork, including project management. system design. and specifications, and the Indian partner handles programming. systems testing. quality control, and related actnities With the Indian software industry enjoying a dizzying annual grow%th rate of 70 percent. its 600-odd companies (many based in Bangalore) generated revenues totaling more than $500 million in 1993-94. tmo-thirds of which came from exports. * Back-office servicer Several U S. insurance comparnes (e.g. Ne%% York Life. Met Life. Cigna) send claims for processing to affiliates in Ireland U S tax consulting and accounting firms use similar arrangements (e.g, Arthur Andersen in the Philippines) * Aanuflcturing design. R&D. customer service. In manufacturing, General Electric employs a Hungarian affiliate in the design of compact light bulbs Other U.S companies (e g, Motorola and Hewlett-Packard) conduct some of their R&D in South East Asia Quarterdeck Office Systems provides %%orldwide hotline telephone support for its products through its affiliate in Ireland These examples illustrate how% countnes with an appropriate mix of policies, infrastructure, and skills can benefit from technological progress to increase their sen ices exports Sources Yeanood (1993). Apte (1994). UNCTAD and World Bank (1994). Global Economic Prospects and the Developing Countries: Chapter 3 Page 65 intrafirm trade, is becoming a more common practice. Surveys suggest that international outsourcing of services becomes an appealing alternative for large companies when cost savings on the order of 30 to 40 percent can be achieved. Against this background, if it is assumed that 10 to 30 percent of the jobs that technically have a high potential for disaggregation can actually be contested internationally by long-distance provision, an estimate of the likely size of the market for developing countries can be generated.6 The numbers fall in the range of 1 to 5 percent of the current employment in service activities in the G-7 economies (Table 3-2). The potential impact of services globalization in terms of job displacement in industrial countries thus seems rather small (especially if one also considers prospective offsetting increases in more capital- and skill-intensive service exports from these countries to developing countries). But, from the perspective of developing countries, the potential impact in terms of higher exports is significant. The estimated potential value of long-distance service exports associated with 1 to 5 percent displacement of services jobs in G-7 countries ranges between $40 billion to $120 billion (Table 3-3).' Broadening the scope for long-distance service exports to industrial countries beyond the G-7, the potential size of the market for such exports to all industrial countries almost equals (at the upper end of the estimated range) the total value of commercial service exports from developing countries (about $140 billion in 1990). Full exploitation of the estimated potential could thus double developing countries' total commercial service exports. These estimates, at best, are only broad approximations, and this potential can be realized only incrementally over a period of time. But they do serve to bring out the significance of emerging opportunities in long-distance service exports that can be successfully exploited by developing economies with a conducive regulatory regime, a literate work force, and a modern telecommunications system. It is important to note that markets for these services are sensitive to technological change. Long- distance services in data entry, for example, are expected to continue to expand in the near future, reflecting the continuous fall in communication costs. Progress in optical recognition technology and the development of online services for credit card and check clearing, however, can significantly affect the need for data entry in the longer term (Baruch 1994). These services may lose some of their dynamism as they are displaced by innovations in software (e.g., the impact of electronic banking on the demand for check-clearing activities) and scanner technology in the industrial world. Nonetheless, the increasing number and diversity of information-intensive jobs, the technical feasibility of new long-distance services (e.g., in remote clerical support), and the dynamism of FDI flows and of the global demand for software suggest that the overall market for long-distance services will continue to expand. While creating possibilities for new exports, the internationalization of services is also important for developing countries as importers of services. Long-distance access to the "floating pool" of nonproprietary knowledge, for example, is being revolutionized by computer-mediated networks, such as the Internet. Electronic bulletin boards are becoming more sophisticated and increasingly effective as instruments for technical assistance and for transferring knowledge. They can now combine text, voice, and images, and their use may significantly alter the prospects for human capital accumulation in developing countries in the next few years. The increase in developing Global Economic Prospects and the Developing Countries: Chapter 3 Page 66 country imports will provide an offset to the loss of jobs in industrial countries resulting from increased long-distance exports from developing countries. Capturing the opportunities Liberalization and regulatory reform Liberalizing the import regime for services is central to achieving increased efficiency and competitiveness in the provision of services. It allows businesses to import services either not produced domestically or not produced at a price and quality required for competitiveness. At the same time, liberalization fosters efficiency by increasing competitive pressures on domestic producers of services. Because of the nonstorability of many services, FDI is a major mode of international delivery of services. Removing barriers to FDI is therefore as important as lowering restrictions on imports. Developing countries are increasingly recognizing the need for such reform, as reflected by the fact that many have unilaterally initiated liberalization packages encompassing the services sector in recent years. Yet most service activities continue to face a more restrictive regulatory regime than do goods. However, border policies do not account for all of the impediments to internationalization in services. Service activities are regulation-prone and the domestic regulatory environment can create additional barriers to international competition (e.g., state monopolies in service industries, legal barriers to entry in economic activities, price controls). Domestic deregulation is often a necessary complement to the opening up of the foreign trade and investment regime. Liberalization, however, does not imply total deregulation. There may be the need to strengthen some regulations, e.g., to deal with problems of monopoly or asymmetric information or of inadequate protection of intellectual property rights. A central issue in liberalizing international service transactions is how best to combine regulation with the discipline of competition. Also, differences in regulatory environments for service industries across countries may restrict access on a de facto basis, for example, different standards for accreditation of professionals. Accordingly, effective liberalization may also require harmonization of regulatory practices among major trading partners. Technological progress is changing the capacity of governments to regulate service industries. Telecommunications, for example, used to be characterized as a natural monopoly, given the high fixed costs involved in establishing an operational network. In most industrial and developing countries, this industry was either dominated by one regulated private firm or reserved for a public monopoly. New technologies and falling costs in telecommunications equipment, however, have greatly increased the contestability of this industry and governments are finding it increasingly difficult to enforce regulatory barriers to entry. Another implication of technological change is that developing countries with the minimum necessary telecommunications infrastructure can now leapfrog stages of development by adopting new technologies (e.g., cellular telephony). Thus, where arbitrary regulatory restrictions are maintained, their welfare costs may not only be high, but increasing in terms of forgone opportunities. Global Economic Prospects and the Developing Countries: Chapter 3 Page 67 Although regulatory reform and liberalization programs for service industries must be tailored to the particular country, some basic elements are relevant to all countries. Regulatory barriers to entry in service industries need to be minimized, with attention paid also to reducing differences between domestic regulatory regimes and those of the major trading partners. A transparent, liberal FDI regime and proper protection of intellectual property rights also are necessary conditions for countries to benefit fully from the internationalization of services. Finally, regulatory reform and liberalization need to be approached on an economy-wide basis. For example, a country interested in promoting its tourist industry may target the sector by adopting a liberal FDI policy (and even providing specific subsidies) without paying attention to related industries in the tourism complex. Such piecemeal liberalization may be self-defeating if, for example, restrictive policies keep the country's telecommunications system or its air travel industry substandard. Other supportive policies The services revolution places a premium on the development of supportive physical and human infrastructure. In physical infrastructure, a competitive telecommunications system is especially important to the development of long-distance services. Most developing countries are hard pressed to meet the demand for even basic telecommunication services, and investment in networks for value-added services may be considered an unaffordable luxury. However, technology now allows a country to develop a dual structure for telecommunication services: a country can invest in low-cost, dedicated networks for business needs in parallel with expanding the basic infrastructure. The private sector can play a lead role in this process, as it has, for example, in Chile. Providing access to modern, high-quality communication services is not enough. A recent study of long-distance service export prospects of Eastern Caribbean countries, for example, found that these countries were at a competitive disadvantage because of noncompetitive pricing of telecommunication services (TSG 1994). The use of alternative means of telecommunications (e.g., low-cost satellite stations) was inhibited by monopolistic practices of the basic telecommunication providers. Establishing a competitive framework for the provision of telecommunication services is therefore necessary. Another important constraint faced by developing countries concerns the quality and relevance of the training of their work forces. In-house training can partially mitigate the shortcomings of the formal education system in preparing workers to use IT in service industries. The main educational challenge, however, is to make the general population receptive to technological change. As economies become more service-intensive, workers must be retrained more frequently over their employment life cycles, and their performance becomes more dependent on access to IT. Accordingly, the diffusion of computer literacy should receive special attention in a country's education strategy. Singapore's successful implementation of a national IT strategy provides a useful case study for other countries (Apte 1994). Global Economic Prospects and the Developing Countries: Chapter 3 Page 68 Framework for international cooperation Alongside unilateral services liberalization, countries are pursuing liberalization through reciprocal negotiations. An important achievement of the Uruguay Round is the adoption of the General Agreement on Trade in Services (GATS), which extends multilateral rules and discipline to services liberalization. The GATS covers four modes of international delivery of services: cross- border supply (e.g., transborder data flows, transportation services); commercial presence (e.g., provision of services abroad through FDI or representative offices); consumption abroad (e.g., tourism); and movement of personnel (e.g., entry and temporary stay of foreign consultants). At the level of principles, the GATS broadly follows the GATT tradition, emphasizing nondiscrimination (most favored nation, or MFN, and national treatment) and prohibiting policy instruments that resemble quantitative restrictions. It innovates, however, in covering transactions associated with commercial presence (i.e., establishment trade) and introducing a concept of market access that encompasses nonborder restrictions (e.g., limitations on the type of legal organization under which foreign providers can operate are in principle prohibited). Although unconditional MFN treatment is a basic obligation of the signatories, exemptions are allowed. The exemptions, whose coverage is still being negotiated, will in principle be time-bound and should be negotiated away in the future. In practice, however, these exemptions have the potential to weaken the nondiscriminatory pillar of the GATS and suggest that sectoral interests, rather than economy-wide evaluations, will probably have a strong role in shaping future progress in services negotiations. Market access and national treatment are specific obligations under the GATS. They apply only to the service activities specifically listed by a country in its schedule of commitments, subject to the limitations made explicit in the offer. The GATS adopts a positive list approach with respect to sectoral coverage of service industries, i.e., only the industries scheduled in the offers of the negotiating parties are under the GATS discipline. This practice is less transparent than the negative list approach adopted, for example, in the North American Free Trade Agreement (NAFTA), under which all service industries are covered unless specifically exempted. The complexity of the GATS agreement (with offers made by service activity and mode of supply) renders it difficult to make a comprehensive evaluation of the economic value of the offers and their liberalizing impact. In terms of industry coverage, developing countries covered fewer service activities in their commitments than did industrial countries (Table 3-3). Tourism and travel-related services were the only activities in which a substantial number of developing countries made commitments. Commitments relating to the key communication services area were quite limited. These commitments are mostly related to value-added telecommunication services (e.g., data processing, electronic data interchange) and on average cover only 16.5 percent of the service activities negotiated under this category, compared with 75.4 percent for developed countries (Hoekman 1995). More positively, as many as 77 developing countries (including transition economies) had offered commitments in services by late 1994, indicating their support for multilateral discipline for services. Global Economic Prospects and the Developing Countries: Chapter 3 Page 69 Overall, the extent of MFN liberalization achieved seems rather limited at present, given the many qualifications and exemptions claimed by most participants. Most offers, however, entail a standstill promise-a commitment not to introduce new restrictions. Also, while the immediate liberalization may be limited, the GATS agreement paves the way for future multilateral liberalization. The framework agreed provides for continued negotiations to be completed within two years after the establishment of the World Trade Organization. And nothing constrains members from undertaking further unilateral liberalization, provided it is consistent with the multilateral disciplines established by the GATS. Developing countries covered fewer services in their Uruguay Round commitments than industrial countries Table 3-3 Commitments on market access for services Services commitments as share Country group Number of commitments of maximum possible in service activities (percent) By major country groups: High-income countries 2,470 61.4 Developing countries 1,806 14.6 Transition economies 306 47.5 By region: North America 193 59.9 Latin America 738 15.3 Western Europe 2,002 59.2 Central Europe 351 43.6 Africa 396 9.8 Middle East 106 16.5 Asia 796 26.0 Source: GATr Secretariat. Recent initiatives in regional integration have also encompassed services. The Single Market program of the European Union, for example, is probably the most far-reaching experiment in services liberalization at the regional level. Other North-North arrangements (e.g., the Canada- U.S. Free Trade Agreement and the Australia-New Zealand Closer Economic Relations Agreement), as well as North-South (e.g., NAFTA) and South-South arrangements (e.g., the Gulf Cooperation Council and Mercosur) also address international transactions in services. The scope and contents of these agreements are quite diverse. Some agreements simply confirm the concept of national treatment, leaving regulatory control in the hands of the host country (e.g., the Canada-U.S. agreement). Others support harmonization of regulatory practices (e.g., the Australia-New Zealand agreement) and may go as far as adopting mutual recognition procedures, creating conditions for competition among regulatory regimes (e.g., the European Union).' In sectoral coverage, these agreements are usually more ambitious than the GATS, although some "1sensitive't industries (e.g., basic telecommunications and air transport) continue to be characterized by more limited liberalization. Overall, recent regional initiatives have played a positive role in services liberalization, particularly in industries (e.g., professional services) in which differences across domestic regulatory Global Economic Prospects and the Developing Countries: Chapter 3 Page 70 environments can be an impediment to trade (Hoekman and Sauve 1994). Regionalism thus is working as a complement to the multilateral process initiated by the GATS. It is important to stress, however, that regional initiatives can advance the cause of services liberalization only if they do not increase barriers against nonparticipants. Information technology is a general term that encompasses computer and communication technologies (hardware and software) used to generate, process, analyze, and transmit information. For an analysis of the economic implications of IT, see Mody and Dahlman (1992). 2 The U.S. data underestimate the role of establishment trade in the delivery of services by focusing only on majority-owned affiliates. Establishment trade associated with firms in which foreign investors have a minority position is not captured by these statistics (a 10% foreign-equity ownership is accepted by most countries as sufficient to define FDI). The same applies to nonequity arrangements, as in the case of partnerships in professional services. For an analysis of U.S. establishment trade data, see Sondheimer and Bargas (1994). 3 Wolff (1995). Figures for industrial countries in this section cover all OECD countries except Greece, Mexico, Portugal, Spain, and Turkey. 4 Wolff (1995) notes that the productivity drag of the sectoral shift into the traditionally low-productivity-growth services will decline over time. Moreover, continuing advances in IT and growth of investments in IT, as well as further deregulation of service industries, could appreciably improve the productivity performance of services in coming years. For a detailed discussion of service activities with a high potential for disaggregation, see Apte and Mason (forthcoming). 6 The ratios adopted to estimate the potential for internationalization of services are at best educated guesses. Most international long-distance service provision occurs in the context of intrafirm trade. The ratios in question assume that the process of transnationalization in manufacturing may be used as a benchmark for the purpose of making some broad, illustrative calculations for services (in the case of manufacturing, the ratio of total employment in foreign affiliates of multinational corporations originating in G-7 countries to total manufacturing employment in the home country is in the 10 to 30 percent range, UNCTAD 1994). Derived as the potential number of disaggregated jobs times the expected wages for those jobs. In the light of survey results (Sobol and Apte 1995) showing that companies seriously consider international outsourcing when cost savings reach 30 to 40%, expected wages for disaggregated jobs were assumed to be two-thirds of those in the respective G-7 countries (as given in ILO reports). 8 The principle of "mutual recognition" requires that goods and services lawfully introduced into the market of one member be allowed to be traded in any other member country. With respect to services, this implies home- country regulatory control. Global Economic Prospects and the Developing Countries: Chapter 3 Page 71 4. Reverse Linkages: Growing Together Overview The gains from reverse linkages-the potential gains for industrial countries from the rise of developing countries in the world economy-are likely to be large. Developing countries already account for about one-fourth of industrial country exports. On current trends, that share could rise to well over one-third by the end of the next decade, and in purchasing power parity terms, the developing countries would then account for more than half of world output.' Three developing countries-China, India, and Indonesia-could then be among the world's six largest economies. And in China alone, the number of consumers able to buy the basic package of manufactured consumer goods will likely exceed the U.S. population by the end of this century. Whether this outcome will materialize depends mainly on whether the developing countries continue to pursue the policy improvements responsible for their rapid progress in the past several years. Many developing countries face large policy and political uncertainties, and the path forward is unlikely to be a smooth one, as Mexico has shown. The outcome also depends on continuing progress in the liberalization of global trade in goods and services-which cannot be taken for granted, given strong protectionist pressures in both industrial and developing countries. These protectionist pressures arise from the assumed effects on industrial country employment and wages of increased trade with developing countries. The evidence suggests that those effects have been modest, although some industries and categories of workers are affected disproportionately, influencing popular perception. The frictions associated with the integration of developing countries are likely to become more significant. The dislocation costs will be far outweighed by the benefits of integration, but a successful transition will require policies that anticipate and allay the problems. Because industrial countries stand to gain handsomely from a continuation of the favorable trends in developing economies, they should do what is needed to ensure that these trends are not reversed. Why are the potential gains of industrial countries from integration with developing countries so large? Though integration among industrial countries is already advanced, several large low- and middle- income countries (India, Indonesia, Russia, Brazil) are emerging as important players in world trade, engaged to a greater or lesser degree of success in outward-oriented reforms, including tariff reductions from levels that are much higher than those levied by industrial countries. The Chinese Economic Area (consisting of China, Hong Kong and Taiwan province) is already a growth pole of the world economy and is set to play an even larger role as potentially the world's largest trader. The gains from reverse linkages emanate from three main sources: the increased trade integration of developing countries with industrial countries; the increased integration through financial flows; and the higher growth of developing countries. Gains from trade integration. Cost-price differences between developing and industrial countries are on average about twice those between the latter, indicating that specialization and efficiency gains to industrial countries from increased integration with developing countries may be larger than from Global Economic Prospects and the Developing Countries 1995: Chapter 4 Page 72 additional integration among themselves. Moreover, improvements in technology are increasing the trade in long-distance services and are likely to bring especially large gains to firms in industrial countries since the cost of providing services in developing countries is typically a fraction of that in industrial countries. And larger price differences among developing and industrial countries, and the faster per capita income growth of some developing countries, suggest that the dynamic gains from trade with them are likely to be large. These dynamic gains arise from the spur to investment, innovation and productivity growth provided by increased competitive pressures and larger markets. Various estimates suggest that these dynamic gains from trade are a multiple of the static gains. Increasing globalization of production and distribution through foreign direct investment will reinforce gains from trade integration. Gains from financial integration. Investment in a portfolio of emerging markets tends to provide higher returns while helping to diversify risks. For example, calculations for 1989-94 suggest that, if industrial country investors were to increase their holdings of emerging market stock from around 2 percent of their portfolio today to 20 percent, and if emerging markets were large enough to absorb the inflow without appreciating substantially, their annual return would be two percentage points higher without increased risk. This is a large gap, and the more noteworthy because, over the next two decades, the share of old people in the population of industrial countries is set to rise markedly, and savings rates will increase in the interim period as these individuals reach their peak earning years (see Box 1-1). At the same time many developing countries have young population structures and low levels of capital per worker. Gains from rapid growth in developing countries. The gains from trade and investment integration with developing countries are likely to increase over time as these countries are expected to grow nearly twice as fast as industrial countries. Stronger growth in developing countries, besides contributing to the above gains from integration, helps raise industrial countries' output and employment toward potential levels, and implies an increasing diversification of sources of global demand which, over time and on average, can be expected to have a stabilizing effect on the world economy. Faster, outward-oriented growth in developing countries can also generate terms of trade gains for industrial countries. This chapter focuses on the main channels through which reverse linkages will operate-trade and financial flows. It does not cover all repercussions on industrial countries of developing country growth and integration, such as through migration or environmental effects. The discussion of trade and financial linkages, however, indirectly also bears on other linkages. For example, freer, successful trade integration, by promoting stronger and relatively labor-intensive growth in developing countries, can work to reduce the motivation to emigrate to industrial countries. Also, higher incomes will increase developing countries' demand for, and the means for providing, better environmental quality. Gains from greater trade integration Since 1986 international trade in goods and nonfactor services (exports plus imports) as a proportion of developing countries' GDP has risen from 33 percent to about 43 percent. Prospective rapid growth in developing countries' exports and imports could raise their share in world trade (imports) from 24 percent in 1994 to about 30 percent by 2010 (Figure 4-1). Over the same period, their share in world exports of manufactures could rise from 17 percent to over 22 percent. Global Economic Prospects and the Developing Countries 1995: Chapter 4 Page 73 As evidenced by the Uruguay Round negotiations, developing countries are also playing a more important role in multilateral trade liberalization. In the seven years since the launching of the Uruguay Round in 1986, developing countries were responsible for 58 of the 72 autonomous liberalization actions reported to the GATT. Commitments by developing countries include expansion of bindings to cover 61 percent of imports, compared with the pre-Uruguay Round level of 14 percent, and a decline in their trade-weighted average bound tariff from 17 percent to 11 percent (see Chapter 2). The gains to industrial countries from liberalization in developing countries are an important feature of the agreement. In fact, offers by developing countries to reduce tariffs under the Round were more important to the United States than those of either the EU or Japan-and more important than those of the United States to Japan and the EU.2 Figure 4-1: Developing countries' role in world trade is likely to rise rapidly. Contribution to trade growth Share of world imports 30 28- 197090 28 Developing country Actual o 26 shre of Other world imports DeeopgIndlustrial high income 2 L994-2010 2 Likelytrend22 1 86 88 1990 92 94 96 98 2000 2 4 6 8 2010 0 20 40 60 80 100 120 Actual Likely tarnd One indicator of potential gains from trade integration between industrial and developing countries is the price difference for similar products. The larger the price differences, the greater the potential gain from specialization through trade (Cecchini Report 1988)." And the differences in prices are much larger between industrial and developing countries than among industrial countries. A piece of transport equipment, for example, costs 2.5 times more in the Philippines than in the United States or the United Kingdom. But clothing and footwear cost four times more in the United States than in Bangladesh-five times more in Japan. Latest available price data show differences in consumer prices between industrial countries to be only about half as big on average as those between them and developing countries. If trade in services, especially such long-distance services as information processing and other clerical services, grows as fast as expected, the gains to industrial countries from trade integration with developing countries can be even larger (see Chapter 3). For example, in 1994 the gross dollar income of clerks in Bombay was a fortieth of that of their counterparts in Zurich (Table 4-1). Small wonder that the Swiss national airline has a sizable part of its back-office functions carried out in India. Because increased trade integration of developing countries with industrial countries can happen in different ways (trade liberalization, reduction in transportation and communication costs, relatively rapid growth of developing countries), and have a variety of economic effects, Global Economic Prospects and the Developing Countries 1995: Chapter 4 Page 74 estimating gains is difficult. In the analysis below, gains to industrial countries from increased trade integration with developing countries are illustrated using the trade liberalization agreed under the Uruguay Round as the source of increased trade integration. Clearly, gains from a one- off round of multilateral trade liberalization greatly underestimate potential total gains from increased trade integration, but nonetheless provide a useful illustrative benchmark. Gains to industrial countries Gains from newly tradable services are potentially large from resource reallocation in Table 4-1 Gross incomes of bank credit clerks, 1994 (U.S. dollars) response to price realignments Zurich 78,100 from agreed trade liberalization Tokyo 63,400 under the Uruguay Round are Abu Dhabi 47,800 estimated at around $47 billion Paris 42,000 in 1992 prices-or a permanent New York 29,000 increase of 0.3 percent of GDP Bangkok 14,200 (see Chapter 2). These gains to Tel Aviv 15,800 industrial countries include the Rio de Janeiro 7,600 Jakarta 3,900 effects of liberalization from all Bombay 1,900 sources: own, other industrial Nairobi 1,600 countries, and developing Note: Gross incomes of clerks with completed bank training and about countries. These estimates 10 years of experience in a bank, approximately 35 years old and married assume constant returns to scale with two children. Source: Union Bank of Switzerland. in production-that doubling inputs doubles output. But many industries are subject to economies of scale, which can come into play as trade increases market size. Such scale economies can be particularly significant in industries in which industrial countries have comparative advantage-transport equipment, machinery and instruments, and chemicals. Under increasing returns to scale within the firm-91 -0.1 10.2 Indonesia 28,086 3.1 22.2 Georgia 460 .. .. Sudan 680 -5.0 11.4 Korea, Rep. 83,800 11.6 28.3 Greece 20,542 7.1 26.0 Zambia 720 -3.0 Malaysia 45,657 9.2 79.3 Hungary 12,597 1.3 35.8 Zimbabwe 1,490 0.5 26.2 Myanmar 814 -0.6 .. Kazakhstan 1,269 .. 8.7 Fapua New Uunea 1,299 1.4 2./ Kyrgyz Kepublic 112 .. 3.1 High income countries 2,846.540 6.4 15.3 Philippines 18,757 5.5 35.8 Latvia 339 .. .. Industrial countries 2,492,293 6.1 13.6 Thailand 46,058 15.1 41.7 Lithuania 486 .. .. G-7 countries 1,880,749 6.3 12.1 VietNam .. .. .. Moldova 210 .. 9.1 LanaIa 141,0/ ).9 2.4 Poland 18,834 3.3 22.5 France 202,271 5.2 15.3 South Asia 41,553 4.5 12.7 Portugal 24,.9 11.2 331.1.9 Germany 348,631 6.4 19.5 Bangladesh 4,uU1 >.1 10.8 Romania 6,404 -1.7 28.8 Italy 146,789 6.3 12.0 India 22,761 4.2 9.4 Russian Federation 33,100 .. 9.3 Japan 241,624 6.8 6.6 Nepal 880 4.3 29.8 Slovak Republic 6,345 .. .. Uited Kingdom 2U6,321 3.0 19.3 Pakistan 9,500 3.0 20.1 Slovenia 6,498 .. 53.1 United States 603,438 6.1 10.2 Sri Lanka 4,227 .. 43.1 laikistan J/4 Turkmenistan 749 .. .. Other industrial 611544 5.5 22.0 Latin America 15 6,308 1.0 12.5 Turkey 29,174 10.2 25.8 AustralIa 42,259 4.o 14.J Argentina 16,184 0.U .> Ukraine 4,700 .. 24.6 Austria 48,578 6.5 26.2 Bolivia 1,206 -0.2 22.9 Uzbekistan 1,280 .. .. Belgium 1/ 112.248 4.8 48.9 Brazil 25,439 0.3 6.4 Denmark 29,521 3.4 20.7 Chile 10,597 5.7 25.7 Middle East & N. Africa 88,814 -4.7 23.2 Finland 18,032 2.3 17.0 Colombia 9,841 -1.4 20.3 Algena /,//1 -5.9 I1.2 Iceland 1,349 1.J Zd.J Losta Rca 2,9U/ .6 44.5 Bahrain 3,825 0.8 .. Ireland 21,386 5.3 43.9 Dominican Republic 2,125 2.9 27.5 Egypt, Arab Rep. 8,175 -4.2 23.0 Netherlands 126,557 5.0 39.5 Ecuador 2,562 -1.9 20.2 Iran, Islamic Rep. 14,120 1.0 12.5 New Zealand 9,636 4.2 23.3 El Salvador 1,919 2.1 29.8 Iraq .. -15.8 .. Norway 23,956 3.2 21.2 Guatemala 2,5a9 2.1 24.9 Jordan >,3>9 ->.1 / .9 Spain /8,026 1i.b 14.J Jamaica Z1U91 2.1 6a.7 Morocco 6,760 4.3 23.6 Sweden 42,681 3.8 17.3 Mexico 50,147 7.1 15.2 Oman 4,114 -1.0 35.7 Switzerland 56,716 3.0 23.5 Panama 2,188 -0.9 36.5 Saudi Arabia 28.198 -6.5 25.3 Paraguay 1,689 7.9 26.2 Syrian Arab Rep. 4140 -7.0 .. Other high income 354,247 9.6 128.7 Peru 3,389 -2.3 15.3 luisas 3,214 .13 >9.> Frunei .. 2.4 Innidad and lobago 1,449 -9.1 =o.9 Yemen. Rep. 1,960 -6.5 19.1 Cyprus 2,563 6.9 38.3 Uruguay 2,300 3.1 20.2 Hong Kong 138,658 12.4 144.5 Venezuela 10,979 -3.7 18.0 Sub-Saharan Africa 49,328 -1.8 14.0 Israel 22,621 7.4 32.4 Angola 1,39U -2.1 .. Kuwait 7,036 -5.2 32.4 Botswana 1,776 11.2 48.0 Qatar .. -. C6te d'Ivoire 1,663 -3.5 16.4 Singapore 85,234 10.1 185.2 Cameroon 1,108 -2.3 10.7 Taiwan, China 77,099 14.1 Ethiopia 787 -2.5 11.7 United Arab Emirates 19,520 3.8 55.4 abon 83m -2.! 14.1 Merchandise imports as share of GDP, 1993 Annual growth rate of imports, 1981-92 10% - 30% - 20% - 5%World 10% 0% 0% 0 Su. East South Latin Middle- Middle Sub- Ga South Lamn Middle- Middle a1ran- Asia & Asia America income Eat & Saharan Asia & Asia Amanca income Eaat & Africa Pacific Europe Africa Pacific Europe NorthA Africa -5% - II Includes Luxembourg Note I -the 1993 trade data for all EC countries may not be sinctdy comparable with those in previous years, because of the market unification. 2- The trade of the FSU countries covers trade with the non-FSU countries only. Global Economic Prospects and the Developing Countries: Global Economic Indicators Page 6 Global Economic Indicators Table 7 Direction of merchandise trade, 1993 Perceuage of world trade To: Industrial countries Developing countries Other Developing Middle Western All From: USA EU Japan Industrial Industrial Africa Asia Europe East Hemisphere Developing World Industrial countries 9.1 27.2 2.6 8.6 47.5 1.5 9.1 2.7 2.5 3.7 19.4 67.6 United States .... 2.6 1.3 3.3 7.2 0.2 2.2 0.3 0.5 2.1 5.3 12.4 EU 2.6 19.5 0.7 3.8 26.6 1.0 2.2 2.0 1.4 0.9 7.6 34.8 Japan 2.9 1.5 .... 0.6 5.0 0.2 3.7 0.1 0.3 0.4 4.7 9.7 Other industrial 3.6 3.6 0.6 1.0 8.8 0.1 1.0 0.3 0.2 0.2 1.9 10.7 Developing countries 6.5 6.8 3.2 1.4 17.9 0.6 8.0 1.4 1.2 1.8 12.9 32.4 Africa 0.4 0.9 0.1 0.1 1.4 0.2 0.2 0.0 0.0 0.1 0.5 2.3 Asia 3.7 2.5 2.1 0.8 9.2 0.3 6.4 0.3 0.5 0.5 8.0 17.3 Developing Europe 0.1 1.5 0.1 0.3 2.0 0.0 0.3 0.7 0.1 0.0 1.2 3.3 Middle East 0.4 1.1 0.7 0.1 2.3 0.1 0.8 0.4 0.4 0.3 2.0 5.3 Western Hemisphere 1.8 0.7 0.2 0.2 2.9 0.1 0.2 0.0 0.1 0.9 1.3 4.3 World 15.5 34.0 5.8 10.1 65.5 2.1 17.1 4.1 3.7 5.4 32.4 100.0 Share of merchandise imports from Developing countries. Direction of merchandise exports, 1993 1993 Developing to Industrial 60% - 401/- - Industnal to n dustrial Developing 20%- 49% 20% 0 Developing to USA EU Japan Industrial Developing Developing countries 13% Table 8 Growth of merchandise trade, by direction, 1982-93 in nominal dollar measure Average annual growth rate (%) To: Industrial countries Developing countries Other Developing Middle Western All From: USA EU Japan Industrial Industrial Africa Asia Europe East Hemisphere Developing World Industrial countries 8.1 7.1 8.1 6.4 7.1 -0.2 10.8 6.5 -0.1 5.4 5.6 6.5 United States .... 5.1 7.3 7.8 6.5 -0.7 10.2 7.0 1.7 6.4 6.4 6.3 EU 7.6 7.4 13.3 6.3 7.3 -0.1 11.8 9.2 -0.2 4.9 4.8 6.6 Japan 9.4 10.1 .... 5.2 8.7 1.8 11.1 0.8 -1.3 5.6 7.3 7.8 Other industrial 7.9 6.6 6.3 5.3 6.7 -1.7 10.3 0.7 0.1 1.7 4.1 6.0 Developing countries 7.1 4.4 4.5 5.7 5.1 3.2 12.1 -0.8 1.9 6.2 7.5 5.7 Africa 0.1 1.9 1.1 1.1 0.8 5.4 10.2 -1.3 3.7 -1.2 2.9 1.5 Asia 12.7 13.2 7.9 10.6 11.0 7.6 15.6 7.6 5.6 11.9 13.0 11.8 Developing Europe 9.1 6.7 5.1 0.1 5.4 -2.1 11.4 -2.2 -4.8 9.4 2.7 1.6 Middle East 6.9 8.9 7.5 70.4 9.7 0.8 8.2 19.2 2.9 45.8 9.0 9.2 Western Hemisphere 6.1 1.8 2.8 4.2 4.1 -0.4 10.5 -8.1 0.9 4.6 3.3 3.6 World 7.6 6.3 5.6 6.0 6.3 0.6 11.3 2.8 0.4 5.2 6.2 6.1 Source: IMF Direction of Trade Statistics Note Developing Country groups are based upon IM country classifications Global Economic Prospects and the Developing Countries: Global Economic Indicators Page 7 Global Economic Indicators Table 9 Long term net resource flows to developing countries, 1993 (US a01lls) All developing countries 209,400 4.66 157,656 45,708 65,141 46,807 51,744 41,428 10,316 Asia 84,940 5.45 68,426 10,971 37,322 20,132 16,515 11,022 5,493 East Asia 73,569 6.11 62,783 8,194 36,481 18,107 10,787 6,644 4,143 Ctuns 41,235 1U.34 36,261 5153 LS,UU Z1IN 4,715 1,I1 2,I9 Indonesia 4.932 3.41 2,337 -1,504 2,004 1,836 2,595 1,542 1,053 Korea, Rep. 8,534 2.58 8,674 2,129 516 6,029 -140 -191 52 Malaysia 7,746 12.02 8,033 -18 4,351 3,700 -287 45 -332 Myanmar 98 0.18 37 33 4 .. 61 61 -1 Fapus New kumea Z7; ).44 -445 43U .. Zv72 2i -I Philippines 3,347 6.19 2,143 298 763 1,082 1,204 934 270 nailand 5,853 4.69 5,018 -499 2,400 3,117 835 624 212 Viet Nam 82 0.64 83 -7 25 65 -1 57 -58 South Asia 11,371 3.14 5,643 2,777 841 2,025 5,728 4,378 1,350 Langiaesh 1,U/s 4.J6 -14 -5 14 .. 1,UV2 1,YY India 6,567 2.62 4,559 2,446 273 1,840 2,008 1,237 771 Nepal 305 10.08 -6 -12 6 .. 310 310 0 Pakistan 2,275 4.39 988 457 347 185 1,227 697 590 Sri Lanks 513 4.90 109 -85 195 .. 404 423 -19 Latin America 63.126 4.46 57,709 16,471 16,089 25,149 5,417 3,657 1,760 ArgenUn 15,127 7.UI 15,1U9 5,21 6,3 3.604 5,UIi -22 3,U39 Bolivia 324 6.02 -53 -203 150 .. 377 362 15 Brazil 12,345 2.43 13,356 7,054 802 5,500 -1,011 107 -1,118 Chile 1,975 4.52 2,109 920 841 349 -134 62 -197 Colombia 670 1.24 1.123 144 850 128 -453 30 -483 costa FICA 1.2 2.UI 15 -6 L5U .. -63 -2 -63 Dominican Republic 163 1.72 159 -24 183 .. 4 21 -17 Ecuador 340 2.36 213 98 115 .. 128 153 -25 El Salvador 883 11.58 17 1 16 .. 865 777 88 Guatemala 218 1.93 167 18 149 .. 51 84 -33 Jamaica 36 Y.5/ 121 -I IS .. Z41 L39 a Mexico 22,283 6.49 22,241 3,043 4,901 14,297 42 85 -43 Panama -82 -1.25 -54 -13 *41 .. -28 58 -86 Paraguay 87 1.28 101 -49 150 .. -13 38 -51 Peru 2.368 5.77 1,504 -71 349 1,226 865 363 502 Iridad and Lobago 111 2.36 64 -121 153 .. l5 1U 44 Uruguay 349 2.65 172 96 76 .. 177 91 85 Venezuela 1,056 1.76 942 526 372 45 113 46 67 Europe & Central Asia 37,854 3.55 27,759 17,803 8,654 1,302 10,095 7,237 2,858 Almania 134 7.U4 U.. .. 14 JU 124 Azerbaijan 14 0.28 0 0 .. .. 14 14 Belarus 438 1.69 125 115 10 .. 313 186 127 Bulgaria 55 0.53 22 -34 55 .. 34 39 -5 CzechRepublic 2.443 7.73 2268 1.318 950 .. 175 27 149 Estons 331 6.50 162 1 160 .. 17U 147 22 Georgia 164 5.97 4 4 .. .. 161 28 133 Hungary 5.421 14.23 5,300 2,939 2,349 13 121 136 -15 Kazakhstan 450 1.82 279 129 150 .. 172 10 162 KyrgyzRepubhc 1-4 3.55 .. .. 124 56 6Y Latvia 166 3.61 24 4 20 .. 143 122 21 Lithuania 289 9.79 42 30 12 .. 247 144 103 Moldova 130 3.02 14 0 14 .. 116 46 70 Poland 1.359 2.17 1,685 -30 1,715 .. 174 -48 222 Portugal 6,273 3.39 5,752 3,4. I,u3 1,111 525 70 456 Romania 1,066 4.10 659 565 94 .. 407 81 327 Russian Federation 6.878 2.09 3,207 2,507 700 .. 3,671 2,800 871 Slovak Republic 301 2.72 197 197 .. .. 104 31 73 Slovenia 179 .. 239 127 112 .. -60 5 -65 lapiksrtan LZ U.NY U U Z* * 2 £2 Turkmenistan 10 .. 0 0 .. .. 10 10 0 Turkey 6,761 3.38 7,077 6,263 636 178 -316 195 -512 Ukraine 904 0.95 398 198 200 .. 506 220 287 Uzbekistan 335 2.62 139 94 45 .. 396 71 325 Global Economic Prospects and the Developing Countries: Global Economic Indicators Page 8 Global Economic Indicators Table 9 (continued...) Private Official Total % Iebt Hlows Millions S GDP Total (net) FDL Portfolio Total ODA Other Middle East & N. Africa 5,301 2.12 1,618 257 1,361 .. 3,683 3,692 -9 Algeria -3.8 -U./I -566 -N5i 1 .. 194 Hi6 -132 Egypt, Arab Rep. 2,090 5.35 361 -132 493 .. 1,730 1,713 17 Iran, Islamic Rep. 1,194 .. 1,049 1,099 -50 .. 145 40 105 Jordan 2 0.04 -195 -161 -34 .. 197 238 -41 Morocco 884 3.32 796 274 522 .. 88 297 -210 Oman 55 0.47 -19 -118 99 .. 74 82 -9 Syrian Arab Rep. 269 .. 42 -28 70 .. 227 259 -32 lumsia 650 4.44 14U -99 D1 221 9 Yemen, Rep. 158 1.25 10 10 .. .. 148 148 1 Sub-Saharan Africa 18,177 9.01 2,145 206 1,714 224 16,033 15,820 213 Angola 691 .. 30/ L)7 UU .. 184 189 -3 Botswana 157 3.91 85 30 55 .. 72 88 -16 C6te dIvoire 510 5.49 31 1 30 .. 479 552 -73 Cameroon 353 3.19 -104 -23 -81 .. 457 449 9 Ethiopia 1,049 17.21 4 -2 6 .. 1,045 1,036 10 uabon Z2.4 4.13 lU 3 Y1 .. 124 13 49 Ghana 468 7.69 4 -21 25 .. 464 472 -8 Kenya 465 8.40 -29 -30 2 .. 494 589 -95 Madagascar 342 10.20 24 -6 30 .. 318 318 -1 Nigeria 1,005 2.88 890 -10 900 .. 115 -40 155 Senegal 438 1.6/ -1 .1 ., .. 439 388 30 Sudan 391 .. 0 0 .. .. 391 387 5 Zambia 714 22.45 36 -19 55 .. 678 734 -56 Zimbabwe 486 8.63 -172 -200 28 .. 658 362 296 Distribution of long term net resource flows, Growth of total private capital flows 1993 Ratio: 1993/1990 100% 10 40% . *4 Sob. East South Latin Middle- Middle Sub- East South Latin Middle- Middle Saharan Asia & Asia America income East & Saharan Asia & Asia Amenca income East & Africa Pacific Europe North Africa Pacific Europe North Africa Africa MPrivate COfficial Global Economic Prospects and the Developing Countries: Global Economic Indicators Page 9 Global Economic Indicators Table 10 External financing ratios, 1993 Present value of debt service (PV) as a share of GNP (%); prest value of debt service as a share of e.o of goods and servics (XGS) (%) PV/GNP PV/XGS PV/GNP PV/XGS PVIGNP PV/XGS Europe & Central Asia 2.4 186.6 Sub-Saharan Africa (Continued) All developing countries 9.5 165.3 Armema 0.1 62.3 (hana 4/./ 234.4 Azerbaijan 0.7 .. Kenya 103.0 228.7 Belarus 2.6 35.1 Madagascar 108.7 723.6 Asia 30.1 105.7 Bulgaria 119.4 254.4 Nigeria 98.7 East Asia 29.8 91.4 Czech Republic 26.7 .. Senegal 47.3 199.4 Lhina 19.6 81.1 kstona S.o 1.9 Aouthlca U.u U.U Indonesia 58.5 194.6 Georgia 19.7 113.1 Sudan Korea. Rep. 13.9 46.2 Greece 0.0 0.0 Zambia 188.5 518.5 Malaysia 37.0 42.6 Hungary 66.9 216.2 Zimbabwe 64.7 172.6 Myanmarr... Kazakhstan 6.4 Papua New -UuInea 10,. 100.2 Kyrgyz Repulic /.9 Philippines 59.8 172.9 Latvia 4.9 Thailand 36.5 91.0 Lithuania 8.6 Viet Nam 161.8 568.5 Moldova 6.0 57.7 Poland 49.7 262.5 South Asia 31.1 210.9 Portugal 4.3 bangladesh JU.2 166.9 Romania 16.4 74.5 Present value of debt, 1993 India 29.1 227.6 Russian Federation 25.3 162.1 Nepal 33.8 .. Slovak Republic 28.5 42.3 Pakistan 39.1 205.1 Slovenia Sri Lanka 41.9 104.1 taillIstan .. Turkmenistan Latin America 34.1 238.9 Turkey 38.2 216.4 Argentma 25.6 418.> Ukraine 3.5 20.9 Middle East Sub- Bolivia 61.9 389.0 Uzbekistan 3.3 .. & North Saharan Brazil 26.3 295.8 Africa Africa Chile 46.7 160.0 Middle East & N. Africa 80.9 179.1 Middle 9% 10% Colombia 32b3 152.7 Algena 31.i 2U6.2 i Losta RUca 48.1 114.9 Bahrain 0.0 .. Europe Dominican Republic 44.4 .. Egypt, Arab Rep. 71.2 174.7 20% East Asia & Ecuador 98.0 380.8 Iran, Islamic Rep. .. 117.4 Pacific El Salvador 21.0 82.6 Iraqra.... 22% Guatemala 22.4 109.3 Jordan II/A. MS./ Jamaica 114.9 1)0.4 Morocco 72.8 224.0 Mexico 35.0 182.1 Oman 33.3 Panama 101.6 87.1 Saudi Arabia South Asia Paraguay 20.4 72.8 Syrian Arab Rep.e.. 315.3 7% Peru 46.1 403.2 1unisia )4.3 116.) Latin Inmudad and lobago 45.3 .. Yemen, Rep. 45.0 295.0 Anerc Uruguay 54.3 243.7 32% Venezuela 62.6 210.8 Sub-Saharan Africa 63.5 261.2 Angola .. 314.2 Botswana 12.8 C6te d'Ivoire 224.0 533.3 Cameroon 57.7 292.4 Ethiopia 50.7 396.4 Uabion 11.1 149.3 Ratio of present value of debt to GNP, 1993 Ratio of present value of debt to exports of goods and services, 1993 100.0 300.0 - 50.0 200.0 @,9 100.0 Sub0 East South Latin Middle- Middle 0.0 Saharan Asia & Asia Amrnea income East & Sub- East South Latin Middle. Middle Africa Pacific Europe North Saharan Asia & Asia America income East & Africa Africa Pacific Europe North Afnca Global Economic Prospects and the Developing Countries: Global Economic Indicators Page 10 Global Economic Indicators Table 11 Structure of long-term debt, 1993 Share of long-terne debt (%): concesiional debt; nonceacessional debt at variable interest rates; nonconceassional debt at fixed interet rate Coocew Nonconeusional Coce- NoncNcessioal Cocee. Noneoacissial deeal Variable F1ied slesal Variable Fixed sional Variable iad Europe & Central Asia 8.4 51.5 40.1 Sub-Saharan Africa (Continued) All developing countries 24.9 35.6 39.4 Armenia 3.1 62.4 33.9 Uhana 8,.3 1.9 1).U Azerbaijan 0.0 100.0 .. Kenya 53.4 13.2 33.5 Belarus 54.4 45.6 .. Madagascar 57.2 5.7 37.1 Asia 41.3 26.5 32.2 Bulgaria 0.0 77.4 22.6 Nigeria 4.0 18.2 77.8 East Asia 32.4 31.2 36.4 Czech Republic 1.2 44.7 54.2 Senegal 69.5 7.4 23.1 tIna 19.2 Z!. )Z.3 Estoma 3.) 23.2 34.2 outh Atrica Indonesia 36.3 41.6 22.1 Georgia 0.0 87.9 12.1 Sudan 49.3 18.9 31.8 Korea, Rep. 13.5 30.2 56.4 Greece .. .. .. Zambia 61.0 7.9 31.1 Malaysia 17.5 44.0 38.5 Hungary 0.9 36.2 62.9 Zimbabwe 37.1 25.8 37.1 Myanm ar 92.1 .. 7.9 Kazakhstan 0.0 99.9 0.1 Fapua New tinca 2.4 11.1 bJ.5 Kyrgyz Republhc 12.3 3o.2 1.0 Philippines 35.9 24.8 39.3 Latvia 66.8 30.6 2.7 Thailand 22.9 46.6 30.5 Lithuania 20.6 43.8 35.7 Viet Nam 90.9 3.0 6.1 Moldova 13.4 84.1 2.5 Top ten ratios of nonconcessional debt Poland 18.8 67.8 13.4 to GOP (%) South Asia 61.2 15.8 22.9 Portugal 4.2 19.3 16.U Bangladesh 95./ U.3 1.( Romania 10.1 50.2 39.8 India 51.5 18.2 30.3 Russian Federation 5.1 60.8 34.1 Nepal 96.0 .. 4.0 SlovakRepublic 1.0 41.1 57.9 0 so ioo 150 200 250 300 Pakistan 65.6 20.8 13.6 Slovenia 1.2 45.9 52.9 Sri Lanka 88.1 4.9 7.0 Fallasstan 1.u 4.3.U .. Nicaragua Turkmenistan 100.0 Latin America 7.3 44.3 48.4 Turkey 14.1 35.9 49.9 Guyana Argentmina U.8 Ji. / 6.7 Ukraine 0.6 98.3 1.1 I Bolivia 57.0 13.7 29.3 Uzbekistan 6.3 81.0 12.7 Brazil 2.3 56.4 41.2 Cse d'Ivoire Chile 2.0 57.4 40.6 Middle East & N. Africa 35.3 29.4 35.2 Colombia 5.6 53.7 40.7 Algena 5.0 5U.2 44.6 Mozambique LostaKica 21.1 28.3 4..) Bahrain .. .. Dominican Republic 51.3 28.5 20.2 Egypt, Arab Rep. 40.9 8.0 51.1 Congo Ecuador 13.5 59.2 27.4 Iran, Islamic Rep. 0.4 71.9 27.7 El Salvador 50.4 17.7 31.9 Iraq Bulgaria Guatemala 49.0 18.9 32.1 Jordan 46.0 23.5 .37.2 Jamaica .j.9 23.7 4-.= Morocco 28.2 52.2 19.6 Mexico 1.7 36.3 62.0 Oman 21.2 50.0 28.8 Nigeria Panama 12.1 63.2 24.7 Saudi Arabia .. Paraguay 54.0 9.5 36.5 Syrian Arab Rep. 89.6 .. 10.4 Tnzana Peru 22.5 41.0 36.5 lunisia _J.a 22.6 .5 T innidad and lobago 2.1 3U.6 46./ Yemen,Rep. 63.2 1.5 35.3 Uruguay 3.3 43.7 52.9 Jordan Venezuela 1.2 58.0 40.9 Sub-Saharan Africa 4.S 16.1 38.5 Angola 32.2 4.4 03.4 Jamaica Botswana 43.0 15.8 41.2 C6te d'Ivoire 22.0 60.0 18.0 Cameroon 40.3 19.3 40.4 Ethiopia 82.1 1.8 16.1 (jabon 14.1 is.) 11.2 Structure of long-term debt, by group, 1993 Structure of long-term debt, by region, 1993 100 e - 100% 60% - 0%c 60% 60% 40% 40% 40% 4 0%1 20% 20% Severely Moderately Severely Moderately Other Sub- East South Latin Middle- lAddle indebtad indebted indebted indebtad Saharan Asia & Asia A."eto ineome Eont & to.. 1- middle ivdles- Atfriea Paifi europe North income income income income Africa oFixed rate oVariable rate zConcessronal Global Economic Prospects and the Developing Countries: Global Economic Indicators Page 11 Global Economic Indicators Table 12 Interest and exchange rate impacts, 1993 Ratio of interest rate impacts to esports of goods and services (%); rato of exchange rate impacts to exports of goods and services %) Exchange Interest Exchange Interest Exchange Interes Europe & Central Asia -1.66 0.12 Sub-Saharan Africa (Continued) All developing countries 0.25 0.20 Armema -U./t .. tobana Azerbaijan .. .. Kenya -1.88 Belarus -0.10 .. Madagascar -6.55 Asia 2.23 0.32 Bulgaria -3.68 0.08 Nigeria East Asia 2.18 0.35 Czech Republiculc.. Senegal -4.93 tna L.48 0.3 b.stoma -0.05 .. iouthAtnca Indonesia 6.24 0.26 Georgia -1.07 .. Sudan Korea, Rep. 0.83 0.02 Greece .. .. Zambia -4.16 Malaysia 0.92 0.05 Hungary 1.56 0.52 Zimbabwe -3.15 0.05 Myanmar.... Kazakhstan Fapua New tunea 4.32 0.04 Kyrgyz Republic Philippines 4.74 0.23 Latvia .. *. Debt service to exports, 1993 Thailand 2.77 2.16 Lithuania Viet Nam 0.86 .. Moldova -0.49 Poland -8.12 0.08 South Asia 2.53 0.06 Fortugal Bangladesh 6.43 .. Romania -0.73 0.02 India 2.10 0.07 Russian Federation -2.40 0.02 Middle East & Nepal .. .. Slovak Republic -0.45 0.05 North Africa Pakistan 1.46 0.05 Slovenia Sri Lanka 2.51 0.02 lapIkistan Turkmenistan .. Middle- Latin America -034 0.13 Turkey 0.73 0.25 incime Argentna -U.6 / U..U Ukraine -0.10 0.01 Bolivia -0.39 .. Uzbekistan Brazil -0.60 0.18 Chile 0.61 0.14 Middle East & N. Africa -1.54 0.09 Latin Amrerics Colombia -1.03 0.10 Algena -1.84 U.24 Losta Rica U.11 .W Bahrain Dominican Republic .. .. Egypt. Arab Rep. -3.14 0.01 Ecuador 1.08 0.06 Iran. Islamic Rep. -0.39 0.05 south Asia El Salvador -0.47 .. Iraq Guatemala -0.32 .. Jorcan 0.91 U.0- Jamaica -0.43 U.04 Morocco -4.13 0.19 Mexico 0.35 0.07 Oman .. toot Asa & Panama 0.42 .. Saudi Arabia Paci Paraguay 0.29 .. Syrian Arab Rep. 0.38 Peru -8.56 0.11 luisa - i.Jy U.u inmdad and looago .. .. Yemen, Rep. 1.82 .. Sub-Saharan Uruguay -3.11 0.10 Africa Venezuela -0.50 0.20 Sub-Saharan Africa -4.19 0.02 . Angola -1.9J 0 10 20 30 Botswana C6te d'Ivoire -15.11 0.09 Cameroon -12.85 0.05 Ethiopia -2.86 Gabon Exchange rate impacts, 1993 Interest rate impacts, 1993 Less indebted MIMIC SIMIC MIuc SILIC -8.0 4.0 -4.0 -2.0 0.0 0.0 0.1 02 0.3 0.4 Change in extenal debt/*xports of goods and sevices Increase in debt sorvc6lexports of goods and services SILIC-Severely saodetled lo-income; MILUCModerately indebted low-incoe, SIMIC-Severely indebted middie-income: MIMIC-Moderately indebted middle-inoen Global Economic Prospects and the Developing Countries: Global Economic Indicators Page 12 Global Economic Indicators Table 13 MUV, LIBOR, and commodity prices G-5unitvalueindexofmanufactmes 1/ 22 25 26 29 33 41 45 46 50 58 66 72 72 LIBOR 2/ 5.0 8.9 7.1 6.0 9.4 10.8 7.7 6.1 6.4 9.2 12.2 14.0 16.7 Commodity price indexes 3/ weights Petroleum 6 6 8 9 13 53 51 55 60 61 88 144 161 33 commodities excl. energy 43 47 44 46 71 96 79 94 122 114 130 138 120 Agriculture 67.7% 46 51 48 51 81 107 86 107 144 130 143 148 129 Food 53.2% 47 53 49 53 84 115 91 114 159 139 150 153 133 Nonfood 14.4% 44 43 43 44 70 78 68 85 87 96 116 132 113 Timber 5.2% 18 21 21 21 37 44 34 45 52 55 96 110 88 Metals and minerals 27.1% 41 43 39 39 53 77 68 71 79 84 103 116 103 Commodity prices uits Agriculture Cocoa cents/kg 37 68 54 64 113 156 125 205 379 340 329 260 208 Coffee cents/kg 100 115 99 110 137 145 144 315 517 359 382 347 287 Tea cents/kg 129 110 105 105 106 140 139 154 269 219 216 223 202 Sugar cents/kg 5 8 10 16 21 66 45 26 18 17 21 63 37 Banana s/mt 159 165 141 161 165 184 247 257 275 287 326 379 401 Wheat S/mt 66 63 64 71 147 209 181 149 116 135 172 191 196 Rice $/mt 136 144 129 147 350 542 363 255 272 368 331 434 483 Maize S/mt 55 58 58 56 98 132 120 112 95 101 116 125 131 Coconut oil S/ms 348 397 371 234 513 998 394 418 578 683 985 674 570 Palm oil S/mt 273 260 261 217 378 669 434 407 530 600 654 584 571 Soybean S/mt 117 117 126 140 290 277 220 231 280 268 298 296 288 Soybean oil S/mt 270 307 323 270 465 795 619 438 576 607 662 597 507 Cotton cents/kg 63 63 74 79 136 142 116 169 155 157 169 205 185 Rubber cents/kg 57 46 40 40 79 87 66 87 92 111 142 162 125 Other Logs S/cm 32 37 38 38 66 79 59 80 93 97 170 196 155 Sawnwood $/an .. 93 93 110 156 143 166 168 154 205 339 365 314 Urea $/mt . 48 46 59 95 316 198 112 127 145 173 222 216 Metals and minerals Copper S/mt 1,290 1,413 1,080 1,071 1,786 2,059 1.237 1,401 1.310 1,367 1.985 2,182 1,742 Aluminum S/ml 474 556 561 511 589 674 797 896 1.050 1,088 1,230 1,456 1,263 Nickel S/mt 1,735 2.846 2,932 3.080 3,373 3,825 4,570 4.974 5.203 4,610 5.986 6.519 5,953 Gold (/toz) 35 36 41 58 97 159 161 125 148 193 307 608 460 Phosphate rock S/mt 13 11 11 12 14 55 67 36 31 29 33 47 50 Steelptoductsindex(1990=100) 25 31 28 30 46 66 52 54 53 68 76 79 82 Energy Crude petroleum Sibbi 1.3 1.3 1.7 1.9 2.7 11.2 10.9 11.7 12.8 12.9 18.6 30.5 34.3 Coal S/mt .. - . .. .. .. .3 ..33.4 39.6 35.4 43.1 56.5 Price Indexes (relative to MUV, 1990=100) 340 300 260 no Nonfood 180 1401 Metals and mnrl 100 1974 1976 1978 1980 1962 1984 196 1986 1990 1992 1994 Global Economic Prospects and the Developing Countries: Global Economic Indicators Page 13 Global Economic Indicators 1982 198i 199', 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 71 70 68 69 81 89 95 95 100 102 107 104 107 G-Sunitvalueindexofmanufacturesl/ 13.6 9.9 11.3 8.6 6.8 7.3 8.1 9.3 8.4 6.1 3.9 3.4 5.1 LIBOR 2/ Commodity price Indexes 31 146 132 130 126 64 81 64 77 100 82 81 72 70 Petroleum 108 113 117 104 104 98 114 109 100 97 93 94 116 33 commodities excl. energy 114 123 130 113 118 103 118 109 100 98 92 91 123 Agriculture 119 126 137 120 128 104 122 111 100 98 91 92 127 Food 99 112 103 87 81 99 102 100 100 99 94 89 110 Nonfood 88 82 94 77 85 125 113 108 100 108 118 220 175 Timber 95 97 90 86 71 80 104 110 100 92 91 77 85 Metalsandminerals Commodity prices Agriculture 174 212 240 225 207 199 156 124 127 120 110 112 140 Cocoa 309 291 319 323 429 251 303 239 197 187 141 156 331 Coffee 193 233 346 198 193 171 179 202 203 184 200 186 183 Tea 19 19 11 9 13 15 22 28 28 20 20 22 27 Sugar 374 429 370 380 382 365 478 547 541 560 473 443 439 Banana 167 170 165 173 161 134 180 201 156 143 177 193 199 Wheat 293 277 252 216 211 230 301 320 287 314 287 270 357 Rice 109 136 136 112 88 76 107 112 109 107 104 102 108 Maize 464 730 1,155 590 297 442 565 517 337 433 578 450 608 Coconutoil 445 501 729 501 257 343 437 350 290 339 394 378 528 Palm oil 245 282 282 224 208 216 304 275 247 240 236 255 252 Soybean 447 527 724 572 342 334 463 432 447 454 429 480 616 Soybean oil 160 185 179 132 106 165 140 167 182 168 128 128 176 Conon 100 124 110 92 94 112 129 112 102 101 102 99 132 Rubber Other 146 138 157 122 139 202 201 191 177 191 210 390 310 Logs 302 304 307 276 266 276 307 422 524 472 513 538 778 Sawnwood 159 135 171 136 107 117 155 132 157 172 140 107 148 Urea Metals and minerals 1,480 1,592 1,377 1,417 1,374 1,783 2,602 2,848 2,662 2,339 2,281 1,913 2,307 Copper 992 1,439 1,251 1,041 1,150 1,565 2,551 1,951 1,639 1,302 1,254 1,139 1,477 Aluminum 4,838 4,673 4,752 4,899 3.881 4,872 13,778 13,308 8,864 8,156 7,001 5,293 6,340 Nickel 376 423 360 318 368 446 437 381 383 362 344 360 384 Gold 42 37 38 34 34 31 36 41 41 43 42 33 33 Phosphaterock 71 67 70 61 62 72 94 106 100 99 88 91 93 Steelproductsindex(1990=100) Energy 31.0 28.1 27.5 26.7 13.5 17.2 13.6 16.3 21.3 17.3 17.3 15.3 15.0 Crude petroleum 52.2 44.5 48.6 46.6 43.9 36.2 37.1 40.5 41.7 41.5 40.6 38.0 36.5 Coal Price Indexes (relative to MUV, 1990=100) 520 - 420 - Coffee 320 220Wheat Petroleum 1 220- 120 Copper 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 Notes 1/ Unit Vaue Index (MV index) in US dollar terms (1990=100) of manufactures exported from the U-5 countnes (4rance. Germany. Japan, UK, and USA). weFghted by to developing countries. 2/ London interbank offered rate on six-month US dollar deposits. 3/ Indexes are in current US dollar terms (1990=100), 33 commodity price index is weighted by developing country export values. Global Economic Prospects and the Developing Countries: Global Economic Indicators Page 14 Tec4nical notes Statistical Appendix The principal sources for the data contained in this Foreign direct investment refers to the net inflows of statisVcal annex are the World Bank's central investment from abroad. Portfolio equity flows are databapes. the sum of country funds, depository receipts, and Rdgional aggregates are based on the direct purchases of shares by foreign investors. For classification of economies by income group and complete definitions, see the World Debt Tables, region which follows the Bank's standard 1994-95. definitions (see country classification tables which follow). Country coverage for debt and finance data Table 10. The present value of scheduled is based on 137 countries that report to the Debt debt service is the discounted value of future debt Reporting System (see the World Debt Tables, 1994- service; discount factors are based on interest rates 95.). Small economies have been omitted from the charged by OECD countries for officially supported tables. The region labeled "Middle-Income Europe" export credits. IBRD loans and IDA credits are refers to Europe and Central Asia excluding the discounted using the most recent IBRD lending rate. former Soviet Union. For the years before 1991, the For more information on the present-value data for Germany refer to the Federal Republic of methodology, consult the World Debt Tables, 1994- Germany before unification. Trade data for Belgium 95. include the trade of Luxembourg. In tables 7 and 8, the EC(10) aggregate refers to the ten high-income Tables 11. Long-term debt includes public, members of the European Community and excludes publicly guaranteed, and private nonguaranteeed Portugal and Greece. external debt having a maturity of more than a year, Growth rates are for the thirteen-year period but excludes IMF credits. Concessional debt is debt between 1981 and 1993; when fewer than eleven with an original grant element of 25 percent or observations are available, the growth rate is more. Nonconcessional variable interest rate debt reported as not available. Current price data are includes all long-term debt with an original grant reported in U.S. dollars. element of less than 25 percent whose terms depend upon movements of a key market rate. This item Notes on tables conveys information about the borrower's exposure Tables 1 through 4. Projections are consistent to changes in international interest rates. with those highlighted in Chapter 1 and the Annex Nonconcessional fixed-rate debt is calculated as a on regional economic prospects. residual. For complete definitions, see the World Debt Tables, 1994-95. Tables 5 and 6. Merchandise exports and imports exclude trade in services. Growth rates are Table 12. Exchange rate impacts are based on constant price data. Constant price data measured by the change in long-term external debt are derived from current values deflated by relevant caused by exchange rate revaluation. Interest rate price indices. Effective market growth is the trade- impacts are the change in debt service caused by weighted import growth rate of the country's changes in interest rates for variable rate debt. Both trading partners. UNCTAD Trade database serves impacts are measured from end-of-year 1992 to end- as the principle source for data through 1992; 1993 of-year 1993. Exports of goods and services include data are taken from IMF and UN COMTRADE net worker remittances. databases or World Bank staff estimates. Table 13. See notes at the bottom of the Tables 7, 8. Merchandise trade flows have table. Commodity price data are collected by the been calculated from the IMF Direction of Trade International Economics Department of the World Statistics database. Developing regions follow IMF Bank. country classifications. Growth rates are computed for current dollar measures of trade. Table 9. Net Resource Flows (long-term) are the sum of net resource flows on long-term debt (excluding IMF) plus non-debt-creating flows. Global Economic Prospects and the Developing Countries: Global Economic Indicators Page 15 騙－一－---－一－----－一－-----－■－－一―→一－--------－一一－- Classification of Economies &～一一一一 Table I Classification of econornies by income and region, 1995 Sub-Saharan Africa Asia Europe and Central Asia Middle East and North Africa East and Eastern Income Southern East Asia and Europe and Rest of Middle North group Subgroup Aftica West AfTica Pacific South Asia Central Asia Europe East Affica Americas Burundi Benin Cambodia Afghanistan )dbarua Yemen, Rep. Egypt,Arab Guyana Comoros Burkina Faso China Bangladesh .4zmenia Rep. Haiti Eritrea Central African Lao FOR Bhutan Bosnia and Honduras Ethiopia Republic Mongolia India Herzegovina Nicaragua Kenya Chad Myanmar Nepal Georgia Lesotho C6te d1voire Viet Nam Pakistan TajikLstan Madagascar Equatorial ShLanka Malawi Guinea Mozambique Gambia, The Low- Rwanda Ghana S 'malia Guinea Income Sudan Guinea-Bissau Tanzania Liberia Uganda Mali Zaire Mauritania Zambia Niger Zimbabwe Nigeria Sdo Torrid and Principe Sierra Leone Togo Angola Cameroon Fiji Maldives Azerbaijan Turkey Iran, Islamic Algeria Belize Botswana Cape Verde Indonesia Bulgaria Rep. Morocco Bolivia Djibouti Congo Kiribati Croatia Iraq Tunisia Colombia Namibia Senegal Korea, Dem. Czecli Jordan Costa Rica Swaziland Rep. Republic Lebanon Cuba Marshall Kazakhstan Syrian Arab Dominica Islands Kvrgyz Rep. Dorturtican Micronesia kepublic West Bank and Republic Fed. Sts. Latvia Gaza Ecuador N.Mariana Is. Lithuania El Salvador Papua New Macedonia Grenada Guinea FYRa Guatemala Lower Philippines Moldova Jamaica Solomon Poland Panama Islands Romania Paraguay Thailand Russian Peru Tonga Federation St.Vincent Vanuatu Slovak and the Western Samoa Republic Grenadines Turkmenistan Suriname Ukraine Uzbekistan Middle- Yugoslavia, income Fed. Rep. Mauritius Gabon American Belarus Gibraltar Bahrain Libya Antigua and Mayotte Samoa Estonia Greece Oman Barbuda Reunion Guam Hungary Isle of Man Saudi Arabia Argentina Seychelles Korea, Rep. Slovenia Malta Aruba South Africa Macao Portugal Barbados Malavsia Brazil New Caledonia Chile French Guiana Guadeloupe I Martinique Upper Mexico Netherlands Antilles Puerto Rico St. Kitts and Nevis St. Lucia Trinidad and Tobago Uruguay enezuela Subtotal: 170 27 23 26 8 27 10 38 (Table continues on thefollowing page) Global Economic Prospects and the Developing Countries: Classification of Economics Page I Table 1 (continued) Sub-Saharan Africa Asia Europe and Central Asia Middle East and North Africa East and Eastern Income Southern East Asia and Europe and Rest of Middle North group Subgroup Africa West Africa Pacific South Asia Central Asia Europe East Africa Americas Australia Austria Canada Japan Belgium United States New Zealand Denmark Finland France Germany Iceland OECD Ireland Countries Italy Luxembourg Netherlands High- Norway income Spain Sweden Switzerland United I Kingdom Brunei Andorra Israel Bahamas, The French Channel Kuwait Bermuda NonOECE Polynesia Islands Qatar Cayman Countries Hong Kong Cyprus United Arab Islands Singapore Faeroe Islands Emirates Virgin OAE, Greenland Islands (US) San M' arinoi Total: 210 27 23 34 8 27 28 14 5 44 a. Former Yugoslav Republic of Macedorua. b. Other Asian economies--Taiwan, China. For operational and analytical purposes the World Bank's main Definitions of groups criterion for classifying economies is gross national product (GNP) These tables classify all World Bank member economies, and all other per capita. Every economy is classified as low-income, middle-income economies with populations of more than 30,000. (subdivided into lower-middle and upper-middle), or high-income. Other analytical groups, based on geographic regions, exports, and Income group: Economies are divided according to 1993 GNP per levels of external debt, are also used. capita, calculated using the WorldBankAtlas method. The groups are: low-income, $695 or less; lower-middle-income, $696-$2,785; Low-income and middle-income economies are sometimes referred to u r -income, $ 2,786-$8,625 ad -income, $,6267or as developing economies. The use of the term is convenient; it is not upper-middle-income, 2,786-8,625; and high-income, $8,626 or intended to imply that all economies in the group are experiencing similar development or that other economies have reached a preferred The estimates for the republics of the former Soviet Union are or final stage of development. Classification by income does not preliminary and their classification will be kept under review. necessarily reflect development status. Global Economic Prospects and the Developing Countries: Classification of Economies Page 2 Table 2 Classification of economies by major export category and indebtedness, 1995 Low- and middle-income Low-income Middle-income High-income Severely Moderately Less Severely Moderately Less Not classified Group indebted indebted indebted indebted indebted indebted by indebtedness OECD nonOECD Armenia Bulgaria Hungary Belarus Canada Hong Kong China Poland Russian Estonia Finland Israel Georgia Federation Korea, Rep. Germany Singayore Korea, Dem. Ireland OAE Rep. Italy Kyrgyz Japan Exporters of Republic Sweden manufactures Latvia Switzerland Lebanon Lithuania Macao Moldova Romania Ukraine Uzbekistan Afghanistan Albania Mongolia Argentina Chile Botswana American Iceland Faeroe Islands Burundi Chad Bolivia Papua New Guatemala Samoa New Zealand Greenland C6te d'Ivoire Malawi Cuba Guinea Nanubia French Guiana Equatorial Togo Peru Paraguay Guadeloupe Guinea Zimbabwe Solomon Reunion Ethiopia Islands Ghana St. Vincent Guinea and the Guinea-Bissau Grenadines Guyana Suriname Honduras Swaziland Liberia Exporters Madagascar of nonfuel Mali primary Mauritania products Myanmar Nicaragua Niger Rwanda Sao Tom. and Principe Somalia Sudan Tanzania Uganda Viet Nam Zaire I Zambia Nigeria Angola Algeria Bahram Brunei Congo Gabon Iran, Islamic Qatar Iraq Venezuela Rep. United Arab Exporters Libya Emirates of fuels Oman (mainly oil) Saudi Arabia Trinidad and Tobago Turkmenistan Yemen, Rep. Benin Bhutan Jamaica Antigua and Barbados Aruba United Bahamas, The Egypt, Arab Burkina Faso Jordan Barbuda Belize Cayman Kingdom Bermuda Rep. Cambodia Panama Dominican Cape Verde Islands Cyprus Gambia, The Haiti Republic Djibouti Martinique French Nepal Lesotho Greece El Salvador Polynesia Western Fiji Kuwait Samoa Grenada Exporters Kiribati of services Maldives Malta Seychelles St. Kitts and Nevis St. Lucia Tonga | Vanuatu (Table continues on the following page) Global Economic Prospects and the Developing Countries: Classification of Economies Page 3 Table 2 (continued) Low- and middle-income Low-income Middle-income High-income Severely Moderately Less Severely Moderately Less Not classified Group indebted indebted indebted indebted indebted indebted by indebtedness OECD nonOECD Central Bangladesh Sn Lanka Brazil Colombia Azerbaijan Australia African Rep. Comoros Tajikistan Cameroon Costa Rica Dominuca Austria Kenya India Ecuador Indonesia Kazakhstan Belgium Lao PDR Pakistan Morocco Mexico Malaysia Denmark | i Mozambique Syrian Arab Philippines Mauntius France fied Sierra Leone Rep. Senegal Netherlands Luxembourg exporters? Uruguay Tunisia Antilles Netherlands Turkey Portugal Norway South Afnca Spain Thailand United States Yugoslavia, Fed. Rep. Gibraltar Croatia Bosnma and Andorra Czech Herzegovina Channel Republic Entrea Islands Macedonia Guam San Marino FYRc Isle of Man Virgin New Marshall Islands (US) Not classfied Caledonia Islands by erport Slovak Mayotte category Republic Micronesia Slovenia Fed. Sts. Northern Mariana Islands Puerto Rico West Bank and Gaza Number of economies 21 33 13 11 18 20 59 17 21 18 a. Other Asian economies--Taiwan, China. b . Economies in which no single export category accounts for more than 50 percent of total exports. c. Former Yugoslav Republic of Macedonia. Definitions of groups These tables classify all World Bank member economies, plus all other to GNP (80 percent) and present value of debt service to exports (220 economies with populations of more than 30,000. percent). Moderately indebted means either of the two key ratios exceeds 60 percent of, but does not reach, the critical levels. For Major export category: Major exports are those that account for 50 economies that do not report detailed debt statistics to the World Bank percent or more of total exports of goods and services from one Debtor Reporting System, present-value calculation is not possible. category, in the period 1988-92. The categories are: nonfuel primary Instead the following methodology is used to classify the non-DRS (SITC 0.1.2. 4, plus 68), fuels (SITC 3). manufactures (SITC 5 to 9, econo.ies.Severelyindebtedmeansthreeoffourkeyratios(averaged less 68), and services (factor and nonfactor service receipts plus over 1991-93) are above critical levels: debt to GNP(50 percent); debt workers' remittances). If no single category accounts for 50 percent to exports (275 percent). debt service to exports (30 percent); and or more of total exports, the economy is classified as diversified interest to exports (20 percent). Moderately indebted means three of Indebredness: Standard World Bank definitions of severe and four key ratios exceed 60 percent of, but do not reach, the critical moderate indebtedness, averaged over three years (1991-93) are used levels. All other classified low- and middle-income economies are to classify economies in this table. 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