Breaking up a Triple Play on Poor Countries: Changing U.S. Policy in Trade, Aid and Debt Relief

THE CRIPPLING EFFECTS OF U.S. TARIFFS AND QUOTAS

In a speech at the Council on Foreign Relations on March 20, 2000, U.S. Treasury Secretary Lawrence Summers proclaimed, "Quite simply, rapid, market-led growth is the most potent weapon against poverty that mankind has ever known."³ Yet the United States persists in imposing tariffs and quotas on many poor countries, crippling their efforts to create just such market-led growth.

The use of quotas is particularly damaging to market development in poor countries. The economic effect of a quota, similar to that of a tariff, is to restrict the volume of imports from foreign countries. Quotas harm both foreign producers and domestic consumers without generating any tax revenue for the country imposing the quota. Quotas inflate the price of a product and restrict its supply, adding significantly to the cost for consumers. American consumers pay tens of billions of dollars in higher prices as a result of the U.S. quota system.⁴ The cost to developing nations is even higher, choking their economic development by restricting sales of their products.

Although the United States maintains quotas on a number of commodities, such as sugar and peanuts, foreign textiles and apparel are the main target of this protectionist tool. The burden of the U.S. textile and apparel quota system falls disproportionately on poor countries. As Chart 1 shows, 37 countries with a per capita gross domestic product (GDP) of less than $10,000 faced some form of U.S. quota in 1999 on their apparel and textile products. Yet, of the countries with a per capita GDP of more than $25,000, only two faced such quotas.⁵

America's weighted average tariff rate of only 2 percent on worldwide imports is, by global standards, low.⁶ However, rather than apply this average rate evenly among nations, the United States applies tariffs according to the type of product imported. Unfortunately, the goods that face the highest U.S. tariffs are precisely those that the poorest countries produce, namely agricultural goods and textiles and apparel. This presents a significant obstacle to the poorest countries. The high level of tariffs combined with the impact of quotas is prohibitive for any country struggling to create even an initial presence in the world economy.

The discrepancy in U.S. tariff rates between rich and poor countries exists because poor countries tend to export many of the commodities that are subject to high tariffs. Low-income countries develop industries in which they can maintain a comparative advantage and that provide goods and services that meet the basic needs of their populace. The agricultural and textile and apparel sectors are labor-intensive and do not require sophisticated machinery or large amounts of capital to make a profit. What they do require, and what developing countries have an abundance of, is people.

For many medium- and low-income countries, agricultural exports are a vital source of income. For example, the people of Zimbabwe, an African country with a per capita GDP of $610 in 1997,⁷ depend on agricultural exports, which amount to 40 percent of the country's total exports. The notion that food imported from Zimbabwe might pose a threat to U.S. producers is laughable: Food from Zimbabwe accounts for less than one-tenth of 1 percent (0.07 percent) of total U.S. food imports. In spite of this negligible share of the U.S. market, Zimbabwean food imports are subject to an average tariff rate of 9.88 percent--almost five times the U.S. average. Even if the United States lowered its tariff rate on agricultural products, the increase in food imports from Zimbabwe still would not make a dent in the U.S. economy or pose a threat to U.S. producers. In fact, if Zimbabwe exported its entire economy to America, it would equal less than 1 percent of America's GDP.

Weighted average U.S. tariff rates vary widely yet predictably when plotted along the lines of economic wealth. Countries whose inhabitants earn a per capita GDP of more than $25,000 face an average U.S. tariff rate of 2 percent.⁸ Twenty-five countries with annual per capita GDPs of less than $1,000--approximately the amount that a minimum wage worker in the United States earns in one month--face tariff rates greater than the U.S. average.

Nepal and Bangladesh, for example, face average tariff rates of 13.2 percent and 13.6 percent, respectively--over six times the average U.S. tariff rate. They are subject to these high taxes on trade because textile and apparel products constitute a large percentage of their total exports--85 percent in the case of Nepal and 77 percent for Bangladesh.⁹ Yet these countries, whose per capita GDPs are each less than $300, face significant obstacles in selling their products to the United States.

By gaining access to the world market, where the demand--and remuneration--is much higher than in domestic markets, poor countries can acquire more capital. This capital in turn fuels further production, increases savings, and fosters the development of new industries that will create further economic growth.

Since tariffs add to the cost of selling a product in the United States, imported goods are less competitive than domestic products. The impact of tariffs on imports entering the United States depends on the size of the tariff and the responsiveness of consumers to price changes. In the case of some textile and apparel imports, and for some agricultural products, consumers are highly sensitive to price changes and will buy a domestic product rather than an import should the latter become too expensive. For example, for every 1 percent increase in the tariff rate for imported knitted fabrics, consumption of domestic knitted fabrics increases by 2.916 percent.¹⁰ Thus, even a small increase in the tariff rate will discourage the purchase, and ultimately the production, of these imports and restrict developing countries' access to one of the world's largest markets.

Ironically, any benefits the tariffs produce for the U.S. economy are miniscule compared with the total cost the United States pays for this protection. In fact, on net, these tariffs harm American consumers. Economists at the Institute for International Economics estimate that consumers would save $70 billion if the United States eliminated all tariffs and quantitative restrictions on imports-- about $750 per American household.¹¹ Approximately 35 percent of these gains--or $24.4 billion--would accrue from liberalizing the apparel and textile sector.

The apparel and textile industry has been in decline for decades, and its share of the U.S. economy has dwindled steadily. The sector has lost approximately 30 percent of its workforce since 1989. Today the textile and apparel sector comprises just 1 percent of total non-farm employment in the United States and pays an average wage far below the national average--nearly 20 percent below for the textile sector and 33 percent below for the apparel sector.¹² Meanwhile, the cost to U.S. consumers of saving just one job in the apparel and textile industry has been estimated at over $100,000 each year.¹³ Thus, the United States is protecting an industry that is naturally in decline, at a significant cost both to American consumers and to people in low-income countries.

The United States, which created more than 19.2 million jobs over the past decade,¹⁴ provides numerous opportunities for displaced workers to find new jobs. Those unemployed in the United States can find a new job in a relatively short time period--the median amount of time it takes for someone to find a new job is 6.4 weeks.¹⁵ Moreover, the United States maintains a safety net to assist workers who are temporarily displaced, and even maintains a special program for those who lose a job due to trade.¹⁶

In contrast, when a factory shuts down in a country such as Bangladesh, Nepal, or Zimbabwe, aided in part by prohibitive U.S. tariffs, the unemployed have no safety net. For workers who lose their jobs in these countries, the opportunities for new employment simply do not exist, and the alternative is dire.

THE INEFFECTIVENESS OF FOREIGN AID

Many of the low-income countries that face high U.S tariffs also receive significant amounts of foreign aid from the United States. This assistance is often disbursed through the U.S. Agency for International Development (USAID), a semi-autonomous arm of the U.S. Department of State. According to the USAID mission statement, seven objectives drive its programs. The first objective is "to support Broad-based Economic Growth and Agricultural Development." The statement continues:

Experience has demonstrated that broad-based economic growth is required for poverty reduction. In the poorest countries, agricultural development is critical for initiating and sustaining broad-based economic growth. Success in reducing global poverty, therefore, depends on economic growth and agricultural development.¹⁷

The best means of fostering economic development is to open markets to international trade.¹⁸ The Clinton Administration extols this view, particularly in connection with the Africa trade bill. As the world's largest economy--and in keeping with its stated desire to extend humanitarian aid to developing nations--the United States logically should open its market to these poorest of poor countries.

Yet this is precisely what the United States has not done. For instance, in 1998, the United States gave $30 million in aid to Nicaragua, a country with a per capita GDP of $465.¹⁹ Meanwhile, the country, which has a history of receiving U.S. assistance (USAID allocated nearly $29.7 million for fiscal year 2000 to add to the $1.379 billion Nicaragua has received in foreign aid already²⁰) faces a tariff rate that at 7.6 percent is nearly four times higher than the average. That the United States applies this high tariff rate to goods from an economy it has pledged to develop is at best inconsistent and renders any efforts at economic growth through trade implausible.

Even as the United States pledges its assistance to foster economic development in the poorest of countries, it cripples that very same endeavor through its high tariffs and quotas. For example, on March 20, 2000, President Bill Clinton announced that the United States would give $8.6 million in aid to Bangladesh to eliminate child labor, in addition to $97 million in food aid and $30 million for a clean energy program for the country. At the same time, Bangladesh, in trying to promote economic development through the efforts of its own people, faces an average U.S. tariff rate of 13.64 percent. For a nation as desperately poor as Bangladesh--its per capita GDP was only $262 in 1997--this high rate can block any practical development efforts.

During his visit to Bangladesh, President Clinton hailed the success of that country's economic growth since the creation of the World Trade Organization (WTO) effectively lowered trade barriers in 1995. The fact that the Administration could easily have made this development all the greater by lowering tariff rates on agricultural and textile goods, at negligible cost to Americans, makes this convoluted U.S. policy all the more reprehensible.

Moreover, foreign assistance--even by those agencies whose sole purpose is giving aid--has proved ineffective historically. World Bank analysis of past loans and credits concludes that assistance "has a positive impact on growth [only] in countries with good fiscal, monetary, and trade policies."²¹ In countries with poor policies, aid has had a negative impact. Analysis by Robert Barro of Harvard University reveals that countries with "good fiscal, monetary, and trade policies" are more likely to experience positive economic growth whether they receive assistance or not.²² Countries with poor economic policies have not experienced sustained economic growth regardless of the amount of assistance received.²³ Clearly, foreign assistance is not the key to development; good economic policies are.

FLEETING DEBT RELIEF

The burden of conflicting U.S. policies on low-income countries is even greater for the Heavily Indebted Poor Countries, or HIPCs. (See page 8.)

Extremely poor countries owe an overwhelming amount of overall debt. Many of the HIPCs face external debt that is more than twice their gross domestic product, and servicing that debt consumes ever-larger shares of government revenue and scarce foreign exchange. As this burden increases, these countries must allocate greater portions of their budgets to servicing debt, which results in higher taxes, more borrowing, and debt default.

President Clinton and many in Congress have argued for the need to forgive the debt of the world's poorest nations. Advocates of debt relief rightly maintain that these nations cannot hope to develop economically if they cannot dig themselves out from under their crushing debt burden. While the governments of these countries cannot escape culpability for the current economic situation, developed nations must share the blame for perpetuating the destructive cycle of lend-forgive.

In 1999, President Clinton announced that he would ask Congress to pass legislation to forgive the debt that 36 extremely poor countries owe to the United States.²⁴ This $5.7 billion debt is largely the product of decades of failed foreign aid. The White House has requested $970 million for debt relief. Congress authorized $123 million for bilateral debt forgiveness in FY 2000, provided that the financial windfall from forgiveness is used to address poverty specifically; but Congress did not appropriate any funds for the HIPC Trust Fund to finance the multilateral debt relief.

In the FY 2001 Budget of the United States Government, the White House requested an additional $810 million for debt relief. This request includes $210 million for the HIPC Trust Fund in FY 2000 supplemental appropriations; $225 million in FY 2001, including $75 million for bilateral relief and $150 million for the HIPC Trust Fund; and $375 million for FY 2002, with $135 million to go to bilateral relief and $240 million to the HIPC Trust Fund.²⁵

The House Appropriations Committee declined to include the Administration's proposal in its recently passed FY 2000 supplemental appropriations bill (H.R. 3908). However, the Senate Foreign Relations Committee has announced its support for the President's $600 million request for the HIPC Trust Fund and is likely to include authorization for multilateral debt forgiveness in its FY 2001 authorization bill.

Forgiving debt is appropriate, because assistance, though well-meaning, fosters dependence on aid and discourages reform. However, simple debt forgiveness is not enough. Poor countries will again increase their debt burden by accepting foreign assistance with little possibility of positive economic results under the current foreign aid system. Thus, in order for the debt forgiveness to be of any use to these countries, the methods of extending foreign assistance must be reformed and developing countries must be encouraged to implement reforms that would enable them to borrow from private credit markets.²⁶

For the HIPCs to succeed in the international economy, they must have access to developed country markets. Yet the United States levies the most onerous of its tariffs--as high as 45 percent--against some of these HIPC nations. The most egregious examples of these high tariffs against HIPCs are those imposed on products from Laos and Vietnam, two countries that do not have normal trade relations (NTR) with the United States. Although the United States is unwilling to develop normal trade relations with Laos and Vietnam, it is preparing to forgive their massive debt burdens for the purpose of economic development.

Certainly, political and humanitarian considerations are at play in U.S. policy toward Laos and Vietnam. Both countries' communist regimes have been condemned for human rights abuses. However, these considerations are valid for China as well. If U.S. policies are to be seen as consistent, the United States must apply the philosophy behind its dealings with China--that the best means of succoring the people in a communist country is to give them greater access to the rest of the world and greater freedom to make their own choices--to the regimes in Laos and Vietnam. Giving people the chance to participate in the world economy is the best way to weaken the grip of repressive governments and undermine their ability to perpetuate human rights violations.

WHAT WASHINGTON SHOULD DO

To end the current destructive inconsistency in U.S. policy toward poor countries, Congress and the Administration should take several steps. Specifically, they should:

• Lower tariffs and remove quotas in the agriculture and textile and apparel sectors. This could be accomplished by waiving tariffs against low-income nations and removing the punitive quotas that hinder market development in these countries.

• Pursue and monitor timely implementation of the Agreement on Textiles and Clothing at the World Trade Organization. Countries that signed the agreement pledged to integrate all of the quotas negotiated under another agreement, known as the multifiber agreement (MFA), into the WTO framework by January 1, 2005. They also agreed that all quotas will be converted into tariffs by that date and made a part of the WTO dispute settlement process. On a practical level, the ATC's chances of success may be slim because the United States back-loaded the removal of its quotas by leaving the bulk of the conversion to the final years of the agreement. Some suspect that this is a stalling tactic--that the United States does not intend to complete the elimination of politically sensitive quotas, such as those on textiles and apparel. The United States must show the world that it is committed to free trade and demonstrate leadership by following through on its commitments to the ATC.

• Condition debt forgiveness on the promise that the country would forgo assistance in the future. Foreign assistance has done little more than add to the burden that many developing countries face by increasing their overall debt. According to the World Bank, bilateral assistance to the 40 HIPC countries accounted for an average of 42 percent of their total debt in 1997.²⁷ Breaking the cycle of aid dependency would help these countries institute the sound economic policies they need to build their own prosperity in the future.

Together, these steps would enable Washington to reverse the triple-play policy approach that currently undermines the efforts of poor countries to build their markets and achieve sustainable development.

CONCLUSION

Economic growth, even in the most remote corners of the world, is in America's national strategic interest. Market development in developing countries is the most effective means of promoting the rule of law; and economic growth contributes to stability.

The United States should reverse its contradictory policies of high trade barriers, foreign assistance, and debt relief if it hopes to encourage the poorest countries to achieve sustainable development. Today's thriving economy offers these countries an opportunity to build a sound framework for economic growth. Congress and the Administration should work together to establish an unambiguous policy that promotes economic development around the world. In this present age of American prosperity, the United States can help people in the poorest countries work toward their own prosperity by simply granting them the opportunity to do so.

Denise H. Froning is a former Policy Analyst, and Aaron Schavey is a current Policy Analyst, in the Center for International Trade and Economics at The Heritage Foundation.