Impact of Dumping and Agricultural Subsidies on Developing Countries

The term subsidy is often used in the economic context, but the concept behind it fails to have been defined appropriately for all practical purposes. The term is most often used synonymously with governmental transfer of money to an entity in the private sector, or it may refer to the provision of a good or service at a price below what a private entity would otherwise have had to pay for it. Moreover, it may also refer to various government policies that may favorably affect the competitive position of private entities, in the form of procurement policies or programs to educate workers. Ambiguity continues to prevail with respect to the aforementioned measures as ‘subsidies’ in the meaningful sense of the term. [1] 

Governments engage in a wide range of tax and expenditure policies that impose costs and confer benefits on entities belonging to the private sector. To an economist, perhaps a natural phenomenon for identifying subsidization is a hypothetical market equilibrium without governmental activity. The classic economic models of general competitive equilibrium, for example, are entirely decentralized and embody no government sector. [2] The government makes an entry by way of taxation and expenditure policies, this alters equilibrium prices and output. Activities for which the net returns are reduced are discouraged to some degree, and those activities are then subject to be ‘taxed.’ Activities for which the net returns are enhanced will be encouraged to a degree, and they may be said to be ‘subsidized.’

The difficulty with this concept of subsidization is that it is exceedingly difficult to apply as a practical matter. The hypothetical market equilibrium without government cannot be observed, and indeed is not clear that the concept is coherent. Implicit in the classic general equilibrium models is a capacity for actors to engage in transactions, yet it is difficult to see how such a capacity can arise in a large economy without a government to create property rights. Further, the deviations from any benchmark equilibrium that result from government activity are exceedingly complex. Governments engage in a wide variety of taxation practice, not only are the number of tax instruments large in number, but the incidence of the various taxes is often quite uncertain. Governments also engage in innumerable regulatory programs that impose costs on private entities of various sorts; in the form of occupational health and safety programs, environmental quality programs, programs to transfer resources to certain disadvantaged groups, and untold others. Finally, government expenditure programs provide vast benefits to private sector entities in direct and indirect ways, including public education, highways, research and development funding, low cost insurance, fire and security services, a legal system, and on and on.

Against this backdrop, it is surely impossible in practice to ascertain the precise impact of governmental activity on any entity according to the sort of benchmark put forth above. The simplest alternative is to look at each government program in isolation, and to ignore the question of whether any benefits conferred may be offset by costs in another form. If a particular program confers benefits on a private entity, a subsidy is declared to exist without further inquiry.

Further it is plausible to assume that generally applicable tax, expenditure and regulatory policies affect most enterprises almost in equal standards and thus do not confer any form of subsidy. Programs of narrow applicability that target benefits at particular industries, by contrast, might be assumed to confer benefits that encourage production in that industry. To illustrate, a government might make an investment tax credit available to all industries that use durable goods, on the premise that all industries benefit about equally and that any affects on international competitiveness wash out through exchange rates, such a program might be ignored for purposes of identifying subsidies. By contrast, if the automobile industry is the beneficiary of a special tax credit program for investment in automobile manufacturing, a subsidy might be found as to that industry.

Yet another alternative is to focus on the impact of government on private activities relative to the impact of other governments on similarly situated entities elsewhere. In the international context, one might look for programs that seem to confer particularly large benefits on particular entities relative to the benefits that governments confer on similar entities in other countries. The presumption would be that most governments tax and regulate in somewhat similar fashion, resulting in similar effects on the competitive position of most private entities – only when a program for a particular group of private entities stands out as especially generous relative to such other programs would a subsidy be present. Thus, for example, if most governments provide a certain range of benefits to their farmers, those programs might be presumed to have a cancelation affect in international trade more or less, and no subsidy would be found.

Each of these alternatives have obvious deficiencies. The first has the virtue of simplicity, but its essential failing has been noted above – by ignoring the offsetting costs imposed by government on private actors it raises a great danger that subsidization will be found where a private entity has not been meaningfully advantaged by government programs. Indeed, because so many government programs are funded out of general revenues, a narrow focus on particular government expenditure programs without any offset for various forms of taxation would lead to the conclusion that there is rampant subsidization.

The second alternative deals with the insuperable complexities of calculating the net impact of national governments on domestic industries which are avoided by assuming that generally applicable programs have a neutral impact while targeted programs do not. But there is no reason to believe that this assumption is correct. Many broadly applicable programs have widely disparate effects on different industries.

The third alternative brings out another dimension, and treats subsidization as an alteration in the competitive position of private entities relative to similar entities elsewhere. This shift in emphasis perhaps captures the notion that subsidization involves ’tilting the playing field’, and might be defended on that basis. This assumption has inherent practical problems – the presumption that most governments tax and regulate similarly with respect to background factors that affect the competitive position of private entities is highly suspect, and the mere fact that a particular type of program exists in one country and not another, or is more generous in one country than in another, is at best a weak marker for a program that shifts the competitive balance overall.

In sum, it is far easier to conceptualize a subsidy in simple economic models that it is to identify a subsidy in practice. Any administrative rule for determining whether a particular government program is in relation to subsidy or not will result in serious errors of over-inclusion and under-inclusion.

The OECD, which estimates agricultural subsidies, uses a broad definition that includes any government policy that distorts the market such that prices do not reflect marginal costs. So a tariff on imports, which taxes consumers by raising the price of imported agricultural products to benefit producers, is a subsidy, just like a direct payment to a farmer. That however is not the common understanding of a subsidy. Their definition is narrower, referring only to government payments that allow prices to remain below marginal costs. Some are direct, such as payments to farmers; others are indirect, such as government support for irrigation infrastructure, which allows producers to exclude that cost from their prices. The OECD’s Producer Support Estimate (herein after ‘PSE’) is the most widely used estimate of the agricultural subsidies provided to the farmers on the developed countries.

The PSE has been challenged by the developed nations on the grounds that the two-thirds of the estimate is comprised of not the direct support provided to the farmers but rather what is referred to as the non-subsidy support. This component of the PSE includes the market price support which is essentially the tariffs, price support and quotas. Despite the fact that none of these are subsidies per se yet he OECD figure tries to calculate the dollar estimate of this figure and incorporate it in the PSE. [3] 

Dumping – An Overview

In economics, dumping can refer to any form of predatory pricing, and is by most definitions a form of price discrimination. However, the word is now generally used only in the context of international trade law, where dumping is defined as the act of a manufacturer in one country exporting a product to another country at what may be perceived as an unreasonably low price, usually meaning below the costs of production. The term has a negative connotation, but advocates that free markets see dumping as beneficial for consumers. When these subsidized goods are exported to foreign markets it can be referred to as dumping. [4] 

More than 40 members of the World Trade Organization (herein after ‘WTO’) are now active users of antidumping policy, and developing countries are the newest and most frequent users. However many developing countries have started using antidumping to limit imports, thereby having given up other forms of flexibility in trade policy by adopting WTO disciplines and agreeing to bind their tariffs. Despite antidumping policy’s escalating use by developing countries, relatively little is known about which industries within developing countries are using antidumping and how they are using it.

Under the WTO Antidumping Agreement, any member that uses the policy must create an administrative procedure to investigate demands for antidumping protection. Firms in an industry that seek this form of import protection must overcome the organizational challenges of free riding in order to initiate and successfully pursue an antidumping legal proceeding. Before a government can impose a definitive antidumping import restriction, the Agreement also requires that its administrating authority solicit and collect substantial economic evidence to confirm that market conditions and behavior of foreign exporters satisfy technical, WTO mandated legal criteria. Nevertheless, given that antidumping has become many WTO member governments’ protectionist instrument, the resulting pattern of antidumping import protection across industries may be an increasingly important indicator of these countries overall patterns of import protection.

While the four “historical” developed-country users of antidumping – the US, EU, Canada and Australia – have continued to be active users under the WTO, they are no longer the dominant users as they were during the prior decade (1985-1994) under the GATT regime. A sizable share of the global use of antidumping, at least as measured by the frequency of initiated cases and imposed measures, is now made up of new user developing countries such as Argentina, Brazil, Colombia, India, Indonesia, Mexico, Peru, Turkey and Venezuela, the nine developing countries forming the sample of our formal empirical investigation. [5] 

WTO and the Agreement on Agriculture

An attempt to regulate the protection afforded to the farmers in the developed countries and the tariff rates in the developing countries through the Agreement on Agriculture which is an international treaty of the World Trade Organization. It was negotiated during the Uruguay Round of the General Agreement on Tariffs and Trade (herein after ‘GATT’), and entered into force with the establishment of the WTO on January 1, 1995. This AoA is based on three concepts or pillars which are domestic support, market access and export subsidies.

However not much has changed since the AoA was implemented. The document hinged precariously on eliminating agriculture subsidies as a basic step in getting the fiscal house in order. Knowing well that any reduction in subsidies would be politically suicidal, the developed countries managed to not only maintain the level of subsidies but in fact succeeded in increasing it manifold. At the same time, they continue to arm-twist the developing countries to reduce tariffs and open up markets for farm goods from the industrialized countries. As already stated, the developed nations often believe that the PSE is not an accurate indicator of the amount of the protection afforded by them and have repeatedly challenged this statistic. In this paper the researcher will analyze the subsidies granted to the agricultural sector in the developed nations, its impact on the developing nations and the role played by the WTO in negotiations between these two blocs.

C h a p t e r 1 : A g r i c u l t u r a l S u b s i d i e s a n d D u m p i ng in t h e D e v e l o p e d N a t i o n s

Widespread dumping by the Developed Nations: The WTO Antidumping Agreement and the Theory of Endogenous Trade Policy January 1, 2005 marked the 10-year anniversary of the World Trade Organization’s Agreement on Agriculture (AoA). When governments launched the agreement, they hailed it as a victory for farmers around the world: farmers were to benefit from more trade, greater access to markets and higher prices. A decade later, there is unquestionably more trade in agricultural products. However, higher and fair prices for farmers seem further away than ever. It is hard to make the case that the Agreement on Agriculture has done anything to benefit farmers anywhere in the world. Since the WTO’s inception, widespread agricultural dumping, the selling of products at below their cost of production, by global agribusiness companies based in the United States and European Union has wreaked havoc on global agricultural markets. Hit hardest are the farmers in the developing and the least developed nations who have been forced to go out of business because of these policies.

The Institute for Agriculture and Trade Policy (IATP) has documented export dumping from U.S.-based multinational corporations onto world agricultural markets for the last 14 years. The U.S. is one of the world’s largest sources of dumped agricultural commodities. The latest update shows that the US still undertakes large scale dumping the five most commonly exported products namely; wheat, soybean, corn, cotton and rice. Though the statistic shows that the amount of dumping has gone down as compared to the previous statistic but this is perceived to be largely as a result of the reduced supply because of bad weather and pest infestation than as a change in policy. [6] 

The proliferation of WTO-authorized antidumping laws and the global increase in use of this form of administered import protection has been widely recognized (Miranda, Torres and Ruiz 1998; Prusa, 2001; Zanardi, 2004). While antidumping was once a policy instrument used primarily by the US, Canada, EU and Australia, it is now used actively by over 40 WTO member countries. To develop a theoretical motivation for our empirical analysis of the determinants of antidumping use by industries in developing countries, we proceed in two steps. In the next section we describe the WTO Antidumping Agreement, which sets out the general rules for national administration of antidumping law as well as the technical evidence necessary for a government to justify imposition of any new antidumping measure. Given the political-economic environment created by the WTO Antidumping Agreement, in section we use the theory of endogenous trade policy to generate additional testable predictions for the econometric analysis.

The WTO’s evidentiary requirements for national use of antidumping

Since the 1947 GATT, the rules of the international trading system have authorized countries to establish national antidumping statutes and to implement antidumping trade restrictions. [7] During the Kennedy and Tokyo Rounds in the 1960s and 1970s, negotiators attempted to put more structure on the GATT antidumping rules, but countries adopted the resulting Antidumping Codes only on a plurilateral basis. The 1995 inception of the WTO and its Antidumping Agreement (WTO, 1995) provided more detailed guidance for countries to implement and administer antidumping laws. [8] First, because the Antidumping Agreement was part of the Single Undertaking, it established a common set of basic rules that would apply to all WTO members and be subject to the enforcement provisions of the WTO Dispute Settlement Understanding (DSU). [9] Second, relative to the GATT, the WTO Antidumping Agreement did impose more structure on the evidentiary requirements for a government to implement a new antidumping measure, although those requirements still allow for substantial government discretion and are at best questionable from the perspective of economic welfare.

Under the Antidumping Agreement, a national government must undertake an investigation and consider substantial economic evidence before it can impose a definitive antidumping measure that restricts imports. The investigating authority is instructed to consider a number of factors when making its decision, but most critical among them are whether two important legal criteria have been met: that a domestic industry suffers “material injury” and that this injury is the result of “dumped” imports.

The domestic industry provides evidence of dumping to the national government’s antidumping authority by showing that prices of competing products sold by foreign exporters in the domestic market were lower than the “normal value” of the product (WTO, 1995; Article 2.1). The national government authority has substantial discretion in calculating the normal value benchmark with which to compare the export price. The benchmark can be determined by any of three methods: i) the price for sales of the same good in the exporter’s home market, ii) the price for export sales of the same good in a third market, or iii) a constructed measure of the exporter’s average cost. [10] 

Dumping in the United states: Dumping by U.S.-based corporations is possible because commodity production is badly managed. The 1996 and 2002 U.S. Farm Bills have produced a vast structural, price-depressing oversupply of most major agricultural commodities. This oversupply has driven prices down. Both the 1996 and 2002 Farm Bills were driven by efforts to make them compliant with WTO rules. The result has been the institutionalization of agricultural dumping by U.S. farm policy. U.S. farm subsidies are frequently blamed for agricultural dumping, yet they are only a symptom of a much deeper market failure. The sharp increases in agricultural dumping in the U.S. can be traced to the 1996 U.S. Farm Bill, which stripped away already weakened programs that were designed to manage supply. These supply management programs helped to balance supply with demand, ensuring a fair return to farmers from the marketplace. The pre-1996 commodity programs in effect set a floor price that commodity buyers had to pay farmers. Given the structural imbalance in market power between farmers and agribusiness corporations, the government traditionally intervened to ensure competitive markets and prevent anticompetitive business practices. [11] 

In 1996, the U.S. government abandoned intervention mechanisms at the behest of agribusiness lobbyists, supported by “free” trade economists. The result: U.S. agricultural prices went into freefall. Without the supply control programs and other interventions, commodity buyers were able to drive prices below the costs of production and leave them there. To prevent the collapse of U.S. agriculture, Congress then set up “counter-cyclical payments” to make up part of the losses resulting from the Farm Bill “reforms.” The U.S. now has very expensive farm programs that distort market signals while doing nothing to correct the deeper distortion inherent in the unbalanced market power between farmers and commodity buyers and processors. [12] 

The event of dumping in itself does not pose a major problem for the international community but what has been a constant source of concern is the widespread damage that has caused to the developing countries. [13] The researcher shall devote the next two chapters of this project to discuss the damage that have been caused all around the world because of dumping by the developed countries and the mechanism employed by the WTO to counter this problem and how far that has been successful.

C h a p t e r 2 : T h e I m p a c t o f D u m p i n g a n d A g r i c u l t u r a l S u b s i d i e s o n D e v e l o p i n g C o u n t r i e s.

Ten years after the World Trade Organization (WTO) came into existence, and some 20 years after the holy grail of economic liberalization for more open markets and less government intervention in the developing world based on the idea that economies must grow if poor people are to reap the benefits of globalization, the tragedy is that the process of economic liberalization may already have set poor communities back a generation. [14] No where has the impact been more severely felt than in the agricultural sector.

Conventional wisdom has it that the agricultural sector is heavily subsidized in most developed nations. Whatever difficulties may arise in determining the net impact of government on industries in general, most observers seem to agree that agriculture is a net beneficiary of government largesse.

It is ironic that the one sector considered to be the most subsidized is subject to the least degree of discipline on subsidies (among goods markets). As noted, both export and domestic subsidies are generally permissible under the WTO Agreement on Agriculture, though subject to negotiated ceilings and some reduction over time.

The absence of tight discipline on export subsidies is unfortunate for the reasons discussed at length earlier. Export subsidies are almost certainly a source of economic distortion, and indeed the agricultural sector affords a case study of how pressures for competitive subsidization have led trading nations down the road of mutually wasteful expenditures.

The resistance to the elimination of domestic farm programs is likely a source of economic waste as well, for much the same reason that any form of protectionism is a source of waste. But as indicated in the discussion of protective subsidies, it is hardly clear that protection through subsidization is any worse from an economic standpoint than other forms of protection. Thus, if the political equilibrium is such that agriculture must be protected, domestic farm programs may be no more troublesome that border measures.

One objection that might be tabled to the continued coexistence of domestic farm programs and protective border measures for the same commodities (assuming that protection is inevitable) is that multiple protective measures complicate trade negotiations. If country A wishes to bargain for access to the agricultural markets of country B, it is harder to evaluate the benefits of a tariff concession from country B in the face of a subsidy program that also protects farmers in country B. The added transaction costs of negotiation in the face of multiple instruments of protection can be avoided by channeling all protection into a single, transparent policy instrument-this is the essential rationale for efforts in the WTO/GATT system toward “tariffication” of all trade barriers.

Yet, the prevalence of domestic farm programs suggests that border measures alone are inadequate to the task of achieving the anticompetitive purposes compelled by current politics. One need only look at the United States, which is a net exporter of many agricultural commodities, to realize that import restrictions may do little to ensure politically acceptable prices or rates of return to the producers of certain commodities.

Thus, perhaps the best that can be done is to schedule all the protective policies, both subsidies and tariffs, and bargain over both simultaneously to achieve limits on their magnitude. This is the approach of the Agriculture Agreement, and one might reasonably hope that sequential rounds of negotiations over these protective instruments in the agricultural area will produce gradual liberalization, much as the sequence of negotiating rounds under GATT brought great reductions in the tariffs applicable elsewhere.

There is also something to be said for the effort in Annex 2 of the Agriculture Agreement to favor subsidies that do not encourage output. To the degree that subsidies are being granted for reasons that do not relate to the correction of an externality, programs that confer financial benefits on the intended recipients without inducing an expansion of their output may create fewer distortions. The caveat, of course, relates to the fundamental problem of identifying subsidies in the first instance-an output-expanding subsidy might counteract some distortion associated with other tax and regulatory policies. But in the agriculture sector, where most observers believe that net subsidies are present at the outset, efforts to channel farm aid into programs that do not stimulate agricultural production may make good sense.

Subsidies to the producers of goods and services lower the producers’ costs of production, other things being equal. This reduction in their costs of production can lead to an expansion of their output in two ways, depending on the nature of the subsidy. First, some subsidies depend directly on output-the subsidy program may provide a producer with $1 for each widget that it produces, for example (or $1 for each widget that it exports, the classic “export subsidy” discussed below). Subsidies that increase with output in this fashion are economically equivalent to a reduction in the short-run marginal costs of production for the producer that receives them. In general, producers will respond to a reduction in short-run marginal costs by lowering price. Of course, when price falls, the quantity demanded by buyers will rise and output will expand to meet the increased demand.

Second, even where the amount of the subsidy is not contingent on output and does not affect short-run marginal costs of production, subsidies can affect long-run marginal costs in a way that causes additional productive capacity to come on line or to remain on line. For example, imagine an unprofitable company that is unable to cover its variable costs of production at any level of output, and would thus shut down its operations under ordinary circumstances. A subsidy to that company that is contingent on it remaining in business can avert a shut-down in operations-it must simply be enough to allow the company to cover its variable costs at some level of output. Likewise, a subsidy can induce a company to build new capacity to enter a market when the expected returns to entry absent the subsidy would not be high enough to induce entry.

It is also possible, to be sure, that a “subsidy” will have no impact on the output of recipients. Imagine, for example, that a government simply sends a company an unexpected check for $1 million. The money is in no way contingent on the company’s output, or on it remaining in business. The owners of the company will be pleased to receive this subsidy, of course, but there is no reason for them to change their operations in any way-whatever level of output was most profitable without the subsidy will also be most profitable with the subsidy.

These observations suggest another important issue that must be confronted in conceptualizing subsidies. For a government program to confer a “subsidy,” must it encourage an increase in output by the recipient? If it does not, then it cannot “tilt the playing field” in a way that causes detriment to competing producers. But if this question is answered affirmatively, it becomes necessary to inquire whether the government program in question affects marginal costs in the short run, or has an effect on long-run marginal cost that is sufficient to cause capacity to remain in production when it would exit otherwise, or to enter when it would not otherwise. Such issues are not always easily resolved. [15] 

The adverse effect of Dumping: Dumping in amongst the most harmful of all price distortions; developing country agriculture, vital for food security, rural livelihoods, poverty reduction and generating foreign exchange, is crippled by the competition from major commodities sold at well below cost of production prices in world markets. The structural price depression associated with agricultural dumping and a dual effect on the agricultural structure of the developing countries. Firstly, as a result of the below cost imports the farmers are driven out of their domestic markets. If the farmers do not have access to a safety net of subsidies and credit, they have to abandon their land. When this happens, the farm economy shrinks, in turn shrinking the rural economy as a whole and sending rural people into trade-related migration. Second, developing country farmers who sell their products to exporters find their global market share undermined by the policy of a depressed “global price.” The cascading effects of dumping are felt around the world in places as far apart as Jamaica, Burkina Faso and the Philippines. [16] 

The effect of Dumping on Indian Agriculture: The liberalization of the Indian economy initiated during the early 1990s was launched with a view to accelerating agricultural growth by ending discrimination against agriculture. The idea was to turn the terms of trade in favor of agriculture through a large, real devaluation of the currency and increase in output prices of agriculture. An exponential growth was expected which was to have a significant impact on poverty reduction and thereby have a positive impact on livelihood security of hundreds

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