Bilateral Trade Agreements between the EU and the Philippines - Essay Example

Bilateral Trade Agreements between the EU and the Philippines INTRODUCTION "A free trade agreement is a pact between two countries or areas in whichthey both agree to lift most or all tariffs, quotas, special fees and taxes, and other barriers to trade between the entities" (White). Free trade, among others is the hottest issue on international politics and economics. Some view globalization in this respect as beneficial, but some feel the suffering of those who are affected by this development. In this paper, we shall study specific bilateral trade partners, the big and prosperous European Union and a small developing country such as the Philippines. We shall employ the economic analyses of infant industry argument and some game theories such as the Tragedy of the Commons and the Prisoner's Dilemma to assess the effect of the possible trade between the two countries. MAIN BODY The Underpinnings of Bilateral Trade International trade traces its roots from the modern economic concepts popularized by economists such as David Ricardo. Particularly, it has its foundation on the "principles of comparative advantage" which supports international trade (Mankiw). Introduced by David Ricardo in 1817 through his book On the Principles of Political Economy and Taxation, comparative advantage posits that trade can create value for both countries even if one has the fewer resources in the production of all goods. Using the production possibilities frontier, Ricardo was able to prove this, achieving a significant breakthrough in the field of international economics. Practically, Ricardo believes that given the situation, both countries can still gain by having the less efficient country specialize in the production and exportation of the commodity in which its absolute disadvantage is smallest and import the product in which it has its greatest absolute disadvantage. The commodity in which one country has the least absolute disadvantage can be thought of as one in which it has the comparative advantage. The gains are realized as both countries specialize in the production of commodity in which it has the least opportunity cost (Mankiw). "The key assumption in the economic analysis is that people differ and so do firms and countries: they differ in their desires, resources and abilities. Therefore, if each 'economic agent' (firm, person, country) does what he, she, it does best, and each trades some of the results for what others do best, then everyone can be better off in terms of the amount of goods and services available to them" (Mackintosh). This argument that asserts the gains from trade is not only concerned about international trade; it is also an issue of most of the debates in the politics of economic policy. It is an argument for freedom of specialization and trade (Mackintosh). In a high-income and low-income country comparison, the book, Making the International: Economic Interdependence and Political Order highlighted that in a two-commodity example of food and pills, specialization will benefit both countries as each will be producing the commodity with the least opportunity cost, simply saying that trade can help increase income even for the low-income countries (Mackintosh). The Rise of Bilateral Trade In the recent years, there is an observed rise in the number of bilateral trade agreements between countries. Experts say that for a powerful country like the USA, "smaller FTAs accomplish the goal of liberalization and the expansion of markets for U.S. goods" in the absence of a broader agreement like the Doha round (MacMahon). On the part of the smaller countries, bilateral trade agreements increase the local employment and provide a better climate for investors from the powerful nations (MacMahon). A significant general reason for the rising popularity of bilateral trade agreements is the disenchantment with the progress with liberalization at the multilateral level. The difficulties and failures associated with concluding the Doha round have simply supported this view. "Many feel that the WTO has failed to deliver and so have pursued BTAs (and PTAs) as a means of pressing ahead with their trade and liberalization agendas" (Menon). "BTAs also tend to attract less attention all around, including from the media. So, the pressure from opposition forces at home- such as the anti-free trade lobby or particular "sensitive" industry groups- or from abroad- such as traditional trade partners or members of a regional grouping that the country is a part of, is likely to be low. This would facilitate not only the speed at which a BTA can be negotiated, but also the number of them. Of course there are exceptions, and these generally arise when the partner is a large country (e.g. the US) or when sensitive sectors are involved in the negotiations of the BTA. Finally, it is often claimed that some, if at most, BTAs are essentially politically motivated. There is no doubt that political economy considerations, and indeed political parties or politicians themselves, play a major role in driving the proliferation of BTAs" (Menon). History of Trade Relations between EU and the Philippines "The first chronicled links between the Philippines and Europe date back to the 16th century, when Ferdinand Magellan led a Spanish expedition to the archipelago and established the first European settlement in Cebu. The advancement of Spanish power over the islands took on a gradual peace and led to three hundred years of Spanish presence. Spanish rule was interrupted intermittently by other Europeans who wanted to gain a foothold on the Philippines. When the Suez Canal opened in the 19th century, history was a more efficient trade system and other Europeans undertaking economic activities in the Philippines. Thus, the first channels of economic relations between the two territories where formed. But it was the rapid conversion to Christianity during the Spanish Occupation that was to be the highlight of Europe's legacy, leaving an indelible mark in the Philippine's cultural heritage" (Delegation of the European Commission in the Philippines ). On May 1991, the Delegation of the European Commission to the Philippines was officially opened "following the influx of official development assistance to the country after the democracy was restored under the Aquino administration in 1986 (Delegation of the European Commission in the Philippines ). "The Delegation deals closely with the diplomatic missions of the EU Member States, serving as a venue for meetings and press conferences that involve the EU as a whole, acting as the contact point for joint cultural initiatives, and offering the Member States resources for specific information such as EU market access to the Philippines. It particularly works closely with the Member State holding the EU Presidency" (Delegation of the European Commission in the Philippines ). The European Commission promises to help the Philippine economy in two ways: Helping the Philippines meet its Millennium Development Goals, by supporting a more equitable access to quality basic social services, such as the health services, through budget support and sector-wide approaches. Helping the Philippines in its political, economic and social reform processes by providing support to boost trade and its investment flows, to restore peace and security, especially in Mindanao, and to deepen dialogue on governance with and among all sectors of society Source: (Delegation of the European Commission in the Philippines ) Former President Fidel V. Ramos, the chief who has been a hero of many foreign investments in the Philippines recognizes the value of a Philippine relationship with EU. "The Philippines increasingly recognizes the importance of EU against the backdrop of recent developments not only in the region, but also in the world. EU is undeniably one of the most stable and prosperous regions in the world, and is fast emerging as a super-power in global affairs. Observers note that EU's blossoming relations with the Philippines enables the latter to become less politic ally and economically dependent on its traditional partners like the United States" (Ramos). A Possible Bilateral Trade Agreement On March 2009, news about the possible bilateral trade agreement between EU and the Philippines has reverberated after the EU-ASEAN talks on FTA has come to a halt. News spread that "the European Commission is urging the Philippine private sector to persuade the government to pursue a bilateral economic cooperation deal with the European Union (EU) now that the negotiation for a region-to-region free-trade agreement (FTA) between the Association of Southeast Asian Nations (Asean) and EU has reached an impasse" (Leon). The current figure on RP-Europe trade reveals a declining trend, posted at -2% while other Asian countries shows an upward trend of trade with Europe at around 6% growth in the last five years (Leon). The year 2009 the Delegation of the European Commission, and the European Chambers of Commerce in the Philippines are pushing for a trade talks with the Philippine Government. Although some Filipino officials have announced interest in a trade talk with Europe, The European Commission is still waiting for a final closure of talks regarding the matter. "The PCA is expected to enhance political cooperation and related matters, trade and investments cooperation, and economic and development cooperation through policy dialogue and technical assistance. Besides re-affirming the close relations between the Philippines and the EU, the PCA also illustrates a shared commitment to development, democracy and human rights. Pres. Gloria Arroyo said the PCA has the potential to open more opportunities for greater collaboration in a range of areas, and would stimulate greater Philippine trade and investment links in Europe" (European Chamber of Commerce of the Philippines). There is an on-going negotiations between the Philippine government and the European Union which has begun "after Pres. Arroyo and European Commission (EC) President Jose Manuel Barroso met in October 2008 in China" (European Chamber of Commerce of the Philippines). "Both leaders reached the agreement during a meeting on the sidelines of the 7th Asia-Europe Meeting. The Arroyo-Barroso encounter led to two days of initial PCA talks in February 2009 during which both sides said they had made substantial progress. The Philippines and the EU are to open the second round of negotiations in July in Manila with a third round scheduled in Brussels" (European Chamber of Commerce of the Philippines). Negotiations for a PCA between the Philippines and the European Union (EU), which were to have begun in June 2008, were finally nudged forward after Pres. Arroyo and European Commission (EC) President Jose Manuel Barroso met in October 2008 in China. The Aspects of Trade The European Commission lures the Philippines into a free trade agreement which can expand the latter's export into the vast markets of Europe. "In a press conference, ECCP president Hubert D'Aboville said the Philippines is not using its full potential in exporting to Europe. For example, he said the demand for chickens in Europe is more than half a million tons. The country could get a part of this market, he said" (Osorio). The Philippines exports to Europe is a small figure compared to its total export to the United States. The figure has actually dropped "at an average rate of 6% annually, or from 7.1 billion in 2003 to 5.6 billion in 2007. This when exports from ASEAN as a whole to the EU were growing at about 5% per year. Vietnam's exports grew 12.7%, followed by Thailand (8.7%), Cambodia (7.9%), Indonesia (4.9%) and Malaysia (3.2%). Less than 1% of EU exports are purchased by the Philippines. On the other hand, EU exports to the Philippines more than tripled between 1990 and 2001" (European Chamber of Commerce of the Philippines). There are a lot of Philippine products and services the Europe is interested in. They would include "furnishings, gifts, processed food, fruits, BPO, medical services, and retirement and healthcare and tourism" (European Chamber of Commerce of the Philippines). "The Philippines is also the lowest European FDI destination among middle-income ASEAN countries. The Philippines received only $1.8 billion FDIs from Europe between 1995 and 2006, compared to $50 billion for Singapore, $11 billion for Malaysia and $3 billion for Vietnam" (European Chamber of Commerce for the Philippines). This means that the Philippine industry can grow so much more with capital injections from European investors. This is one potential the EU delegates are highlighting to entice the Philippine government to sign a free trade agreement. ECCP president Hubert D'Aboville said that "now is the time to revive moves to forge a free trade agreement with the European Union in order for the country to sell its goods in a bigger market" (Osorio). Particularly, he highlighted the opening of the booming Philippine industries such as retirement, Business Process Outsourcing (BPO) and tourism to the European market noting that the reason why European FDIs in the Philippines remain low is that there are policies of the government "that are not conducive to foreign investments like the limitations to foreign land ownership and not allowing foreign professionals to practice here" (European Chamber of Commerce of the Philippines). Some legislative changes in the Philippine government can also create a healthy trading environment between the EU and the Philippines. One of these is the signing of the President of the Tourism Bill 2009 which will "liberalize the tourism industry to an extent that it fulfills its promise as a major economic growth engine. The bill will declare a national policy that recognizes tourism as an engine of investment, employment, growth and national development. The government also believes the signing of the bill will pave the way for a greater cooperation between the public and private sector" (European Chamber of Commerce of the Philippines). "The bill also provides that the Philippine Tourism authority be reorganized into the Tourism Infrastructure and Enterprise Zone Authority (TIEZA) that will designate, regulate and supervise tourism enterprise zones (TEZs), and develop, manage and supervise tourism projects in the country. TIEZA will extend fiscal incentives to European and other investors such as income tax holidays, a 3% tax on gross income earned in lieu of all national and local taxes and tax-free importation of goods" (European Chamber of Commerce of the Philippines). The Analysis of Bilateral Trade To analyze the likely outcome of the possible RP-EU trade, it is worthwhile to look at the existing theories on international trade. The theories are mainly from the field of economics where the concept of international trade also bloomed. The field of Economics actually has both the support top both sides of trade-pro trade and against trade. A simple analysis of the international model shows that any protectionist action employed by the local government, be it import quota or tax on import (tariff) will cause a deadweight loss and will lower the total welfare of the whole economy (Mankiw). Thus free trade is the most beneficial trading system between and among countries. This is the impetus why countries pursue bilateral free trade agreements. However, it is noticeable that the bigger countries such as Europe and the USA are the ones who are active in the promotion of free trade. With the difficulties faced in the Doha round, multiple small and poor countries apparently suffer thus renouncing a multi-lateral trade agreement. The Infant Industry Argument The apparent resistance of small countries to the multilateral trade agreements emanates from the inability of the local industries to compete fiercely against the giants of the big countries thus we call the infant industry argument. The concept of economies of scale makes the big difference between the big and older companies from the rich countries and the relatively young, inexperienced and low volume production of poor countries' companies. Economies of scale is defined by a Microeconomics textbook as "doubling the output for less than a doubling of costs" (Robert S. Pindyck, 227). "The term 'economies of scale' includes increasing returns to scale as a special case, but it is more general as it reflects input proportions that change as the firm changes its level of production" (Robert S. Pindyck, 227). Thus the infant industry refers to the local industries of the smaller countries which are yet to enjoy economies of scale agaisnt the big corporation from the welthy coutnries. The infant industry argument is based on the belief that the industries of the developing nations might not be well equipped to compete against the giants of the more powerful nations (Mankiw). This then will lead to the death of the local industry. Bilateral trade agreements simply kill the local industries who have not exhibited economies of scale. In economics terms, the failure to achieve economies of scale on the part of the local industries, because they are relatively new, will result to a less efficient production compared to those who are old and this will be manifested in the relatively high prices of the former (Robert S. Pindyck). These big companies enjoy increasing returns. "Increasing returns imply that larger firms have a market advantage over smaller rivals: they can undercut rivals' prices while remaining profitable themselves since their costs per unit sold are lower. Since established firms are quite likely to be larger than new entrants to an industry, it is then hard for new firms to get into an established market. The problem is that it can and does take time for a firm to establish itself at a level of cost per unit that allows it to be internationally competitive. The more international markets integrate, through falling transport and communications costs and declining trade barriers, the more scope there is for large firms to exploit increasing returns" (Mackintosh). The infant industry argument then supports the act of protecting the local industry by employing protectionist policies via example a quota on the import or a tax on imported products thus giving revenue to the government and at the same time increasing the price of the imported product. This is done while the infant industry takes time to grow until it is ready to compete. In the possible EU and RP trade, the infant industry argument can also be applied in the importation of Philippine product to Europe. Given a higher local price, it cannot compete well in the world market, thus it won't be able to export much. The Prisoner's Dilemma Game A game theory such as the Prisoners' Dilemma Game can be used to analyze human cooperation. The prisoner's dilemma game is a case of two suspects of a crime. We can depict this using actual figures. Two prisoners are placed in two separate cells so that they cannot commune and collude. They face two decisions: to confess or not to confess. If one confesses and the other does not, he serves 5 years in prison, while if he other also confesses, they both serve 2 years in prison. If he does not confess and the other also does not confess, they will both serve 4 years, while if the other confesses he will be free. Analyzing the pay-off matrix in the next page, we know that the Nash Equilibrium is Not to Confess. It is each person's best strategy given any action of the other. Prisoner B 4,4 0,5 5,0 2,2 N C C Prisoner A NC C In any cooperative game such as this, there will always be a tendency for the other to defect. This is the danger of a free trade, given that the pay-off in defecting id higher than in cooperating. CONCLUSION Similar to other agreement, there is always a tendency to lose and suffer. In the economic theories that we just studied, Philippines has two fates with regard to its possible free trade agreement with Europe: it can either lose or gain. Now, the important thing is that the Philippine government must be careful and, wise and strategic with the bargaining. It is true that the infant industry argument is at work especially in the case of the Philippines, so it must be careful as to what European market it should enter and what European industry should it compete with. The importation is not necessarily bad. There are a lot of European materials that it can benefit from and most probably innovate to produce a value-enhanced product. The challenge for the Philippines is not to protect its current industry but to be creative so as to take advantage of the trade policy. However, one very important thing to consider is not to give tax breaks as some studies suggest that they are not necessary to attract foreign investors. Works Cited Delegation of the European Commission in the Philippines . http://www.delphl.ec.europa.eu. 27 August 2009 . European Chamber of Commerce of the Philippines. http://www.eccp.com/. 28 August 2009 . Leon, Max V. de. "EC pushing for RP-EU bilateral trade deal with impasse in Asean-EU FTA." 24 March 2009. Business Mirror. 27 August 2009 . Mackintosh, Maureen. "Gaining from Trade." Simon Bromley, Maureen Mckintosh, William Brown,Marc Wuyts. Making the International: Economic Interdependece and Political Order. London: Pluto Press, 2004. 46-72. MacMahon, Robert. "The Rise in Bilateral Free Trade Agreements." Council on Foreign Relations (2006). Mankiw, N.Gregory. Principles of Macroeconomics. Orlando, Florida: The Dryden Press Harcourt Brace College Publishers, 1998. Menon, Jayant. Bilateral Trade Agreements and the World Trading System. Discussion Paper. Asian Development Bank. Tokyo: Asian Development Bank, 2006. Osorio, Elisa P. "RP to benefit from Asean-EU free trade agreement - ECCP ." 23 March 2009. http://www.philstar.com. 28 August 2009 . Ramos, Fidel Valdez. RP-Europe Business Conference: Challenges and Opportunities. Makati City, 8 May 2008. Robert S. Pindyck, Daniel L. Rubinfeld. Microeconomics. Singapore: Pearson Education Asis Pte. Ltd, 2003. White, Deborah. http://usliberals.about.com. 12 August 2009 . Read More