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Regulatory Cooperation, Aid for Trade and the General Agreement on Trade in Services

Working paper by Hoekman, Bernard; Mattoo, Aaditya /World Bank, 2007

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This paper discusses what could be done to expand services trade and investment through a multilateral agreement in the World Trade Organization. A distinction is made between market access liberalization and the regulatory preconditions for benefiting from market opening. The authors argue that prospects for multilateral services liberalization would be enhanced by making national treatment the objective of World Trade Organization services negotiations, thereby clarifying the scope of World Trade Organization commitments for regulators. Moreover, liberalization by smaller and poorer members of the World Trade Organization would be facilitated by complementary actions to strengthen regulatory capacity. If pursued as part of the operationalization of the World Trade Organization's 2006 Aid for Trade taskforce report, the World Trade Organization could become more relevant in promoting not just services liberalization but, more importantly, domestic reforms of services policies.

Policy ReseaRch WoRking PaPeR 4451


Regulatory Cooperation, Aid for Trade
and the General Agreement on


Trade in Services


Bernard Hoekman
Aaditya Mattoo


The World Bank
Development Research Group
Trade Team
December 2007


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Produced by the Research Support Team


Abstract


The Policy Research Working Paper Series disseminates the findings of work in progress to encourage the exchange of ideas about development
issues. An objective of the series is to get the findings out quickly, even if the presentations are less than fully polished. The papers carry the
names of the authors and should be cited accordingly. The findings, interpretations, and conclusions expressed in this paper are entirely those
of the authors. They do not necessarily represent the views of the International Bank for Reconstruction and Development/World Bank and
its affiliated organizations, or those of the Executive Directors of the World Bank or the governments they represent.


Policy ReseaRch WoRking PaPeR 4451


This paper discusses what could be done to expand
services trade and investment through a multilateral
agreement in the World Trade Organization. A
distinction is made between market access liberalization
and the regulatory preconditions for benefiting from
market opening. The authors argue that prospects for
multilateral services liberalization would be enhanced by
making national treatment the objective of World Trade
Organization services negotiations, thereby clarifying
the scope of World Trade Organization commitments


This paper—a product of the Trade Team, Development Research Group—is part of a larger effort in the department
to study the impact of trade in services on economic growth and development. Policy Research Working Papers are also
posted on the Web at http://econ.worldbank.org. The author may be contacted at bhoekman@worldbank.org.


for regulators. Moreover, liberalization by smaller and
poorer members of the World Trade Organization
would be facilitated by complementary actions to
strengthen regulatory capacity. If pursued as part of the
operationalization of the World Trade Organization’s
2006 Aid for Trade taskforce report, the World Trade
Organization could become more relevant in promoting
not just services liberalization but, more importantly,
domestic reforms of services policies.









Regulatory Cooperation, Aid for Trade
and the General Agreement on Trade in Services*





Bernard Hoekman
World Bank and CEPR



Aaditya Mattoo


World Bank


















JEL codes: F13
Keywords: Trade in services, WTO, negotiations, Doha Round, aid for trade








* The authors are with the Development Research Group of the World Bank. We are grateful to
Rolf Adlung, Dominique Njinkeu and an anonymous referee for helpful comments on an earlier
version. The views expressed are personal and should not be attributed to the World Bank.






Introduction


Recent literature surveys document that the potential gains from liberalization of trade in


communications, finance, transport, business and other services are large (Hoekman,


2006; Deardorff and Stern, 2007). For many countries the potential gains are significantly


larger than those that could be derived from further liberalization of goods trade.


Moreover, even exploiting the opportunities arising from goods trade liberalization will


require better services. For example, Indian horticultural producers receive only one-sixth


of the price that consumers pay because of inefficient storage, transport and distribution


(Mattoo, Mishra and Narain, 2007).


Notwithstanding the prospective gains from liberalization, WTO negotiations


under the General Agreement on Trade in Services (GATS) have been going nowhere.


The best market access offers made in the Doha Round do not even reflect the


liberalization that countries have already implemented (Adlung and Roy, 2005). As a


result, there is a serious risk of the GATS becoming irrelevant – increasingly lagging


behind developments in service technology, regulation and business practice.


After five years of fruitless negotiations on services, in 2006 WTO members


launched an effort to complement the bilateral request-offer process with a plurilateral or


“collective” approach. This involved subsets of the WTO membership seeking to agree to


a common “minimum” set of policy commitments for a given sector. While arguably a


step forward, we argue in this paper that for there to be a reasonable prospect of


achieving significant increases in the coverage and depth of services commitments by


WTO Members, more attention is needed for the regulatory context in which services


liberalization takes place. In particular, regulators must be reassured that GATS


commitments will not deprive them of the freedom to regulate; that liberalization will not


be prematurely thrust upon countries with weak regulatory institutions; and that


liberalization will be supported by international cooperation.


Providing credible assurances that GATS commitments will only deprive


regulators of the freedom to discriminate, and not limit their freedom in any other way, is


necessary but not sufficient for a significant expansion in GATS commitments to occur.


As, if not more, important is creating an effective multilateral mechanism to provide


regulatory assistance to countries that need it. Dedicated assistance to improve regulatory


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capacity in developing countries would help reassure policymakers that regulatory


inadequacies that could undermine the benefits of liberalization will be diagnosed and


remedied before any market-opening commitments take effect. Such assistance is


arguably also critical for any significant liberalization of policies restraining temporary


entry of foreign services providers: host countries need to be assured that source


countries are willing and able to screen services providers, to accept and facilitate their


return, and to combat illegal migration.


An important step towards recognizing the importance of technical and financial


assistance as a necessary (but not sufficient) condition for liberalization of trade to


generate greater benefits in poor countries was made in 2006 with the report on the WTO


taskforce on Aid for Trade (WTO 2006). If services in general, and regulatory design and


enforcement capacity more specifically, are given greater attention by countries in the


operationalization of the recommendations of the taskforce, the prospects for mutually


beneficial multilateral liberalization of trade in services could be much enhanced. In this


paper we identify a number of areas in which regulatory cooperation and assistance


would both be beneficial to recipients and support multilateral liberalization.


The plan of the paper is as follows. Section 1 discusses the economic


fundamentals – why services and services trade and investment liberalization matter.


Section 2 turns to the WTO and asks why such limited progress has been made


multilaterally in delivering greater openness of services markets. Section 3 focuses on


what could be done through ‘aid for trade’ to complement WTO disciplines by helping


smaller and poorer members – the majority of the WTO membership – put in place both


the regulatory mechanisms needed to achieve efficiency and equity objectives and assist


in addressing some of the adjustment costs that will be generated by liberalization.


Section 4 concludes.




1. Gains from Trade in Services


It is only relatively recently that technological change and policy reforms allowed an


increasing number of services to be traded internationally through telecommunications


networks. These developments have allowed an increasing number of services markets


to be contested internationally through cross-border trade (mode 1 of the GATS) and FDI


2





(mode 3).1 The average annual growth rate of business service exports for Brazil and


China during 1995-2005 was 15 percent, for India it was 25 percent.2 As a result, the


share of traditional services such as transport and tourism in world trade has been falling


steadily, although in absolute terms these activities have been growing at similar rates as


world trade in goods, driven by improvements in technologies and reductions in the unit


costs of transporting both containers and people across the globe.


Policy reforms – liberalization, privatization – have complemented changes in


technology in supporting the expansion of trade in services. These policy reforms have


mostly been implemented by governments autonomously. There are powerful economic


reasons to pursue policies to increase the contestability of services markets. An efficient,


competitive financial sector is critical in ensuring that capital is deployed where it has the


highest returns. Lower cost and higher quality telecommunications will generate


economy-wide benefits, as this service is both an intermediate input and a “transport”


mechanism for information services and other products that can be digitized. Similarly,


transport services contribute to the efficient distribution of goods within and between


countries and are the means through which services providers move to the location of


clients (and vice versa). Business services such as accounting and legal services reduce


transaction costs associated with the operation of financial markets and the enforcement


of contracts. Retail and wholesale distribution services are a vital link between producers


and consumers, with the margins that apply in the provision of such services influencing


the competitiveness of firms on both the local and international market.


Even in the poorest countries, services account for 40-50 percent of GDP and a


significant share of employment. Not only would improved performance in services


produce significant direct benefits, large indirect benefits would come from domestic


farmers, households and firms obtaining access to better and cheaper services than they


have today. Similarly, while the opportunity to export more agricultural and


manufactured products is important, actions to improve the efficiency of the services


sectors are vital to exploiting these opportunities.

1 Four ways or “modes” of engaging in trade in services are distinguished in the GATS: cross-border (mode
1); through movement of the consumer to the location of the provider (mode 2); through longer-term cross
border movement of the provider – i.e., establishment of FDI (mode 3); and temporary movement of
providers (natural persons) (mode 4).
2 The leader in this area was Ireland, with an annual rate of business services export growth of 31.6 percent.


3





Mattoo, Rathindran and Subramanian (2006) analyze the effects of trade and


investment openness for the financial and telecommunications sector on growth in a


cross-sectional analysis. Controlling for other determinants of growth, they find that


countries that fully liberalized the financial services sector grew, on average, about 1


percentage point faster than other countries. Fully liberalizing both the


telecommunications and the financial services sectors was associated with an average


growth rate 1.5 percentage points above that of other countries. Focusing on a sample of


transition economies, Eschenbach and Hoekman (2006) find that services-related policies


play an important role in attracting FDI. They explore the impact of financial and


infrastructure services policy reforms on per capita income growth using time-series data


covering the 1990-2004 period. Controlling for other potential explanatory variables, they


find that improvements in services policies – infrastructure and finance – have a large and


statistically significant positive impact on per-capita growth.


The positive association between more efficient service sectors and overall


economic performance implies that services policy reforms will help reduce poverty – as


sustained economic growth is the most powerful instrument to reduce poverty.


Underlying this aggregate, indirect relationship are many channels through which better


services can directly improve economic outcomes for poor households, for example, by


enhanced consumption of health and education. Another channel is by enhancing the


benefits of trade reforms. Numerous country studies have concluded that greater trade


opportunities can raise incomes but only if poor households produce products for the


market. This may require active intervention to help households switch from subsistence


to cash crops and improve productivity—through extension services, better access to


credit and transportation services, and investments in infrastructure.3 Domestic supply


constraints are the main reason for the lack of trade growth and diversification in many of


the poorest developing countries. Without action to improve supply capacity, reduce


transport costs from remote areas, increase farm productivity and more generally improve


the investment climate, trade opportunities cannot be fully exploited and the potential


gains from trade will not be maximized. The needed reforms span numerous areas, but



3 See, e.g., the country studies in Hertel and Winters (2006) and Hoekman and Olarreaga (2007).


4





many of them are services-related.


In addition to the “import dimension” stressed above, developing countries also


have an export interest in services. Their exports of services have grown nearly four-fold


in the last decade, to attain a share of the global marketplace of 18 percent. In large part


this reflects growth in so-called business process outsourcing (BPO) services. This


activity arises from the outsourcing (and out-location through FDI) of non-core business


processes throughout the value chains of both manufacturing and services industries.


Within BPO activities, the more advanced developing countries, such as India, are


moving from providing only low-end back-office services (data entry, etc.) to more


integrated and higher-end service bundles in fields such as customer care, human


resource management, and product development. This move – reflected in a rising index


of revealed comparative advantage in business services (Figure 1) – is creating space for


other developing countries, from China to Senegal, to step into the more standardized


segments of the market.


Figure 1: Shifting Comparative Advantage -- India's RCA for Services Exports


0.4


0.6


0.8


1.0


1.2


1.4


1.6


1.8


1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005


RCA
index


Transport services Travel services Business services




As noted above, the increase in global trade in business services reflects a mix of


technological changes that allow more services to be traded cross-border and policy


reforms. However, numerous barriers to trade and investment continue to prevail in most


countries. The consensus view is that the tariff equivalents of these barriers are a multiple


5





of those affecting merchandise trade.4 Studies that use available information on


prevailing policies conclude that further services liberalization would have much greater


positive effects on national welfare than the removal of trade barriers – see e.g., Konan


and Maskus (2006) on Tunisia and Jensen, Rutherford and Tarr (2006) on Russia. Instead


of the “standard” 1 percent increase in welfare from goods liberalization, introducing


greater competition on services markets raises the gains to the 5-10 percent range or


more. These large potential effects of services liberalization reflect both the importance


of services in the economy and the extent to which many of them continue to be


protected. Insofar as such protection reflects standard political economy factors – a desire


by domestic incumbents and workers to retain rents, fears by policymakers regarding


adjustment costs – there appears to be great scope to use the WTO as a mechanism to


implement additional liberalization.


2. The GATS: Asymmetric Interests and Regulatory Constraints


One of the major results of the Uruguay Round was the creation of the General


Agreement on Trade in Services (GATS). By establishing rules and disciplines on


policies affecting access to service markets, the GATS greatly extended the coverage of


the multilateral trading system. The original GATT-1947 did not cover services for the


simple reason that at the time the GATT was negotiated, services were mostly


nontradable. A key question from the perspective of international cooperation is what


role trade agreements can/should play in supporting domestic regulatory reform efforts


and enhancing access to foreign services markets. In principle, trade agreements can


provide not only a mechanism for enhancing access to export markets and overcoming


resistance by domestic interests to liberalization, but also may be a vehicle for agreement


on policy reforms (“good regulatory practices”). The stylized fact that looms large here is


that while some progress has been made to date in using the GATS framework to lock-in


unilateral reforms that have already been implemented, the GATS has played virtually no


role in inducing new liberalization. Indeed, it is fair to say that to date the GATS has been


a disappointment.



4 See Hoekman (2006) and Mattoo, Stern and Zannini (2007). No comprehensive, cross-country,
comparable datasets exist that allow a summary assessment of the prevailing levels of services trade and
investment barriers.


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Adlung and Roy (2005) have assessed both the current coverage of specific


commitments of WTO members in the GATS and the offers that were on the table as of


2006, when negotiations were suspended. For many countries the coverage of specific


commitments is well below 50 percent of all services and modes of supply. Adlung and


Roy conclude that not only do the requests and offers made in the 6 years following the


launch of negotiations on services in 2000 imply little if any liberalization of policies;


most countries were not even willing to use the GATS as a vehicle to “lock in” existing


levels of openness.5


The lack of progress on services matters for several reasons. First, as mentioned


in the Introduction, the extant research concludes that the potential direct gains from


reform of services trade for most WTO members are likely to be large. Second, services


reform is needed to enable developing countries to take advantage of the new


opportunities that arise from goods trade liberalization. For example, Sub-Saharan


African exporters today pay transport costs that are at least five times greater than the


tariffs they face in industrial country markets, but neither international maritime nor air


transport services figure seriously on the WTO agenda. Third, the WTO negotiating


process requires countries that seek better market access to offer improved access to their


own markets. In particular, attaining global liberalization of agriculture – a key objective


of many developing countries – will require them to offer a quid pro quo. Greater


opening in services, an area of export interest to many of the countries that protect their


agriculture sectors is one obvious quid pro quo. For example, services exports are of key


importance for the EU and India, two WTO members that confront serious political


resistance to reducing barriers to trade in agriculture.


A number of possible explanations for the lack of headway can be identified. As


is well known, the WTO is driven by mercantilism: the desire by members to improve


their access to the markets of other members. One explanation for the limited progress is


that the standard mechanisms of reciprocity as developed over 50 years of GATT practice



5 A number of studies have shown that there is often a major gap between the actual level of openness of
sectors and the level of commitments in the GATS. For example, Barth et al. (2006) compare data on
specific GATS commitments for financial services with measures of actual policy in this sector for 123
countries. They conclude that in practice applied policy is much more liberal than what was committed to
in the GATS.


7





do not readily apply to services. There are at least two possible reasons for this: (i) the


export interests that have been harnessed to allow the reciprocal liberalization of trade in


goods do not prevail sufficiently in the services context; and (ii) regulatory concerns


impede the ability (willingness) of WTO Members to engage in what Jagdish Bhagwati


has termed “first difference” reciprocity (Hoekman, Mattoo, and Sapir, 2007).6


Asymmetric interests


In the case of merchandise trade all WTO members have clear interests in improving


access to export markets. Some countries are more diversified than others and all have


differential specific interests – but all countries are exporters of goods that are subject to


trade barriers in partner country markets. Thus they have exporters that see potential


benefits from multilateral negotiations. This is less the case for services. While many


developing countries – the majority of the WTO membership – are significant exporters


of services, often the associated foreign exchange earnings are derived from activities


where the relevant policies are under the control of the government as opposed to trading


partners. The most important such “service” is tourism, where the export revenue


generated depends primarily on measures that the tourism destination country puts in


place itself.


As far as cross-border trade in services via telecommunications networks is


concerned, developing countries have export interests, but this channel for trade is often


not constrained by policy in the importing country (with the exception of services such


as gambling where importing countries may reserves the activity to the State or ban it


altogether). Most of the business process outsourcing, call centers, etc. that are growth


areas for many countries are not constrained by trade policy measures in the destination


or importing country. While there is certainly increasing opposition against such trade in


high-income countries, outside of government contracts there is little that is currently


done to restrict such activities from being “offshored.”


Turning to FDI (mode 3, or establishment), most developing countries do not



6 These issues were identified early on in the literature on trade in services. On the problem of asymmetric
interests, first difference reciprocity and limited and concentrated export interests, see e.g., Hoekman
(1994, 1997). On the importance of sectoral regulation and the interests of regulators was identified by
economists early in the process of multilateral negotiations on services – see e.g., Feketekuty (1988) and
Messerlin (1990).


8





have significant “offensive” interests – they do not have indigenous multinational service


providers seeking better access to foreign markets. This is a mode that is primarily of


interest to firms based in high-income countries and large emerging economies.


The one mode where developing countries confront particularly high barriers and


that is therefore of great relevance to potential exporters is mode 4. However, mode 4 is


politically extremely sensitive. Insofar as there are no serious prospects for mode 4


liberalization in the GATS framework, most of the potential export interests in many


developing countries are disengaged from the process.


These considerations imply that a key driver of the reciprocity mechanism –


services exporters – is either missing or much weaker in many WTO members than is


true for goods. The exception are large service firms that are based in high-income


economies, which have clear interests in selling more services to both OECD and to


developing countries. This is mostly a mode 3 (FDI) agenda. The implication is that if


access negotiations are to be restricted within the services arena, deals are likely to be


limited to mode 3 exchanges (largely an intra-OECD/large emerging markets affair) or


better access for developing countries through mode 4 to OECD markets in return for


mode 3 liberalization by developing countries. As argued below, a precondition for


making headway in the liberalization of mode 4 is regulatory cooperation between host


and source countries – limiting the focus to “trade policy” concessions by potential host


countries (e.g., seeking to negotiate market access quotas) is only likely to be feasible if


complemented by a commitment by source countries to manage such trade.


Regulatory constraints


The intangible nature of most services makes it hard for buyers of services to investigate


or test their quality prior to purchase. The extent of asymmetric information often creates


a necessity to regulate services in order to protect consumers. Regulating services may


also be desirable in order to remedy other types of market failures, including imperfect


competition, which is often present in network services such as telecommunications


where the number of providers is limited, and externalities. Externalities may cause a


problem if there is also imperfect information – e.g., in the case of financial services,


where the failure of one institution may cause problems to the entire sector. For all these


9





reasons, activities tend to be highly regulated.


Although consumers should in principle favor reforms that increase the number of


suppliers and, in principle, lower prices and/or increase the range of services offered, they


may in fact oppose them for fear that reforms will lower service quality and/or increase


the market power of (foreign) firms. Regulators may be concerned that trade


liberalization will impede their ability to enforce domestic regulatory standards. Trade


will bring with it regulatory competition if services suppliers are only subject to the


norms and standards that apply in their home markets. This is particularly likely to be the


case for mode 1 trade. As case in point was the dispute between Antigua and Barbuda


and the US on gambling services. The WTO Panel and Appellate Body ruled that the US


prohibition of internet gambling was inconsistent with the specific commitments the US


had made on market access, even though the US prohibition applied equally to foreign


and US providers. The inconsistency arose because specific commitments on market


access preclude even non-discriminatory (regulatory) prohibitions. Similarly, if mode 4


trade is permitted to occur on the basis of the qualifications and certifications obtained in


the home country of providers, there may be concerns regarding whether host country


norms are met. A critical – and difficult – question then is how to differentiate between


legitimate concerns relating to quality and performance, and regulatory requirements that


simply constitute barriers to entry, creating rents for incumbents by raising prices.


In addition to concerns about the ability to enforce national regulatory standards,


in developing countries liberalization may raise an additional regulation-related issue:


achieving social equity objectives. The impacts of more competitive market structures


following liberalization on access to services by poorer households in developing


countries have been mixed. In cases like mobile telecommunications, a positive


relationship has been observed in many developing countries because initial conditions


were bad – few households had access. However, in other areas, like financial services,


unless improved regulatory measures are put in place, liberalization may have an adverse


effect on access to credit for rural areas and the poor. Putting in place mechanisms to


ensure better access to services post-liberalization is important from an equity


perspective. It is also important from a political economy perspective to bolster support


for implementing efficiency enhancing policy reforms and sustaining them over time.


10





Absent actions to address regulatory weaknesses, countries may not be in a position to


fully realize the potential benefits of trade reforms in services (or goods).


The prevalence of regulation further complicates and constrains use of the


traditional GATT reciprocity mechanism for services because it is very difficult to design


multilateral rules and national commitments in a way that clearly separates or


distinguishes between measures that are protectionist and measures that have good


domestic efficiency or social equity rationales. As the focus of WTO negotiations is not


on the welfare of members or on the identification of “good” policy, regulators may


therefore be concerned that market access negotiating dynamics could adversely affect


their ability to design and implement regulatory norms that maximize national welfare.7


Emerging Multilateral Responses


Between 2000, when as specified in the GATS new multilateral services negotiations


were launched, and the end of 2005, WTO Members pursued a bilateral approach to


negotiations, submitting requests to others and responding to requests with (conditional)


offers. Requests tended to be highly ambitious and offers mostly minimalist. The large


asymmetries in interests across the membership impeded progress, with most small and


poor countries not perceiving much of an incentive to offer significant commitments.


A different tack was introduced at the December 2005 WTO ministerial meeting


in Hong Kong. Annex C of the 2005 WTO ministerial declaration endorsed a shift


towards plurilateral or collective negotiations among subsets of members. Plurilateral


requests were to be made by end February 2006, followed by bilateral/plurilateral


negotiations leading to submission of revised offers by July 2006. The idea was to limit


talks to a critical mass of countries, so as to reduce transactions costs while still ensuring


that most of the gains from agreement would be internalized among those participating.


The pursuit of what Schelling (1978) has called a “k-group strategy” – the minimum


number of countries (‘K”) out of a larger set (“N”) that internalizes enough of the total


potential gains from cooperation to make free riding by the remaining N-K players


feasible – is easier to implement in the WTO setting for services than it is for goods trade



7 One potential explanation for the steadily expanding number of bilateral or regional trade agreements that
include services is that cooperation on services policies is easier to achieve in a small numbers context.


11





because of the way the GATS is structured.8 The positive list approach to define the


country coverage of specific commitments on a sector-by-sector basis already requires


that negotiations be sectoral.


The decision to move to negotiations among subsets of countries and focus on


agreeing to a set of “minimum standards” for liberalizing commitments— thus shifting


the burden on a Member to justify its refusal to concede the threshold level rather than on


other Members to extract the minimum concessions – implies a move away from the type


of first difference reciprocity that is the bread and butter of GATT negotiations. Instead,


the focus becomes achieving a common set of policies that apply to all signatories, while


allowing for de facto differentiation between WTO members in terms of participation.


Countries that have little to offer for a specific sector or mode are effectively exempted


from participation – they can “free ride” on the outcome of negotiations between the


“principal stakeholders”.


Plurilateral talks were pursued among some 30-40 countries starting in early


2006.9 Requests were tabled for legal; architecture/ engineering; computer-related;


postal/courier; telecommunications; audiovisual; construction; distribution; education;


environmental; financial; maritime; air transport; and energy services, as well as cross-


border trade (modes 1/2); mode 3; mode 4; and MFN Exemptions (general, financial and


audiovisual) (Chaudhuri, 2006). The negotiations involved mostly OECD members and


large emerging economies. Requests were generally less ambitious than those made


bilaterally, which often called for full market access and national treatment in sectors of


export interest to the demandeur. Two rounds of talks were held before the Doha round


was suspended in July 2006. A third set of meetings occurred in April 2007 after


negotiations resumed. News reports suggest that although progress was made as a result


of the shift to the new negotiating modalities, the inability to move forward on agriculture


and nonagricultural market access dominated the efforts of negotiators. At the time of


writing it is not possible to assess what the ultimate outcome of the plurilateral approach


will be (might have been).

8 Article XIX GATS mentions plurilateral negotiations as modality that could be used by Members.
9 Past practice suggests that for sectoral liberalization agreements to be applied on a MFN basis the
“internalization” ratio needs to be on the order of 90 percent of total trade. This was the figure used in the
negotiations on the Information Technology Agreement.


12





Although WTO members clearly recognized a change in tack was needed to deal


with the problem of asymmetric interests, the shift towards small(er) group negotiations


does not address the regulatory constraints identified above: worries about regulatory


autonomy (which apply as much to the large players involved in the plurilateral talks as


to the countries that are permitted to free ride) and limitations in the capacity of poor


countries to put in place and enforce regulatory measures to complement liberalization.


Indeed, by effectively excluding the majority of the WTO membership from negotiations,


the plurilateral approach creates a new problem: exempted countries may not be


confronted with a need to liberalize, but they also are excluded from the potential gains


associated with undertaking domestic policy reforms themselves. Moreover, insofar as


such reforms are needed to exploit export opportunities, they may also lose out on that


front. The first problem can be resolved through explicit measures that guarantee to


regulators that their autonomy will not be constrained by the GATS. Mattoo (2005) and


Hoekman, Mattoo and Sapir (2007) argue that making national treatment the primary


objective of negotiations would do much to provide such assurances. The second problem


requires actions to assist developing countries to improve domestic regulatory capacities.


Despite increasing recognition among WTO members that more needs to be done to


provide assistance to developing countries to bolster trade capacity – exemplified by the


creation in Hong Kong of an “Aid for Trade” taskforce – to date services have not


attracted much attention in aid for trade deliberations.


3. Supporting Services Reforms in Developing Countries


In the WTO services negotiation, many developing countries have pursued three goals:


retaining flexibility in making liberalizing commitments; securing commitments from


other countries in sectors and modes of export interest to them; and obtaining assistance


to enhance the capacity of their services sectors. To date they have succeeded in


achieving only the first goal. Over the last decade, the international trading community


has moved towards progressively less demanding positions vis-à-vis the poorest


developing countries. GATS Article IV on the Increasing Participation of Developing


Countries notes that “Particular account shall be taken of the serious difficulty of the


least-developed countries [LDCs] in accepting negotiated specific commitments in view


13





of their special economic situation and their development, trade and financial needs.”


The December 2005 Hong Kong Ministerial Declaration went even further, stating, “We


recognize the particular economic situation of LDCs, including the difficulties they face,


and acknowledge that they are not expected to undertake new commitments.”


With respect to the other two goals, the LDCs have had less success. Beginning


with GATS (in Articles IV and XIX), and continuing through the Hong Kong Ministerial


Declaration, there have been exhortations that WTO Members “give special priority to


providing effective market access in sectors and modes of supply of export interest to


LDCs, through negotiated specific commitments …” (Article XIX GATS). As already


noted, little has been offered in the area of greatest export interest for the LDCs: mode 4,


especially the provision of services through the movement of unskilled workers.


Assistance to develop services sectors has also not been very forthcoming in the


WTO context, although calls to mobilize additional aid resources to support trade


capacity-building in developing countries have proliferated in recent years.10 The focus


of the WTO is on market access. Policy advice and assistance for regulatory reform an


public investments in services infrastructure are provided by international financial


institutions and specialized agencies. There is virtually no link between the two


processes. This disconnect persists even though improved regulation – ranging from


prudential regulation in financial services to pro-competitive regulation in a variety of


network-based services – will be critical to realizing the benefits of services liberalization


in many sectors. Policy intervention will also be necessary to ensure universal service


because liberalization per se will not always deliver adequate access to the poor. There


may be good reasons to defer liberalization and/or not to make binding commitments if


there are weaknesses in prudential or pro-competitive regulation, adjustment costs are


likely to be severe and affect the feasibility/sustainability of reform.


d




At the 2005 WTO ministerial in Hong Kong a number of specific commitments


were made by high-income countries to expand allocations for trade assistance. The



10 An important first step towards mobilizing additional resources was the commitment by the G-8 Heads of
Government at Gleneagles in 2005 to increase aid to developing countries to build physical, human, and
institutional capacity to trade, and to grant additional support for trade capacity building. At the September
2005 IMF/World Bank annual meetings, Ministers endorsed the need to expand aid resources to bolster
trade capacity in developing countries.


14





Ministerial Declaration requires Members to provide “targeted and effective technical


assistance and capacity building for LDCs ... to strengthen their domestic services


capacity, build institutional and human capacity, and enable them to undertake


appropriate regulatory reforms.” The challenge is to operationalize this commitment and


to extend it to a broader set of developing countries.


The ministerial meeting agreed to create a task force with the mandate to make


specific proposals on moving forward on aid for trade to the WTO General Council in


July 2006. In its July report – one of the few instances where a deadline established in the


Doha round was met – the taskforce stressed the central role of country ownership and of


mainstreaming trade into countries’ development strategies, and called on donors to


provide additional funding on a predictable basis. The report defined aid for trade as


covering assistance for trade policy (including training, analysis, and institutional and


technical support), trade development activities (including trade and investment


promotion, business support services, trade finance and other activities), development of


trade-related physical infrastructure, building productive capacity, and support for trade-


related adjustment. This wide definition of aid for trade implies that many services will


be covered, although where the boundaries may lie in practice remains to be determined.


The report proposed that WTO members explore the necessity of establishing a


mechanism similar to the Integrated Framework for Trade-related technical Assistance


(IF) – a joint venture involving the IMF, ITC, UNCTAD, UNDP, WTO and the World


Bank that assists LDCs in identifying trade priorities and designing project proposals to


address them – to assess priorities in non-LDCs; calls for donors to make funds available


for building infrastructure and removing supply-side constraints – over and above


capacity building and technical assistance – including in the form of co-financing with


multilateral development bank; urged donors and agencies, together with regional banks


and organizations, to step up their efforts to identify regional, sub-regional and cross-


border trade projects; proposed an annual review of Aid for Trade by a monitoring body


in the WTO to be discussed in the WTO General Council, and suggested that an


assessment of aid for trade be included in WTO Trade Policy Reviews.11



11 See Prowse (2006) and Njinkeu and Cameron (2007) for in-depth discussions of “aid for trade,”
including the genesis and functioning of the IF and options for moving forward.


15





The taskforce does not provide specific proposals in its report to operationalize its


recommendations. Numerous questions remain to be resolved, including how resources


should be managed and allocated, what countries will be eligible, and what the role of the


WTO and the various development institutions should be. Whatever is agreed on the


allocation mechanisms and modalities, much of the aid for trade agenda at the country


level in our view revolves around improving the quality and cost of services. The agenda


goes far beyond technical assistance to help countries make market access commitments


– the focus of much current assistance (as illustrated for example by the language on


technical assistance for services negotiations in the Hong Kong ministerial declaration). It


spans helping countries overcome the political economy factors that impede


liberalization; improving domestic regulation; adopting measures that spread the benefits


of liberalization to poor and disadvantaged households; support for the pursuit of regional


cooperation; and measures that are preconditions for obtaining and exploiting better


market access in export markets. What follows briefly discusses each of these areas.


Political economy: redistributing rents and dealing with adjustment costs


Poor policies in many countries often reflect standard political economy forces: those


who gain (or are not hurt) from current policies are more economically and politically


powerful than those who lose. In the case of telecommunications, for example, the


incumbent provider may confront an administered price structure (with artificially high


international prices and artificially low local prices). Liberalization will require tariff


rebalancing to allow the incumbent to compete on the international segment. The


resultant increase in local call prices is likely to be resisted by the politically vocal urban


consumers, though the prospect of more competitive mobile telephony may dilute such


opposition. Putting in place transparent and credible compensatory measures (e.g.


voluntary retirement schemes, access to cheaper mobile telephony) could help persuade


the incumbent’s employees and urban consumers to accept reform.


Similar forces play out in other sectors. In Zambia,12 a country that being


landlocked confronts higher transportation costs than many coastal countries, high costs


are partly due to restrictions that Zambia imposes on air and road transport. While these



12 What follows draws on detailed analyses in Mattoo and Payton (2007).


16





are detrimental to exporters, they benefit import competing interests and domestic


transport service providers.13 In accounting, local professionals in Zambia are geared


almost entirely towards the lucrative large firm market and the use of international


accounting and auditing standards. Although these are recognized to be excessively


burdensome (costly) for SMEs, the accounting profession has an interest generating the


revenue associated with audits.


Identifying the magnitude and incidence of the costs and benefits of prevailing


policies that inhibit competition from foreign providers and developing mechanisms to


assist losers is one area where aid for trade resources can make a difference in helping


governments deal with vested interests that resist changes to the status quo.


Implementing appropriate domestic regulation


As noted previously, regulation is often needed in services sectors to achieve efficiency


and equity objectives. Designing appropriate regulatory standards and institutions takes


time, as they often must be tailored to national circumstances to be effective and attain


the desired objective. An increasing body of evidence has shown that a “one size fits all”


approach – including international “best practice” norms – may not be appropriate.


Reverting to the example of Zambia, in addition to the accounting example just


mentioned, burdensome regulatory requirements for banks relating to documentation,


collateral, and money laundering restrict access to credit for small enterprises and the


rural poor, while not affecting much large firms or the urban rich. A fear of being


blacklisted generates a chilling effect on the incentives for banks to explore or propose


less burdensome alternatives to regulatory requirements.


The Zambia case illustrates the types of complementary measures that will have


the most effect in increasing the gains from liberalization will not be uniform across


countries. Barth, Caprio and Levine (2006), in the first comprehensive cross-country


assessment of the impact of the Basel Committee's influential approach to bank


regulation, conclude that there is no evidence that any single set of “best practices” is


appropriate for promoting well-functioning banks. There is need, therefore, for a high



13 E.g., foreign entry in cabotage activities is prohibited and international transporters may move products
between two foreign countries only if they pass through their own country.


17





degree of country specificity in both diagnosis and remedial action. This is more time-


and labor-intensive – i.e., expensive – than is the adoption of (international) norms “off


the shelf.”


Improving domestic access to better services


For the poorest countries in particular, the desired investment response to liberalization


(entry by foreign providers) may be muted and take long to materialize.14 Structural


factors such as economic size or location may imply that some countries or parts of


countries will not be attractive enough to induce entry by private firms, whether foreign


or domestic. Or, the market may be too small to allow vigorous competition. Such


situations will result in limited access, if any, for many poor households or rural


communities. Improving the distribution of access to services could be achieved by


targeting aid for trade on service providers to encourage them to provide services in


remote and disadvantaged regions in poor countries and/or to lower the prices of such


services below what would be needed to cover costs. In our view this could be an


important dimension of an effective “aid for trade” strategy to complement and support


multilateral trade reforms. Here we are not thinking of fiscal investment or entry


incentives of the type offered by virtually all developing countries to foreign investors.


These are costly and of dubious value. Instead, the idea is to use development aid funds


to induce services firms – foreign or nationally owned – to provide specific services to


households that otherwise would not be served.


The experience of a number of countries in the last decade has improved our


understanding of how universal access policies can be used to complement market-based


reforms to improve access for the poor to infrastructure services. In network industries


such as telecommunications or electricity private providers could compete for


performance-based subsidies related to providing services to the poor.15 This would


ensure that the poor to reap some of the benefits of competition, and while minimizing


outlays for the government – the “reverse auction” process allows it to discover the true



14 What follows draws in part on Hoekman and Mattoo (2007).
15 The picture is less clear for other, especially social, services. We do not know whether this is because
these services are inherently different, e.g. because performance is so much more difficult to measure, or
because governments have been less willing to experiment with new policies in these areas.


18





cost of service provision. Countries such as Chile, Peru and Uganda have put in place


such mechanisms, which have helped to expand services to areas that otherwise would


not have access. Based on the Chilean experience,16 Kenny and Keremane (2007)


estimate that an upper bound on the amount needed for achieving universal access to


basic telecommunications using competitively awarded subsidies to private providers in


developing countries is some $5.7 billion. Of this amount, $1.8 billion could not be


supplied by a reasonable tax on existing providers, and would need to be generated from


outside the sector. Most of this – some $1.5 billion –would be needed in Africa.


An international arrangement that replicates the key elements of successful


national schemes may be one way to use additional aid for trade resources to increase


support for pro-competitive reforms. This could involve countries (or regions) that are


willing to eliminate barriers to investment being given assistance to put in place both the


necessary regulatory reforms and granted access to a “universal service provision fund”


in instances where the investment response from domestic and foreign firms had been


inadequate. Funds would be made available to provide a subsidy to firms to create


infrastructure and/or provide services in the relevant region or country at pre-specified


terms. Along the lines of the policies put in place in Chile, the Dominican Republic, Peru,


and Uganda, these terms could be established as the result of an reverse auction or


bidding process under which firms would indicate the minimum level of subsidy they


would require to fulfill the mandate set out by the government. Note that this form of


assistance does not target specific industries or firms, as would industrial policies or trade


preferences. Rather the objective would be to improve the availability and quality of


services for all firms, farms and households in areas that would otherwise be


underserved.17



16 The subsidy needed to provide universal access in Chile varied across sub-regions, with poor, sparsely
populated areas requiring a larger per capita subsidy. Income density explains over 60 percent in the
variation of subsidy cost. Kenny and Keremane (2007) therefore use income density data for other
countries to estimate what would be needed to achieve universal access.
17 In the case of trade preferences proposals have been made to shift towards financial instruments, on both
efficiency and systemic grounds, and as a mechanism to compensate beneficiary countries for the erosion
of the value of preferences as MFN barriers are lowered. The services “aid for trade” proposals made in this
paper could also be part of an effort to address preferences erosion losses, but they are primarily focused on
the set of countries that have not been able to utilize preferences as a result of supply constraints. See e.g.,
Hoekman and Prowse (2005) for a discussion of preferences and aid for trade.


19





Supporting regional cooperation on services


The potential benefits of regional cooperation in addressing supply side constraints for


small and land-locked countries can be large. Regional cooperation can lower costs and


enhance global competitiveness of exporters by removing duplicative regulatory controls,


and allowing firms and governments to realize economies of scale by spreading the fixed


costs of services provision and regulation over a larger area. The establishment of


transport and trade facilitation corridors linking two or more countries can be a


mechanism that reduces trade costs both directly and indirectly – by increasing the


incentives of all countries involved to monitor “performance” of the corridor.


For smaller countries, regulatory cooperation may allow the substantial fixed


costs associated with regulatory bodies to be shared. For example, in basic


telecommunications, apart from spectrum monitoring equipment, computers and


programs, there is the cost of professional assistance for activities such as


interconnection, cost estimation and spectrum management. An example is the Eastern


Caribbean Telecommunications Authority (ECTEL), the first regional


telecommunications authority in the world. Although the member countries retain their


sovereign power over licensing and regulation, ECTEL provides technical expertise,


advice and support for national regulations. Apart from the economies of scale in


establishing a common regulator, there are at least three other advantages. It will


promote the development of harmonized and transparent regulation in the region, allow


for a greater degree of independence (and hence credibility) in regulatory advice, and


enhance bargaining power in negotiations with incumbents and potential entrants.


Technical assistance to determine “what, where and how much” is particularly


important in the regional context. For example, should regulations in say, professional


services be harmonized first within a subset of, say, COMESA countries, on a COMESA-


wide basis, or directly vis-à-vis the EU (in the context of the future Economic Partnership


Agreement), or not at all? To some extent the needs confronting governments with


respect to regional cooperation are similar to those that arise in the GATS context:


whether to bind (in some or all dimensions) immediate or gradual market opening, or not


to bind at all. But much of the agenda at a regional level will span issues that are not


relevant to a multilateral context – e.g., “local” cross-border spillovers or club goods such


20





as roads and shared ports, joint tourism marketing, development of regional infrastructure


hubs, etc.


Facilitating market access through broader cooperation, particularly on Mode 4


Facilitating regulatory cooperation could help deal with apprehensions about


liberalization on all modes. For example, in financial services, confidence in cooperation


by the home country regulator of suppliers could facilitate greater openness to both


commercial presence and cross-border trade by host countries. Similarly, in international


transport services, confidence in the enforcement of home-country competition law may


increase the willingness to liberalize in importing countries.


The area that is probably of greatest interest to many developing countries –


whether large emerging markets or the LDCs – in direct trade terms is to achieve


progress on mode 4. To date, mode 4 has been (another) millstone for the services


negotiations. To support a positive outcome on mode 4, Members need to recognize that


simply asserting that mode 4 is about trade in services and not about migration cannot


dispel the deep-rooted fears raised by the entry of foreign providers in many countries.


Whatever one’s views of the legitimacy of those fears, to make progress they have to be


acknowledged and addressed.


Immigration authorities in host economies must be assured that source countries


will cooperate to screen services providers, to accept and facilitate their return, and to


combat illegal migration. The approach pursued to date in the WTO by developing


countries has been to request that potential host countries make binding commitments on


an MFN basis, regardless of the conditions that prevail in source countries or measures


that governments in such countries should implement in order to manage mode 4 trade.


One way to take a more cooperative and less antagonistic approach to mode 4 is to draw


upon the experience of a few relatively successful bilateral and regional trade


agreements. Greater progress might be feasible if more is done to also impose obligations


on source countries. This is a key element of regional agreements (e.g. APEC) that have


facilitated mobility of skilled workers and bilateral labor agreements (e.g. between Spain


and Ecuador, Canada and the Caribbean, Germany and Eastern Europe) that have to a


limited extent improved access for the unskilled. Source country obligations in these


21





agreements include pre-movement screening and selection, accepting and facilitating


return of workers, and commitments to combat illegal migration. Cooperation by the


source can help address security concerns, ensure temporariness and prevent illegal labor


flows in a way that the host country is incapable of accomplishing alone. In effect, such


cooperation constitutes a service for which the host may be willing to “pay” by allowing


increased access.


How might such elements be incorporated in a multilateral agreement? One


possibility is that host countries commit under the GATS to allow access to any source


country that fulfills certain pre-specified conditions – along the lines of mutual


recognition agreements in other areas. Even if these conditions were unilaterally specified


and compliance determined unilaterally, it would still be a huge improvement over the


arbitrariness and lack of transparency in existing visa schemes. Although negotiating


these conditions multilaterally and establishing a mechanism to certify their fulfillment


would be an improvement over the unequal, non-transparent and potentially labor-


diverting bilateral context, this is simply not feasible in the short run. Given the large


differences in the ability of source countries to satisfy whatever conditions are put in


place there is a clear case for high-income countries also providing assistance to poorer


countries to attain them. This is an area where regulatory cooperation between host and


home countries, supported by development assistance from rich countries, could do much


to assuage fears on the part of voters and governments in the North that mode 4 is simply


another form of long-term migration.




4. Concluding Remarks


Little progress has been made in WTO services negotiations since these were launched in


2000. In part this is because liberalization of trade in goods has been central to discussion


to date – there has been less interest in, and thus attention given to, the services agenda.


The neglect matters. Greater trade in services can do much to improve consumer welfare


and the productivity of firms and farms in WTO members by providing a greater variety


of quality services at lower prices.


WTO members have begun to recognize some of the constraints affecting


multilateral cooperation on services trade policies. The shift to a small group, plurilateral


22





set of negotiations in 2006 reflected recognition that many developing countries have


little incentive to participate in mercantilist bargaining over market access. The


increasing prominence of “aid for trade” reflects increasing acceptance of the idea that


market access negotiations need to be complemented by measures to help developing


countries benefit from liberalization.


A precondition for achieving greater ambition in the services negotiations is to put


in place mechanisms that will bolster pro-competitive regulation and strengthen


regulatory authorities in developing countries. Many countries need assistance to put in


place the regulatory mechanisms that can help ensure the potential benefits from


liberalization are realized. There is great potential for donor countries to both do good –


assist developing countries to benefit from services-related reforms – while also doing


well in terms of obtaining better access to developing country markets.


Accommodating the interests of the small and poor countries by providing them


with “aid for trade” in services is desirable in itself, but also necessary to ensure smooth


and expeditious progress in the WTO. Aid is a necessary complement, not a substitute for


the core role of the WTO: to provide a mechanism to make binding policy commitments.


All countries, including the poorest, can benefit from making reform more credible and


certain through legally binding international commitments that are costly to revoke. Even


in instances where there is reason to defer market opening, for example, to give the


incumbent and/or regulator time to prepare for competition, there is still a good rationale


for governments to make reform objectives credible through binding commitments to


future liberalization. Such commitments avoid the danger of perpetual infancy and hence


perpetual protection by confronting incumbents and regulators with a credible deadline


by when they must be equipped to deal with openness.


The comparative advantage of the WTO in the aid-for-trade context is to act as a


focal point for the trade-related capacity building agenda – providing “space” and a


mandate for trade interests in developing country members to defend trade projects as


priorities for national action and support by donors and international agencies. We have


argued in this paper that addressing national trade needs and priorities must span the


services sectors. Doing so may over time bolster support in developing countries for


making multilateral liberalization commitments. But even if it does not result in such an


23





outcome, a much greater emphasis on services in the operationalization of aid for trade


will be beneficial in itself.




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