Thursday, June 26, 2014

Why consumers in The Bahamas should care about trade and the World Trade Organization (WTO)

Why consumers should care about trade and the WTO

Everyone is a consumer at some point, even businesses, even government. So everyone should be concerned about the impact of wide-open trade on consumers, particularly in a small nation.

Any discussion on the pros and cons of open trade should be about more than just the option of having many more foreign products to choose from in your local market. Open trade discussions should be about more than having a bigger external market for products you don’t or can’t yet produce. Open trade discussions should be about more than the quality of products that enter the local market or the quality standards of the products that are exported.

All of these things are important, but consumers are affected by trade and the absolute free trade of the World Trade Organization (WTO) in much more profound and long-lasting ways than these, because of the inescapable general effects of trade on an economy.

One formula that explains the components of gross domestic product (GDP), which is the benchmark statistic for productivity in any nation, is referred to as the expenditure model. Though not perfect and under considerable review as the yardstick measurement of choice, especially for small countries, GDP prevails as the chosen statistic for evaluating the productivity of an economy.

The expenditure model, in particular, assumes that whatever a country makes is more or less equivalent to what that country spends, or rather what each constituent part of the equation spends. The rationale for this is that whatever is produced has to be bought by someone somewhere in the national economy, however long that process takes.

The economics behind productivity

The expenditure model for GDP in macroeconomics is defined as Y = C + I + G + (X-M), where ‘Y’ is GDP, or everything produced by a country.

‘C’ represents consumption by individuals in an economy, and the GDP equation accounts for all the salaries those individuals earn as being equivalent to the money they spend. The spending by average consumers in the economy accounts for roughly two-thirds of all economic activity. That is how important everyday people are in the success or failure of their economy.

“I” refers to spending by businesses, as opposed to individuals, and it includes (new) capital expenditures to start or grow a business.

“G” represents government spending, which includes spending on defense and other new or additional infrastructure or investment spending by the government. G does not include transfer payments, which is spending on social welfare, as such payments are simply a redirection of money already in the economy or already accounted for in another component of the GDP equation.

“X–M”, or “NX”, refers to net exports, if a country is engaged in trade. A negative number is a trade deficit, and a positive number is a trade surplus.

Now, anything done to the right side of this GDP equation, which assumes a state of equilibrium, ceteris paribus, increases or decreases the left side of the equation, overall GDP, i.e., the national measure of productivity.

To keep it very simple, with respect to trade and net exports (the balance of trade), if X = 700 and M = 400, then our trade surplus is 300, and overall trade, Y, GDP, is higher than if the export/import numbers were reversed, all other things being equal.

If X = 200, and M = 600, then our trade deficit is 400. And overall trade and overall GDP, are lower than if the export/import numbers were reversed, all other things being equal.

If X falls from 200, by 100, and M remains at 600, then our trade deficit grows by 100 to a total of 500, and overall GDP falls more, all other things being equal.

If X and M stay the same, and all other things are equal, there is no change in overall GDP, and productivity is relatively unchanged, which is not a likely occurrence.

If M increases to 800, while X is still just 200, and all other things are equal, then our trade deficit grows even more.

Now this example is oversimplified to emphasize the effect of trade, and there are other things to be considered in trade, for example the fact that trade also occurs in services. But to study the impact of each part of the GDP equation, we have to isolate them one at a time and assume that in the moment nothing else changes. Depending on how much time has passed or how extreme other conditions become, other factors in the equation can either offset the negative impact of a trade deficit, or they can worsen it. But, for the sake of emphasis, we keep our equation, our factors and our example very simple.

The point of this explanation is that without a productive domestic sector, which provides goods (not only or primarily services) for trade, our ability to trade freely with many countries is almost irrelevant.

The necessity of domestic goods

If we produce little to export, in comparison to larger countries, what is our bargaining power really going to be based upon in any trade agreement? And in trading wide-open on the level that larger member countries enjoy in the WTO, how are we really benefiting if we can’t provide goods to trade?

We have little in the way of goods to export, because we have not sought investment in local industry to the extent that could fully maximize our output.

One of the things we can expect by acceding to the WTO is that imports (M in our equation) will increase to a much higher rate, in quantity and frequency, than exists at present.

Our exports value, X, will remain the same or fall, because competition with foreign imports, at least in the beginning, will be too fierce for local producers/exporters to manage adequate or competitive production.

The hope for wide-open trade is that, eventually, the cost of manufacturing will decrease and our exports can rebound, but systems must be in place (product standards, consumer protection regulations, etc.) in order to facilitate this. Moreover, considerable investments in property and equipment, which together produce goods for export, will need to take place, but with current limitations on business capital expansion, there is a very narrow window of time in which to do this.

And how do you grow exports in the middle of fierce competition, especially without a proper framework, plan or government subsidies, which are, in fact, counter to the purpose and expected benefits of free trade as provided for in the WTO?

This is why many believe that WTO-type trade agreements really only give larger countries a place to dump their inferior goods while still making money off of them. And it is why many believe the possibility of domestic production of almost anything that would be imported for little or nothing under such a free trade arrangement will disappear or even cause domestic production to implode. Essentially, wide-open trade is combative against a small domestic market that is chronically undeveloped or underdeveloped.

But there is even greater cause for concern painted by the bigger picture of our GDP equation.

If the value of M increases and the value of X can’t increase, that translates into a falloff in I, where there is less investment in local business, less in available salaries to be paid and less people being hired, such that consumers lose jobs and job opportunities, or their salaries are reduced in order for businesses to remain open, which ultimately reduces the buying power and consumption of individuals.

If C, consumers, are responsible for two-thirds of the active economy, the problem is an even bigger one, because consumers can’t spend what they don’t have. With less spending, the economy then becomes (more) stagnant, or depressed, and it stays the same with respect to growth or it begins to regress into a recession, which, with the implementation of a value-added tax (VAT), will further slow the economy.

Government salvation

In this horrible situation, the only other part of the productivity/GDP equation that can be manipulated in an effort to resurrect the economy is government spending. The more depressed the economy becomes, the more dependent the people will be on the government to restore it, especially in a country where the people rely on the government as a savior and sponsor for all things. But this is a prospect that does not bode well for a country already neck-deep in debt.

Present economic conditions and anticipated economic conditions post-VAT, require the government to inject money into the economy, either through increasing the money supply by printing more money to keep the economy going, or by lowering the prime interest rate charged to banks to allow consumers to be able to afford bank loans and, more importantly, for businesses to be able to afford bank loans for the capital they require to run or grow their businesses which keep people employed and earning income.

Because printing more money, a path the government already seems to be traveling, is inflationary, the preferred method of recovery is to lower the prime interest rate. Too much money, like too much of anything else in the economy, creates a glut; too much money in circulation lowers its value over time.

And with a fixed exchange rate regime, the question of devaluation, forced or otherwise, is raised. The Bahamian dollar value continues to be pegged to the U.S. dollar value in order to facilitate trade, with reliably-valued currencies.

But the very trade agreement we seek to be a part of, in the long run, can become a reason we have to devalue our currency, as trade partners and foreign investors can spot a weakened dollar value inherent in all of our problems in banking, government spending and domestic production.

And all of the deficiencies outlined herein – revenue, taxation, spending and trade – point back to the failure of successive governments to plan an economy that could survive, with strength, into the future.

These deficiencies are both a result of and a cause for the weak condition of our economy which, without extreme overhaul on the most basic level, will only degenerate further.

Where the answer lies

For all the reasons given, the only real answer to all of our most challenging economic concerns is to allow the foreign direct investment our governments are so hell-bent on to occur within and only within partnerships between foreign enterprise and local enterprise in industries that are fundamental to building and sustaining the economy and therefore the country.

This unique and very specific type of foreign direct investment through joint local partnerships only in vital, productive industries will help to increase domestic investment (I), which encourages consumer spending (C) increases, and increases exports (X) by the domestic production sector, which in turn reduces the need for government interjection and intervention (G) in what should be a free market.

The joint foreign-domestic partnership model in key industries also helps support the pegged exchange rate/value of the Bahamian dollar with respect to the U.S. dollar and prevents the likelihood of devaluation because you now have real trade of real exports produced by a real domestic sector, which engages in real productivity. And all of this is better in every way for all consumers.

• Nicole Burrows in an academically trained economist. She can be contacted at:

June 25, 2014