How the Trade Facilitation Agreement can help reduce trade costs for LDCs

19 July 2016

Great hope has been placed on the Trade Facilitation Agreement. How could it support the objective of doubling LDCs’ share of world trade by 2020?
 

The Aid for Trade (AfT) initiative launched at the WTO’s 2005 Hong-Kong ministerial meeting has been successful at raising funds. But after five biennial reviews, showing that AfT flows have helped countries build their supply-side capacities has proved elusive. Great hope has been placed on the Trade Facilitation Agreement (TFA) protocol signed in November 2014. The TFA should result in a move towards results-based AfT and is expected to generate gains from reduced trade costs which should benefit mostly low-income countries (LICs), particularly least developed countries (LDCs) and landlocked LDCs. As such, it could prove instrumental in progressing towards the Istanbul Program of Action’s (IPoA) target that calls for a doubling of LDCs’ share in global exports by 2020, which has been reaffirmed in the Sustainable Development Goals (Goal 17, target 11). As 34 of the 48 LDCs are African countries, the effective application of the TFA’s disciplines could thus have an extremely positive impact for the continent.

At around US$40 billion disbursed a year, AfT represents approximatively 30 percent of global official development assistance (ODA) flows to developing countries, but trade facilitation only accounts for about one percent of AfT disbursements according to the OECD’s Credit Reporting System (CRS). In a recent paper,[1] we also find a lack of correlation between disbursements and the World Bank’s Doing Business data or with the OECD Trade Facilitation Indicators, which cover all aspects of the functioning of customs. In addition, it appears that trade facilitation disbursements have been directed, more often than not, towards countries that are the closest to the TFA targets, whereas one would expect that disbursements would be directed towards countries which are less advanced in that regard. Successful implementation of the TFA would improve this situation, reducing uncertainty related to trade, streamlining market access procedures, and providing greater transparency at customs, thus leading to lower transaction costs. Higher trade volumes would then be an engine of growth and poverty reduction.

Is the TFA likely to be a major accomplishment for the world trading system? While the TFA is narrow in scope, as it focuses on customs management, in some ways it is the broadest WTO agreement besides the GATT, with every internationally traded good subject to trade facilitation measures. For some, the TFA has all the ingredients to be successful and represents new hope for the relevance of the WTO. For others, the TFA is “form without substance”. While recognising the existence of an “implementation problem”, this article focuses on the rationale of the TFA and on its potential benefits for LICs and landlocked LDCs.


Reducing trade costs should be the key objective for AfT

Summary indicators of trade-related performance during the early AfT period across country groupings are presented in Table 1.[2] The group averages reveal large differences between landlocked LDCs and non-landlocked LDCs, as well as with the other two groups (landlocked non-LDCs and other developing countries). Over the period, the average per capita income of landlocked LDCs was half that of non-landlocked LDCs, itself half that of landlocked non-LDCs, itself half that of other developing countries. Landlocked LDCs and non-landlocked LDCs had respectable growth rates, the highest poverty rates, and, on average, they received high AfT disbursements. Governance indicators were lowest for both LDC groups. Finally, average trade costs were highest in absolute terms for landlocked countries in their respective groups, and the decline in average trade costs appears to be less pronounced for landlocked countries – costs even increased for landlocked non-LDCs. A rough extrapolation suggests, however, that achieving the IPoA and SDG target, which calls for a doubling of the share of LDC exports in global trade by 2020, would require trade costs to fall approximately twice as fast for LDCs as for competitors of LDCs in world markets.
 

Table 1: AfT and outcomes in developing countries (averages per country group over 2005-2011)

 

 

Three components of trade costs have been scrutinised in models estimating the volume of trade: (i) geography (i.e. size, terrain natural infrastructure like water ways, country size, landlocked, etc.); (ii) “hard” infrastructure (roads, rail, ports, airports); and (iii) “soft” infrastructure (border-related costs like customs administration and document preparation, border-related policies like tariffs and non-tariff measures in both domestic and destination markets, and behind-the-border policies like communications and regulatory policies). Of these, the two latter ones are up for improvement by directed AfT. While proxies for both the “hard” and “soft” components of trade costs are found to have an impact on the volume of trade, there is controversy on their relative importance and on the desirable distribution of AfT between “hard” and “soft” infrastructure (about 10 percent of AfT disbursements goes to soft infrastructure). In any case, improving the soft institutional and regulatory infrastructure, including the functioning of customs administrations as targeted under the TFA, will require less funding but is an integral part of trade costs.


Objectives and rationale for the Trade Facilitation Agreement

Fortuitously, the TFA suggests a rather clear road map for where AfT should be focused: on the measures that will contribute most to reducing red tape and increase predictability in customs clearance (fees, formalities, transit). Requiring publication of procedures to clear goods will strengthen General Agreement on Tariff and Trade (GATT) Article V on freedom of transit. The obligation to issue advance rulings in a reasonable time-bound manner will strengthen GATT article X on transparency. Pre-shipment inspections to determine tariff classification and customs valuation will be forbidden, as will be the introduction of measures making the use of customs brokers mandatory. Other measures should also improve transparency. For example, requests for revised charges will not be acceptable prior to publication of the new charges. Agencies and authorities in charge of border control will also be obliged to cooperate and coordinate activities as has already started with the establishment of “one-stop border posts.”

By focusing resources on LDCs, and especially landlocked LDCs, AfT should contribute to the realisation of the 2030 Agenda for Sustainable Development in several ways.

Technical assistance

The TFA explicitly recognises that technical assistance will be required for some LDCs, which will then link their commitments to the receipt of technical assistance and support for capacity building. To this effect, the TFA has designed three categories of commitments: Category A for immediate implementation; Category B for a date after a transitional period; and Category C after a transitional period during which implementation capacity will have been acquired through technical assistance. At the WTO, a permanent Committee on Trade Facilitation is to be established when the agreement enters into force, and a TFA Facility has already been set up in 2015.

The TFA is rules-based

LDCs should be the greatest winners of a rules-based world trading system. Signed by all WTO members, the TFA is rules-based rather than discretionary, with specified appeal and review procedures. This gives the TFA a sense of country ownership, which was identified as one of the key Paris principles on aid effectiveness. It is also in the spirit of the outcome of the Busan Partnership for Effective Development Cooperation.

The TFA objectives can be monitored relatively easily

Progress on many TFA objectives can be monitored by indicators lending themselves to targets (e.g. whether borders are open at the same times would be one among measures of border agency coordination, acceptance of electronic payments would be a measure of efforts to speed release and clearance of goods, etc.). In turn, evidence is accumulating that these targets are leading to desired results for the AfT initiative.

Delays reduce trade volumes

Growing evidence from different approaches documents that delays as goods travel from factories to consumers reduce trade volumes. One day less in transit is equivalent to a 0.6 to 2.1 percentage point tariff reduction in the destination country, which constitutes a significant reduction in trade costs.

The implementation problem

Some authors have questioned whether the TFA will solve the implementation problem by giving operational content within the GATT/WTO legal system to the provision of assistance to developing countries. Regarding what developing countries must accept (section II of the agreement), they are to submit substantive schedules indicating which provisions fall in the three categories mentioned above, Category C corresponding to the provisions for which they would have a phase-in period and financial assistance. But the TFA does not contain any obligation for donor members to provide that financial assistance, which leads some to conclude that the TFA may be a case of transparency and moral suasion with no legal substance. Hopefully, the relative transparency of the TFA customs-related measures included in section I of the agreement and the ease to evaluate the resulting reduction in trade costs will help mobilise the financial assistance needed for LDCs, and in particular landlocked LDCs.


Potential benefits from implementing the Trade Facilitation Agreement

The principal focus of the TFA is to reduce the time it takes to cross borders, that is time spent in customs. According to the World Bank’s Doing Business data, the average number of days spent by goods in import customs is 5.5 for landlocked developing countries, and 3.6 for non-landlocked developing countries. The data also indicates that for over 50 percent of non-landlocked developing countries, goods spend on average 2 days or less in customs. In landlocked developing countries, the corresponding figure is less than 5 percent, and for almost 10 percent of them, goods spend on average 10 days or more in customs. This pattern also holds when the comparison is between landlocked and non-landlocked LDCs.

For exports, the comparisons again reveal that the average number of days spent by goods in import customs is higher for LDCs (4.8) than for non-LDCs (3.7). Using an estimate of 1.3 percent additional costs per extra day in transit suggests that exporting firms relying on imported inputs in landlocked LDCs face, on average, an additional trade cost of 3.9 percent.

Because Doing Business data is collected every two years from only a handful of freight forwarders in each country, who are asked to report the time and cost for a 20 foot full container weighing 10 tons to cross the border, they may be representative of neither travel time nor travel cost. Estimates covering all parcel shipments from the Universal Postal Union (UPU) reported in figure 1 provide an additional source of comparison.[3] The figure shows the distribution of the time in transit (defined as time between sorting facilities in origin and destination countries) for packages up to 30 kilograms from a large sample of shipment covering many countries.[4] Average days spent by parcels in transit are 7.0 for high income countries, 13.0 for LDCs and 9.7 for other developing countries. Using the same estimate of 1.3 percent additional costs per extra day in transit would imply that LDCs face, on average, an extra 4.2 percent trade cost for parcel shipments compared to other developing countries.
 

Figure 1: Distribution of time in transit for International parcels

 

Since the signing of the TFA in December 2013, the OECD has produced and released a series of 11 Trade Facilitation Indicators (TFI) for 187 countries, following closely the targets highlighted by the TFA. Currently, this constitutes the most detailed catalogue of the policies and procedures used in border management agencies around the world, and arguably the best we have to assess more closely the trade cost handicaps faced across different group of countries. Comparing LDCs with non-LDCs and landlocked with non-landlocked countries reveals that the values for the LDC group are again systematically lower for each indicator than for the non-LDC group, though not always significantly so.[5] For some important categories like advance rulings, the differences between the groups is large, a pattern that is also apparent when comparing landlocked with non-landlocked countries.

We have estimated, in another article, the reduction in trade costs from improvements in values of the TFI that might result from implementing the TFA – on the basis of the time spent in customs for a 20’ foot container from the Doing Business data. Our results suggest that a successful implementation of the TFA could lead to a percentage reduction in trade costs of 2.4 percent for LDCs, and 4.5 percent for landlocked LDCs. These are not insignificant estimates, and although they only relate to time in customs for imports, several of the gains would also apply for time in customs for exports.


Conclusions and next steps

On average, time in customs for imports and exports are significantly higher for LDCs, and especially landlocked LDCs, making it difficult for them to meet the IPoA and SDG target of doubling the share of LDCs’ exports in world trade by 2020. New estimates suggest that a successful implementation of the TFA could reduce trade costs for imports by 2.4 percent for LDCs and 4.5 percent for landlocked LDCs. While these estimates are only rough orders of magnitude, in the fierce competition characterising our globalised world, these potential differences in trade costs are not insignificant. Since time in customs can be measured relatively accurately, reducing time in customs for imports and exports by a specified amount in a certain timeframe would be a verifiable target for the TFA. And even if reductions in time in customs are greater for imports than for exports, this should still enhance significantly the prospects for exports, as imports are increasingly important for exporting activities.

Such a target would contribute towards two objectives. First, it would be a step towards meeting the goal of doubling LDCs’ share of global trade by 2020. Second, by answering the call for results-based management systems for the delivery of AfT, which has been repeatedly mentioned in the biennial OECD-WTO AfT reviews, this objective would help mobilise support in donor countries which cuts across the pillars of the Paris Declaration on aid effectiveness. Even though there is more to trade costs than customs management, monitoring implementation of the TFA would be a stepping stone towards the concrete trade performance targets that have been lacking in AfT activities so far.

Moving ahead, implementing the TFA faces three challenges. First, the TFA is a best-shot endeavour based on promises rather than legal content. On the one hand, developing countries do not have to engage in bargaining, as they only have to submit schedules of the substantive provisions of section I dealing with limits and procedures for customs administration that they would accept. On the other hand, there is no operational content for donor assistance, which thus remains beyond the purview of the WTO legal system.

Second, the distribution of AfT funds between “hard” and “soft” infrastructure (about 10 percent of AfT disbursements go to soft infrastructure) will continue to be context-specific. Nonetheless, wherever possible, it should be informed by impact evaluation appraisals. Currently, disbursements for trade facilitation activities (as measured under OECD’s CRS) represent only one percent of AfT flows. While the evidence clearly speaks in favour of an increase of this share, it cannot inform on how much.

Finally, the SDGs call for taking urgent action on preserving the environment (goal 15). If cooperation measures at customs expedite transit at the cost of verification of trade in the illegal species identified in the 1973 Convention on International Trade in Endangered Species of wildlife Fauna and Flora (CITES), implementation of the TFA might accelerate environmental degradation. Taking this goal on board is essential in implementing the TFA.


This article is an adaptation of a longer
paper entitled “How the Trade Facilitation Agreement Can Help Reduce Trade Costs for LDCs” published by ICTSD and the WEF under the E15 Initiative. An expanded version that details data and estimation methods has also been published by the FERDI.

 

Authors: Jaime de Melo, Emeritus Professor, University of Geneva, and Scientific director, FERDI. Laurent Wagner, Research fellow, FERDI.


[1] Melo, J. de and L. Wagner. "Aid for Trade and the Trade Facilitation Agreement: What they can do for LDCS." Journal of World Trade, forthcoming. Also Ferdi Working Paper P153, May 2016.

[2] The full details of the table are available in: Melo, J. de and L. Wagner. How the Trade Facilitation Agreement Can Help Reduce Trade Costs for LDCs. E15Initiative. Geneva: International Centre for Trade and Sustainable Development (ICTSD) and World Economic Forum, 2016. www.e15initiative.org/ 

[3] Boffa, M. "E-commerce and the Cost of Waiting." GSEM WP series. University of Geneva.

[4] The figures are drawn from an estimation of approximately 30 million bilateral parcel shipments averaged over a sample of 167 countries for 2013-14. Except for some European flows, shipments are by air.

[5] Melo and Wagner, Ferdi, 2016, figure 2, shows the distribution of each one of these measures averaged over country groupings. 

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