India's WTO Problem—A Proposal

July 29, 2014 10:45 AM

After more than a decade of failure to break an impasse on a new global trade round, the World Trade Organization (WTO) managed last year in Bali to accomplish the modest feat of adopting a new Trade Facilitation Agreement (TFA), establishing faster and more efficient customs procedures to encourage more international commerce. Now India is threatening to block that accord unless its agricultural policies are exempted from multilateral scrutiny. Joining India in threatening to hold up the accord are, reportedly, Cuba, Venezuela, and Bolivia.

India is hardly unaccustomed to being an outlier on trade issues. In this case, however, its objectives on agriculture are valid, especially if better articulated, but its tactics in withholding support for the TFA perhaps less so. India should withdraw its opposition to the TFA, reformulate its position on agriculture to persuade others of its merits, and revisit the issue in the WTO in the near future.

Objectives: Preserving current agricultural policies

India's concerns are not related to the TFA itself. Rather they are an attempt to head off potential challenges by its trading partners to its policy of price supports for rice and wheat that allegedly (or potentially) breach India's obligations undertaken in the Uruguay Round (UR) trade agreement of 1994. In that agreement, which also established the WTO, India agreed to limit support to farmers via domestic subsidies (called "aggregate measurement of support," or AMS). Trading partners also want India to curtail any potential exporting of excess food stocks at subsidized prices.

The root of the problem is the gap between the structure of India's polices and the structure of its WTO obligations. In turn, this gap owes to a sharp rise in world agricultural prices since 2007, combined with a major expansion of India's domestic commitment to subsidize consumers of foodstuffs.

India's agricultural policies used to consist of protecting farmers via tariffs and subsidizing consumers via the public distribution system. India provided very little price support for farmers, (via minimum support prices, or MSPs) whose prices were substantially below world prices. It would have been far more efficient to provide farmers with subsidies, as the United States and other advanced countries have done. But subsidies involve direct fiscal expenditures, which India wanted to avoid.

The Uruguay Round essentially codified these policies, giving India leeway to raise tariffs on rice to between 70 and 80 percent and on wheat, 100 percent, without breaching WTO obligations. The generous freedom to protect farmers via tariffs that India had obtained, and because India at that time had few domestic subsidies, led it and other developing countries to pay less attention to their obligations on domestic subsidies, which were set at a relatively constricting 10 percent of output.

Advanced industrial countries, by contrast, had tighter obligations on tariffs, which they had to reduce by 36 percent from levels that were generally lower than that for developing countries. They were also obliged to reduce export subsidies by 36 percent. But they were allowed more space to support their farmers via domestic subsidies reflected in smaller reductions (only 20 percent) in their domestic subsidies.

When the food price shock hit the world in 2007, the focus in India and elsewhere shifted dramatically from the producer to the consumer. India slashed its tariffs (from about 30 to 50 percent to near zero percent for rice and wheat), raised the minimum support prices offered to farmers, and expanded the safety net for food consumers, culminating in the food subsidy bill enacted in 2013 by the previous Congress Party-led government of Prime Minister Manmohan Singh.

Using tariffs to protect farmers was eliminated because the cost to consumers would be too high, as would the cost to the government of subsidizing consumers. As a result, the government had to switch to domestic subsidies via generous minimum support prices, which also enabled it to procure stocks for food security purposes.

In structure, India's agricultural policies—on the producer side—started a few years ago to resemble that of advanced countries. (Of course, the food price increases of 2007 have led to some automatic reductions in production-related subsidies in advanced countries; they have over time also moved toward more direct support for farmers decoupled from production, the so-called "green box" of permissible subsidies in the WTO).

The problem with these changes is that the structure of India's WTO obligations remains as before. The oddity of the Indian situation from a WTO perspective is that India is permitted by the WTO to adopt the inefficient policy of raising tariffs but unable to pursue the less bad policy of price supports.

There are two ways out of this dilemma for India: Change domestic policies or change WTO obligations. India's domestic agricultural policies are indeed inefficient: Food subsidies and even income support to poor farmers should gradually be replaced by cash transfers (which would be WTO-consistent "green box" subsidies). But implementation for such changes takes time—several decades in the case of even the United States and Europe. India's concern to not be prematurely forced into such ideal or minimally distorting policies is thus not unreasonable.

Therefore, India must attempt to change the structure of India's WTO obligations. Indian agricultural trade policy experts such as Ashok Gulati and Anwarul Hoda have suggested that the WTO change the way it calculates domestic subsidies, giving India more wiggle room to continue its current policies. Such an approach makes sense, especially because the current calculations of subsidies are, absurdly, based on international prices that prevailed nearly three decades ago. This change in measurement is desirable, but India's problems may well go beyond the measurement of subsidies; and in any case India's trading partners would demand something in return for such an adjustment.

To show its good faith, India should offer to change its WTO obligations to make them less inefficient and trade distorting. It should offer to restrict its ability to impose tariffs in return for greater—but not open-ended—freedom to grant domestic subsidies. India would then be saying to rich countries: "Our agricultural policies are similar to yours, so we want our WTO obligations to be similar to yours, too." It could argue further that the structure of obligations is biased against India because rich countries can subsidize agricultural exports, while India cannot.

India's offer would codify more efficient and less distorting policies than India's current WTO obligations. India would not just be seeking more freedom; on balance it could accept new limits to its freedom on agriculture, especially on tariffs. Of course, the exact details of the new level of maximum, or bound, tariffs and subsidies will need to be worked out, especially to ensure that the domestic subsidy commitments are not open-ended. The fair principles underlining the offer would be key.

Tactics: Blocking the TFA

Is holding up the TFA the best way for India to secure its objectives on agriculture?

The July 31 deadline for adoption of the Bali agreement does provide India some leverage to advance its broader objectives on agriculture.

Despite the criticism, India's threat to block the TFA is not standing in the way of great global trade advancement. Gains from the TFA have been grossly overstated. Reforming customs administration, a key ingredient of trade facilitation, is an important objective, but the TFA neither adequately incentivizes nor forces such reforms that will be politically difficult within member countries.

Nevertheless, India looks obstructionist by opposing the TFA, especially for the new government, led by Prime Minister Narendra Modi, which is trying to project an image of being investor- and market-friendly and constructive in its international engagement. The reputational costs of blocking the TFA could be high.

India should worry as well about appearing isolated in its current position, with China, Brazil, and Russia—the band of BRIC brothers as it were—and many other emerging market countries clearly distancing themselves from New Delhi. A policy that has limited support among the WTO membership looks weak, lacks legitimacy, and seems unlikely to succeed.

Indeed, if India succeeds in its opposition, and the Bali deal collapses, the blow to an already weak WTO would be significant and India would bear much of the blame. And the costs of a weak and delegitimized multilateral trade system are greater for countries such as India, which is excluded from the emerging Asian trade architecture underpinned by the US-led Trans-Pacific Partnership (TPP).

India should thus withdraw its opposition to the TFA and reformulate its position on agriculture along with a number of countries that likely face a similar predicament. India should also proceed to persuade its partners of the merits and fairness of its new position over the next few months, and revisit this issue at the WTO in the near future.

Reculer pour mieux sauter, as the shrewd French say.