Liberalizing Agriculture

Arvind Panagariya

From Foreign Affairs, December 2005 -- WTO Special Edition

Summary:  Agriculture will be the make-or-break issue in Hong Kong. On the surface, obstacles to an agreement seem insuperable. But a careful examination of the current agricultural trade regime reveals that prospects for an agreement are not as bleak as they appear.

ARVIND PANAGARIYA is Professor of Economics and Jagdish Bhagwati Professor of Indian Political Economy at Columbia University.

BOUND FOR GLORY

Agriculture will be the make-or-break issue for the United States, the European Union, and the Group of 20 mainly larger developing countries (G-20) at the World Trade Organization ministerial conference in Hong Kong. On the surface, obstacles to an agreement about agriculture seem insuperable. Two years ago, trade talks at Cancún broke down principally because the G-20 rejected U.S. and EU offers in this area. But a careful examination of the current highly complex agricultural trade regime reveals that prospects for an agreement are not as bleak as they appear. After sorting through and assessing the consequences of the different policy instruments now in use, fears of an impasse look misplaced and the outlines of a successful agreement emerge.

Before the Uruguay Round Agreement on Agriculture (URAA) came into effect on January 1, 1995, international trade in agriculture had remained almost entirely outside of the scope of the General Agreement on Tariffs and Trade (GATT). Over the years, powerful farm lobbies in developed countries had sought and received border protections complemented by price supports and export and output subsidies. Developing countries did not object much. Convinced that development was synonymous with industrialization, they focused on seeking access to the developed countries' markets in industrial products.

Given the highly distorted regime that resulted and the continued influence of farm lobbies in economically powerful countries, the URAA was little more than a step in the right direction toward rationalizing, and then dismantling, the inherited protectionist regime. The agreement was implemented in developed countries from 1995 to 2000 and in developing countries from 1995 to 2005. It required each WTO member to replace all border barriers (tariffs, quotas, and combinations of the two) against the imports of agricultural commodities with an equivalent tariff. The replacement tariff was intended to approximate the protectionist effect of existing tariff and nontariff barriers. (This so-called tariffication process was intended to introduce transparency and to rationalize the protectionist regime.) The resulting tariff was then "bound," meaning that it would henceforth define the maximum legal tariff on the commodity.

The URAA required member countries to cut their bound tariffs by a predetermined percentage according to an agreed-upon timetable. But by taking advantage of the high protection in the base period (1986-88) and flexibility in defining a tariff equivalent, virtually all countries managed to bind the tariffs on their import-sensitive commodities at levels substantially higher than the prevailing official tariff, called the Most Favored Nation (MFN) tariff in GATT/WTO terminology. Anticipating that in many cases even the MFN rates were prohibitively high, the URAA required member countries to guarantee a prespecified minimum (de minimis) market access for each product. Most countries chose to meet this requirement by introducing a quota equal to the de minimis obligation and a third, even lower, tariff on imports within the quota. After the quota is filled, the tariff jumps to the MFN rate.

Doha Round negotiations are over the bound rates. Because the bound rate is often substantially higher than the applied rate (which is either the MFN rate or the lower within-quota rate), no actual liberalization will take place in many commodities unless the Doha negotiations bring deep cuts.

LITTLE BOXES

Although the URAA tariff regime is complicated, the domestic-subsidy regime the agreement has spawned is substantially more so. Under current WTO rules, countries are free to employ four categories of subsidies: those in the "green" and "blue" boxes, certain development measures, and the separate de minimis subsidies. Subsidies in the green box have no or minimal distorting effect on production and hence trade. They include measures decoupled from output such as income-support payments, safety-net programs, payments under environmental programs, and agricultural research-and-development subsidies. The blue box contains direct payments under production-limiting programs. They cover payments based on acreage, yield, or number of livestock in a base year. Because countries are allowed to revise the base year over time, subsidies in the blue box may have an effect on current output. Development measures cover direct or indirect assistance aimed at encouraging agricultural and rural development in developing countries. They include investment subsidies generally available to agriculture (e.g., research and development, extension programs, and soil and water conservation) and agricultural input subsidies available to low-income or resource-poor farmers (e.g., fertilizer, water, and electricity). finally, under the de minimis provision, developed countries are allowed to use other subsidies with an aggregate value of up to 5 percent of the total value of domestic agricultural production (developing countries can use them up to 10 percent).

The WTO assigns all subsidies outside of the green and blue boxes and development measures -- such as support prices, direct production subsidies, and input subsidies, including those permitted under the de minimis rules -- to an "amber" box. These are generally trade-distorting and therefore the proper subject for reduction in the multilateral trade negotiations. Hence, the URAA targeted the Aggregate Measurement of Support (AMS), defined as the amber-box subsidies net of de minimis subsidies. It required member countries to report their total AMS for the period between 1986 and 1988, bind it, and reduce it according to an agreed-upon schedule. Those reductions have now been fully implemented, but there remains a large gap between the bound and the applied AMS.

SUBSIDING SUBSIDIES