ROAD TO FTAS BY SRI LANKAN GOVERNMENT – HOW RATIONAL IS IT?

Transparency and practice in UK

The UK government ensures publishing scoping assessments before entering into negotiations with partner countries and to publishing an impact assessment later in the process, at an appropriate time. (Source – An information pack for the consultation relating to a bilateral free trade agreement between the United Kingdom and United States by International Trade Department in UK)

Sri Lankan case: Even though the chief negotiator of free trade agreement (FTA) with Singapore had several rounds of discussions with trade chambers, the business community was not informed of the impact assessment on tariff liberalization.

The next section of this article is focused on unrealistic benefits expected through FTAS without the backing of analytical studies. We deal with two such justifications used by the policymakers to promote FTAS.

Prospects for Sri Lanka

Are there prospects for Sri Lanka to enter into global value chains (GVC) through FTAS?

One of the main justifications for Sri Lanka to enter into FTAS, often quoted by politicians and policymakers, is that Sri Lanka would be able to enter into the global value chain using the FTA.

In this case, the Federation of Chambers of Commerce and Industry of Sri Lanka (FCCSL) would like to know whether there has been any prior analytical study, evaluation or identification to understand where exactly and in which industries of Sri Lanka such opportunities are available.

Does Sri Lanka’s manufacturing or and services sectors possess the capacity or a completive advantage or way forward to enter into this much-talked GVC through liberalization of products, services, investments? How can Sri Lanka engage in dismantling its regulations across a broad spectrum of products, services, investments, intellectual property, IT, etc. when it has not done a due diligence study or assessment on its preparedness or prospects for GVC linkages in FTAS?

All these questions not only remain as unanswerable to date but also will remain as an index of wisdom of our policymakers, who strongly advocate for FTAS and trade liberalization in the country in a haphazard way.

The FCCISL accepts the fact that integrating into regional or global GVCS is undoubtedly a desirable goal of Sri Lanka. Yet, it seems that this wishful expectation of pro-fta camp based on textbook theory is not realizing realities such as bottlenecks that exist at our own backyard.

In this regard, the Global Value Chain Development Report 2017 by the World Bank Group (measuring and analysing the impact of GVCS on economic development) offers some valuable insights into the conditions, criteria or economic infrastructure required for successful integration in GVC.

Accordingly, there is a host of factors that Sri Lanka should first check on its wishful thinking before its entry into the GVC through an FTA. These factors range from comparative advantage, network and connectivity and to neighbourhood partnering, etc.

Chinese approach

In this regard, it is very useful to learn from the Chinese approach, before making the decision on the selection of countries to enter into s preferential trade agreement/fta. An analysis of China’s FTAS revealed that the selection of countries is primarily decided on the basis of a country’s GVC position, particularly its comparative advantage amongst other factors.

Moreover, factors as to the depth of the FTA, whether it is a shallow or deep agreement, what kind of partnering FTA countries the agreement is entered into, need to be considered. All these factors stated above have a strategic role to play in determining whether these so-called GVC linkages will take place.

In common, an approach to FTAS begins in China with its assessment about the country’s GVC position in the market. This is in contrast to the Sri Lankan government’s position that by signing FTAS it will naturally promote the country’s exports through its value chain.

Productivity improvement

Going for FTAS without addressing the productive capacities and productivity improvement seems like putting the ‘cart before the horse’. This is because that most of our products have perennial productivity issues coupled with Sri Lanka’s high interest rates and lack of efficiency directly affecting the competitiveness of Sri Lankan exports and eventually the GDP of the country.

Industrial sectors across the board are faced with acute productivity issues that make our products uncompetitive in the world market. While there are micro-level or firm-level issues of productivity, much of these issues are beyond the firm and industry levels.

It is the widespread opinion of the SME community that without adequate measures to address productivity and competitiveness issues, Sri Lanka’s attempts to enter into FTAS with other developed countries such as Singapore, Korea and China that maintain very high productivity level across their industries could make the situation worse.

It is also noteworthy to mention that Sri Lanka has still not been able to reap the expected benefits from the FTAS signed so far or unilateral tariff concessions granted by the European Union (EU) under GSP Plus and in reality, many SMES face extinction.

Low-priced, often substandard imports from the Indian sub-continent have flooded the Sri Lankan market, when Sri Lanka’s leading exports such as apparel, tea, rubber and spices to the Indian sub-continent have faced nontariff barriers and other trade obstacles.

FTAS-FDI linked?

Is there a link between FTAS and foreign direct investments (FDIS)?

This is yet another justification that FTAS promote FDI. This justification is also somewhat exaggerated as the flow of FDI into the country is determined by a host of other factors. This is well evident in the annual surveys conducted by the United Nations Conference on Trade and Development business survey.

This business survey is done based on the factors influencing the future global FDI activity and in 2017, a business survey was done using top-class corporate executives. It can be observed from the diagram titled ‘Factors i nfluencing future global FDI activity’, extracted from this survey, that various factors, which consist of a range of macroeconomic, corporate and external factors that may affect world investments and the intensity level of each factor in deciding future FDIS.

According to this survey, it’s evident that signing an FTA is just one factor out of many factors influencing FDIS and even the FTA factor is not considered positively by the majority of executives that took part in the survey. In effect, an FTA is not a key driver of investments into a country and this is in contrast to Sri Lanka‘s position where it’s often said that FTAS will pour FDIS into the country.

However, in the recent past, the Sri Lankan government took some commendable actions such as getting back the GSP Plus, launch of trade information portfolio and National Export Strategy to facilitate exports with the technical support of the International Trade Centre and World Bank.

The designing of the National Single Window is another positive step taken by the Government of Sri Lanka (GOSL) to facilitate trade and we believe this integrated platform is expected to reduce the transaction cost of our imports and exports, giving the advantages especially to the SME sector.

The FCCISL fully supports the efforts of the GOSL in achieving the World Trade Organisation (WTO) trade facilitation process under each category (A,B,C) and hope once implemented, Sri Lanka will get some advantages over some of our competitors in the region.

Challenges with bigger economies

The challenge of dealing with bigger and incomparable economies for trade, defending the Sri Lankan right to guard its national interest, against the substandard goods likely to come through FTAS and unfair trade practices of exporters from other countries, need to be considered.

A market economy is an economic system in which economic decisions and the pricing of goods and services are guided solely by the aggregate interactions of a country’s individual citizens and businesses. There is little government intervention or central planning.

Consequences of non-market economy

Under the legal structure of the WTO, the designation of a particular country as a nonmarket economy (NME) allows importing countries to use a special framework to determine whether the exporting country is selling its products at unfairly low prices and if that is found to apply special anti-dumping duties, above normal tariffs, on imports that are sold at less than the price in the exporting country, less than the cost of production or in certain circumstances, less than third country prices.

The purported goal of anti-dumping duties is to reduce the impact of artificially low pricing of exported goods on domestic manufacturers in the importing country.

The WTO law further allows consideration of third-country prices, when attempting to determine whether a country with an NME is dumping its goods into the importing country. Under this, an importing country has greater flexibility to use arbitrarily selected high third country prices as a reference for determining dumping by exporters from NMES than it does for exporters from market economies.

This greater flexibility makes the comparison with import prices more likely to result in a higher dumping margin and consequently, allow for a higher anti-dumping duty.

Case of China

As of 2017, China has been the Sri Lanka’s second largest import destination after India. It has a massive production capacity supported by government subsidies and a large work force. It is a very interesting topic to study as it also covers the ongoing trade dispute between the USA and China.

In this context, it is important to understand the concept of market economy – the crux of the matter for the trade dispute between the USA and China.

China has become the ‘world factory’ and has become the leading sourcing destination for most of the countries. This is a great achievement for China after opening its economy in 80s.

China joined the WTO in 2001 under Article 15 of the protocol and has been a subject to a special presumption that it is a NME. Under this arrangement, China committed to undertake several reforms, regarding, e.g., subsidies, management of state-owned enterprises (SOES) and liberalization of its banking system, etc. to show that China is transforming economy into a market economy acceptable to the WTO member states.

However, there is strong evidence to the effect that even after 16 years’ accession, China still has not completed its transition process. The World Bank has published a study about China, where it affirms that the government continues to dominate key sectors and that “close links between the government, big banks and state enterprises have created vested interests that inhibit reforms and contribute to continued ad hoc state interventions in the economy. In truth, China still relies heavily upon SOES to implement public policies conceived by the Chinese government.

However, this special presumption that China’s NME status by the WTO expired on December 11, 2016 and China argued that it must now be accorded with market economy status.

USA’S stand on China

The US Commerce Department argued that a 1930 tariff law in the US requires some criteria (convertibility of currency, bargaining right for wages, permitting joint ventures or other investments by firms of foreign countries, non-government control production and resource allocation, non-governmental administering authority) to grant the market economy status to a country.

Based on these criteria, the Commerce Department of the US has determined that China still does not meet any of these factors and therefore, cannot be granted the market economy status.

Sri Lanka’s stand on China

Sri Lanka has obviously conceded the market economy status for China in the WTO, by desisting from objecting to the lapse of the protocol in 2016. By doing so, we seem to have given away the rights to establish a viable anti-dumping duty mechanism on Chinese goods, if found guilty for exporting through FTA or outside, which more developed countries as the USA and EU and also India are retaining to date.

This would severely hamper the effectiveness of Sri Lankan government’s much-hailed legal enactment – the imposition of anti-dumping law to prevent imports coming to Sri Lanka from a country like China at unbelievable low prices. Now the question is what is the possibility or quantum of anti-dumping duty that Sri Lanka could ever impose on undervalued imports from China?

Anti-dumping duties investigation is by no means easy or always possible to impose because the difficulties arising in proving that the goods are being ‘dumped’ as per the WTO prescribed legislation. Therefore, the status of market economy conceded to China by Sri Lanka puts certainly Sri Lanka at a disadvantageous position.

Further, Sri Lanka will also lose the right to compare Chinese export prices with the prices of a third country. Sri Lanka will have to accept the subsidized domestic prices given by the Chinese companies. Given the Chinese system within the country, the lack of transparency, language barriers and the centralized protectionist system in China will work against the interest of the Sri Lankan domestic manufacturers.

Finally, it is noteworthy to say that China is the country that has the highest anti-dumping cases against its exports. (See diagram titled ‘Anti-dumping measures per year: The four most targeted exporters)

The trade remedy law in Sri Lanka, often touted as the great protector of the local industry against the ill-effects of FTAS and unfair business practices of importing countries, is now broken at the stem and the question is how can Sri Lanka withstand the onslaught of Chinese products, if priced unreasonably under the proposed FTA to Sri Lanka.

Effectiveness of Australian FTAS

According to the Australian productivity research report (2010), businesses in Australia have provided little evidence that Australia’s bilateral and regional trade agreements ( B RTA s ) h a v e g e n e r a t e d s i g n i f i c a n t commercial benefits. The information available suggests that, where benefits accrue, they are mainly to the existing exporters. (Chapter 7)

While bilateral tariff preferences between the members of a trade agreement can yield economic benefits to those countries, the net benefits are likely to be small. Greater net benefits are available through countries lowering their own trade barriers on a nondiscriminatory, most-favoured nation basis. (Chapter 8)

Non-discriminatory trade agreements are more likely to result in net trade creation and associated economic benefits than agreements with restrictive preference structures. (Chapter 8)

Sri Lanka FTA negotiations

How can Sri Lanka gain an advantage/ protection for domestic industries when negotiating FTAS with larger economies?

Sri Lanka, as a developing country and within the framework of the multilateral trade negotiations under the Enabling Clause, can gain an advantage on trade negotiations in terms of trade liberalization at a level of less than full reciprocity with a large trading partner who has greater economies of scale and magnitude in production and export values as India or China.

This was under the Tokyo Round of Negotiations under the GATT and providing a way by which countries that are less developed could obtain tariff concessions without reciprocity from developed countries like in the case of GSP and special and differential treatment with countries that are relatively more

Part 2

developed than them in free trade negotiations. (Differential and More Favourable Treatment, Reciprocity and Fuller Participation of Developing Countries (Decision of November 28, 1979-L/4903)

However, (practically) even this approach does not guarantee the actual benefits for Sri Lankan industries. In fact, what is important is not the number of tariff lines that are liberalized but as to whether Sri Lanka is capable of producing these items.

For example, India under the ISFTA has granted duty free access to well over 4000 items but even after 18 years, Sri Lanka is still not capable of making these items for exports. Even if Sri Lanka has the capacity to produce such items and export under tariff concession to India, there are many non-tariff measures such as non-recognition of quality certificates, quota system and inter-state taxes blocking the way for Sri Kankan exports to India. At the time of negotiating the ISFTA with India, the Sri Lankan negotiators ignored these aspects of international trade.

Effects of GATT XXIV

What are the effects of GATT XXIV and Sri Lanka/china free trade negotiations?

The FCCISL greatly value the historical and religious bond between Sri Lanka and China and appreciate China’s active role in economic development of Sri Lanka by financing massive infrastructure projects such as highways, power plants, aviation and harbour.

However, the FCCISL has very serious concerns about the Sri Lankan negotiators who conducted the FTA negotiations with China in the recent past. It is regrettable that the Sri Lankan negotiators have conceded to the request of China and agreed to conduct FTA negotiations based on GATT Article XXIV.

Apparently, this has been agreed upon by the Sri Lankan negotiators in 2014, led by the very same chief negotiator who led the team of Sri Lankan negotiators at the much controversial Sri Lanka-singapore FTA negotiations.

The obligations of GATT XXIV, particularly Article 8 (a) (i), are extremely heavy and harmful to a small and vulnerable economy like Sri Lanka. Accordingly, Sri Lanka has agreed with China to liberalize “substantially all the trade” and “at least with respect to substantially all the trade in products”.

We reliably understand that some valiant efforts have been subsequently made by the Commerce Department, which is the focal point for the WTO in Sri Lanka. the Commerce Department, since its establishment in 1947, possesses experience in dealing with bilateral and multilateral trade agreement and is well aware of the implication of agreeing to cover “sustainably all trade”, specially developing country like Sri Lanka.

It is a nebulous concept that there is no agreement or measurement as to what constitutes “substantial trade” and still a subject of rules negotiation of the WTO. The Commerce Department has been consistently maintaining the stand that Sri Lanka should conduct negotiation under the Enabling Clause that provides more flexibility, instead of GATT Article XXXIV, to Sri the Lankan government.

In fact, the goods chapter of CHINA-ASEAN FTAS was signed under the Enabling Clause and the number of FTAS in the region, involving Sri Lanka, too signed up under the Enabling Clause – e.g. SAFTA, Sl-india, Sl-pakistan.

Consequently, the Sri Lankan negotiators should have flagged the enormous asymmetries and disparities of economies of scale existing between the giant China and a smaller country like Sri Lanka. Unfortunately, these prudent advises given by the Commerce Department were ignored by the negotiators.

The FCCISL commend the salutary role played by the Commerce Department and its current top-most senior officials in protecting the interest of Sri Lanka and its domestic manufacturers.

The current chief negotiator, who also had worked as a senior official for the Commerce Department, is for sure well conversant about the benefits and flexibilities of conducting negotiations under the Enabling Clause but for reasons best known to him as the chief negotiator at subsequent discussions with China, negotiations were conducted under Article XXIV and agreed to liberalize 90 percent of its tariff lines and keep only 10 percent of its entire tariff lines as sensitive/ negative list without tariff reduction!

As a damage control measure, the senior officials of the Commerce Department had righty so recommended a Review Clause. However, there is a strong speculation that China may request a political directive similar to that of the political directive on the 90 percent liberalization and 10 percent negative list to delete the Review Clause. If this happens, the last chance of protecting the Sri Lankan industries against the ill-effects of the proposed FTA with China will be lost.

In t his context, t he FCCISL and its islandwide membership are afraid of future happenings at trade negotiations with other partner countries. If the composition of the present team of negotiators is not changed, Sri Lanka can only expect the repetition of the same mistakes already done by the Sri Lankan negotiators at all future negotiations. (Compiled and written by Federation of Chambers of Commerce and Industry of Sri Lanka Secretary General/ceo Ajith D. Perera. He was a member of the National Trade Facilitation Committee study tour to Australia in 2018, organised by the International Trade Centre/european Union)