Risks and Rewards of Regional Trading Arrangements. in Africa: Economic Partnership Agreements (EPAs) Between the EU and SSA - PDF

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Risks and Rewards of Regional Trading Arrangements in Africa: Economic Partnership Agreements (EPAs) Between the EU and SSA Lawrence E. Hinkle and Richard S. Newfarmer* June 15, 2005 * The authors are
Risks and Rewards of Regional Trading Arrangements in Africa: Economic Partnership Agreements (EPAs) Between the EU and SSA Lawrence E. Hinkle and Richard S. Newfarmer* June 15, 2005 * The authors are grateful to Maurice Schiff for his contributions to the first phase of the World Bank s analytical work on EPAs, on which this paper draws heavily. They would also like to thank Paul Brenton for his inputs on the EU s preference schemes and rules of origin, Luis de Azcarate for helping with the drafting, and Jean-Jacques Hallaert, Padamja Khandelwal, Jonathan Munemo, and two anonymous reviewers for commenting on drafts. The views expressed in this paper are those of the authors. These views are not necessarily those of the World Bank, its Board of Directors, or the governments that they represent and should not be attributed to them. Abstract / Summary The primary objective of the planned Economic Partnership Agreements (EPAs) between the EU and Sub-Saharan Africa (SSA) is intended to be the development of the SSA countries. This paper accordingly analyzes the EPA process from a development perspective. It examines the key issues raised by the merchandise trade and regional integration aspects of the planned EPAs including: their potential effects on regional integration in SSA, the relationship of the EPAs to the EU s Everything but Arms Initiative and the access of SSA s exports to the EU market, the reciprocal opening of SSA s markets to the EU and the parallel MFN liberalization and the restructuring of tax systems in SSA that would need to complement it, and the relationship of the EPAs to the WTO s Doha round. The EPAs present an opportunity to accelerate global and regional trade integration in SSA. To realize the potential development benefits of the planned EPAs, two steps are essential. First, the EU must, as it has stated, truly treat the EPAs as instruments of development, subordinating its commercial interests in the agreements to the development needs of the SSA countries and effectively coordinating the EPA s trade and development assistance components. Second, the SSA countries need to use the EPAs to accelerate trade and investment climate reforms that are necessary for raising growth rates and integrating into global and regional economies. However, the EPAs also pose some development risks for SSA; and they have become quite controversial. A number of important open questions will need to be successfully resolved to limit the development risks, including: creating attractive incentives for trade and investment climate reforms in SSA; reducing MFN tariffs and ii improving domestic tax systems; liberalizing intra-african trade both within and between SSA s regional economic communities; designing development-friendly provisions governing trade in services, investment, and competition; allowing enough flexibility to accommodate substantial variations in regional and country conditions; and appropriately timing and sequencing a complex series of reforms. If key questions cannot be satisfactorily resolved, the EPA process could end up being replaced by improved preferences ( super EBA ) as proposed by the Blair Commission for Africa or, conceivably, even abandoned. iii Risks and Rewards of Regional Trading Arrangements in Africa: Economic Partnership Agreements (EPAs) Between the EU and SSA Introduction An Overview of Africa s Trade with the EU Trade is vitally important for sub-saharan Africa s small economies, with total exports and imports of goods and non-factor services accounting, respectively, for 29% and 34% of GDP on average. 1 Partly for historical reasons, the EU is Sub-Saharan Africa s (SSA) largest single trading partner, buying an average 31% of SSA s merchandise exports and providing 40% of its merchandise imports. Starting in the 1970s, the EU provided unilateral preferential access to its market to 77 African, Caribbean, and Pacific (ACP) countries under the Lomé Conventions (I through IV). The Cotonou Agreement (June 2000) provides for a continuation of this preferential access until Under the Cotonou trade preferences, all imports of manufactured goods from the ACP countries enter the EU duty-free, although these are still restricted by what are fairly demanding rules of origin (RoO) for small low income economies. Many ACP agricultural products also enter the EU duty-free except for 990 tariff lines covering agricultural and processed agricultural products produced in the EU, which are granted less favorable tariff preferences. The most valuable of the EU s preferences for SSA have been those extended to a few traditional primary exports sugar, meat, and fish some of which are governed by separate commodity protocols. Subsequently, in 2002 the EU unilaterally began providing complete tariff-free, quotafree market access for all imports other than arms from the 49 Least Developed 1 Figures for the EU are for the EU 15 before the EU s recent enlargement. 1 Countries of which are in SSA -- under its Everything-but-Arms (EBA) initiative. Despite the trade preferences accorded to SSA under the Lome and Cotonou Agreements, SSA s share of the EU market for its exports has declined in parallel with the decline in its share of world exports. The share of the SSA EPA countries exports in the EU market has fallen steadily from 3% in 1985 to 0.9% in 2003, a reflection of competitiveness problems and supply constraints as well as declining real prices of some primary commodities and restrictive rules of origin. In addition, SSA s exports to the EU are heavily concentrated primary products and petroleum, which itself is concentrated in a handful of countries. There has been little diversification of SSA merchandise exports to the EU under the Lome and Cotonou Agreements. Trade between Africa and the EU is much less important for the EU than it is for Africa because the EU s economy is much larger than the economies of the SSA countries. Africa accounts for only 1.4% of the EU s total merchandise exports and 1.7% of its merchandise imports. Thus, the impact on the EU of free trade arrangements with Africa under the planned Economic Partnership Agreements is likely to be quite limited and much easier for the EU to adjust to than for Africa. Furthermore, if the EPA negotiations were conducted in commercial terms, the differences in economic size and in the relative importance of EU-SSA trade to the two sides would give the EU a much stronger bargaining position than the SSA countries. A Development Perspective on EPAs The trade relationship between SSA and the EU is quite important for the region s development; and the economic partnership agreements (EPAs) between the 2 EU and sub-saharan African countries, which are to replace the Cotonou trade preferences in 2008, could offer considerable potential benefits for SSA. This paper examines the planned EPAs from a development perspective. The terms prodevelopment and development friendly, as used here in assessing the EPAs, refer to policies that will accelerate growth of real GDP and global and regional trade integration in Africa. The paper seeks to clarify some of the issues faced by the EU and SSA countries and to suggest changes needed to make EPAs internally consistent and development friendly. EPAs as Envisaged by the Cotonou Agreement and Phase I of the EPA Negotiations The Cotonou Agreement, signed in June 2000 between the EU and the ACP countries, provides for negotiation of Economic Partnership Agreements (EPAs) between them. The EPAs are intended to reformulate trade preferences accorded to the ACP countries under the Cotonou Agreement and the previous Lome Conventions to make them more supportive of broader development goals, more effective in promoting ACP-EU trade, and more compatible with World Trade Organization (WTO) rules. EPA negotiations were launched at the all-acp level in September of According to the Cotonou Agreement s timetable, the negotiations are to be completed by December 2007, and the EPAs are to become effective as of January 2008, although these deadlines could be modified by mutual agreement. Implementation is to take place gradually over the next 10 to 12 years, but again the time limit could be extended by mutual agreement. 3 Objectives of the EPA Process Development. The overarching objective of the EPAs is to supposed to be to support the development of the SSA countries. Both the EU and the ACP countries have repeatedly emphasized their desire to use the EPAs as instruments of development. The EPAs are expected to support economic development in the ACP countries by establishing free trade agreements (FTAs) with them and by strengthening regional integration among them, as well as through increased aid for trade under the EU s technical and financial cooperation programs. Regional integration. Increasing the integration of their economies with their regional neighbors is a longstanding concern of SSA countries, and the second important objective of the EPA process is to promote outward oriented regional integration in the ACP countries. Traditionally, the 77 ACP countries have been divided into 6 broad regional groupings: the Caribbean, the Pacific, and four loosely defined African sub-regions western, central, eastern, and southern Africa. The EPAs are intended to establish free trade areas between the EU and each of these regional EPA groupings, the precise composition which is to be determined by the ACP countries themselves. 2 The Cotonou agreement envisages a model of outward-oriented parallel North- South-South bi-lateral and regional integration within these EPA groups and between them and the EU. In addition, the hub and spoke effect that a series of bilateral free 2 The term Regional Economic Community or REC is a general one used in SSA to describe customs unions, free trade areas, and other regional integration arrangements. In other contexts, the term regional trade area/agreement (RTA) is applied to the same types of organizations. The two terms are used interchangeably here. 4 trade agreements just between the EU and individual ACP countries could have would be mitigated by the regional integration aspects of the EPAs. 3 Four Key Features of EPAs EPAs are supposed to have four key features: (a) replacement of unilateral preferences with reciprocal free trade arrangements in order to make the EPAs WTOcompatible; (b) comprehensive coverage of trade and trade-related measures; (c) differentiation in the treatment of LDCs and non-ldcs; and (d) aid for trade. Reciprocal free trade and WTO compatibility. In order to make EU-ACP trade relations compatible with WTO rules, the Cotonou Agreement provides for replacing the existing relationship of unilateral preferential access by ACP countries to EU markets with reciprocal free trade agreements between the EU and the SSA countries. That is, not only is the EU to provide tariff-free access to its markets for ACP exports, but ACP countries are also expected to provide tariff-free access to their own markets for EU exports. The WTO-compatibility problem arises because the EU s special unilateral preferences for the ACP countries under the Cotonou Agreement, like those under the preceding Lome Conventions, are inconsistent with WTO s enabling clause. This clause permits industrial countries to give unilateral preferential treatment to only two groups of countries: to LDCs or to all developing countries. Because the Cotonou preferences, like the earlier Lome ones, are not part of the EU s general system of 3 In the case of free trade agreements, like the EPAs, when a hub country or region (the EU) signs FTAs with various small countries like those in SSA (the spokes) and the latter do not sign FTAs among themselves, the hub country tends to benefit more because it has free access to all markets whereas the spokes only have free access to the hub market. This hub-and-spoke effect increases the incentive for exporters to invest in the hub country, rather than in the spokes, in order to serve all of the markets. 5 preferences (GSP) extended to all developing countries, they do not conform with WTO s enabling clause. Hence, the EU needed to obtain waivers from the WTO, first for the Lome Convention in 1994 and then for the Cotonou Agreement at the Doha ministerial in Even with the waivers, the EU s commodity protocols governing preferential trade in bananas and sugar with the ACP countries have already been successfully challenged in the WTO. To bring the EU s trade relations with the ACP countries into line with its WTO commitments, the Cotonou Agreement provides for replacing the unilateral trade preferences that the EU currently accords to the ACP with economic partnership agreements involving reciprocal obligations. The EPAs, like other free trade agreements between developed and developing countries, would be governed by WTO s Article XXIV rather than by its enabling clause, which applies to unilateral preferences and preferential agreements between developing countries. Article XXIV requires that the countries entering into a reciprocal free trade agreement liberalize substantially all trade within a reasonable length of time, without distinguishing between developed and developing countries. 4 WTO-compatibility is an important consideration for the EU and weighed heavily in its launching of the EPA process. In contrast, because of their small size, many SSA countries have a low profile in the WTO, have thus far been exempted de facto from many WTO disciplines, and have not been involved directly in the disputes over the commodity protocols. Many SSA countries have argued that they should be 4 Although GATT and the WTO have thus far been notified by their members of more than 100 free and preferential trade agreements under the enabling clause and Article XXIV, none of these has yet been found not to be in conformity with GATT-WTO rules. 6 exempted from Article XXIV or that it should be amended in the Doha round to permit less than full reciprocity by developing countries participating in an FTA with industrial countries. Comprehensive coverage and the implicit reform model. EPAs are envisaged in the Cotonou agreement as providing for comprehensive coverage of trade in services, investment, competition, trade facilitation, and aid for trade as well as merchandise trade. The EU sees the EPAs as instruments for addressing many of the supply-side constraints that limited the expansion and diversification of SSA exports to the EU despite the trade preferences provided under the Lome and Cotonou Agreements. The EPAs would thus be used to leverage and lock-in broad programs of trade and investment climate reforms. The EU envisages the EPAs to be broadly similar in this respect to the accession agreements between the EU and Central and Eastern Europe, the EU-Mexico FTA and NAFTA, and Chile s FTAs with the EU and US. In contrast, despite having signed the Cotonou Agreement, many SSA countries are hostile to the inclusion of the Singapore issues (investment, competition, trade facilitation, and government procurement) in the EPAs as a divide and conquer strategy for the EU to achieve through EPAs what it could not in the WTO. Differentiation between LDCs and Non-LDCs. In addition to reciprocity and comprehensive coverage, a third key feature of the Cotonou Agreement is supposed to be differentiation between LDCs and non-ldcs. The last part of Article 2 of the Agreement states: differentiation and regionalization: cooperation arrangements and priorities shall vary according to a partner's level of development, its needs, its performance and its long-term development strategy. Particular emphasis shall be 7 placed on the regional dimension Part 1 of Article 85 adds that: The leastdeveloped ACP States shall be accorded a special treatment in order to enable them to overcome the serious economic and social difficulties hindering their development so as to step up their respective rates of development. Thus, the LDCs may not expected to open their markets to EU exports as fast or as much as the non-ldcs in order to maintain their preferential access to EU markets as long the differential pace of market opening does not undermine the overriding development and regional integration objectives. As discussed on pages below, the differentiation principle creates some complications with respect to regional integration within SSA, and differentiation between LDCs and non-ldcs could end up being a temporary feature of EPAs. Aid for trade. A fourth objective of the planned EPAs is to more effectively coordinate trade and aid. The EU is one of SSA s largest aid donors. Thus, its financial and technical cooperation program could, in principle, provide for substantial assistance for overcoming problems and taking advantage of opportunities created by the improved market access and trade liberalization under EPAs. The opportunity for effectively coordinating trade and aid with a major trading partner and aid donor is a distinct advantage of the EPA process relative both to multilateral trade negotiations and to most other bilateral trade negotiations, where the link between aid and trade is non-existent or, at best, tenuous. Coordinating the programs of the EC s two large general directorates for trade and aid, each of which have different constituencies and different perspectives, and the finance and trade ministries in SSA countries, which have similar differences, is essential for a pro-development outcome but is likely to be a challenge for all concerned. 8 One issue with particularly important implications for the EPA negotiations is the amount of financial resources to support the trade liberalization process in SSA. The amount of development finance available from the EU until the end of 2007 under the 9 th European Development Fund (EDF) has already been set, and its regional integration support programs have been worked out with the various country groupings. However, the ACP group has argued that the financial resources currently available from the EU are insufficient to support trade liberalization and expansion as well as the ACP countries other needs. Any effects from the changes in market access and liberalization under the EPAs will only be felt after 2007, potentially long thereafter, depending upon the liberalizations schedules under the EPAs. The financial envelopes for the 10 th EDF and subsequent ones for the period after 2007, when the EPAs will be implemented, have not yet been determined; and their size and composition presumably could still be designed to support the EPA process. As discussed later, because of the limited scope that the EU has for offering additional trade preferences under the EPAs to SSA countries, particularly the LDCs, aid for trade will have to play a central role in creating a favorable economic and political environment for the comprehensive reforms envisaged under them. As part of the G-8 effort to mobilize increased funding for development in Africa, the EU has pledged to double it aid levels by Trade Commissioner Mandelson has recently indicated that a substantial portion of this increase will go to aid for trade and that a mechanism will be put in place to strengthen coordination between the relevant directorates of the EC. 9 Phase I of the EPA Negotiations Phase I of the EPA negotiations, during which ACP-wide issues were to be addressed by the group as a whole, ran for one year from September 2002 through October 2, The ACP and the EC then issued a joint ministerial statement declaring that Phase I of the EPA negotiations had proceeded satisfactorily and that there was a high degree of convergence on matters of principle. Both sides agreed that discussions on common ACP-wide issues would continue during Phase II in parallel with the EPA negotiations at the regional level. In fact, there appears to have been little agreement on many
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