Trade and capital flows recovered last year from the lows of 2001, and many commentators are forecasting even stronger growth over the coming years. This has given rise to hopes that liberalization policies pursued in the 1990s will at last bring their promised rewards. However, an analysis released today by UNCTAD, in its Trade and Development Report 2003 (1), cautions against excessive exuberance.
World trade expanded throughout the 1990s at more than 6% annually, exceeding growth in world output by a considerable margin (figure 1). The expansion peaked in 2000, followed by contraction in 2001 and a modest recovery in 2002. The Report traces fast growth in the 1990s to a combination of rapid liberalization of imports from developing countries, the spread of international production networks in some key dynamic products and surging financial flows that sustained mounting current account deficits. But with these forces operating under strict limits, the Report concludes that they are unlikely to give a comparable boost to trade over the coming years.
The surge in financial flows in the 1990s was even more dramatic: $1,200 billion of net private capital flowed into emerging markets between 1992 and 2001, over half of it going to Latin America. That surge can be traced, inter alia, to the success of the Brady Plan, designed to relieve United States banks of non-performing loans, followed by a quickening pace of neoliberal reforms aimed at attracting foreign capital. Flows had nonetheless peaked as early as 1996, followed by a steady decline to a low point in 2001, before picking up again in some regions last year (figure 2). The downturn reflected worsening global financial conditions, increasing risk spreads, the drying-up of easy privatization opportunities and reduced arbitrage opportunities with the convergence of interest and inflation rates between emerging markets and industrial countries. The Report estimates that, allowing for all payments linked to foreign capital flows - including interest payments, profit remittances and increases in reserve holdings - the net transfer of resources from developing and transition countries between 1997 and 2002 was nearly $700 billion.
Although falling last year, direct investment to developing countries has kept on a more or less even keel since the Asian financial crisis, dominated by flows to China. However, the Report notes that where, as in Latin America, it has been tied to the sale of state assets, rising FDI does not necessarily bring an expansion in productive capacity or exports. Thus, the recent sharp increase in profit remittances in some Latin American economies - as much as 6% of current account outlays in 2001 - may be a source of future instability.
With the evidence showing that most greenfield FDI is attracted by growth, and not vice versa, and with the surge in trade and finance in the 1990s largely due to one-off changes and ad hoc policy responses, the Report concludes that the partial recovery in flows last year is unlikely to herald a stronger upturn in response to an improvement in long-term fundamentals.
The Report warns that putting trade and financial liberalization first at a time of sluggish global growth and unemployment may rekindle mercantilist reactions in the North and false expectations in the South. A sustainable expansion of trade and capital flows now depends on a rapid recovery of the world economy, rather than the other way round.