Authors Benedict Xu-Holland and Harry Berger
When Trade Minister David Parker signed the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP) in Chile on 8 March it came just a few weeks after the Labour-led coalition government released a National Impact Assessment of the deal. In a series of interviews Parker argued that Labour was signing TPP-11 for pragmatic reasons (he gave the agreement a ‘7 out of 10’). Walking away from the deal, he said, would mean New Zealand would suffer a net-loss from a decline in investment and trade opportunities. The evidence Parker cited was largely based on the country's prior preferential trade agreements (PTAs). For example, he said the 2008 New Zealand–China Free Trade Agreement (NZCFTA) was the reason for the huge increase in trade and investment between the two countries in the last decade.
But how persuasive are Mr. Parker’s claims? Without detailed post-hoc modelling it is near impossible to credibly infer causality between New Zealand's PTAs and aggregate trade growth. A host of variables may be responsible, from changing migration patterns to a shift to consumption-based growth. Australia, which only signed a PTA with China in late 2015, saw its own trade quadruple during the previous decade. In light of this, can New Zealand credibly attribute our success to the NZCFTA? And what does this mean for claims made about the CPTPP?
When Trade Minister David Parker signed the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP) in Chile on 8 March it came just a few weeks after the Labour-led coalition government released a National Impact Assessment of the deal. In a series of interviews Parker argued that Labour was signing TPP-11 for pragmatic reasons (he gave the agreement a ‘7 out of 10’). Walking away from the deal, he said, would mean New Zealand would suffer a net-loss from a decline in investment and trade opportunities. The evidence Parker cited was largely based on the country's prior preferential trade agreements (PTAs). For example, he said the 2008 New Zealand–China Free Trade Agreement (NZCFTA) was the reason for the huge increase in trade and investment between the two countries in the last decade.
But how persuasive are Mr. Parker’s claims? Without detailed post-hoc modelling it is near impossible to credibly infer causality between New Zealand's PTAs and aggregate trade growth. A host of variables may be responsible, from changing migration patterns to a shift to consumption-based growth. Australia, which only signed a PTA with China in late 2015, saw its own trade quadruple during the previous decade. In light of this, can New Zealand credibly attribute our success to the NZCFTA? And what does this mean for claims made about the CPTPP?
One of the arguments made in favour of bilateral and regional trade deals is that they increase efficiencies by reducing government distortions and eliminating bureaucracy. The fact the CPTPP is a 5000-page monster ought to raise more than a few eyebrows about that claim. The text outlines in excruciating detail all the goods, and from which countries, to which tariffs will and will not be applied. It also imposes strict ‘rules of origin’. In many cases these continue to apply tariffs to goods produced by participant countries which contain inputs from outside the trade bloc. This could, for example, force textile factories in Vietnam to shift their source of raw material from cheaper (and often poorer exporters, such as Bangladesh and India) to countries within the trading bloc. Rules of origin also add administrative costs to firms who have to deal with an increasing number of interlocking preferential agreements, all with different requirements. Rather than promoting free trade, it can be argued the CPTPP merely removes barriers from some forms of trade, at the cost of prejudicing others, in a manner reminiscent of protectionism.
In response to this criticism, former National Party trade minister Tim Groser used to refer critics to the principle that free trade leads to more trade, which in turn leads to growth. He would decry dissenters as "outlier academics" with "extreme views". In doing so, he ignored the argument that agreements such as the CPTPP are preferential, since they privilege some countries over others. Indeed, as many economists have noted, PTAs can lower aggregate trade and reduce economic welfare, by increasing regulatory burdens on firms.
Unfortunately, this strategy of limiting wider discussion is regrettably bipartisan. Notwithstanding a host of roadshows and presentations, the Ardern government’s actions have ensured that any public input will be so late as to be ineffective. The CPTPP National Impact Assessment (NIA) was released a mere two weeks prior to signing, and the modelling underpinning the NIA’s projected gains was released less than 36 hours before the treaty was signed. While Parliament's Select Committee process offers a platform for public input, it occurs too late in the day for even nominal changes to be implemented.
There is little doubt that, at this stage, the CPTPP is inevitable. But notwithstanding the government giving it a "7 out of 10" score, an examination of the modelling raises significant cause for concern. Most worrying in our view is that the forecasted one-billion-dollar boost for the New Zealand economy seems to be based on a series of unrealistic assumptions.
The model used by MFAT assumes ‘perfect competition’. Thus for example, the model assumes immediate take-up of the tariff arrangement right after implementation. However, studies by Australia’s Productivity Commission, suggest that over a third of eligible firms do not take advantage of PTA agreements. It is plausible that the legal opacity and accompanying bureaucracy of navigating the agreement (particularly, Chapter 3’s increasingly complex Rules of Origin) limits its benefits to large firms with administrative structures sophisticated enough to handle the increased regulatory burden. Indeed, the report on Rules of Origin suggests that small firms have particular difficulty in utilizing tariff cuts within preferential agreements, and generally choose instead to use tariff arrangements under WTO rules.
Furthermore, the modelling gives no consideration as to whether consumers will receive the full benefits of tariff removals. Recent studies suggest that when tariffs are cut, exporters choose to extract rent rather than pass benefits on to consumers. Thus, unlike multilateral tariff cuts, preferential agreements do not derive the benefits of multilateral cuts where competition is induced from multiple sources.
The model also has a flawed view of comparative advantage. It assumes countries can instantly move ‘the factors of production’ between different sectors of the economy (meaning that a factory can instantly turn into a farm), an assumption not born out in reality. Rather, capital cannot be readily moved from one sector to another; instead adjustments take years to happen. This lag time has the additional costs which are not measured, which could potentially have significant macroeconomic impact.
Finally, the modelling includes some odd assumptions: for instance, it assumes that there will be a 7.5 to 15 percent reduction in days required to export and import goods through customs due to the CPTPP. Given quite substantial evidence that Rules of Origin type requirements increase bureaucracy, this assertion seems optimistic at best. When such assumptions aren’t explicitly supported by evidence, it invites questions as to whether the modelling is impartial, and risks giving credence to accusations of bias.
Equally concerning is the lack of rigorous analysis for potential effects on employment, particularly on protected sectors of the economy. The NIA implies that job losses are frictionless; workers will quickly retrain. As noted by other New Zealand economists, this flies in the face of existing international evidence (and indeed the claim is left uncited in the NIA).
Even a cursory examination of the evidence cited raises significant questions over the policy process used to assess the results of the CPTPP negotiation. These questions range from implausible assumptions in modelling, to mistaking correlation for causation, all while promoting the trade deal. What can be done about this? One is that New Zealand should empower and encourage, not marginalise, independent analyses of trade deals. The government could direct the Productivity Commission to assess all future trade negotiations. But a much simpler solution would be to provide the informed public with a meaningful and early opportunity to voice concerns.
Benedict Xu-Holland is the Managing Editor of Incline and a recent Honours graduate from the University of Sydney. Harry Berger is a recent graduate from Victoria University of Wellington.
In response to this criticism, former National Party trade minister Tim Groser used to refer critics to the principle that free trade leads to more trade, which in turn leads to growth. He would decry dissenters as "outlier academics" with "extreme views". In doing so, he ignored the argument that agreements such as the CPTPP are preferential, since they privilege some countries over others. Indeed, as many economists have noted, PTAs can lower aggregate trade and reduce economic welfare, by increasing regulatory burdens on firms.
Unfortunately, this strategy of limiting wider discussion is regrettably bipartisan. Notwithstanding a host of roadshows and presentations, the Ardern government’s actions have ensured that any public input will be so late as to be ineffective. The CPTPP National Impact Assessment (NIA) was released a mere two weeks prior to signing, and the modelling underpinning the NIA’s projected gains was released less than 36 hours before the treaty was signed. While Parliament's Select Committee process offers a platform for public input, it occurs too late in the day for even nominal changes to be implemented.
There is little doubt that, at this stage, the CPTPP is inevitable. But notwithstanding the government giving it a "7 out of 10" score, an examination of the modelling raises significant cause for concern. Most worrying in our view is that the forecasted one-billion-dollar boost for the New Zealand economy seems to be based on a series of unrealistic assumptions.
The model used by MFAT assumes ‘perfect competition’. Thus for example, the model assumes immediate take-up of the tariff arrangement right after implementation. However, studies by Australia’s Productivity Commission, suggest that over a third of eligible firms do not take advantage of PTA agreements. It is plausible that the legal opacity and accompanying bureaucracy of navigating the agreement (particularly, Chapter 3’s increasingly complex Rules of Origin) limits its benefits to large firms with administrative structures sophisticated enough to handle the increased regulatory burden. Indeed, the report on Rules of Origin suggests that small firms have particular difficulty in utilizing tariff cuts within preferential agreements, and generally choose instead to use tariff arrangements under WTO rules.
Furthermore, the modelling gives no consideration as to whether consumers will receive the full benefits of tariff removals. Recent studies suggest that when tariffs are cut, exporters choose to extract rent rather than pass benefits on to consumers. Thus, unlike multilateral tariff cuts, preferential agreements do not derive the benefits of multilateral cuts where competition is induced from multiple sources.
The model also has a flawed view of comparative advantage. It assumes countries can instantly move ‘the factors of production’ between different sectors of the economy (meaning that a factory can instantly turn into a farm), an assumption not born out in reality. Rather, capital cannot be readily moved from one sector to another; instead adjustments take years to happen. This lag time has the additional costs which are not measured, which could potentially have significant macroeconomic impact.
Finally, the modelling includes some odd assumptions: for instance, it assumes that there will be a 7.5 to 15 percent reduction in days required to export and import goods through customs due to the CPTPP. Given quite substantial evidence that Rules of Origin type requirements increase bureaucracy, this assertion seems optimistic at best. When such assumptions aren’t explicitly supported by evidence, it invites questions as to whether the modelling is impartial, and risks giving credence to accusations of bias.
Equally concerning is the lack of rigorous analysis for potential effects on employment, particularly on protected sectors of the economy. The NIA implies that job losses are frictionless; workers will quickly retrain. As noted by other New Zealand economists, this flies in the face of existing international evidence (and indeed the claim is left uncited in the NIA).
Even a cursory examination of the evidence cited raises significant questions over the policy process used to assess the results of the CPTPP negotiation. These questions range from implausible assumptions in modelling, to mistaking correlation for causation, all while promoting the trade deal. What can be done about this? One is that New Zealand should empower and encourage, not marginalise, independent analyses of trade deals. The government could direct the Productivity Commission to assess all future trade negotiations. But a much simpler solution would be to provide the informed public with a meaningful and early opportunity to voice concerns.
Benedict Xu-Holland is the Managing Editor of Incline and a recent Honours graduate from the University of Sydney. Harry Berger is a recent graduate from Victoria University of Wellington.
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