Mar 13, 2020 in Economics
Trade Problems of Developing Countries

The paper focuses on the trade problems encountered by the developing countries. The essential attention is paid to the premises of the development of trade of developing countries and to the solution to the problems the developing countries are characterized with from the point of view of trade. Moreover, the paper considers the nature of these problems and determines a short forecast that identifies the amount of time needed for the trade issues of the developing countries to be overcome and the kind of means that is necessary to be applied. In addition, the focus is placed on the globalism of the issues and its impact on the world trade and world economy from the perspective of the globalization processes, which are currently taking place in the world. Finally, the paper produces a profound analysis of the issues and discusses the possible outcomes they can provide to the economies of the developing countries.

 

A group of about 130 developing countries is determined by the lower the per capita GDP, a lower proportion of the urban population, a higher rate of population growth, high infant mortality and a shorter period of average life expectancy of people in comparison to the developed countries. In fact, the group of developing countries is very diverse. However, this group includes the countries with relatively similar levels of per capita GDP to the average level of developed countries. Actually, the category of developing countries contains very poor countries. Therefore, the average level of development indicators is not suitable for the detection and analysis of the characteristics of trade policies of the developing countries. For this purpose, the division of the group of developing countries into the sub-groups on more fractional intervals indicators also makes it impossible to release the specifics of the trade policies of developing countries.

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Meanwhile, over the last four decades that marked the beginning of the independent development of this group of countries, vast experience has accumulated from the analysis of many events and multiple attempts have been made in order to understanding this experience and these events. Thus, such an analysis allows naming the most significant features in this area. The fact that these countries represent almost 3/4 of the world population with about 2 billion people, who are in absolute poverty, underlines the importance of these issues. Therefore, the paper focuses on the trade problems of the developing countries, the reasons, which caused them, and the solutions, which can be applied to overcome the problems.

One of the problems is determined by the characteristics of the foreign trade policy of developing countries. In fact, it is referred to as the instability of export earnings. The proceeds of the export of raw materials are subjected to considerable annual fluctuations due to the volatility of the price of raw material. The volatility of demand, in this case, is caused by the fluctuations in the global economic conditions and price volatility. Actually, monocultural nature of exports of many developing countries means that the global economic situation entails more serious consequences for the developing countries than for the developed countries. With a high degree of openness of the economy, as measured by the ratio of the value of exports in relation to GDP, these fluctuations directly affect the value of GDP and the budget by  placing the existence of the state in a vulnerable position. The instability of export earnings comes due to a long-term trend of declining terms of trade, the reduction of its purchasing power. In fact, such a tendency operates due to a number of reasons. For example, such a situation may happen due to the lower elasticity of the raw materials in comparison to the elasticity of demand for prepared foods, or due to a higher degree of competitiveness in the market for raw materials compared to the oligopolistic finished products, which also leads to the price asymmetry. Other reasons include the appearance of substitute raw materials and extensive use of the practice of transnational companies (TNCs) transfer prices.

All the factors force developing countries to modify their trade policy measures in order to stabilize export volumes, prices and the purchasing power of export earnings. Actually, the measures include the attempts to create export cartels and international buffer stocks of raw materials. Moreover, it is important to enter the international agreements on export quotas and to stimulate the creation of funds in order to compensate for falling export earnings due to the volume of funds received during favorable market conditions. In this case, the export diversification measures should aim at establishing integration associations in order to harmonize trade policies. Such measures were embodied in many different initiatives; the alleged coordination or direct subordination of trade policies was subjected to these initiatives. However, the subordination rarely had success because of the disagreements regarding the interests of the participating countries and their diverging interests with developed countries.

Our Process

Another distinctive feature of the trade policies of developing countries is its subordination to the strategic objectives of the economic policy. The formation of the group of developing countries had a period, when the defining characteristic and the measure of success in economic development represented the availability of the industry and it was associated with the industrial stage. The bridging the gap in the levels of economic development of the industrialized countries is associated with the accelerated industrialization of the developing countries. Thus, industrialization is logical to consider as a key part of the overall strategy and the long-term plans for the economic development. Actually, industrialization assigns a decision on employment and contributes to the improvement of the technical level of the economy and to the changes in its branch structure. Consequently, there is a favorable turn in the world trade exchange and a number of other factors.

A certain originality of the trade policies of the developing countries provides economy dualism as their characteristic. The contrast between the modern and traditional economies is observed not only in developed countries, but also in developing countries, where enclaves of modern economy coexist with the traditional norms. In fact, the economic growth of these countries is related not only to the transformation of the traditional economy, but also to the advent of the modern enterprises. Modern economy is characterized by higher level of technical equipment, higher wages, higher output per employee and higher efficiency than produced by traditional economy. In a sense, such a situation reflects a ‘fault’ of the market or the evidence of the presence of market defect. In fact, trade policy protects the modern sector, which is the sector of industrial enterprises, from competitive imports and  encourages imports of capital goods and export of finished products at the same time. Thus, the very nature of trade policy becomes dualistic and inconsistent. The situation gets even more controversial, when the affiliates of TNCs, whose interests do not always coincide with the national interests of developing countries, represent modern enterprises. The need to adapt trade policies to the imperatives, which arise from the fact of the presence of TNCs in the territory of developing countries, can be considered as another specific feature of the trade policies of developing countries.

Due to the acceleration of economic growth and the improvement of living standards, the liberalization of the world trade and deep integration take place. The rich countries were subjected to such a situation during their industrial development and developing countries had an opportunity to integrate successfully. China, India, South Korea, and Taiwan began to reduce prices intensively after the reform, which contributed to the economic takeoff.

Traditionally, developing countries have been exporting raw materials. The export activities allowed them to use their comparative advantage in the labor-intensive goods and provided a market for specific types of goods, which would not find sales in foreign market otherwise. The justification commodity of exports and the associated free trade policies corresponds to the theory of comparative advantage: for example, the Heckscher-Ohlin theorem states that the country should specialize in those products, the manufacture of which makes it an extensive user of the most developed manufacturing sector. If the country is endowed with a certain factor of production, the factor of production can be supplied at a relatively cheaper price and with lower opportunity cost of the goods. Thus, developing countries abundant in human resources should specialize in labor-intensive goods. Due to the export of goods, mainly raw materials, developing countries can earn foreign currency needed for the purchase of imported goods, which can be used in the production of a large amount of capital and other resources that are short of supply.

According to this theory, international trade will lead not only to higher consumption, but also to equal amount of factors of production. The demand for imported goods will increase the demand for relatively cheap factors of production, and the imports will decrease the demand for relatively expensive factors. Therefore, cheap factors will rise in price, and the price of expensive factors of production will drop. Moreover, the theory of commodity exports considers the ‘engine of growth.’ According to this theory, developing countries benefit from the growth of the national economies of the developed world. When the rich countries are developed under the conditions of the industrial expansion, the economic development creates an additional demand for the commodities of the poor countries.

These arguments have been subjected to serious criticism and have raised doubts whether support policies on free trade in natural resources represent the best way to achieve economic development. Firstly, in case of acquisition of professional skills and the increase in the availability of equity capital, a developing country may develop a comparative advantage in the production of certain industrial products, especially, the products that require a large amount of labor and the use of raw materials the country is abundant in. Secondly, the benefits of trade cannot reach all the citizens of the country, especially, if the mine or a plantation is owned by a foreign company. Actually, the benefits to local residents may be limited to the addition to the employee wages that is usually low. Long-term trends in international trade have created three problems for the countries-exporters of raw materials: slow export growth; rapid import growth; the absence of favorable changes in the terms of trade.

In-depth analysis allows observing the following fact: there is a tendency of low elasticity of demand for commodities in the world. Due to the slow income growth, the share of consumer is spent on commodities. Since food is a necessity, the consumers, especially in rich countries, consume all the products they need. Consequently, the revenue growth tends to be spent on goods and services associated with luxury; the revenue growth only slightly increases the cost of basic foodstuffs.

The total demand for commodities tends to have relatively low price elasticity. However, food has no substitutes, and natural resource often have no substitutes in the short term. Actually, the demand for export of any good is price elastic (there are many other countries that produce goods-substitutes). Such a situation will encourage the country to produce as many goods as possible, but general low price elasticity will reduce the prices of commodities because all the countries act in a similar manner. Such an approach can be illustrated by the following example. In the period of 1980-2008, the commodity prices for the non-fuel products fell by 2 times. Between 1997 and 2008, the combined price index for all the commodities of African countries fell by 53% in real terms. Therefore, the price fluctuations associated with low price elasticity of demand and supply of commodities create more uncertainty for their exporters.

Dissatisfaction reliance on commodity exports has forced most developing countries to begin the process of industrialization by drawing the lessons from the experience of developed countries and considering the industrialization as a path to economic success.

In fact, industrialization took place in stages, starting with import substitution, implying a reduction of non-essential imports and release of foreign currency. Most developing countries have begun to develop the industries, while some developing countries already have more advanced industries for the production of components. Only a few large countries, such as India, Brazil and South Korea, have created the industry in the production of capital goods.

In the field of economic policy, import substitution was accompanied by tariff escalation. The rates were increased, as they move from raw materials through intermediate products to the stage of finished goods. In fact, the finished products report higher rates than intermediate goods. Such a fact has stimulated the development of assembly plants that are sheltered by high tariffs on finished imported products. Due to the lack of resources for investment, multinational companies commonly use the policy of import-substitution industrialization in order to stimulate investments.

Some countries, such as South Korea and Taiwan, have been carrying out the import substitution policy, which has targeted the domestic market for several years; at this stage of the policy the secondary orientation to foreign markets has quickly followed. Young branches were initially protected by the protectionist measures, but the barriers to imports gradually retracted after achieving significant economies of scale. The countries, which have continued to implement protectionist policies of import substitution, have experienced a lower growth rate.

Actually, import-substituting industrialization has often led many countries to the creation of inefficient industries protected from foreign competition that are only exposed to little or no competition in the international market. Rather than restricting the import and the gradual reduction of protectionism, import-substituting industrialization indiscriminately was applied to a number of industries. Therefore, the country could produce the goods, in the manufacture of which they had relatively unfavorable conditions. Such conditions not only served as a reason for the trade challenges in the developing countries, but also aggravated the existing issues.

Import-substitution industrialization has led to an increase in wages that is above the equilibrium level of the market. Firstly, the salary in the industry is often much higher than in traditional industries; although, the salary is lower compared to developed countries. The firms, which sought to retain the workers they invested their money in, increased the level of salaries. Secondly, the governments, which sought to appease the politically powerful urban working class, adopted a law on minimum wage.

By limiting imports, import substitution tends to produce a surplus of current account balance, which leads to an increase in the exchange rate. In fact, the governments often actively intervene in order to maintain the exchange rate, as they consider it as a measure used against inflation. Under the conditions of overvalued exchange rate conditions, the products that enjoy little protectionist support have become cheaper. Due to the pressure from the growing urban population in favor of the cheap food, the government resists the introduction of tariffs on the basic foodstuffs such as grain and meat. Such a situation makes it difficult for the local farmers to obtain a fair price for their crops and provides the atmosphere of unattractive investments in agriculture.

Since many new industries are heavily dependent on the imported raw materials, capital equipment and components, only by a company that can establish the monopoly prices often supplies the foreign factors of production, in contrast to the finished imported. A large proportion of the additional income generated by the industries is often spent on the imported goods for the new urban elite.

Our Benefits

Actually, the import substitution is usually limited by the size of the domestic market. At this stage, further expansion can only be achieved at the expense of exports; but the industries will not be able to compete on the global market, if they are characterized by strong protectionism. From the long list of problems, the economists place different emphasis on different aspects. Neoclassical economists emphasize the problem of market distortion by arguing that the import-substituting industrialization leads to increased inefficiency. The economists of the neo-Marxist direction isolate a problem of dependence, since many new industries will belong to the transnational corporations, which import inappropriate technology.

Actually, the industrialization and export-oriented strategy of the developing countries has a number of drawbacks concerning their trade possibilities that causes numerous trade problems. Firstly,  many developing countries perceive the exports of industrial goods as a serious threat to their national industries. In response, they often establish the trade barriers. Even if the current barriers are low, the developing countries may feel that their exports of specific products are too risky for them to expand because of the fear of the future increase in barriers. Concerning such a problem, the World Trade Organization (WTO) makes efforts to ensure the access of developing countries to the markets of rich countries.

It is possible to provide an example regarding such a case. The past progress in the export of manufactured goods in developing countries, such as Malaysia and South Korea, does not mean that other developing countries achieved similar success. When all the emerging countries try to export the finished products, they will face the ever-increasing competition among them.

One more issue in this case problem is the following: the country may become more vulnerable to a speculative attack if a more open trade policy entails the removal or reduction of exchange controls and capital controls. Another point considers the fact that the export of industrial products, goods, and equipment can represent a very risky strategy for developing countries. The best future strategy is likely to be associated with an increase in trade of manufactures among developing countries. In this way, all the countries can benefit from specialization and economies of scale provided by trade and carry out the production for a growing market at the same time. The feasibility of this approach depends on the ability of developing countries to agree on holding an open mutual trade policy. The success of this approach depends on the degree of competition that they face.

In fact, many developing countries were characterized by a weak regulation and supervision of the banking system, very poor transparency in accounting and business practices, and insignificant responsibility to the shareholders. This situation also threatens the successful trade of the developing countries on the world arena.

Finally, many economies of developing countries have suffered from the inflexibility of the labor and capital markets. The government often redeemed bankrupt firms. Such a situation has created a subjective risk: the company can continue to work or to carry out risky projects inefficient due to the knowledge that the government can assist them in case of bankruptcy.

In fact, it is possible to figure out that the countries with the least deformations have successfully survived the Asian crisis. For example, Singapore and Taiwan with open and flexible economies have experienced relatively slight slowdown, but not a recession during the Asian crisis. Actually, the reason for the crisis did not represent the fall of exports. The crisis was predominantly financial in nature: developing countries are characterized by short-term speculative financial flows and the loss of confidence in financial sector. The evidence has presented that if the overall policy of economic growth caused by secondary export orientation has been correct, it has represented the means of achieving much more controversial. Open trade policy, backed up by effective control of the financial sector combined with corporate transparency is more effective than the policy of government guidance in financing and licensing using location companies, especially, if these companies are supporting the government.

To sum up, the developing countries represent a special category of the states that preserve some common signs of socio-economic backwardness, including multi-structural economy, traditional forms of property and public institutions, and  low productivity of social labor.

The differences in growth rates, the speed of modernization of the economy and the impact of the global economy contribute to the differentiation of developing countries. Socio-economic strategy of developing countries aims at overcoming the backwardness, the transformation of traditional economic structures, the change of position in the international division of labor and integration into the world economy.

Developing countries are continually experiencing the effects of cyclical crises, currency inflation, the expansions of TNCs, etc. Due to the crisis, the economic problems of the liberated states were so huge and deep that overcoming these problems is considered as one of the global issues by the international community.

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