Distortions in World Food Markets in the Wake of GATT: Evidence and Policy Implications

Alberto Valdes () and Joachim Zietz

Reports from World Bank Latin America and the Caribean Region Department

Abstract: Ahead of the Uruguay Round accord of the General Agreement on Tariffs and Trade (GATT) in December of 1993, numerous developing countries, especially in Latin America, embarked on a process of unilateral trade liberalization. During the late 1980s and early 1990s, bound tariffs were instituted, export taxes removed, and quantitative restrictions replaced with tariffs. Although the principle of tariffication is now widely accepted, many policymakers in these countries are exploring temporary import restrictions in agriculture with the argument that this sector is a special case because of the major distortions in world food prices. Protection is considered in the form of additional tariff protection on importables, such as cereals in the case of Colombia and Chile. In some cases, pressure exists to revert to levels of protection in effect prior to trade policy reforms. The demand for protection has arisen as a result of a decline in internal real farm prices over the last few years. This decline can be traced mainly to two circumstances: an appreciation of the real exchange rate following a surge in net capital inflows and a global decline in world prices (Valdés 1993). Only the exchange rate appreciation can be related to a country's ongoing policy reforms. The decline in world food prices, by contrast, is part of a persistent secular trend toward lower real prices. Advocates of agricultural protection in Latin American countries, however, argue that the current decline in world food prices is mainly the result of protectionist policies of industrialized countries. Local farmers cannot be left alone to compete against the treasuries of rich industrial nations; they must be protected from artificially low world prices. This argument for protection receives its economic logic from the widespread belief among policymakers that world prices will turn sharply upware once the Uruguay Round accord (December 1993) of the GATT is fully implemented. The GATT accord will compel industrial countries to lower their rates of protection to farmers and to eliminate export subsidies over time. Protection is therefore only temporarily needed until food prices rise. Are the advocates of protection right? Are prices in world food markets only temporarily depressed? To find out, this paper assembles and evaluates the available evidence on trends in world food prices and on policy-induced price distortions. In addition, recent work on the likely effects of the Uruguay Round is surveyed. From this evidence, it appears that world food prices cannot reasonably be expected to change significantly in the future. To the extent that prices do change, they are likely to continue downward in real terms. Positive price changes will be limited to a few highly protected commodities, such as beef, dairy products, and to some extent sugar. If world food prices do not trend upward in the near future, however, then there is little economic logic behind schemes for protecting domestic farmers from low price imports. In effect, such protection would only postpone adjustment and unambiguously lower economic welfare of urban consumers, an outcome to be seriously debated before policies of protection are put in place. To avoid the pressure for protection, policymakers may instead want to emphasize measures to enhance productitivity and reduce costs. It may also be useful to develop risk-diffusing instruments to manage price risks and to improve the administrative capacity to apply safeguards and countervailing duties.

Date: 1994
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