RESTRICTED
WORLD TRADE WT/CTE/W/35
23July1996
ORGANIZATION(96-2880)
Committee onTrade andEnvironment
TRADE LIBERALIZATION AND THE ENVIRONMENT
AContribution bytheUnited States
1. AspartoftheFinal Actembodying theresults oftheUruguay Round ofMultilateral
Trade Negotiations atMarrakesh, theMinisters agreed toestablish aCommittee onTrade and
Environment (CTE) tocover aprogramme ofwork andtoreport recommendations tothefirst
biennial meeting oftheMinisterial Conference oftheWTO. AttheWTO Ministerial Conference
inSingapore inDecember theCTE willbeexpected torecapitulate thestateofdiscussions, andto
make recommendations. Inthispaper wefocus ononeofthekeyissues formarket access, the
environmental benefits oftrade liberalization.
2. TheU.S.appreciates thevaluable papers tabled byArgentina andAustralia concerning
market access intheagricultural sector. They haveprovided theCTE withthefoundation from
which aconsensus position canbegleaned. Thispaper isnotmeant toreplace them inthe
discussion ofthese important issues, buttosupport andexpand thatdiscussion sothatthis
common ground canbereached. Below isadiscussion thatrelates totheissue oftrade
liberalization andtheenvironment. While thepoints aremost pertinent totheagricultural sector,
theeconomic theory thatsupports them isrelevant toalmost allsegments ofanycountry 's
economy.
3. Theeffect offreertrade onenvironmental quality depends onwhathappens tothelevelof
economic activity andassociated pollution, theintersectoral changes ineconomic activity, and
changes inproduction methods. Theeffects alsodepend onwhether appropriate (optimal)
environmental protection isalready inplace; well-designed andenforced environmental policies
aremore likely toensure thattrade liberalization willbring economic growth andgains in
environmental quality. Over thelongterm, economic growth andhigher incomes engendered by
freertrade mayleadtoagreater social preference forandtheresources available toachieve
environmental improvement.
4. Removing agricultural distortions thataffect therelative price offoodproducts andfarm
input prices, along withtheimplementation ofsound environmental policies thatinternalize
environmental externalities, would change current economic incentives andbenefit the
environment. TheCTE should endeavour toidentify suchwin-win situations inother areas as
well.WT/CTE/W/35
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Proposition 1:Freer trade cancontribute toanexpansion ofeconomic growth
5. Freer trade allows market prices toadjust andreflect thescarcity ofresource endowments
andpromotes dynamic gains toaneconomy1.Market prices under freetrade signal "true" market
conditions toparticipants intheglobal economic system, thusallowing foramore efficient
resource allocation.
6. Asmarket access improves, there isanexpansion oftrade inintermediate products and
capital goods, essential building blocks inpromoting economic growth. Importing capital goods
provides theimpetus forincreases inproductive capacity, andoncethenewcapital isinplace, the
overall higher levelofeconomy widecapital allows production ofgoods andservices toexpand.
7. Secondly, asmarket access improves, there isalikelihood oftechnological transfer across
trading partners. Newideas developed inonecountry toenhance productivity canbetransferred
toother countries. Thisisespecially important withtherapid advances intechnologically
specialized inputs, thusallowing countries toimport intermediate products without needing to
develop theproducts themselves. Countries canimport intermediate products anddevelop their
ownoutput market "niches" inwhich theycanachieve larger economies ofscale byparticipating
inanopenglobal trading system. Imports oftheintermediate products could enhance productivity
intheproduction ofthefinalproducts. Thismayalsoencourage innovation asaby-product of
having thenewcapital andcanspurdevelopment ofnewskills andknowledge intheworkforce.
Incontrast, restrictive trade policies mayresult inlower benefits associated withresearch and
development asresources arediverted tolessefficient andproductive activities, thusleading to
lower ratesofeconomic growth.
8. Thirdly, asmarket access improves, financial resources canmore easily betransferred
providing thewherewithal toundertake productive investment opportunities. Savings generated in
richer countries canbeinvested inlessaffluent countries where there arecomparative advantages
inproduction ofvarious agricultural ormanufacturing goods.
Proposition 2:Economic growth, accompanied bysound environmental policy, canimprove
environmental quality
9. Theeffect offreertrade onenvironmental quality depends onseveral factors, suchasthe
levelofproduction, mixofpost-reform goods, variable input use,landuse,technical change, the
assimilative capacity ofthenatural resource base, andthelevelofincome.
10. Freer trade canincrease therateofeconomic growth, which ontheonehandcould harm
theenvironment ifpolluting activity increases withgrowth but,ontheother hand, could improve
theenvironment totheextent thatenvironmental costs areinternalized andresources are
reallocated tolesspolluting activities. Economic growth leads toincreases inresearch and
development which, inturn, generates innovation andcanleadtoadoption ofmore
environmentally friendly technologies.
11. Economic growth isrecognized asacrucial factor inincreasing thedemand for
environmental quality. Empirical evidence suggests thathigher percapita income ispositively
correlated withagreater demand forenvironmental quality. Several studies havenoted an
1More details onthelinks between trade andeconomic growth, ofwhich thisproposition islargely based, canbefound inThe
Economist ,"Economic Growth: ThePoor andtheRich", May25,1996, pages 23-25; PaulM.Romer, “Endogenous Technological
Change, ”Journal ofPolitical Economy 98:5part2,October 1990; andSteven Husted andMichael Melvin, International Economics ,
Harper andRow, NewYork, 1990.WT/CTE/W/35
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inverted-U shape relationship between percapita income andpollution emissions; emissions
increase atlow-income levels, butonceincome reaches athreshold, emissions begin todecline.
Proposition 3:Eliminating market distortions leads tomore rational andefficient useofmarket
resources, thereby supporting sustainable development
12. Thepreamble totheAgreement Establishing theWorld Trade Organization setsoutasa
principal objective oftheWTO "theoptimal useoftheworld ’sresources inaccordance withthe
objective ofsustainable development". Thisobjective isbuiltupon therecognition that,beyond
thebenefits thatmaybeengendered bythegrowth andwealth creating effects oftrade, trade
liberalization canhavemore direct positive effects ontheenvironment byleading tomore efficient
andrational useofresources.
13. Thedegree towhich suchefficiency gains leadtoenvironmental benefits isdependant on
numerous complex factors. However, theopportunity forsuchbenefits seems most clear with
respect tonatural resource based products. Eliminating market distortions thatcause natural
resources tobeundervalued relative totheirmarket orsocial value leads toamore efficient useof
suchresources, thereby directly supporting increased environmental quality. Theagriculture
sector hasalready beenidentified intheCommittee asanareathatisparticularly capable of
producing suchresults. Itwould beuseful fortheCommittee initscontinuing work toidentify
other areas withsimilar potential forwin-win situations.
14. Itshould berecognized thatthefullrealization ofthebenefits ofefficiency gains requires
thatmarket andpolicy failures thatadversely impact theenvironment must alsobeaddressed
through appropriate environmental policies.
Proposition 4:Opening agricultural markets contributes toamore efficient allocation ofresources
andmayimprove environmental quality
15. Because agriculture deals sodirectly withthelandandother natural resources, removing
market distortions intheagricultural sector holds great promise ofleading toenvironmental
benefits.
16. Within thecontext ofagricultural trade policy reform, themost important characteristic of
apolicy isthedegree towhich itdistorts trade. Inagriculture, trade distortions arisefrom both
domestic andtrade policies. Itisoften difficult toseparate trade policy from domestic policy, as
trade goals areoften achieved through domestic policy instruments ordomestic goals areachieved
through trade instruments. Tounderstand howdistorting policies affect theenvironment andto
assess howenvironmental quality isaffected bytrade reform, onemust clarify theeffects of
policies byexamining theireffects oncropmix,input use,technological change, andinvestment
intheagricultural sector.
17. Trade andagricultural policies subject toreform canbedivided intobroad classes: pricing
policies, income policies, marketing subsidies, andstructural policies. Pricing policies, which are
usedtoraiseorlower producer returns tofarming, alsoaffect cropmix,thelocation of
production, andinput use--allofwhich directly andindirectly affect environmental quality. For
example, pricing policies predominantly found inhigher-income countries typically raisedomestic
prices relative toworld prices. These higher prices mayencourage chemical overuse,
mechanization, andlandconversion, allofwhich canharm theenvironment. Incontrast, some
lowincome countries protect consumers through lowfoodprices thateffectively taxfarmers and
discourage production. Artificially lowagricultural prices maydiscourage sustainable farmingWT/CTE/W/35
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practices andmayencourage migration tourban centres placing further environmental stress on
heavily populated areas.
18. Pricing policies andincome supports haveother, lessobvious effects. Forexample,
commodity price supports arecapitalized intolandvalues, which canresult ininput intensification
aslandprices increase relative totheprices ofother inputs suchasfertilizers andpesticides.
Farmers whosubstitute lower priced chemicals forlandmaycontribute towater andsoil
degradation andincrease concerns about foodandfarmworker safety, although degradation dueto
extensification maybereduced. Input intensification canalsooccur when landisconstrained by
commodity programme requirements tobesetaside. Set-asides induce scarcity ofland, which
increases landprices relative totheprices ofother inputs; relatively higher landprices alsoactto
slownatural exitfrom thesector. Consequently, government intervention increases theuseof
inputs andnatural resources.
19. Input subsidies, which reduce thecostofchemicals, irrigation, orcredit, canalsohave
negative environmental effects. Subsidized chemical prices canencourage chemical overuse,
which canleadtosurface andgroundwater pollution, soilcontamination, eutrophication, reduced
soilfertility, foodcontamination, andhuman exposure tochemicals. Overuse orimproper useof
irrigation canleadtosalinization ofwater andsoil,increased nitrate pollution ofground water,
depletion ofwater supplies andcontributions towater logging, soilerosion, andlandscape
degradation.
20. Other policies suchasexcessively hightariffs, tariff escalation, andstatetrading
enterprises canhavedistortionary effects similar tosubsidies.
21. An"excessively" hightariff exists when thefinalprice ofacommodity is"significantly"
affected byatariff totheextent thattrade inthecommodity isrestricted. Some existing tariff
ratescould beconsidered excessively high. Such tariffs alterrelative prices andactasatrade
barrier forforeign producers. Theincrease indomestic production tomeetdemand could be
more environmentally damaging thanproduction byforeign producers. Themost common
methods ofincreasing agricultural production include theincreased useofagricultural chemicals -
fertilizers andpesticides -onexisting agricultural landandincreasing agricultural acreage by
ploughing under marginal andvirgin lands, clear cutting forests, anddraining wetlands.
22. Tariff escalation occurs when ahigher degree ofprotection (through tariffs) exists for
intermediate andfinished goods thanexists forprimary commodities. Rawcommodities maybe
imported atzeroorlowtariffs, yetthenominal rateoftariff increases ateachstage ofproduction.
Some tariffs applied toagricultural products areaform ofreverse tariff escalation inthattariffs
onunprocessed commodities arehigher thantariffs onprocessed goods. Such protection impedes
market access forforeign exporters ofrawcommodities, andaffects theuseofresources inthe
country imposing thetariff. Such apolicy could place pressure ondomestic agricultural and
natural resources tomeetdemand (since imports ofrawcommodities inthecaseofareverse tariff
escalation arereduced). Tariff escalation hastheopposite effect byencouraging rawcommodity
exports from other countries which could leadtoresource exploitation inthose countries.
23. State trading enterprises (STEs) existinmost major agricultural trading countries.
Statutory powers accorded STEs allow some tooperate asmonopsonists andmonopolists, having
exclusive rights topurchase andsellcommodities fordomestic and/or export markets. Such
exclusive rights allows STEs toextract rents nototherwise available tocompeting commercial
firms.
24. Certain policies ofSTEs mayalterthepatterns ofagricultural production. Direct or
indirect subsidies toSTEs bygovernments, suchassecured loans atbelow market ratesofWT/CTE/W/35
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interest, subsidies paidoutbygovernments tocover deficits onpayment guarantees made bySTEs
toproducers, taxbenefits, andtransportation subsidies mayaffect relative prices anddistort
production. Also, STEs withexclusive import rights maylimitmarket access from foreign
competition affecting internal prices andcreate amisallocation ofresources. Likesubsidies and
tariffs, these distortions could result inpricing thatmaynotreflect private market conditions and
could shiftproductive resources leading todetrimental effects ontheenvironment.
Proposition 5:Agro-environmental policies thatinternalize environmental externalities contribute
toamore efficient allocation ofresources andimprove environmental quality
25. Anexternality isaharmful orbeneficial sideeffect thatoccurs intheproduction,
consumption, ordistribution ofaparticular good. Production ofanagricultural good may
generate aharmful environmental externality if,intheproduction process, wastes areproduced as
abyproduct. Abeneficial externality exists when agricultural production results inpositive
amenities. These areenvironmental externalities iftheyaffect thewell-being ofothers andthe
agricultural producer doesnotpaythecosts ofthewaste cleanup orreceive compensation forthe
benefits oftheamenity provided.
26. Anexternality often occurs when there areill-defined orpoorly enforced property rights,
forexample, when resources suchasground andsurface water orairoveracityareowned bythe
community orbynoone. Externalities alsotendtooccur when those affected arewidely
dispersed anddifficult toidentify (Pearce andTurner, 1990)2.Markets mayfailtoreflect thecost
tothecommunity oftheexternality.
27. Agricultural practices cancause bothnegative andpositive externalities. Farmers donot
bearallthecosts associated withagricultural production, suchassoilerosion, water depletion,
surface andgroundwater pollution, deforestation, lossofwildlife habitat, andchemical misuse and
contamination. Ontheother hand, theydonotreapthebenefits ofrecreational andother
amenities thatmaybeproduced.
28. Market failure occurs inacompetitive environment when market prices differ from social
costs (private costs ofproduction plusenvironmental or"external" costs orbenefits). Producers
orconsumers mayhavelittleincentive toalteractivities thatcontribute topollution ortoadopt
environmentally beneficial technologies because these external costs donotenter theirprivate
costs ofproduction. Policies intheform ofregulations (such asstandards, bans, andrestrictions
oninput use)andincentive-based mechanisms (such astaxes, subsidies, andmarketable permits)
canbeimplemented ascorrective measures.
29. Environmental regulations mayreduce environmental degradation butalsomayraise
production costs andreduce competitiveness intheshort term. Inthelongterm, though, the
impacts aremore positive asfirms adjust andinnovate. Astudy bytheU.S.Office of
Technology Assessment (1992) indicates thatsome firms haveadapted toregulations inways that
haveoffset anyearly costdisadvantage and,overthelongrun,theyhaveevenbenefited from the
regulations3.Runge, Houck, andHalbach (1988) findanexample ofinduced innovation in
2Pearce, D.,andR.Turner, Economics ofNatural Resources andtheEnvironment .Baltimore: TheJohns Hopkins University
Press, 1990.
3Office ofTechnology Assessment, U.S. Congress. Trade andEnvironment: Conflicts andOpportunities .Background paper for
Congress oftheUnited States, Washington, DC,1992.WT/CTE/W/35
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agricultural irrigation4.Deteriorating quality ofgroundwater associated withtheoveruse ofwater
through central-pivot irrigation technologies intheU.S.plains states hasinduced institutional
changes (taxes, subsidies andregulations) directed atimproving thequality ofgroundwater. The
regulations, inturn, altered factor values andimposed costs onproducers, inducing achange in
factor useandthesubsequent choice ofalternative technologies.
30. Thus, changes inrelative factor prices stimulate innovative activities, notonlybyprivate
producers, butbypublic research institutions, inefforts toremedy theconstraint imposed bythe
policy-induced factor scarcity. Runge etal.(1988) argue thatenvironmental regulation canactas
asignaling mechanism thatstimulates research intoenvironment-conserving technologies. Intheir
irrigation andgroundwater example, theregulations limiting water useincreased itsscarcity value
andstimulated research intomore efficient "drip irrigation" technologies.
31. Environment-saving technological change allows more goods tobeproduced withless
damage totheenvironment. Such technological change canallow thecountry toexperience an
improvement inenvironmental quality without acorresponding lossincropproduction. Opening
agricultural markets tofreertrade increases theopportunity fortechnology transfers between
countries.
32. When there isamarket failure tointernalize environmental externalities, non-commodity
linked subsidies alsocanserve asanenvironmental policy instrument. Non-commodity linked
subsidies thatprovide compensation toproduce lesspollution ortoemploy environmentally
"friendly" technologies, suchaspayments tofarmers toengage insoilconservation, particularly
ofhighly erodible land, andwater-quality improving practices, represent a"paytoconserve"
approach usedinsome developed regions. These subsidies compensate producers foradopting
environmentally preferred practices which maybehigher-cost technologies.
Conclusion: Freetrade andenvironmental policies canwork intandem toachieve social benefit,
economic growth, andenvironmental quality
33. Itisclear thatacombination oftrade liberalization andefficient, complementary
environmental policies canbebeneficial tosociety inmeeting itsgoals ofeconomic growth and
environmental protection. Itisalsoclear thatinaddressing environmental concerns, sound
environmental policies directed atthose unique nationally specific environmental problems are
always preferable totrade restrictions.
34. Freetrade andsound environmental policies canwork together toachieve thegoals that
benefit oursocieties. Themessage must goforward totheMinisters that:
- intheinterest ofeconomic growth andsecurity, market distortions must be
reduced;
- greater market access through trade liberalization canleadtoamore efficient
allocation ofnational resources andtowards sustainable production;
- environmental externalities, bothpositive andnegative, needtobeinternalized so
thatanefficient allocation ofresources canbeachieved;
4Runge, C.,J.Houck, andD.Halbach, "Implications ofEnvironmental Regulations forCompetitiveness inAgricultural Trade,"
Agricultural Trade andNatural Resources: Discovering theCritical Linkages .J.Sutton, ed.Boulder, CO: Lynne Rienner Publishers,
1988.WT/CTE/W/35
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- freertrade coupled withefficient, complementary environmental policies are
mutually beneficial andcanincrease thewelfare ofsociety;
- theCTE should, initscontinuing work, seektoidentify areas ofstrong potential
forwin-win situations wherein trade liberalization leads toenvironmental benefits.
35. TheCTE hasamandate toprovide totheMinisters attheSingapore Conference areport
concerning theprogramme ofwork examined bythecommittee. Thisreport should notjust
reflect theresearch anddiscussion thathastaken place, butshould point thewaytoward asolution
tothisproblem. TheCTE needs topresent totheMinisters astrongly positive report
recommending thattheyendorse these principles sothatasaworld body, wecanallmove toward
thecommon goals ofsustainable growth anddevelopment, while maintaining andenhancing
environmental quality.