Pacific islands: Market access alone won’t boost trade

A blog I wrote for the Lowy Institute for International Policy:

Solomon Islands last week became the first country to receive approval to export timber to Australia under new guidelines on the legality of logging products. The move secures the $4 million market in sawn timber exports to Australia, an industry which employs at least a thousand workers.

It’s good news, but the move shouldn’t be read as a boost to Solomon Islands’s flagging trade balance, still less a prop to its shaky economy. Logging in the Solomons is in terminal decline and timber sales to Australia remain less than 1% of total exports. Forestry fueled the economy since independence in 1978. So many logs have been felled that there are few viable areas of natural forest left to exploit. Plantations remain a small part of production.

Like many Pacific island countries Solomon Islands has spent decades liberalising its own economy and securing overseas market access for products like timber.

The country is a member of the World Trade Organisation, party to three regional trade agreements and has duty-free and quota-free entry to China, Europe and the US. Australia and New Zealand, the region’s biggest trading partners, also grant tariff and quota-free access. Efforts are underway to reduce quarantine barriers. Under PACER Plus, the trade agreement currently under discussion between Australia and the Pacific Island Forum countries, little remains left to liberalise.

All this emphasis on market access (both inward and outward) hasn’t benefited trade as much as it was supposed to.

Over the past 30 years Pacific island merchandise trade has fallen as a proportion of economic output, according to World Bank data. During the same period exports of goods and services from the Pacific islands rose more slowly than the world average. In some of the most enthusiastic regional liberalisers, like Solomon Islands, exports of goods and services even formed a progressively shrinking share of economic output.

It may seem like a no-brainer, but much of the reason for this underperformance is that Pacific island countries simply can’t produce enough. However much other countries want Pacific island goods, the Pacific just can’t make things for those markets in adequate quantity, consistency or quality.

When I worked in the Vanuatu Department of Trade, a colleague came back from a trade fair in Japan saying that a potential buyer loved Tanna Coffee and wanted 20 containers per month. Great, my friend replied, but 20 containers was total national production in a good year.

That story is typical: across the region, formal work forces are too small, countries too distant and fragmented, and production until now too volatile to fulfil the demand that exists for Pacific products. It’s a bit like trying to fill a bathtub with a thimble.

But this doesn’t mean the islands should give up on trade. Instead of concentrating relentlessly on opening up to foreign markets, much more should be done to boost domestic productive capacity. Use a bucket, not a thimble.

Economists define productive capacity as the resources, entrepreneurial capabilities and production linkages which together determine the ability of a country to produce goods and services and enable it to grow and develop. Productive capacity deals more with the national economy than with foreign markets, although the two are linked.*

The productive engine develops via capital accumulation, technological progress and structural change. Clearly these processes have been weak in most of the Pacific island countries.

Rates of capital accumulation are very low, partly due to the small size of the formal economy in many countries but also as a result of low savings rates and the underdevelopment of financial services, which mean that savings are not converted into investment. Technological progress has been limited or non-existent. Structural change (the rate at which agricultural productivity has risen and manufacturing and services have supplanted agriculture) is similarly slow. Melanesia’s economies in particular remain dominated by large subsistence sectors.

Roads, ports, bridges and wharves in many parts of the Pacific are among the poorest in the world, and this in countries which depend critically on transport. Tertiary, vocational and higher education need to improve if the region is to produce higher value-added goods and services. Low levels of labour productivity and widespread underemployment are among the key causes both of the weakness of productive capacity, and, more importantly, of persistent poverty.

It’s about time the Pacific island countries and development partners stopped putting all their faith in market access and started attending to the more complex task of developing and diversifying the domestic economic engine. Trade can boost development, but only if the islands have enough to sell.

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Photo by Flickr user Tony Morris.

*As well as the 2006 UNCTAD Least Developed Countries report this perspective draws analytically on works including Albert Hirschmann (1958) The Strategy of Economic Development. Yale University Press, New Haven, Conn.; Michal Kalecki (1969) Theory of economic dynamics, New York: Augustus M. Kelley; Nicholas Kaldor (1967) Strategic Factors in Economic Development Cornell University Press, Ithaca, New York; Jose Antonio Ocampo (2005) (ed.) Beyond Reforms: Structural Dynamics and Macroeconomic Vulnerability, Stanford Economics and Finance, Stanford University Press and the World Bank, Washington DC.