Assessing the Cost of Protection in Vietnam after Becoming WTO's member

Assessing the Cost of Protection in Vietnam after Becoming WTO’s Member Nguyen Anh Thu Introduction Since the economic reform in 1986, Vietnam has experienced extremely quick integration into the world market Trade volume has increased sharply and the composition of Vietnam’s trading partners has broadened Trade turnover in 1990 was roughly 6.2 billion USD, however, in 2005 it reached 69.2 billion USD and that of 2008 has been 143.4 billion USD The growth of Vietnam’s trading rate in 2000 2005 period is 18.4%, which is 2.6 times the growth rate of Vietnam’s GDP At the same time, the number of trading partners has increased, of which Asian countries constitute the most important trading partners of Vietnam, accounting for more than 50% of Vietnam’s trade Vietnam has become WTO member in 2006, which is one big step of its integration into the world market Becoming WTO’s member means that Vietnam has to fulfill its obligations regarding reducing tariffs, opening markets for foreign products but at the same time it can have more access to foreign markets Although the objective of WTO is freer trade all over the world, its negotiations of the Doha Round have been halted for a long time (Jones, 2009) Almost all countries in the world including Vietnam still maintain many restrictions on the movements of goods across borders As widely accepted in economics, this will reduce surplus or gains from trade of all countries engaged Restrictions of Vietnam on imports and restrictions of other countries on Vietnam’s export will reduce the consumers’ choices and will divert resources from industries where there are comparative advantages This paper’s objective is to estimate the welfare cost of protection in Vietnam before and after it became WTO member Although the welfare cost of protection is confirmed in economics theory, the structure of protection in Vietnam is vivid (Prema-chandra Athukorala, 2006), quantitative analyses on Vietnam’s welfare cost of protection are still limited This paper applies gravity model to Vietnam’s trade data to evaluate trade potential and welfare cost of protection in Vietnam It will then use the result of the regression to further estimate the effect of protection on the volume of Vietnam’s trade and to obtain rough estimates of the resulting welfare effects before and after Vietnam became WTO member 2 Methodology and data Model identiication Gravity model was first applied to international trade by Tinbergen (1962) and Pöynöhen (1963) The basic and simplest form of gravity model for international trade posits that the volume of trade between two trading partners is an increasing function of their national income, and a decreasing function of the distance between them Gravity model was widely used in trade because most of its regressions fit data remarkably well (Anderson and Wincoop, 2003) However, 92 Yokohama Journal of Social Sciences, Vol 15 No 466 the model was criticized for lacking a theoretical basis Works by Anderson(1979), Helpman and Krugman (1985) and Bergstrand (1985) showed that gravity equations could be derived from trade models with product differentiation and increasing returns to scale Deardorff (1998) contributed to gravity model theoretical basis by showing that the gravity equation is consistent with several variants of the Ricardian and Heckscher-Ohlin models Gravity model is applied to answer many questions related to trade Among them, a number of gravity analyses deal with various trade policy issues, such as the effects of national borders, the merits of proposed regional trade arrangements and the effects of protection and openness (Anderson et al., 2001 and Arvind Panagariya, 2002) Wall (1999) applied gravity model to US trade data to estimate the effects of protection on the volume of US trade and roughly estimate the resulting welfare effects Although the theoretical calculations of the cost of trade protection are well established, the empirical estimates of the costs are still very small due to the lack of estimation method and data Wall (1999) has provided a new method of estimating the costs of protection by applying gravity model, which requires less information than previous methods but still has the advantages of general equilibrium approach The estimations of Wall(1999) are much higher than in previous studies such as Baldwin(1984), Feenstra(1992), Hufbauer and Karen(1994), who found that cost of protection of the U.S was only 0.38 to 0.73% of the U.S GDP The reason for this low estimation is the use of partial equilibrium method Wall(1999) had used the gravity model to have general equilibrium approach In this paper, the model of Wall (1999) is applied to trade data of Vietnam with its main trading partners for the period 2004 2008 in order to estimate the welfare cost of trade protection in Vietnam The regression equation will take the form: LnTijt Ln Yit Dij Ln Y / P it SCij ASEAN ij LnY jt Index jt Ln Y / P jt Index jt 9WTOt ijt Where Tijt is the export or import of Vietnam to a partner country in the year t Yit is the GDP of exporting country, (Y/P)it is the GDP per capita for the exporting country j stands for importing country D is the distance between the capital of Vietnam Hanoi importing country, and is an error term To address characteristics of Vietnam’s trade patterns, three dummy variables and the capital city of the partner country Index is the trade policy index for the were added: traditional trade partner variable and Vietnam’s WTO membership variable SC (Socialist country), ASEAN trade network variable ASEAN, WTO In order to capture the relation between trade index and the WTO membership, the model introduces the interaction term between trade index variable and WTO membership dummy 2 Data The data set is Vietnam’s merchandise imports and exports to and from 84 countries for the period 2004 2008 The data are obtained from UNCOMTRADE statistics Table shows 10 biggest trading partners of Vietnam and their bilateral trade with Vietnam in 2008 National income data GDP and per capita GDP are taken from the IMF statistics All the trade data and GDP are converted into US dollars The distance variable is the great-circle distance between Hanoi and capital city of the trading partner In order to quantify the level of freedom, the paper use trade policy index that is part of the Index of Economic Freedom published by the Heritage Foundation The indices are calculated based on two inputs: the trade weighted average of tariffs and the non-tariff barriers (NTBs) NTBs include: quantity restrictions, price restrictions, regulatory restrictions, investment restrictions, customs restrictions and the government direct interventions The level of trade Assessing the Cost of Protection in Vietnam after Becoming WTO’s Member Nguyen Anh Thu 467 93 Table Top 10 Trading Partners of Vietnam (2008) (In thousand US dollars) Trade turnover Country export import China 20,823,661 4850109 15973552 USA 14,554,848 11902833 2652014 Japan 16,708,057 8467749 8240307 Singapore 12,091,799 2713824 9377975 Korea 9,048,705 1793525 7255179 Thailand 6,194,167 1288546 4905620 Australia 5,709,476 4351579 1357897 Malaysia 4,626,454 2030402 2596052 Germany 3,553,332 2073423 1479908 10 Hong Kong 3,510,506 877189 2633317 Source: UNCOMTRADE statistics Table Top 10 Countries in Trade Policy Index (2008) Country Trade policy index Hong Kong 95 Singapore 90 Switzerland Canada USA Turkey 86.8 Israel 86.6 Kazakhstan 86.2 Norway 86.2 10 Germany 86 87.2 87 86.8 Source: Index of Economic Freedom 2008 The Heritage Foundation freedom (or protection) of a country is judged on a scale to 100, where 100 is the ideal free of trade Table reported 10 countries having highest trade policy indices in 2008 According to this scale, Vietnam’s score is 54.8 in 2004 and 62.8 in 2008, which is relatively low and means quite high level of protection In 2005, Vietnam weighted average tariff rate was 13.6% and that of 2008 is 10.7% Although the Government has made progress in liberalizing trade volume, NTBs still account for 10% point deduction in Vietnam’ s free trade score As listed by Heritage Foundation, those NTBs are import bans and restrictions, service market access barriers, import licensing requirements, nontransparent regulations, state trade in some commodities, weak enforcement of intellectual property rights, corruption and customs inconsistency 94 Yokohama Journal of Social Sciences, Vol 15 No 468 Table Regressions Results for Gravity Model of Vietnam s Trade in 2004 2008 Dependent Variable: log of bilateral exports Coefficient Std Error 12.22 1.29 9.50 0.00 0.93 0.06 15.91 0.00 Constant Origin GDP (log) t-Statistic Prob Origin GDP per capita (log) 0.10 0.06 1.67 0.10 Destination GDP (log) 0.60 0.06 10.16 0.00 Destination GDP per capita (log) 0.04 0.09 0.50 0.62 Distance (log) 0.99 0.13 7.70 0.00 ASEAN 0.80 0.34 2.33 0.02 Socialist 0.16 0.17 0.91 0.36 Trade policy index 0.02 0.01 1.89 0.06 WTO*index 0.00 0.00 0.99 0.32 R-squared 0.65 Observations 840 Empirical results Two least squared regressions of the gravity models were performed The first, as described in restriction that the trading-pair intercepts are all equal, and the second, as in , is under the , relaxed this restriction by including fixed effects to control for unobservable pair-specific effects However, the fixed effects were found insignificant LnTijt Ln Y P ijt it LnY jt Ln YitLnTijt Ln Y /Ln P itYit Ln Y PWTO Index jt 5Index jt t jt WTOt * Index jt ijt Ln Y PLnit Y / PLnY jt LnY jt jt Ln Y P Index jt jt Index jt ijt Although the restriction equation (1) assumed that trading-pair intercepts are all equal, it has included many explanatory variables which might capture specific effects of the trading pairs The results of this regression are reported in Table Most of the explanatory variables are found to be significant The coefficients of GDP have positive sign and has the value of 0.93 for exporting countries and 0.60 for importing country, which indicate that Vietnam trades more with the countries of bigger economic size This result is consistent with the basic hypothesis of the gravity model In contrast, the estimation shows that the per capita GDP variables are not significant factors in explaining Vietnam’s trade volumes This implies that trade volumes of Vietnam much depend on the size of the partner economy rather than on the per capita income The empirical result is different from that of Frankel (1997), in which a predicted 1% increase in per capita GDP leads to about 0.1% increase in bilateral trade volume The distance variable is statistically significant with expected negative coefficient, meaning that geographical distance is an important factor in reducing Vietnam’s trade volume ASEAN variable is highly significant with the expected coefficient of 0.80 This implies the increase of 0.8% in trade volume of Vietnam with the partner country if the partner is an ASEAN member High trade flows due to lower tariff and other trade facilitating commitments of ASEAN Free Trade Area (AFTA), which aims at 5% tariffs for all goods traded among ASEAN member countries In contrast, the Socialist variable’s coefficient has negative sign and is Assessing the Cost of Protection in Vietnam after Becoming WTO’s Member Nguyen Anh Thu 469 95 Table Effects of Protection on Vietnam s Imports and Exports (2004) Actual Vietnam’s trade (thousands US dollars) Effects of protection (thousands US dollars) Effects of protection as percent of trade Effects of protection as percent of Vietnam’s GDP Vietnam’s Imports From countries in sample 28,166,299 12,195,468 43.3 From all countries 31,968,820 13,842,499 43.3 30.39 Vietnam’s Exports To countries in the sample 25,225,697 12,380,118 49.07 To all countries 26,485,035 12,996,207 49.07 28.53 Table Effects of Protection on Vietnam s Imports and Exports (2008) Actual Vietnam’s trade (thousands US dollars) Effects of protection (thousands US dollars) Effects of protection as percent of trade Effects of protection as percent of Vietnam’s GDP Vietnam’s Imports From countries in sample 71,660,127 10,070,641 14.05 From all countries 80,713,829 11,340,292 14.05 12.62 Vietnam’s Exports To countries in the sample 60,146,137 17,172,225 28.55 To all countries 62,685,129 17,896,604 28.55 19.92 insignificant, which means that Vietnam’s trade pattern does not depend on the former partners Coefficient on trade policy index is positive and significant at 10% level, showing that Vietnam will trade more with countries of lower protection or higher level of trade freedom The interaction term between trade policy index and WTO membership dummy is found insignificant in this regression This can be explained by the fact that Vietnam became WTO member in 2007, however, some of its commitments have been performed before 2007, and many of them will be fulfilled in the following years Therefore, it requires longer time for this variable to show its significant effect on Vietnam’s trade Welfare cost of protection To calculate the total effects of Vietnam’s protection on Vietnam’s import and protection of other countries on Vietnam’s export, the regression results are applied to the data of 2004 and 2008 Firstly, the paper calculated the volume of goods that Vietnam would have imported from the countries in the sample if Vietnam has no protection, i.e the trade policy index equal to 100 Secondly, it then calculated the volume of goods that Vietnam would have exported to other countries in the sample if those countries have no protection Finally, assuming that the effect of protection as percentage of trade is the same for the countries within and outside the sample, we will have the overall effect of protection on Vietnam’s trade with all the countries in the world The results of these calculations are shown in Table and Table 96 470 Yokohama Journal of Social Sciences, Vol 15 No Table obviously shows that, in 2004, Vietnam imported more than 31.9 billion U.S dollar of goods from other countries, but would have imported 13.8 billion more if Vietnam had the policy of free trade This means that protection has reduced the imports of Vietnam by 49.07% Given the fact that Vietnam’s GDP is quite small and trade contributes greatly to GDP, this number amounts for about 30.39% of Vietnam GDP By the empirical study of Wall (1999) for the year 1996, protection has caused to the U.S 15.4% reduction in import, which is about 1.66% of U.S GDP For the export side, Vietnam exported more than 26.4 billion U.S dollar of goods to other countries in 2004, but would have exported 12.9 billions more if other countries had free trade Protection decreased the amount of Vietnam’ s export by 47.07%, which was 28.53% of Vietnam’s GDP For the U.S in 1996, Wall (1999) estimated the reduction of 26.2% of export, which equals to 1.94% of GDP The results of 2008 have proved that the implementation of Vietnam’s commitments under WTO have significantly reduced the relative welfare cost of protection of Vietnam (Table 5) Specifically, the cost of protection for imported products in 2008 accounted for only 14.05% of trade, compared to 43.3% in 2004 Moreover, protection of other countries’ to Vietnam has reduced export of Vietnam by 28.55%, which is much lower than that of 2004 This fact clearly shows the benefits of joining WTO to Vietnam, although the fulfillment of Vietnam’s commitments under WTO is still limited (Roland-Holst, 2002 and Thanh, 2005) Conclusion By using Vietnam’s bilateral trade data with 84 countries for the period 2004 2008 to estimate gravity model, this paper has found main influential factors on Vietnam’s trade, which are GDP, distance, ASEAN membership and trade policy index These estimations follow closely the basic hypothesis of gravity model By using the results of the regressions to data of 2004 and 2008, the paper roughly estimates the welfare cost of protection of Vietnam’s before and after Vietnam became WTO member Obviously, the relative welfare cost of protection has decreased along with the fulfillment of Vietnam commitments under WTO These results suggest the widely accepted and supported idea by economists: countries will gain from free trade ASEAN Free Trade Area (AFTA) is also a good evidence for the advantage of free trade That is, its membership has increased Vietnam’s trade volume with member countries by about 0.8% By becoming WTO member in 2007, Vietnam is on the way to reduce its tariffs and eliminate NTBs, with the hope to obtain more gains from trade References Anderson, J E (1979), “A Theoretical Foundation for the Gravity Equation”, American Economic Review, Vol 69, pp 106 116 Anderson J E and Wincoop E V (2003), “Gravity with Gravitas: A Solution to the Border Puzzle”, American Economic Review, Vol 93, pp 170 192 Anderson K., Francois J., Hertel T., Hoekman B and Martin W (2001), “The Cost of Rich (and Poor) Country Protection to Developing Countries”, Journal of African Economy, Vol 10, Issue 3, pp 227 257 Arvind Panagariya (2002), “Cost of Protection: Where Do We Stand?”, The American Economic Review, Vol 92, Issue 2, pp 175 179 Baldwin, R E (1984), “Trade Policies in Developed Countries,” Handbook of International Economics, Vol 1, Ronald W Jones and Peter B Kenen, eds., North-Holland, pp 571 619 Bergstrand, J H (1985), “The Gravity Equation in International Trade: Some Microeconomic Foundations and Empirical Evidence”, Review of Economics and Statistics, Vol 67, pp 474 481 Deardorff, V A (1998), “Determinants of Bilateral Trade: Does Gravity Work in a Neoclassical World?”, The Regionalization of the World Economy, Jeffrey A Frankel, ed., University of Chicago Press, pp 28 Assessing the Cost of Protection in Vietnam after Becoming WTO’s Member Nguyen Anh Thu 471 97 Feenstra R C (1992), “How Costly is Protectionism?”, Journal of Economic Perspectives, Vol 6, pp 159 178 Frankel, J., (1997), “Regional Trading Blocks”, Institute for International Economics, Washington, DC Helpman E., Krugman P (1985), “Market Structure and Foreign Trade: Increasing Returns, Imperfect Competition, and the International Economy”, The Massachusetts Institute of Technology Hufbauer G C and Karen A E (1994), “Measuring the Costs of Protection in the United States”, Institute for International Economics Jones K (2009), The Doha Blues: Institutional Crisis and Reform in the WTO, Oxford University Press, Inc Prema-chandra Athukorala (2006), “Trade Policy Reforms and the Structure of Protection in Vietnam”, The World Economy, Vol 29, Issue 2, pp 161 187 Pöyhönen P (1963), “A Tentative Model for the Volume of Trade between countries”, Weltwirtschaftliches Archive, Vol 90, pp 93 100 Roland-Holst, D., Tarp, F., An, D V., Thanh, V T., Huong, P L and Minh, D H (2002), Vietnam’s Accession to the World Trade Organization: Economic Projections to 2020, CIEM/NIAS Discussion Paper DP0204 Thanh, V T (2005) Vietnam’s Trade Liberalization and International Economic Integration: Evolution, Problems and Challenges, ASEAN Economic Bulletin, Vol 22, Issue 1, pp 75 91 Tinbergen J (1962), “Shaping the World Economy Suggestions for an International Economic Policy”, The Twenty Century Fund Wall J H (1999), “Using the Gravity Model to Estimate the Costs of Protection”, January/February Review of Federal Bank of Saint Louis, pp 33 40 IMF data and statistics: http://www.imf.org/external/ns/cs.aspx?id=28 Index of Economic Freedom 2008 The Heritage Foundation: http://www.heritage.org/Index/Ranking.aspx UNCOMTRADE statistics: http://comtrade.un.org/db/default.aspx “Nguyen Anh Thu, Lecturer, University of Economics and Business, Vietnam National University” ... direct interventions The level of trade Assessing the Cost of Protection in Vietnam after Becoming WTO’s Member Nguyen Anh Thu 467 93 Table Top 10 Trading Partners of Vietnam (2008) (In thousand... estimates the welfare cost of protection of Vietnam s before and after Vietnam became WTO member Obviously, the relative welfare cost of protection has decreased along with the fulfillment of Vietnam. .. traded among ASEAN member countries In contrast, the Socialist variable’s coefficient has negative sign and is Assessing the Cost of Protection in Vietnam after Becoming WTO’s Member Nguyen Anh