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Old Saturday, November 10, 2012
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MFN Status to India: Merits and Demerits



Granting MFN status to India may be beneficial for both countries. It may expand the size of the market because of trade creation and trade diversion. This possibly can help expand production on a large scale and also infuses competition into markets.


Introduction
In international economic relations and international politics, Most Favored Nation (MFN) is a status or level of treatment accorded by one state to another in international trade. For the promotion of international trade in general and the reduction of tariff barriers in particular, contracting countries of the General Agreement on Tariffs and Trade (GATT) do meet time to time in negotiating conferences in which tariff “concessions” are exchanged and try to give this status to all member nations. This rule is known as the Unconditional Most Favored Nation Principle (MFN); it guards against discrimination in international trade. Most favored nation relationships extend reciprocal bilateral relationships following both GATT and WTO norms of reciprocity and non-discrimination. In bilateral reciprocal relationships a particular privilege granted by one party only extends to other parties who reciprocate that privilege, while in a multilateral reciprocal relationship the same privilege would be extended to the group that negotiated a particular privilege. The non-discri-minatory component of the GATT/WTO applies a reciprocally negotiated privilege to all members of the GATT/WTO without respect to their status in negotiating the privilege.

The World Trade Organization (WTO) members agreed to accord MFN status to each other. Exceptions allow for preferential treatment of developing countries, regional free trade areas and customs unions. Together with the principle of national treatment, MFN is one of the cornerstones of WTO trade law. The term means the country which is the recipient of this treatment (which is India in our case) must, nominally, receive equal trade advantages as the “most favored nation” by the country granting such treatment (in this case Pakistan). Trade advantages include low tariffs or high import quotas. In effect, a country that has been accorded MFN status may not be treated less advantageously than any other country with MFN status by the promising country. There is a debate in legal circles whether MFN clauses include only substantive rules or procedural protections. The United States grants many countries a status known formally as that of “most favored nation” (MFN), a guarantee that their exporters will pay tariffs no higher than that of the nation that pays the lowest. All countries granted MFN status pays the same rates. Tariff reductions under the GATT always—with one important exception—are made on an MFN basis.

The logic here seems to be legal rather than economic. Nations are allowed to have free trade within their boundaries: Nobody insists that California wine pay the same tariff as French wine when it is shipped to New York. That is, the MFN principle does not apply within political units. But what is a political unit? The GATT side-steps that potentially thorny question by allowing any group of economies to do what countries do, and establish free trade within some defined boundary. Tariff reduction is a good thing that raises economic efficiency. At first it might seem that preferential tariff reductions are also good, if not as good as reducing tariffs all around. After all, isn't half a loaf better than none? Currently, Pakistan is enjoying MFN status with almost 100 countries.

History
In the early days of international trade, most favored nation status was usually used on a dual-party, state-to-state basis. A nation could enter into a most favored nation treaty with another nation. With the Jay Treaty in 1794, the U.S. granted most favored nation trading status to Britain. Generally bilateral, in the late 19th and early 20th century unilateral most favored nation clauses were imposed on Asian nations by the more powerful Western countries. One particular example of “most favored nation” status is the Treaty of Nanking as part of the series of unequal treaties. It was implemented in the aftermath of the First Opium War between Great Britain and Chinese Qing Dynasty involving the Hong Kong islands.

After World War II, tariff and trade agreements were negotiated simultaneously by all interested parties through the General Agreement on Tariffs and Trade (GATT), which ultimately resulted in the World Trade Organization in 1994. The World Trade Organization requires members to grant one another most favored nation status. A most favored nation clause is also included in the majority of the numerous bilateral investment treaties concluded between capital exporting and capital importing countries after the Second World War.

Benefits
Trade experts consider MFN clauses to have the following benefits:
A country that grants MFN on imports will have its imports provided by the most efficient supplier. This may not be the case if tariffs differ by country.

MFN allows smaller countries, in particular, to participate in the advantages that larger countries often grant to each other, whereas on their own, smaller countries would often not be powerful enough to negotiate such advantages by themselves.



Granting MFN has domestic benefits: having one set of tariffs for all countries simplifies the rules and makes them more transparent. It also lessens the frustrating problem of having to establish rules of origin to determine which country's part of the product (that may contain parts from all over the world) must be attributed to for customs purpose.

MFN restrains domestic special interests from obtaining protectionist measures. For example, butter producers in country A may not be able to lobby for high tariffs on butter to prevent cheap imports from developing country B , because, as the higher tariffs would apply to every country, the interests of A's principal ally C might get impaired.

As MFN clause promotes non-discrimination among countries, they also tend to promote the objective of free trade in general.
India is a huge economy relative to Pakistan; opening up of trade between the two countries will expand the markets for both countries, stimulate investment both domestic and foreign, and thereby increase the growth rate of the economies of the respective countries.
Granting MFN status by Pakistan to India
Pakistan and India want to work on roadmap for trade normalization, but the entire trade liberalization process is linked with the removal of non-tariff barriers (NTBs) by the Indian government. India granted Pakistan MNF status in 1996, but Pakistan was reluctant to reciprocate arguing that India maintained a long list of NTBs that restrict Pakistan's exports to India despite having the MFN facility. Statistics show that trade between the two countries was US$ 1.4 billion in the year 2009-10. Of these, Indian exports to Pakistan were of worth US$1.2 billion, while Pakistani exports to India were just US$268 million, which is a clear indication that India did not open its market for Pakistani goods. This is so because Pakistan trades with India under the positive trade list and allow 1,946 items to be imported from India while India allow import of all but 850 items. Because of this attitude of India, and pending Kashmir issue, Pakistan was reluctant to grant MFN status to India. Time has come now for Pakistan to reciprocate by granting MFN status to India.

Granting MFN status to India may be beneficial for both countries. It may expand the size of the market because of trade creation and trade diversion. This possibly can help expand production on a large scale and also infuses competition into markets. India is a huge economy relative to Pakistan; opening up of trade between the two countries will expand the markets for both countries, stimulate investment both domestic and foreign, and thereby increase the growth rate of the economies of the respective countries. This in turn can create employment opportunities, increase income levels and lead to improvement in the standards of living in both the countries. Such “investment creation” can be partly offset by what might be called “investment diversion” when investments are diverted from the most rational location in the world to Pakistan and India. Since India has comparative advantage (low cost of production in many commodities) as compared to Pakistan, India will reap more benefit than Pakistan because of granting of MFN status to India. In sum, the impact of granting of this status needs a comprehensive study to consider various items to be traded between India and Pakistan to find out where the benefits lie before embarking upon all items free trade.

The MFN status can benefit consumers, producers and workers in Pakistan because of more trade with India. Opening of trade will enable the consumers to buy variety of products at lower prices. Domestic industries that use cheap imported raw materials and other inputs will also benefit. Export industries, their workers, and their suppliers benefit from the sales to other countries. The government of the exporting country will earn foreign exchange. The losers as a result of trade with India will be import-competing industries and their workers and domestic consumers of export industries. The former suffers because it will adversely affect their volume of sales and their prices. The latter suffers because the export of part of the output of an industry tends to increase the prices of the goods to domestic consumers. The government of the importing country has to absorb capital and labor in alternative employment chances. If India plans to capture the Pakistani market for its products, the MFN status will enable it to dump her products in Pakistan. This will result in decline of Pakistani industries and cause of additional unemployment.

The writer is Chief of Research and Dean Business Studies
Pakistan Institute of Development Economics, Islamabad
For feedback: zfrnasir@gmail.com
Dr Zafar Mueen Nasir

Source : Jehangir World Times Magazine.
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Last edited by Amna; Sunday, November 11, 2012 at 12:44 AM. Reason: Source Inserted.
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