Modern Free Trade Agreements Are Not About Free Trade

f the many losers in the 2016 US presidential election — Bernie Sanders (Democratic primary), Hillary Clinton (electoral college), Donald Trump (popular vote) and the post-World War II international order — one of the most portentous was the Trans-Pacific Partnership (TPP). An ambitious agreement designed to embed the United States in Asia, counter a rising China and allow the United States to shape the global economic framework of the twenty-first century, the TPP was pilloried from the left by Sanders and the centre by Clinton (eventually). Trump, meanwhile, followed through on his promise to withdraw from the TPP on his first full day in office (The Toronto Star 2017).

Many of the contributors to this series — including this author — were highly critical of the TPP, citing problems with its undemocratic investor-state dispute settlement mechanism and its overly protectionist  IP provisions, for example. In the eyes of journalists and pundits, however, the TPP’s defeat amounted to more than just the rejection of a flawed economic agreement. Rather, they saw in its downfall the rejection of free trade, arguably the dominant economic idea of the past three decades. And, indeed, if the Trump administration follows through on its stated system-destroying, protectionist sentiments, the international free trade system, based around the World Trade Organization (WTO), may not be long for this world.

It is, however, somewhat ironic that the TPP seems to have discredited free trade policy among its opponents while spurring supporters to reaffirm their commitment to free trade. The TPP’s content has little to do with actual free trade as it has been understood traditionally, covering such issues as investor-state dispute settlement and — crucially for the purposes of this essay — IP.

This critique is more than pedantic nitpicking; it goes directly to the ability of a government to set sound innovation policies. International economic agreements — free trade agreements — are crucial to a government’s innovation policy because they construct the economic framework within which businesses and governments operate. They allow certain economic strategies while taking others off the table. The words that we use to describe issues, events and policies determine, in large part, how we act. If we call illicit drug use a health problem, we will look to doctors and the medical system for solutions; a war on drugs frame, in contrast, sees drug use as a criminal matter for the police and justice systems to resolve. Our word choices make some options seem unavoidable and others unthinkable.

In this case, referring to the TPP and similar next-generation trade agreements improperly as free trade agreements can lead policy makers to ignore the ways in which the world has changed and to underplay the long-term importance of parts of the agreement — in particular, those related to IP — that do not fall neatly into the free trade world view. Over the past 30 years, we have moved from a world of international trade in goods (and some services) to a world of global value chains, in which control of knowledge, in the form of IP, can drive economic innovation and determine how value gets apportioned among these interconnected cross-border businesses (Reynolds and Sell 2012, 6). Technology has changed from being primarily an enabler of production to often itself being the final product (Breznitz 2007, 4).

Seeing international agreements that include major sections devoted to IP merely as free trade agreements has the potential to cause real harm to Canada’s (and other countries’) ability to pursue sound “innovation policy” — another term of art that is in danger of being overused¹ — appropriate to the twenty-first century global economy.

The Rhetoric of “Free Trade”

If you were to ask a layperson, journalist or politician to define free trade, chances are that person would say that it involves the free exchange of goods (and maybe services) across borders. As broad definitions go, this is relatively accurate. It is, however, incredibly misleading when it comes to talking about existing trade agreements and especially about next-generation trade agreements. These agreements, which include the Canada-EU Comprehensive Economic and Trade Agreement (CETA) and the apparently moribund (as of February 2017) TPP, differ from previous agreements to the extent that they go far beyond dealing with traditional trade issues such as tariff and non-tariff barriers to include non-traditional issues such as investment dispute, IP rights and internet governance.

The assumption that international trade agreements — or free trade — are economically beneficial is based on the economic theory of comparative advantage. As initially elaborated in 1817 by David Ricardo, comparative advantage means that under certain conditions, trade between two countries can benefit both countries. When leaders boast of having negotiated free trade agreements, they are appealing to the theory of comparative advantage.

Using the phrase “free trade” to describe international trade agreements causes two problems. The first is relatively less serious: any trade agreement is more properly thought of as a managed trade agreement. Although they may reduce tariff and non-tariff barriers, the sheer complexity of trade agreements should be a clear indicator that they impose many caveats and exceptions on countries’ trading relationships. When agreements focus mainly on tariffs, calling them free trade agreements may be relatively harmless, even if the term does overstate the agreements’ contents: the General Agreement on Tariffs and Trade and the 1988 Canada-US Free Trade Agreement would fall into this category.

The second, and more serious, issue relates to next-generation treaties, whose terms, as has already been noted, go far beyond traditional trade issues. These treaties set the limits of the possible in terms of economic policy for signatory states. Because innovation depends on access to knowledge and because IP sets the terms on which knowledge can be accessed and used (and who gets paid), international trade agreements that include IP rules are de facto innovation agreements that similarly constrain the innovation possibilities available to a country.²

IP rights have been a central feature of international trade agreements since the 1990s, particularly the Agreement on Trade Related Aspects of Intellectual Property Rights (TRIPS), which was the US price for creating the WTO (Sell 2003; Drahos and Braithwaite 2002). IP is now treated as a normal inclusion in any trade agreement negotiation. This reality, however, obscures the fact that IP rights are not a natural fit with trade liberalization policy. IP rights are a form of state-granted protection provided to ideas and knowledge. These rights necessarily restrict the exchange of ideas. Economically, they can only be justified to the extent that this grant of monopoly rights provides an economic incentive to creators to produce and disseminate new knowledge. While one could argue for or against strong IP rights of the type promoted by the TPP, for example, this argument would have to be made on IP’s economic terms, not by referring to free trade/comparative advantage.

Next-generation agreements such as the TPP have relatively little to do with traditional trade issues because, as trade economist and Nobel laureate Paul Krugman remarks, the “battle” to liberalize the global trading regime “has been decisively won,” with “import tariffs and other restrictions…reduced to the lowest levels the world has ever seen” (Rodrik 2011, 252). Between 1986 and 2010, the average all-country most-favoured nation (MFN) applied tariff rate fell from 26.4 percent to 8.1 percent; in high-income Organisation for Economic Co-operation and Development countries, the rate was a miniscule 2.8 percent (see Figure 1) (World Bank, n.d.). Similarly, Dani Rodrik argues that eliminating all remaining tariffs everywhere would raise world economic activity by only one-third of one percent (Rodrik 2011, 252). 

The traditional trade aspects of agreements such as the TPP are not the main point of these agreements. Instead, they are increasingly focused on (among other issues) IP rights, in keeping with their rising importance in the global economy. As the author and a colleague note elsewhere, “That the 2015 National Security Strategy of the United States elevated the protection and enforcement of IP law to a national security concern demonstrates the extent to which IP is no longer a niche issue: It lies at the very heart of the global order” (Haggart and Jablonski, forthcoming; see also Halbert 2016).

Despite this fundamental change, these agreements continue to be referred to and legitimized (or critiqued) as free trade agreements. In practice, this means that IP provisions in the TPP and CETA are treated as relatively inconsequential add-ons, their effects not even costed out, either for their direct effects (such as on drug prices) or their long-term indirect consequences for innovation policy. The World Bank’s official report of the potential effects of the TPP, for example, completely excluded IP rights from its analysis (World Bank 2016). The joint 2008 Canada-EU study on the benefits of the CETA similarly ignored IP and seemed to assume that stronger IP would automatically be welfare enhancing (Global Affairs Canada 2008).

Treating IP rights as secondary to the trade liberalization parts of the agreement effectively legitimizes the IP provisions in terms of comparative advantage as free-trade free riders. This is a significant oversight, since the stronger IP rights found in agreements such as TRIPS, CETA and the TPP disproportionately benefit holders of existing IP, primarily companies located in the United States, the European Union and Japan. Because innovative economies and countries depend on access to already existing knowledge (it takes knowledge to create knowledge), this increased degree of control places other countries, including Canada, at a significant disadvantage. 

An IP policy that is appropriate for an IP superpower such as the United States is not necessarily appropriate for a country such as Canada. Not costing out the short- or long-term costs of these agreements means that considering how these provisions affect the ability of Canadians to innovate and access knowledge becomes a secondary issue. The potential consequences of this lack of attention are dire, including, namely, deals that negatively affect the country’s capacity to produce the innovative knowledge needed to ensure long-term economic prosperity.

Overcoming the Language Barrier

Free trade has always been more a political term of art to sell trade liberalization than a description of actual agreements. The same, in a way, is true of “innovation policy.” Given its popularity, there is a temptation to label anything and everything as innovation policy. As with free trade, the injudicious use of the phrase can lead to the adoption of under-examined, potentially harmful policies.

In an era distrustful of government, innovation policy is also much more palatable to many than “industrial policy,” even though government policy is the key to the success of whatever actual economic policies are carried out, and both necessarily (directly and/or indirectly) create winners and losers in the economy. Even here, the choice of language can influence policy makers toward different balances between state- or market-driven solutions. 

While the problem with language can never be eliminated completely, it is possible to take steps to minimize the blind spots language can cause. In the case of international economic agreements, the first step is to consider the various parts of these agreements on their own terms, rather than subsuming them under a politically useful, but ultimately misleading, label. This involves empirical analysis of all parts of our economic agreements in the context of a global economy that can no longer be understood in terms of countries simply trading products across borders. Paraphrasing George Orwell, to see the actually existing economy that is in front of one’s nose needs a constant struggle.

At a time of significant uncertainty in the global economy, when innovation, global value chains and the control of knowledge are becoming central to economic prosperity and displacing old international trade models of the economy, a reliance on empirical evidence in judging policies is more crucial than ever. Moving beyond outdated language and thinking about the economic system in which we find ourselves is a necessary first step toward creating the foundations of an economy capable of taking advantage of the knowledge-driven twenty-first century economy.