‘Trade, Not Aid’, or, ‘Aid for Trade’

March 16 | Kuensel
By Sanjeev Mehta

Public economics is known to serve a menu of options and only a careful choice helps to achieve the desired objectives. Discourse on ‘Trade, not aid’, a new policy approach requires a better understanding. Let me begin with a brief historical visit to this topic. In 1950s, most developing countries suffered from what is termed as ‘export pessimism’ and opted for import substitution strategy.

In context of this strategy, aid played a dominant role to mobilize resources needed to achieve higher growth. The cliché at that time was ‘Aid, not trade’. With the vigorous re-arrival of neo-liberalism in 1990s as well as due to negative experience of various countries with aid, the cliché reversed and became ‘trade, not aid’. There were two primary reasons behind this shift of attitude, one was related to the nature of aid and the other was internal and inherently related to how the aid recipients put the aid to use.

Most of the aid were tied in the nature (recipients could only use it for specified purposes) as well as the quantum of aid declined (as the donor’s focus shifted) and in many cases it led to reverse flow of long term capital towards the donors.

Besides, the recipients also did not use aid efficiently, equitably and productively, which led to antagonist perception about the relationship between aid and self-reliance plus self-respect. With the rising wave of globalization, trade started being looked upon as an ‘engine of growth’. So the ‘trade, not aid’ became the choice of the day.

As the new government in Bhutan now prepares itself to promote the objective of self- reliance, as well as with the imminent withdrawal of many donors (a price of being a low middle income country) the shift towards ‘Trade, not aid’ is not surprising.

I believe that there is a need to reassess the role of aid, rather than looking to substitute aid with trade. We all acknowledge the fact that Bhutan is faced with huge resource gap, which is bridged by international aid and without which growth rate would be compromised. I want to make an argument for a change in approach towards aid from ‘trade, not aid’ to ‘aid for trade’.

It is no secret that aid played a dominant role in promoting economic growth in Bhutan, especially, and more conspicuously, the aid for hydroelectricity with buy back arrangements only constituted what I mean by “aid for trade’. Chart 1 reflects share of hydroelectricity and Ferro alloys in Bhutan’s total exports. I am clubbing Ferro alloys along with hydroelectricity because of its power intensive nature. The combined share of the two in Bhutan’s total exports has increased from about 25% in 1995 to about 40% in 2018.

The hydroelectricity exports compounded at an annual rate of 14.7% for last 22 years starting from 1995. During the same period non hydroelectric exports compounded annually only at 9.1%. It is quite clear that aid contributed significantly to the trade in Bhutan. In the absence of aid for hydroelectricity, lower exports and import of alternative fuel would have exacerbated Bhutan’s trade deficit (Chart 2).

Now we need to examine, why the non-hydroelectric exports have not grown significantly and unless we know that we cannot simply promote exports.

Recent improvement in trade deficit is not because exports have grown but rather the growth rate of imports decelerated faster than exports, so we should not be overly optimistic about improvement in the trade deficit.

In fact the average growth rate of exports in last three years has fallen down to 1.7% per annum from an average 7.6% in the preceding three years. The non-hydroelectric exports have registered a negative growth (-1.3% pa) in the last three years as compared to almost 4% annual growth in the hydroelectric exports. The point is that aid has strengthened Bhutan’s export capacity. It signifies that the road ahead is not easy if we need to promote non hydroelectricity exports.

What is the malaise? Intuitive answers could be limited competitive advantages, limited resource base, adverse terms of trade and plethora of oft-cited reasons and they have their own validity.

Despite Bhutan has made significant improvement in the major indicators related to cross border trade (refer various Ease of Doing Business Reports), Bhutan’s non hydroelectric exports have not responded to a very large extent. One of the binding constraints is the trade logistics that is needed to connect Bhutan to the global economy beyond India.

World Bank’s trade logistics performance index 2014 ranked Bhutan at bottom 143 out of 160 countries. A mountainous landlocked country would require huge financial resources to strengthen hard infrastructure, without which trade facilitation issues cannot be handled. Where would the resources come from?

Given the fiscal constraint the government face, aid should be used to scale up logistical support for trade alongside the efforts to get more FDI in this sector.

The globalization offers opportunities for the domestic firms to integrate themselves with the global value chains (GVCs) and Bhutanese firms can very well grow and link to the global market through this process.

The task of integration with GVCs besides hard infrastructure also calls for upgrading firms’ knowledge, skills and innovative capacity.

Research and Development is crucial for these capacity building and international aid can support these processes. Using international aid in this way will promote Bhutan’s international trade beyond one country and one product mode.

Once trade rises to a level that it generates sufficient export earning to meet the development needs of the country, the aid would automatically become redundant. I would like to reiterate the fact that my argument is not for the infinite dependence on aid but for the judicious use of aid to meet the desired objectives.

Bhutan has shown the ability to use the aid effectively in the past and it can do so in the future too. To sum up the discussion, I would like to support the argument in the favour of ‘aid for trade’.

(Sanjeev Mehta, Professor, Royal Thimphu College)

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