With wages growing fast in Asia, African countries are getting another chance at developing and diversifying exports of manufactures and services. Yet, in spite of removing policy-imposed barriers to trade, these countries have largely failed to reach the minimum scale of their Asian competitors. In a Vox column, Collier and Venables (2007) argued that a new preference scheme offering access to OECD markets for Africa would complement existing schemes (e.g. the EU’s Everything but Arms and Economic Partnership Agreements). They suggested that such a scheme should include a wide coverage of products and take inspiration from the US’ Africa Growth Opportunity Act (AGOA) ‘special rule’ of origin for textiles and apparel. Cheraskin et al (2011) have also argued that easing market access is important to render preferences effective. This column, drawn from de Melo and Portugal-Perez (2012) gives new evidence in support of these arguments.
Qualifying for preferential access requires meeting ‘origin requirements’, i.e. products must have sufficient domestic content to enter duty-free in OECD markets.1 These ‘rules of origin’ are often product-specific (e.g. the EU has over 500 product-specific rules in addition to system-wide rules (see Cadot et al. 2006). These requirements have turned out to be distortionary and cumbersome (Krueger 1999, Carrère and de Melo 2006, Cheraskin et al 2011) leading some to conclude that 'trade preferences for development' is like giving away with one hand (preferences) and taking away with another (restrictive rules of origin) (Cadot and de Melo 2008). The strong export response to the drastic simplification of origin requirements for apparel under AGOA confirms this view.
Figure 1 shows that African exporters of apparel who benefit from AGOA starting around 2000 also had duty-free access to the EU market under Cotonou preferences granted to former colonies. US imports from the 22 AGOA beneficiaries became duty-free in 2000.
Figure 1. Preferential margins for African exporters of textiles and apparel to the US and EU markets
Source: de Melo and Portugal-Perez (2012)
During the period analysed here, meeting origin requirements for duty-free access to the EU market in textile and apparel required that products be manufactured from qualifying yarn (i.e. yarn originating in the country or in the EU). Production from yarn entailed that a double transformation process (yarn→textile→apparel) had to take place in the beneficiary country with the yarn being woven into fabric and then the fabric cut and made-up into clothing.2 Under the US General System of Preferences, meeting origin requirements also required that apparel had to be assembled in one or more AGOA-eligible countries from US fabrics (or African fabrics up to a specified percentage), which in turn were made from US yarn. The 'Special Rule' established for less-developed countries since 2001 relaxed this triple transformation rule (cotton→yarn→textile→apparel) by conferring duty-free access to apparel regardless of the origin of fabric (cotton, yarn, textiles) used to produce it. In effect, meeting origin requirement under the AGOA special rule only requires applying a single-transformation requirement (fabric → apparel). This third-country fabric provision is up for renewal on a regular basis by the US Congress.
By the end of 2004, 22 countries benefited from the special regime under AGOA. Figure 2 shows export volume trends to the US and the EU. Two trends are apparent. First, prior to 2000, the paths of African apparel exports to the US and to the EU are alike. Then, apparel exports to the US increased substantially, with the timing of the change in the growth path coinciding with the entry into force of AGOA in 2000.3 By contrast, the value of exports to the EU for this same group of countries remained relatively flat from 1996 until 2000 and then declined mainly because of the political crisis that hit Madagascar, the largest exporter to the EU at the end of 2001. Second, exports to both markets are dominated throughout by the 7 large exporters who follow quite similar trends in both markets. These also happen to be the countries with the highest indicator values for governance, suggesting the importance of the domestic regulatory environment in taking advantage of preferences.
Figure 2. Apparel exports of 22 countries benefiting from the AGOA Special Rule by 2004
Notes: Yearly data from 1996 to 2004. The 22 Sub Saharan countries benefiting from the AGOA Special Rule by 2004 as well as ACP preferences are Benin, Botswana, Cameroon, Cape Verde, Ethiopia, Ghana, Kenya, Lesotho, Madagascar, Malawi, Mali, Mozambique, Namibia, Niger, Nigeria, Rwanda, Senegal, Sierra Leone, Swaziland, Tanzania, Uganda, and Zambia. The top7 exporters are Botswana, Cameroon, Ghana, Kenya, Lesotho, Madagascar, Namibia, Nigeria, and Swaziland.
We then estimate a panel model for 34 varieties of apparel (HS 4-digit level) to the EU and US (the two destination markets for African exporters of apparel) over the period 1996-2004 which conveniently pre-dates the removal of quotas under the Agreement on Textiles and Clothing. Controlling for differences in rules of origin across products and for different entry dates into the Special Rule, as well as for demand conditions in destination markets, we estimate that removing the triple transformation requirement increased exports to the US by 212% over the period. The presence of a less restrictive value content requirement for some non-knitted apparel is also associated with an increase in exports of 33%, while the 12 percentage point cut in tariffs following implementation of the AGOA (see figure 1) was estimated to have increased African exports by 36%. While this high supply response partly reflects that African exports of clothing to the US were less than 0.001% in both the EU and US markets, it suggests that this technical requirement for apparel greatly impeded market access.
Moreover, we also find that much growth took place at the extensive margin in the form of new varieties. Our count-model estimates show that, while more varieties were exported to each market after the introduction of the Special Rule, the increase was greatest for the US market, with an expansion of the number of exported varieties in the 30%-60% range. This is apparently the first direct evidence suggesting that restrictive origin requirements hamper export diversification.
Development-friendly policies consistent with the spirit of granting preferential access to low-income countries would benefit from relaxing the stringency of rules of origin requirements. Eliminating proof of origin for preferences below a threshold (say 3%-5%) would also be welcome along with the adoption of a simple single requirement such as a minimum domestic value content which could be set at a lower threshold for less-developed countries. In this regard, it is encouraging that the EU has relaxed the double transformation requirement in 2010 when negotiating the Economic Partnership Agreement and in 2011 for Everything-but-Arms beneficiaries when it revised its General System of Preferences. But cumbersome product-specific requirements remain for other products (e.g. for fisheries in the EU where preferential margins are still high (above 10%).
Uncertainty about duration (AGOA is to expire in 2015) and about access also reduces effectiveness. Countries have been removed from the AGOA eligibility list (Democratic Republic of Congo, Madagascar), sometimes to be re-instated (Côte d’Ivoire, Guinea, Niger) because of non-compliance with governance requirements. As of early May 2012, the third-country fabric provision (which comes to expiration in September 2012) is under threat of non-renewal by the US Congress because of ‘benign neglect’.4
More importantly, in the near future, African countries will be looking to export to fast growing middle income countries like Brazil and China that are starting to grant preferential access to less-developed countries. These countries should resist adopting the costly rules of origin devised by the EU and the US. Instead, they should take inspiration from ASEAN where a single rule requiring that 40% of the final value of the product originate among members applies across the board (Cadot et al. 2007).
Cadot,O., C.Carrère, J. de Melo and B. Tumurchudur) (2006), “Product-Specific Rules of Origin in EU and US preferential Trade Arrangements: an assessment”, World Trade Review, vol. 5(2): 199-224
Cadot,O., J. de Melo and A. Portugal-Perez (2007), “Rules of Origin for Preferential Trading Arrangements: Implications for AFTA of EU and US Regimes”, Journal of Economic Integration, 22(2), 288-319
Cadot, O., and J. de Melo (2008) “Why OECD Countries Should Reform their Rules of Origin”, World Bank Research Observer, 23, 77-105.
Cadot, Olivier, Antoni Estevadeordal, Akiko Suwa-Eisenmann, and Thierry Verdier, eds. (2006a) The Origin of Goods: Rules of Origin in Regional Trade Agreements, London: Oxford University Press.
Carrère, C., and J. de Melo (2006), “Are Different Rules of Origin Equally Costly? Estimates from NAFTA” chp. 7 in O. Cadot et al. eds., pp. 191-212.
Cherkashin, Ivan, S. Demidova, H. L. Kee and K. Krihsna (2011) "Trade Preferences as Catalytic Aid", VoxEU.org, 19 February.
Collier, P. and A. Venables (2007) "Rethinking Trade Preferences: How Africa Can Diversify its Exports", VoxEU.org, 28 May.
Krueger, Anne (1999) “Free Trade Agreements as Protectionist Devices: Rules of Origin,” in James R. Melvin, James C. Moore, and Raymond Riezman, eds., Trade, Theory and Econometrics: Essays in Honor of John C. Chipman (New York: Routledge Press)), pp. 91–101.
Melo, Jaime de, and Alberto Portugal-Perez (2012) “Preferential Market Access Design: Evidence and Lessons from African Apparel Exports to the US and to the EU" Document de Travail 47.
1Rules of Origin are necessary to prevent 'trade deflection' (i.e. importing via the low-tariff partner, then exporting duty-free within the preferential zone).
2Under the EU’s 'Single List'—also called ‘PANEURO’—in operation since 2000, the EU General System of Preferences also accepted bilateral cumulation between the EU and a beneficiary country (cumulation provisions allow contracting parties to use intermediate goods from each other without losing origin status).
3In fact, the entry into effect of AGOA and the special rule was staggered over a three-year period. Event-analysis estimates around the year of entry of the special rule give an increase in the growth of apparel of 24%.
4According to TRALAC, there is no opposition to renewal of the Third Country Fabric Provision. Non-renewal by US congress could cost 200,000 jobs.