David G. Tarr AIPRG conference World Bank, Washington DC June 2, 2013

1. Deep Trade Policy Options for Armenia: The Importance of Services, Trade Facilitation and Standards Liberalization David G. Tarr AIPRG conference World Bank, Washington DC June 2, 2013

2. Presentation based on research discussed with the government and published in a journal. • Jensen, Jesper and David G. Tarr (2011), “Deep Trade Policy Options for Armenia: The Importance of Trade Facilitation, Services and Standards Liberalization,” Economics: The Open Access-Open Assessment E-Journal, ,Vol 6, 2012-1. http://dx.doi.org/10.5018/economics-ejournal.ja.2012-1. • Also available as a World Bank working paper, where appendices are more accessible.

3. Armenia Regional and Multilateral Trade Issues • Armenia is engaged in negotiations with the EU of a Deep and Comprehensive Free Trade Agreement (DCFTA), but also has agreements with the countries of the Commonwealth of Independent States. • Armenia is also a WTO member and can be called upon to make multilateral commitments. • We assess potential impacts of the DCFTA, but also of services agreements within the CIS and multilateral commitments?

4. DCFTA is indeed deep—many chapters • The DCFTA goes well beyond old style free trade agreements which focused on tariff concessions on goods. • The DCFTA contains chapters on services, trade facilitation, standards, investment policy, intellectual property, competition policy and dispute settlement (and others).

5. Quantitative Assessment • At the request of the Ministry of Economy of Armenia, we developed a new innovative model to analyze the DCFTA. • We assess the impact of commitments in the DCFTA in: • tariffs; • foreign investors in services; • trade facilitation; and • standards harmonization. • We also assess the impact of policy changes with respect to the CIS and multilateral commitments.

6. Quantitative Analysis • We developed a 21 sector computable general equilibrium model of Armenia, and constructed a balanced input output table in the process. • Regions are Armenia, EU, CIS and ROW • Model contains several business services sectors: telecom, insurance, banking and 3 transport sectors • Model allows FDI and productivity gains for sectors that use business services from a net increase in business service providers.

7. IO table construction • IO table construction, built on a pilot survey from the National Statistical Office of Armenia • More general balancing procedure and auxiliary data were employed • Discussed with National Statistical Office of Armenia who requested a follow-up full survey and wider dissemination of our documentation appendix on the construction of the IO table.

8. Need to evaluate impact of services commitments in regional agreements • economic theory and empirical literature have shown that wide availability of business services results in productivity gains to the manufacturing sector and contributes to its international competitiveness. Arnold, Mattoo and Javorcik; Fernandes; Fernandes and Paunov; and others. • Most analysis of regional trade agreements focuses on goods—misses a lot of what is important in modern agreements • Commitments to foreign investors in services usually ignored in regional analysis--recent exceptions, Jensen and Tarr (2010); Balistreri and Tarr (2011).

9. Innovative Model to Capture Productivity impacts of FDI in services • We develop a methodology to assess the impact of additional FDI from commitments to foreign investors in services in regional arrangements • We capture the productivity impact of additional FDI in services endogenously • We use the Dixit-Stiglitz-Ethier mechanism through which additional varieties of imperfectly produced services (and goods) increase productivity of the sectors that use the goods and services.

10. Services Data Requirements: (1) Estimates of Ad Valorem Equivalents of Regulatory barriers • (i) Survey of regulatory barriers in key business services sectors in Armenia (Done by Armenian law firm; commissioned by World Bank research department DECTI)— • (ii) Regulatory barriers are converted into “Services Trade Restrictiveness Indices”(STRI) based on a scored matrix developed by several Australian authors in the Findlay and Warren volume (Australian Productivity Commission financed). (Done by Grigol Modebadze and KarineEroyants) • (iii) Price impact of Services Trade Restrictiveness Indices estimated through cross country regressions by the Australian authors. • (iv) Modebadze assumes the coefficient on the STRI regression applies to Armenia and based on the STRI calculates the ad valorem equivalents.

11. Discriminatory AVEs in Armenian services • Survey revealed that Armenia’s services regime is relatively open and liberal. • Low barriers against foreign investors in telecom (AVE= 0.3%) and banking (AVE= 5.6%) • There are some barriers in insurance, notably cross border provision of insurance services is prohibited—ad valorem equivalent of barriers estimated at 16 percent. • There are also barriers to entry of foreigners in the provision of air transportation services—barriers that are often applied in other countries (e.g., 5th freedom), but there are also maximum equity restrictions—AVE=107%.

12. Services Data Requirements: (2)Calculations of market shares by major trade partner • Calculations of the market shares of the business services sectors captured by the EU, CIS and Rest of World Regions. (Done by Karine Eroyants)

13. Trade Facilitation—Largest Estimated Gains come from improved trade facilitation • Armenia has made progress in trade facilitation between 2007 and 2010. • According to the Doing Business Survey, the cost of exporting a container in Armenia has fallen by about 15% (in real terms) between 2007 and 2010 • But Armenia still ranks 111th out of 155 countries on the Logistics Perception Survey of 2010— • We assume there will be lower trade costs with the EU and other regions as well, due to spillover in EU procedures to other regions.

14. Export Revenues increase and import costs decrease with the DCFTA • We assume that container export and import costs fall to the level of Ukraine or Georgia as a result of a DCFTA • This is equivalent to a 2.5 percentage points increase in export revenues on EU sales and 2.2 percentage points increase in revenues on sales to non-EU countries. • Similarly for importing—a reduction in total import costs of 2.5% or 2.2%.

15. Trade Facilitation estimates • Start with survey results- Maliszeswskaet al., (2008, table 9.2). Costs of exporting to the EU are higher (on average) by 10.4% due to customs procedures in 2007. • Based on Cost of Doing Business Survey, the cost of exporting a container from Armenia in 2007 was $1600. In 2010 (adjusting for Armenian inflation) the cost was $1365—implies that the costs of exporting fell to 8.9% of the production costs by 2010. • We assume that the exporting costs will fall to the level of Ukraine as a result of DCFTA—implies another 28% drop. Or a fall of 2.5% of production costs on exports to the EU. We assume a fall of 2.2% on exporting costs to third countries. • Similar calculations and results on imports.

16. Key Results for the DCFTA • The DCFTA with the EU should produce substantial gains, but only from the “deep” aspects of the agreement. • Aggregate gains of 1.5 percent of consumption in medium term, 1.8 percent of consumption in the long term • The gains come (in order of importance) from improvements in Trade Facilitation, Services provision and Standards Harmonization. • A shallow agreement on preferential tariff liberalization should not be expected to produce much in gains

17. Largest Gains from the DCFTA come from improved Trade Facilitation • Gains of 1.1 percent of consumption, due to lower border costs and improved trade facilitation. • The advantage of trade facilitation is that improvements (in areas such as transport facilities, licensing or paperwork burden of trade and customs administration) convey to third countries, at least in part. And both exports and imports benefit.

18. Next largest gains come from Services commitments as part of a DCFTA • Services liberalization with the EU—gains of 0.4 percent of consumption in the medium term (reflects relatively open services regime to start with) • Multilateralizing these commitments would increase them by 2.5 times (likely to be automatic due to GATS rules) • Smaller gains than we usually get, reflecting a relatively open services regime to start (based on surveys, and estimates by Eroyants and Modebadze)

19. Estimated Gains for a CIS services agreement are very small • Model incorporates greater technology transfer from EU services suppliers. • For Armenia, gains are small but positive (0.1 percent of consumption) for preferential liberalization of services with the CIS region. • A gain from additional CIS services suppliers but a loss of services suppliers and technology from all other sources. Why? Preferential access to one partner, makes it less profitable for competitors from excluded regions. • Technology diffusion from CIS suppliers less than from same number of suppliers from advanced countries.

20. Harmonization of Standards • We estimate small gains • there are investment costs needed, as that is part of the reason the estimated gains are not as large as other components • Also, standards costs reduction applies only to exports to the EU—not on imports from the EU or on exports or imports to third countries (as trade facilitation) • But if DCFTA leads to less use of mandatory standards, the gains would be significantly larger

21. Look at Costs vs Benefits with SPS • Should be cautious on SPS. Evidence is that full adoption of EU SPS requirements will be excessively costly. • World Bank (2007) report states that about 50% of the food processing industry of the Baltic states went out of business on accession to the EU due to the necessity of adopting SPS standards.

22. High cost of EU SPS regulations • President of Estonia: “If we did not have to adopt the entire EU acquis to become members, we would not have adopted all the SPS requirements.” • Patrick Messerlin, Michael Emerson and others (2011) report on the EU-Georgia DCFTA. They argue that EU preconditions on SPS are counterproductive to development and will raise Georgian food prices by 90%.

23. Latin American approach to SPS • Our SPS recommendation-- Adopt a case by case approach based on costs vs. benefits. • Allow dual production structure where the costs are excessive (as in some Latin American countries exporting to the US).

24. Table : Summary of Results—no initial capture of rents in services by Armenians, % changes

25. Figure 1: Sample Distribution of the Welfare Results of Armenian-EU DCFTA—30,000 simulations.

27. Key Messages • A DCFTA should produce substantial gains from the deep aspects of the agreement: trade facilitation, services liberalization and standards harmonization; and improvement of the investment climate in the long run. • But look at costs vs. benefits on SPS and technical norms. • Multilateral services liberalization will also contribute substantially to Armenian real income. • Liberal rules of origin on services commitments would be a useful step toward non-discriminatory liberalization. • CIS services agreements are not likely to be very helpful