Adjustment Problems in Developing Countries and the U.S.-Central America-Dominican Republic Free Trade Agreement

Abstract

This article examines changes in intraindustry specialization indicators over the 1992–2006 period to assess the potential for factor adjustment problems that may arise in Central American countries and the Dominican Republic (CA/DR) with trade growth resulting from the U.S.-Central America-Dominican Republic Free Trade Agreement (CAFTA-DR). Results show there is considerable scope for intraindustry specialization between CA/DR countries and their most important trading partner. Few CA/DR industries are likely to encounter adjustment problems. When adjustment problems are indicated, extended phase-out periods for tariffs, tariff-rate quotas, and import safeguards are used to ease factor adjustment pressures in import-sensitive industries.

I. INTRODUCTION

The U.S.-Central America Free Trade Agreement was signed by the United States, and Guatemala, Honduras, El Salvador, Nicaragua, Costa Rica, and the Dominican Republic (CA/DR) on August 5, 2004. Implementing legislation passed the U.S. Senate in June 2005 and the House of Representatives in July 2005. The president signed the CAFTA-DR agreement in August 2005. All members have ratified this agreement. CAFTA-DR is designed to enhance political stability, growth, and economic integration in the region by fostering trade and investment. ¹

Negotiations to establish CAFTA-DR followed a long process of unilateral and regional trade policy reforms undertaken by CA/DR countries since the late 1980s. ² Early reforms were intended to stimulate economic activity in the region by pursuing outward-oriented development strategies. CA/DR countries began to reduce tariffs unilaterally in the late 1980s and eliminated most nontariff barriers. For these members, average tariffs fell from 45 percent in 1985 to 14 percent in 1990, and to seven percent by 1999. Other reforms included the removal of exchange controls, using export processing zones (EPZs) to promote exports, opening up to foreign direct investment, and increased participation in bilateral, regional, and global agreements.

CA/DR countries also actively pursued bilateral or subregional FTA negotiations with other Western Hemisphere countries to stimulate trade and investment. Examples include Costa Rica's FTA with Mexico in 1995, with Chile, the Dominican Republic, and the Caribbean Community (CARICOM) in 2000, and with Canada in 2002. Members of the Central American Common Market (CACM), which include Guatemala, El Salvador, Honduras, Nicaragua, and Costa Rica, jointly negotiated FTAs with the Dominican Republic in 1998, Chile in 2001, and Panama in 2002. El Salvador, Guatemala, and Honduras established an FTA with Mexico in 2000. These agreements encouraged trade among members and enhanced their ability to participate in regional negotiations such as CAFTA-DR and global negotiations.

At the regional level, CA/DR countries revived the CACM in the 1990s. Progress was made toward reducing trade barriers among members and in harmonizing and lowering common external tariffs. Trade-related initiatives designed to deepen regional integration among members include macroeconomic, political, social, and environmental agreements. Central American countries also participated in negotiations for the Free Trade Area of the Americas (FTAA), and at the global level, participated in the Uruguay Round.

CA/DR countries have long enjoyed preferential access to the U.S. market. Prior to the CAFTA-DR agreement, nearly eighty percent of their exports to the U.S. entered duty-free at most favored nation duty rates or under various trade preference programs such as the Generalized System of Preferences (GSP), the Caribbean Basin Economic Recovery Act (CBERA), the Caribbean Basin Trade Preference Act (CBTPA), and offshore assembly provisions under the U.S. tariff code. In 2000, the U.S. Trade and Development Act extended trade concessions to CBERA beneficiaries that were similar to those enjoyed by Mexico under the North American Free Trade Agreement (NAFTA) for apparel. Tariffs were reduced for other products that were previously excluded from the CBERA.

Trade policy reforms and preferential access to the U.S. market stimulated trade, investment, and growth in the CA/DR countries. Unfortunately, the growth rate was not large enough to transform these economies and drastically reduce poverty rates. The CAFTA-DR agreement represents a landmark for the CA/DR countries. An FTA with the U.S. will be more beneficial to CA/DR members than the unilateral removal of trade barriers and trade preference schemes because it will guarantee long-term market access to their major trading partner. When combined with policies to address key constraints, such as infrastructure, education, governance, and macroeconomic stability, CAFTA-DR holds the potential for promoting growth and increasing welfare in the region.

Approximately 80 percent of U.S. exports of consumer and industrial goods to other CAFTA-DR members entered duty-free upon implementation of the agreement. Extended tariff phase-out periods ranged up to 10 years for other manufactured goods. ³ Average tariffs on these products in CA/DR countries ranged from 4.1 percent to 7.8 percent. Tariffs on some products of export interest to the U.S. exporters were as high as 25 percent. Trade in nearly all textile and apparel products that meet rules-of-origin requirements immediately received duty-free treatment.

The CAFTA/DR agreement extended immediate duty free access to more than half of all U.S. agricultural exports. Average tariffs applied by CA/DR countries to imports of agricultural products from the United States exceed 11 percent and on certain import sensitive products, can be more than 150 percent. Tariffs on the most sensitive agricultural products will be phased out over periods ranging from five to 20 years. Liberalization will be undertaken using tariff-rate quotas. White corn (El Salvador, Guatemala, Honduras, and Nicaragua) and onions and potatoes (Costa Rica) will retain over-quota tariffs. Long tariff phase-outs, tariff-rate quotas, and import safeguards are used to ease factor adjustment pressures in the most import-sensitive sectors. ⁴

Tariffs on U.S. imports from CA/DR countries are much lower than tariffs on U.S. imports from the region. ⁵ Prior to the agreement, nearly 80 percent of U.S. imports from CAFTA/DR countries entered duty-free at most-favored nation duty rates or under various tariff preference programs such as the GSP, CBERA, and the CBTPA. Duties on 1,710 tariff-line products that had an average tariff rate of 2.6 percent were eliminated upon implementation of the agreement. Highest pre-agreement tariff rates applied to agricultural and textile and apparel products. Seven products with an average tariff rate of 7.0 percent will have duty cuts staged over 10 years. Included here are rubber footwear, cushions, pillows, bedding and tuna. The 26.4 percent tariff on bovine meat will be phased out over a 15-year period. Ten dairy products with an average tariff rate of 41 percent will have tariffs phased out over 20 years. Included here are milk, cream, cheese, and dairy preparations. Sugar and sugar-containing products will not face tariff cuts, but tariff-rate quotas will be gradually increased over a 15-year period. Imports of products with tariffs phased out over ten or more years will be regulated by tariff-rate quotas that are expanded over time.

Free Trade Agreements are intended to increase both production and trade among member countries. Resulting trade flows can be divided into two components: interindustry and intraindustry trade. Interindustry trade is the exchange between countries of totally different products, such as trading apparel for transport equipment. Specialization entails shifting resources from one industry to another within each country. Opponents of economic integration among developed and developing countries argue it will entail a considerable amount of economic adjustment in each country by encouraging specialization across rather than within industries. Adjustment costs are expected to be high because productive factors displaced from contracting industries are not well suited for employment in the expanding ones.

Economic integration is more valuable when it enables countries to achieve greater specialization within the same industry. According to Weintraub (1997), the most direct test of the effectiveness of a free trade agreement involves determining the extent to which two-way trade has increased. Intraindustry trade (IIT) is two-way trade in products falling under the same industry classification. Here, productive factors shift with minimal internal disruption between segments of the same industry. This pattern of specialization will enable producers to realize efficient scale operations. Consumers enjoy lower prices and greater varieties of products through imports. Trade growth stimulated by free trade agreements is expected to facilitate both IIT and inter-industry trade. It is commonly believed that free trade agreements between industrial nations and developing countries will generate more interindustry trade than intraindustry trade.

This article provides a detailed examination of trends in intraindustry specialization over the 1992–2006 period to assess the potential for factor adjustment problems that may arise in CA/DR countries with growth in trade resulting from the CAFTA-DR agreement. ⁶ Economic integration studies are often preoccupied with adjustment problems that occur in industrial nations in response to increased imports of unskilled labor intensive products from developing countries. Regional economic integration may also entail a considerable amount of economic adjustment in developing countries as the pattern of production, employment, exports, and imports respond to the removal of trade restrictions. CAFTA-DR will provide increased market access to CA/DR countries' most important trading partner and will open their markets to exports from the world's second largest exporter. The agreement is expected to accelerate the pattern of intraindustry specialization, production, and employment that had been taking place prior to the agreement.

II. INTRAINDUSTRY TRADE

The most commonly used index of intraindustry trade is the Grubel-Lloyd (1975) index. This index measures the share of intraindustry trade in total trade, and is expressed as

(1)

where X _i is exports of industry i, M _i is imports of industry i, |X _i – M _i | is net trade, (X _i + M _i ) is total trade, i = 1,2, … ,n, and 0 ≤ GL _i ≤ 1. An index value of 0 indicates complete interindustry trade. Here, either the value of exports or imports is zero. Higher index values are associated with increases in the share of intraindustry trade in total trade. An index value of 1 indicates complete IIT or the equality between exports and imports.

The Grubel-Lloyd (GL) index is used to describe an industry's trade pattern at a point in time. Indices of IIT in total trade between CAFTA-DR members in Central America and the United States are shown in Table I. ⁷ Overall, nearly thirty-two percent of 2006 trade consisted of two-way trade within the same industry classification. Many industries are found to exhibit significant amounts of IIT relative to total trade. The trade weighted average GL index value is thirty-four percent. The simple average of the GL index rose over the 1992–2006 period, while the trade weighted average GL index fell. Changes in overall average GL index values are not large because IIT rose relative to total trade in forty-five industries and fell in fourteen industries. The Grubel-Lloyd index remained unchanged for three industries.

Table I. Grubel-Lloyd (GL) Indexes for Trade Between CAFTA-DR Members and the United States

SITC	Industry	1992	2006
00	Live Animals	0.255	0.160
01	Meat and Meat Preparations	0.252	0.826
02	Dairy Products and Birds' Eggs	0.076	0.226
03	Fish (Except Marine Mammal)	0.050	0.061
04	Cereals and Cereal Preparations	0.027	0.045
05	Vegetables and Fruit	0.094	0.145
06	Sugars, Sugar Preparations	0.061	0.084
07	Coffee, Tea, Cocoa	0.015	0.062
08	Feeding Stuff for Animals	0.000	0.002
09	Miscellaneous Edibles	0.369	0.625
11	Beverages	0.471	0.614
12	Tobacco and Tobacco Products	0.867	0.405
21	Hides, Skins and Furskins	0.525	0.086
22	Oil Seeds and Oleaginous Fruits	0.625	0.198
23	Crude Rubber	0.255	0.283
24	Cork and Wood	0.369	0.578
25	Pulp and Waste Paper	0.000	0.140
26	Textile Fibers	0.002	0.098
27	Crude Fertilizers	0.011	0.206
28	Metalliferous Ores	0.658	0.193
29	Crude Animal and Vegetable Mat	0.455	0.314
32	Coal, Coke and Briquettes	0.000	0.000
33	Petroleum, Petroleum Products	0.085	0.303
34	Gas, Natural and Manufactured	0.000	0.014
41	Animal Oils and Fats	0.000	0.000
42	Fixed Veg. Fats and Oils	0.011	0.362
43	Animal/Vegetable Fats/Oils	0.366	0.016
51	Organic Chemicals	0.462	0.798
52	Inorganic Chemicals	0.004	0.038
53	Dyeing, Tanning and Coloring Mat	0.031	0.033
54	Medicinal and Pharmaceutical Prod	0.136	0.193
55	Essential Oils	0.181	0.366
56	Fertilizers	0.000	0.000
57	Plastics in Primary Form	0.004	0.034
58	Plastics in Nonprimary Form	0.157	0.551
59	Chemical Materials	0.080	0.108
61	Leather, Leather Mfr	0.090	0.267
62	Rubber Manufactures	0.423	0.704
63	Cork and Wood Manufactures	0.840	0.873
64	Paper, Paperboard	0.087	0.089
65	Textile Yarn, Fabrics	0.408	0.109
66	Nonmetallic Mineral Manufactures	0.406	0.833
67	Iron and Steel	0.967	0.405
68	Nonferrous Metals	0.833	0.436
69	Manufactures of Metals	0.244	0.515
71	Power Generating Machinery	0.002	0.083
72	Machinery Specialized	0.013	0.028
73	Metalworking Machinery	0.201	0.286
74	General Industrial Machinery	0.012	0.172
75	Office Machines and ADP Equipment	0.176	0.861
76	Telecommunications Equipment	0.128	0.300
77	Electrical Machinery, Appliances	0.897	0.813
78	Motor Vehicles	0.002	0.108
79	Transport Equipment	0.024	0.032
81	Prefab Buildings	0.802	0.927
82	Furniture and Bedding	0.915	0.996
83	Travel Goods, Handbags	0.304	0.337
84	Articles of Apparel and Clothing	0.604	0.221
85	Footwear	0.308	0.483
87	Professional Scientific Instruments	0.994	0.623
88	Photo Appt, Equipment, Optical Goods	0.456	0.037
89	Miscellaneous Manufactured Articles	0.819	0.921
	Simple average	0.289	0.316
	Trade weighted average	0.393	0.340

The largest increases in the GL index value are in Office machines and ADP Equipment (SITC 75), Meat and Meat Preparations (SITC 01), Nonmetallic Mineral Manufactures (SITC 66), and Plastics in Primary Form (SITC 58). Metalliferous Ores (SITC 28), Tobacco and Tobacco Products (SITC 12), Photo Apparatus, Equipment and Optical Goods (SITC 88), and Hides, Skins, and Furskins (SITC 21) registered the largest declines in GL index values. Adjustment implications associated with changes in intraindustry trade are explored in the next two sections of the article.

III. INDUSTRY TRADE BOX

Adjustment implications of dynamic changes in the share of IIT in total trade are evaluated using the industry trade box shown in Figure 1 Dimensions of this box measure maximum attainable levels of exports and imports. Each point in the box represents a trade point, or combination of exports and imports. The GL index (IIT/TT), total trade (TT), net trade (NT), and intra-industry trade (IIT) can be compared for changes in trade points.

Figure 1. Industry Trade Box

The trade box is bisected by a 45 degree line representing combinations of perfectly matched two-way trade (X = M). GL index values equal unity along this line. Consider point A where X > M. The line of equi-TT running through point A, perpendicular to the X = M line, shows combinations of trade points with equal total trade levels. Equi-GL lines indicate combinations of trade for which the share of IIT in TT and the ratio of exports to imports remain constant. Net trade, |X _i – M _i |, is constant along equi-NT lines. The equi-IIT line shows trade points that give equal absolute IIT values, where IIT = (X _i + M _i ) − |X _i – M _i |.

It is well known that an intertemporal comparison of GL index values may fail to signal potential adjustment problems. ⁸ For example, if points A and B are symmetrical, the same GL value is obtained at either point as well as at any point along either equi-GL ray shown in Figure 1. A movement from point A to B entails a shift in the industry trade balance from a net exporter to a net importer. The decline in exports and increase in imports is likely to be associated with a fall in production and employment. Such a movement suggests potential adjustment pressures not signaled by a change in the GL index. Care must be exercised when attempting to draw inferences regarding potential adjustment pressures from an intertemporal comparison of GL index values. Additional information will often be required to identify potential adjustment problems.

Changes in TT, NT, IIT, the GL index, and the trade ratio (r) can identify potential adjustment problems associated with greater trade. Each point in the industry trade box has a trade ratio, r = X/M. IIT relative to TT is constant along a ray from the origin because all trade points on an equi-GL ray share a common trade ratio. Changes in the GL index can be analyzed by observing changes in r. For example, with an increase in TT, moving from either point A or B to a point closer to the diagonal in Figure 1 will increase both IIT and the GL index.

Analyzing a shift in the direction of the trade balance from a net exporter to a net importer can be facilitated by defining r = r_x = X/M in the net exporter plane, and r = r_m = M/X in the net importer plane. When TT increases, changes in the value of the GL-ray, or Δr, may not provide sufficient information to assess potential adjustment problems. Knowledge of trade points and other indicators of intraindustry specialization may also be needed. Using changes in r in conjunction with changes in other indicators of adjustment pressures will avoid some of the pitfalls associated with intertemporal comparisons of GL index values alone.

Adjustment pressure implications of changes in trade points can be analyzed using Figure 1. Start at point A. Construct equi-trade component lines. An increase in TT can move the economy into any of the eight regions in the figure. Consider a movement from point A to a point in each of these regions. Region I is associated with an increase in NT. IIT declines absolutely along with the GL index. Exports have increased and imports fallen. This is traditional interindustry trade characteristic of a comparative advantage activity. Adjustment problems are not expected.

A movement to Region II increases IIT and NT, but reduces the GL index. Export growth exceeds import growth. Adjustment problems will not arise. When the economy moves from point A to a point in Region III, r_x is falling but the industry remains in the net exporter plane. IIT increases absolutely along with the GL index. NT also rises. Adjustment problems will not be associated with a movement into Region II.

Trade points in Region IV are also in the net exporter plane. Points in this region are associated with an increase in both IIT and the GL index. NT falls. Although r_x falls, a large increase in TT will result in higher export and import levels. A modest increase in TT can be associated with a decline in exports and increase in imports, but these changes will be relatively small. Adjustment problems are not expected.

The remaining regions lie in the net importer plane. Regions V and VI are associated with increases in both IIT and the GL index. NT falls in Region V and rises in Region VI. A movement from point A to a point in either of these regions can give rise to adjustment problems because the country has switched from a net exporter to a net importer. However, adjustment concerns can be lessened by a large increase in TT that results from an increase in exports as well as imports. Export growth will provide some scope for factor reallocation. ⁹ When TT increases, changes in the value of the GL-ray may not provide sufficient information to assess potential adjustment problems. Knowledge of changes in IIT, NT, and r are often required.

Movements from point A to a point in Region VII may be associated with potential adjustment problems. Although IIT rises, the GL index declines. A large increase in r_m suggests imports grew faster than exports or exports may have fallen in absolute terms. Growth in NT can exceed growth in IIT. Adjustment problems are likely when NT growth exceeds that of IIT. However, a very large increase in TT can lead to IIT rising more than NT. The decline in the GL index could be small with a rise in r_m. These changes provide scope for factor reallocation. Here, factor adjustment problems are likely only if NT growth greatly exceeds IIT growth.

Shifting from point A to a point in Region VIII suggests potential adjustment pressures. Large increases in r_m are associated with declines in both IIT and the GL index, and increases in NT. Here, exports fall and imports rise. Industries that move into Region VIII have a pronounced comparative disadvantage.

IV. ADJUSTMENT PRESSURES

Table II shows changes in U.S. trade ratios and various indicators of intraindustry specialization for two-digit SITC industries over the 1992–2006 period. Figures represent trade between CAFTA-DR members in Central America and the United States. Industries are grouped in accordance with the regions identified in Figure 1. Outcomes are associated with changes in TT, NT, IIT, the GL index, and r. Changes in these indicators over a lengthy period of time are used to assess the potential for adjustment problems that may arise in CA/DR countries with growth in trade resulting from the CAFTA-DR agreement.

Table II. Indexes of Intraindustry Specialization for Trade Between CAFTA-DR Members and the United States

		1992		2006
SITC	Industry	rx	rm	rx	rm	ΔTT	ΔNT	ΔIIT	ΔGL
ΔTT > 0
Region I
84	Articles of Apparel and Clothing	2.3		8.1		5,535.3	5,859.7	−324.4	−0.383
Region II
12	Tobacco and Tobacco Products	1.3		3.94		369.7	282.6	87.1	−0.462
28	Metalliferous Ores	2.0		9.38		92.5	81.4	11.1	−0.465
29	Crude Animal and Vegetable Mat	3.4		5.37		84.7	66.2	18.4	−0.141
67	Iron and Steel	1.1		3.94		217.9	187.4	30.4	−0.563
87	Professional Scientific Instruments		1.0	2.21		1,140.5	525.9	614.6	−0.371
Region III
03	Fish (Except Marine Mammal)	38.8		31.9		152.4	141.2	11.2	0.010
05	Vegetables and Fruit	20.4		12.8		946.7	768.6	178.1	0.051
06	Sugars, Sugar Preparations	31.7		22.8		116.8	100.7	161	0.023
07	Coffee, Tea, Cocoa	33.6		31.4		299.8	261.9	37.9	0.047
11	Beverages		3.2	2.2		48.1	16.6	31.5	0.143
51	Organic Chemicals		3.3	1.5		197.3	5.4	191.9	0.336
62	Rubber Manufactures		3.7	1.8		122.1	19.2	102.8	0.281
63	Cork and Wood Manufactures	1.4		1.3		49.8	5.0	44.844.8	0.033
Region IV
81	Prefab Buildings		1.5	1.2		22.9	−1.7	24.6	0.125
82	Furniture and Bedding	1.2		1.0		75.5	−4.4	79.9	0.081
Region V
01	Meat and Meat Preparations	6.9			1.4	34.5	−79.5	114.1	0.574
Region VI
02	Dairy Products and Birds' Eggs		25.33		7.9	39.2	27.1	12.1	0.150
04	Cereals and Cereal Preparations		73.9		43.8	762.2	723.7	38.6	0.018
08	Feeding Stuff for Animals		—		987.7	212.4	211.8	0.6	0.002
09	Miscellaneous Edibles		4.4		2.2	124.7	30.6	94.1	0.256
23	Crude Rubber		6.8		6.1	16.4	11.4	5.0	0.028
24	Cork and Wood		4.4		2.5	22.7	1.0	21.6	0.209
25	Pulp and Waste Paper		—		13.3	27.3	21.7	5.6	0.140
26	Textile Fibers		1,122.0		19.4	220.7	194.5	26.2	0.096
27	Crude Fertilizers		178.2		8.7	13.5	8.4	5.1	0.194
33	Petroleum, Petroleum Products		22.6		5.6	1,820.8	1,185.9	634.9	0.218
34	Gas, Natural and Manufactured		—		138.4	119.7	117.8	1.9	0.014
42	Fixed Veg. Fats and Oils		187.6		4.5	29.3	7.3	22.0	0.352
52	Inorganic Chemicals		506.2		51.8	43.5	40.4	3.1	0.034
53	Dyeing, Tanning and Coloring Mat		63.5		58.9	69.9	67.5	2.4	0.002
54	Medicinal and Pharmaceutical Prod		13.7		9.4	44.0	32.2	1.8	0.057
55	Essential Oils		10.0		4.5	89.4	47.9	41.5	0.185
57	Plastics in Primary Form		451.1		58.4	470.0	448.8	21.2	0.029
58	Plastics in Nonprimary form		11.7		2.6	220.1	82.1	138.0	0.394
59	Chemical Materials		23.9		17.5	93.6	80.8	12.9	0.028
61	Leather, Leather Mfr		21.2		6.5	51.9	25.4	26.5	0.177
64	Paper, Paperboard		22.0		21.4	390.7	355.1	35.6	0.002
66	Nonmetallic Mineral Manufactures		3.9		1.4	123.1	3.5	119.6	0.427
69	Manufactures of Metals		7.2		2.9	176.0	47.3	128.8	0.271
71	Power Generating Machinery		944.4		23.2	51.9	36.4	15.6	0.081
72	Machinery Specialized		151.8		70.6	240.9	230.4	10.6	0.015
73	Metalworking Machinery		8.9		6.0	13.1	6.8	6.3	0.085
74	General Industrial Machinery		161.0		10.6	298.5	216.9	81.6	0.160
75	Office Machines and ADP Equipment		10.4		1.3	830.4	40.9	789.4	0.685
76	Telecommunications Equipment		14.6		5.7	419.7	274.4	145.3	0.172
78	Motor Vehicles		885.6		17.5	332.9	271.0	61.9	0.106
89	Miscellaneous Manufactured Articles	1.4			1.2	1,029.2	46.2	983.0	0.102
Region VII
00	Live Animals		6.8		11.5	5.8	5.7	0.1	−0.095
65	Textile Yarn, Fabrics		3.9		17.4	2,234.7	2,106.6	128.1	−0.299
77	Electrical Machinery, Appliances		1.2		1.5	2,946.2	599.2	2,347.0	−0.084
Region VIII
21	Hides, Skins and Furskins		2.8		22.3	4.3	5.1	−0.7	−0.439
22	Oil Seeds and Oleaginous Fruits		2.2		9.1	41.8	57.0	−15.2	−0.427
41	Animal Oils and Fats		—		—	15.4	15.4	0.0	0.000
43	Animal/Vegetable Fats/Oils		4.5		126.7	5.7	6.3	−0.6	−0.350
56	Fertilizers		6,669.4		—	38.1	38.1	0.0	0.000
68	Nonferrous Metals		1.4		3.5	26.2	32.9	−6.7	−0.397
88	Photo Appt, Equipment, Optical Goods		3.4		53.4	3.2	18.7	−15.5	−0.419
ΔTT < 0
32	Coal, Coke and Briquettes		—		—	−1.3	−1.3	0.0	0.000
79	Transport Equipment		80.7		60.6	−6.7	−7.9	1.1	0.008
83	Travel Goods, Handbags	5.6		4.9		−10.7	−8.3	−2.4	0.033
85	Footwear	5.5		3.1		−55.8	−70.2	14.4	0.175
Note: Trade figures are in millions of U.S. dollars. rx = X/M and rm = M/X. When M = 0 in the net exporter plane, or X = 0 in the net importer plane, r will be undefined. These cases are denoted with a (–).

One industry falls into Region I of the net exporter plane. The Articles of Apparel and Clothing (SITC 84) sector was in the net exporter plane during the entire 1992–2006 period and experienced a large increase in r_x due to rapid export growth. IIT and the GL index both fell with the increase in r_x. This favorable trend is expected to continue over the CAFTA-DR implementation period because the agreement expanded and made permanent the reciprocal trade preferences established under the CBTPA. It provided for the elimination of duties on products that meet rules-of-origin established in the agreement. ¹⁰

The textile and apparel quota regime administered under the WTO's Agreement on Textiles and Clothing (ATC) ended on January 1, 2001, after a ten year phaseout period. There has been a shift in recent years in U.S. apparel imports from CA/DR countries toward China and other Southeast Asian countries. Despite this trend, there are reasons to believe that CA/DR exports of apparel to the U.S. will continue to grow. CA/DR countries enjoy preferential access to the U.S. market while Chinese exporters continue to face tariffs. On January 1, 2006, in response to import surges, the U.S. reimposed quotas on apparel imports from China. The adoption of “lean retailing” that involves low inventories and frequent restocking of time-sensitive apparel products favors CA/DR countries that are in close proximity to the United States. ¹¹

Five industries fall into Region II of the net exporter plane. Four of these activities were net exporters over the 1992–2006 period. Included here are Tobacco and Tobacco Products (SITC 12), Metalliferous Ores (SITC 28), Crude Animal and Vegetable Materials (SITC 29), and Iron and Steel (SITC 87). Professional Scientific Instruments (SITC 87) switched from the net importer to the net exporter plane. All of these industries experienced rapid growth in exports relative to imports. TT, NT, and IIT rose. NT grew more than IIT. The GL index fell. These industries occupy the net exporter plane so they are not expected to face adjustment pressures.

Region III has eight industries. Imports grew faster than exports in five cases, but these industries remained in the net exporter plane. Three industries switched from the net importer plane to the net exporter plane, with export growth exceeding import growth. TT, NT, IIT, and the GL index rose in all eight cases. NT grew more than IIT in three of thirteen industries. CA/DR countries enjoy a comparative advantage in products produced by these industries. Adjustment problems are not expected in these net exporting activities.

Two industries are in Region IV. Prefab Buildings (SITC 81) switched from the net importer plane to the net exporter plane, with export growth exceeding import growth. Furniture and Bedding (SITC 82) remained in the net exporter plane with imports growing faster than exports. TT, IIT, and the GL index rose, while NT fell. These industries in the net exporter plane will not experience adjustment pressures.

Region V in the net importer plane has one industry. Meat and Meat Preparations (SITC 01) switched from the net exporter plane to the net importer plane. Imports grew rapidly, and exports fell. Adjustment pressures are not expected because NT fell with increases in TT, IIT and IIT/TT.

Thirty-one industries are in Region VI. All but one of these industries remained in the net importer plane during the 1992–2006 period. Miscellaneous Manufactured Articles (SITC 89) switched from the net exporter to the net importer plane because imports grew faster than exports. Twenty-seven industries experienced declines in r_m because exports grew relative to imports. Three industries did not export in the base period but imports grew relative to exports over the period under study. NT growth exceeded IIT growth in twenty-three cases, but TT, IIT and the GL index rose. These trends do not suggest the free trade agreement will cause adjustment pressures in the Central American countries.

Region VII in the net importer plane has three industries. The increase in r_m indicates imports grew faster than exports. TT, NT, and IIT grew in all three cases, while the GL index fell. Electrical Machinery and Appliances (SITC 77) is not expected to face adjustment pressures because IIT grew faster than NT. The remaining two industries had NT growth exceeding IIT growth. When growth in NT exceeds IIT growth by a narrow margin, an increase in exports might be enough to provide some scope for factor reallocation. Live Animals (SITC 00) and Textile Yarn, Fabrics (SITC 65) may be candidates for adjustment pressures because NT growth exceeded IIT growth by a wide margin. ¹² These two industries account for 13.4 percent of Central American CAFTA-DR members' imports from the United States.

Seven industries fall into Region VIII. All of these industries remained in the net importer plane. Large increases in r_m indicate imports grew relative to exports. Two industries did not export in 2006. Relatively large increases in NT were recorded for all of these industries. IIT remained unchanged in two cases. The remaining industries experienced declines in IIT in absolute terms, and relative to TT. These industries are most likely to experience factor adjustment pressures based on past trends in intraindustry specialization indicators. The seven industries in Region VIII account for 2 percent of CA/DR countries' imports from the United States.

Over the 1992–2006 period, four industries experienced declines in TT. Travel Goods and Handbags (SITC 83) and Footwear (SITC 85) will not be candidates for factor adjustment pressures because they fall into the net exporter plane. The other industries remained in the net importer plane. Transport Equipment (SITC 79) experienced a decline in r_m because exports grew relative to imports. NT fell and IIT rose. Adjustment pressures are not expected in this case. Coal, Coke, and Briquettes (SITC 32) did not export over the period under study. TT and NT declines are the result of falling import levels. IIT rose. This activity will not experience adjustment pressures.

V. CONCLUSIONS

This article examines changes in intraindustry specialization indicators over the 1992–2006 period to assess the potential for adjustment pressures that may arise in CA/DR countries with growth in trade resulting from the CAFTA-DR agreement. Previous economic integration studies focus on adjustment problems that occur in industrial nations in response to increased imports of unskilled labor intensive products from developing countries. Results show there is considerable scope for intraindustry specialization between other CAFTA-DR members and the United States. Central America's most important trading partner is the United States. CA/DR member countries collectively rank as the 12^th largest market for U.S. exports. Few industries in CA/DR countries should face adjustment problems. Changes in intra-industry specialization indicators suggest only nine of the sixty-two 2-digit SITC industries are candidates for adjustment pressures. These industries account for approximately 15 percent of CA/DR countries' imports from the United States. When adjustment problems are indicated, extended phase-out periods for tariffs and import safeguards are used to ease factor adjustment pressures in import-sensitive industries.

Given the small number of industries in CA/DR countries that face potential adjustment pressures, and the fact that the U.S. is their most important trading partner, all seven CAFTA-DR members should have used either much shorter phase-out periods or liberalized all trade immediately. Compensation could have been provided to producers of import sensitive products to help them adjust to changing economic circumstances rather than using long phaseout periods and statutory exclusions. ¹³ Consumers would benefit immediately from lower prices rather than waiting five to twenty years. Products in longer tariff phaseout categories are of considerable export interest to trading partners. The failure to launch multilateral trade negotiations has made FTAs an important means by which developing countries and industrial nations can foster trade, investment, and growth.

ACKNOWLEDGMENTS

The author wishes to thank two reviewers for providing many helpful comments.

Notes

¹Key CAFTA-DR provisions are presented in Jaramillo and Lederman (2006), a U.S. International Trade Commission (2004) publication, and are available from the Organization of American States' website (http://www.sice.org).

²Trade policy reforms are discussed in Jaramillo and Lederman (2006). According to Schipke (2005, p. 32), CA/DR exports to the U.S. started to grow rapidly nine years before the CAFTA-DR agreement was implemented. Schott (2006) discusses U.S. objectives in pursuing bilateral FTAs in the Western Hemisphere.

³Manufactured products with long tariff phaseout periods include certain products from the following categories: footwear, leather and leather goods, medical equipment, steel products, chemicals, and transport equipment.

⁴Examples of agricultural commodities with long tariff phaseouts include milk, beans, poultry, beef meat, pork, apples, wheat, rice, potatoes, and onions.

⁵Tariff rates on U.S. imports from CA/DR countries and on CA/DR country imports from the U.S. are identified in a U.S. International Trade Commission (2004, p. 69) publication.

⁶Economic integration studies typically estimate trade creation, trade diversion, and terms-of-trade effects. See Viner (1950) and Meade (1955). The 1992–2006 period captures effects of unilateral and regional trade initiatives undertaken by CA/DR countries, U.S. trade preference programs, and Uruguay Round multilateral trade liberalization. The CAFTA-DR agreement can be expected to accelerate the pattern of intraindustry specialization, production, and employment that had been taking place over this period.

⁷Export and import figures at the two-digit Standard International Trade Classification (SITC) level of product aggregation are from U.S. Bureau of the Census (1993, 2007) publications.

⁸See Shelburne (1993), Azhar et al. (1998), Clark et al. (2001), and Clark (2002).

⁹Not all imports result in job displacement. Some imports serve as inputs for expanding activities.

¹⁰A partial equilibrium simulation discussed in Jaramillo and Lederman (2006) found most of the trade gains for Central American members would be in the apparel sector.

¹¹See Evans and Harrigan (2005) and Jaramillo and Lederman (2006, p. 88).

¹²CAFTA-DR uses a “yarn-forward” rule of origin that encourages the importation of U.S.-made textiles to Central American countries. To receive duty-free treatment, U.S. yarn and fabrics must be used in apparel products exported to the U.S. market.

¹³Compensation issues are discussed in Jaramillo and Lederman (2006).