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The Impact of Trade Agreements with China on Innovation

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In recent years, several countries have signed free trade agreements with China which have included specific causes on technological transfer. What impact have these agreements had? This article presents the main points of an ongoing research project.

Innovation and Trade: Two Sides of the Same Coin?

Trade agreements increasingly address more than just tariffs. Chapters on technology transfer, investments, migration, and social and environmental standards have been added to traditional negotiations to eliminate barriers to trade.

At the same time, there are growing expectations that trade agreements will bring benefits for signatory countries in the many areas where it is hoped some sort of trade will take place.

It is thus potentially interesting to explore the connection between trade agreements and innovation processes. One such approach is proposed by Baghdadi et al. (2013) and Martínez-Zarzoso (2016) and focuses on the impact of trade agreements on environmental protection. Another example in the recent literature is Morales-Lage et al. (2016), which analyzes the impact of environmental policies on innovation.

This article puts forward certain exploratory ideas that form part of a more exhaustive research project that INTAL is undertaking to analyze trade agreements in terms of the innovation-related issues they contemplate.[1]

In this article, we will focus on ten trade agreements signed with China, which is a strategic partner for the region. Three countries have already signed free trade agreements (FTAs) with China, and Colombia has begun negotiations to the same end. Uruguay has also revealed its intention to do so following the visit of President Tabaré Vázquez to Beijing in November 2016, although this process is still in its infancy.

Baumann (2016) shows that China has played a very active role in negotiating preferential agreements, and its negotiations gradually morphed from a rigid format into open dialogues which accommodate the demands of each country’s priority sectors. In recent years, after building up experience in the region, China’s trade diplomacy has shown itself to be willing to include specific conditions in each agreement.

China’s economic model is currently undergoing substantial changes: its focus is shifting from production to consumption and the pursuit of innovation now is key to sustaining the country’s development process. Might China’s trade partners benefit from the resources now being spent on innovation and the new role this is playing in China’s economic model?

It will be difficult for growth rates to climb back up to double digits—instead, these are expected to settle around the 6% mark, the so-called new normal. By 2021, the 100th anniversary of the founding of the Chinese Communist Party, China aims to become a “moderately well-off society.” It is upping the stakes for 2049, the 100th anniversary of the Chinese Revolution, by when China aims to be a fully developed nation.

The external sector must play a fundamental role if the country is to achieve this goal. China’s foreign relations strategy focuses on the following areas:[2]

  • Negotiating trade agreements with strategic partners
  • Improving the added value of exports
  • Import strategy for consumer goods (luxury goods)
  • Boosting exports of services (financial, design, information)
  • Selecting foreign capital according to sectoral needs
  • Improving the business environment to attract foreign investment
  • Encouraging Chinese companies to invest abroad
  • Creating new free trade zones in coastal areas

In terms of levels of trade at current prices, China is world’s largest exporter and second-largest importer. Trade agreements and innovation appear to be at the forefront of the combination of factors that make up China’s recipe for development. But how do these new agreements affect their trade partners in terms of innovation?

Technological Exchange in Trade Agreements

The different articles that make up the texts of trade agreements may or may not include explicit decisions on trade in technology. In this study, we have chosen four areas within FTAs and economic integration agreements (EIAs) where this type of trade typically tends to take place. These areas are as follows:

  • Technical cooperation
  • Technology transfer
  • Research, development, and innovation
  • Patent and intellectual property

Table 1 summarizes ten agreements that different countries have signed with China, organized by the date of entry into force. Table 1 is based exclusively on the text of the agreements in question. For example, in the case of Chile, article 68 establishes mechanisms for technical cooperation and technology transfer in specific industrial areas and mining, article 106 establishes mechanisms for research and development, and article 111 addresses intellectual property. The agreement signed between China and Peru underlines the “aforementioned technical cooperation in different areas and the parties’ recognition of the importance of intellectual property rights in the promotion of social and economic development, particularly in the globalization of trade and technological innovation as well as the transfer and spread of technology” (article 144). Article 148 addresses matters of cooperation and capacity building and article 155 looks at specific issues of technology transfer for the development of small and medium-sized enterprises. The contents of the ten agreements selected are summarized below:

Table 1. Trade in Technology Content of Selected Trade Agreements Signed with China

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Source: Compiled by the author.

Table 1 shows that the inclusion of technology transfer-related content has become widespread in agreements signed since 2010. All agreements signed after that date explicitly include all four of these aspects, as does the agreement with Chile even though it predates this point.

The Impact on Innovation

One legitimate question in this regard is whether clauses that do not form part of the hard core of trade negotiations but are nonetheless present in most modern agreements have had any type of concrete impact in signatory countries. To this end, the research team carried out an exercise similar to that of Martínez-Zarzoso (2016), who began by identifying those trade agreements that included environmental provisions before studying whether these provisions then had any impact on environmental policies and pollution levels within signatory countries. However, we came up against an additional difficulty: it is not easy to objectively measure either a country’s technological evolution or its performance in the area of innovation.

The traditional literature uses different indicators to this end, which range from the number of patents filed to the number of international publications by the country’s researchers, or even the percentage of firms that have their own website.

As an initial approximation, we here explore two traditional indicators from the innovation literature. First, the level of expenditure on research and development in relation to GDP; and second, the evolution of exports of high-technology products as a percentage of exports of manufactured products. Although these are classic indicators, they still pose some difficulties. For example, the classification of exports with technology content underestimates the incorporation of technology in the primary sector and innovation in the use of new seeds or precision agriculture.[3] In contrast, it may overestimate the technological content of high-technology products when these are fractions of a value chain that are not innovation-intensive phases.

In the first case, we wondered whether the strengthening of ties with China has functioned as an incentive or disincentive for a country to invest in innovation. It is evident that innovation policy decisions do not depend exclusively on the “agreement with China effect,” or even on the entire set of trade agreements that each country has signed, but is rather the result of a variety of factors, such as productive specialization or education policies. A larger sample and the gravity model used by Baghdadi et al. (2013) will allow us to move forward as part of a second stage in which we intend to isolate the effect of agreements.[4]

Table 2. Evolution of Research and Development Expenditure (% of GDP) Following the Signing of Free Trade Agreements with China

Fuente: elaboración propia en base a datos del BID y el Banco Mundial. *Nota. En caso de no tener información en el inmediato anterior al acuerdo utilizamos el valor más cercano disponible, siempre dentro de los dos años de tolerancia.

Fuente: elaboración propia en base a datos del BID y el Banco Mundial.
*Nota. En caso de no tener información en el inmediato anterior al acuerdo utilizamos el valor más cercano disponible, siempre dentro de los dos años de tolerancia.

*Note. When there was no information available on the period immediately preceding the agreement, we used the closest available value, always within a two-year period.

Source: Compiled by the author using data from the IDB and the World Bank.

Table 2 shows the values of expenditure on research and development in the year preceding each country signing an agreement with China, the latest available information on this, and the difference between the two periods.

At first glance, agreements with China do not appear to have constituted a strong incentive for countries to pursue innovation. None of the countries for which data is available for after 2014 show significant variations in this indicator in comparison with their performance before signing the agreement. The difference for Singapore (the greatest in the sample in absolute terms) between 2008 and 2014 was just -0.5% of GDP.

At this stage, however, we cannot draw decisive conclusions as to whether greater differences will be observed later in the process of formalizing and estimating the model. For example, the share of R&D is a net result of increases, which could be related to activities that are related to trade with China, and decreases, which could derive from other factors.

There may also be an implementation problem and countries may not yet have taken maximum advantage of the technological cooperation opportunities that these agreements bring them, a hypothesis which is worth exploring in the future. If implementation difficulties are proven to exist, it will be key to provide incentives for public–private partnerships in this area so that these generate appropriate instruments for technology transfer between countries at the sectoral level on the basis of the text of the agreement.

The second indicator we used in this preliminary examination was exports of high-technology products as a percentage of exports of manufactured products. Table 3 shows the variation for the ten countries between the year before signing the agreement and the present.

Table 3. Evolution of Exports of High-Technology Products as a Percentage of Exports of Manufactured Products.

*Nota. Datos para 2015 para todos los países salvo para Pakistán, Singapur y República de Corea donde usamos 2014. Fuente: elaboración propia en base a datos del BID y el Banco Mundial.

*Nota. Datos para 2015 para todos los países salvo para Pakistán, Singapur y República de Corea donde usamos 2014. Fuente: elaboración propia en base a datos del BID y el Banco Mundial.

This second indicator reveals more diverse impacts. Iceland’s exports of high-technology products increased by more than 4 percentage points after signing the agreement with China, while New Zealand’s grew by 0.5 percentage points. The reverse was true for other countries, such as Costa Rica, Singapore, Peru, and Chile. On average, there was a drop of 0.28 percentage points among the countries in the sample—in other words, an insignificant difference after compensating progress in some countries with setbacks in others.*Note. Data for 2015 for all countries except Pakistan, Singapore, and the Republic of Korea, for which we used 2014 data. Source: Compiled by the author using data from the IDB and the World Bank.

The Need to Measure the Impact of Innovation

How can countries take advantage of the opportunities that trade agreements offer in relation to technology transfer? In what particular circumstances have clauses on innovation brought about good results? How far have the mechanisms foreseen in trade agreements contributed to closing the technology gap between signatory countries?

It is not our aim here to provide exhaustive answers to these questions. Instead, we simply wish to point to the need to seek these out and provide a sense of where our work on these issues is heading.

This initial exploratory text attempts to take a first step toward measuring the impact of trade agreements on the innovation performance of signatory countries.

Our current research also breaks countries down into groups, as technology transfer between developed countries will certainly differ from that resulting from agreements between countries with different levels of development. It also contemplates the need to bear lags in mind when measuring the impact of these agreements on innovation.

We will also look at differences in the impacts of trade agreements that include specific mechanisms to foster technology transfer, technical cooperation, and research and development, and will contrast these with agreements that do not include such clauses.

In future research, we will extend these preliminary results to cover more agreements, countries, and innovation indicators (especially patents and exports with different levels of technology content), so as to obtain a broad overview of the impact that trade agreements could have on technological development.

References

Baghdadi, L., Martinez-Zarzoso, I., and Zitouna, H. 2013. “Are RTA Agreements with Environmental Provisions Reducing Emissions?” Journal of International Economics. 90 (2): 378–390.

Baumann, R. 2016. “Tailor-Made. The Road to Flexibility.” Integration & Trade Journal No. 40, Made in Chi-LAT, IDB, INTAL.

Martinez-Zarzoso, I. 2016. “The Environmental Impact of Trade Agreements.” Integration & Trade Journal No. 41, mimeo, forthcoming.

Moneta, C. 2016. “From Production to Consumption. The Transformation of China by 2050.” Integration & Trade Journal No. 40, Made in Chi-LAT, IDB, INTAL.

Morales-Lage, R, Bengochea-Morancho, A., and Martínez-Zarzoso, I. 2016. “Does Environmental Policy Stringency Foster Innovation and Productivity in OECD Countries?” Discussion Paper, N 282, Center for European, Governance, and Economic Development Research.

Tang, J. 2016. “How to Move beyond Complementarity.” Integration & Trade Journal No. 40, Made in Chi-LAT, IDB, INTAL.

[1] We are not suggesting any particular causal relationship between these indicators at this point. In the next stage of the project, we will use a gravity model that will seek to explain the determinants of progress or setbacks in innovation indicators estimated using panel data techniques, in line with Martínez-Zarzoso (2016). The instrumental variables (selected lagging indicators) will also serve to attempt to isolate the impact of agreements.

[2]For an analysis of the different five-year plans, see Moneta (2016).

[3] During the second phase of this research project, we will attempt to build innovation indicators that also take these factors into account as they are singularly important for Latin America.

[4] As mentioned above, in this study, we only intend to present a few preliminary ideas from the exploratory phase of the research project.

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