Reference no: EM133411362

Trade in Services

Topic: International Business Management

When people talk about international trade, they normally think about the cross-border shipment of physical goods-steel, cars, soybeans, computers, clothes, and the like. But increasingly, cross-border transactions involve international trade in services, not goods. Services include distribution services (retail, wholesale, and logistical services), financial services, transportation, telecommunications and computer services, tourism, educational services, and health services, among other categories. For example, when a Japanese tourist flies to America to visit the Grand Canyon, the money she spends counts as export earning to the United States. When a radiology department in an American hospital outsources the diagnosis of CAT scan images to a radiologist in India, and pays for that service with U.S. dollars, that counts as the importation of radiology services from India to America. When Microsoft sells software services to a French firm, that counts as a U.S. export. When a foreign student comes to an American university to get her education, her fees and expenses in the country count as American exports (by accepting foreign students, American higher-educational institutions are earning exports).

The share of services in world trade has grown from around 9 percent in 1970 to over 20 percent today. Moreover, although services only account for one-fifth of the total value of cross-border trade, trade in services is growing more rapidly than trade in physical goods. While the value of goods exported has increased by a modest 1 percent per annum a year over the last decade, the value of services has expanded to 3 percent per annum. At this rate, by 2040, services could account for as much as one-third of all trade.

To some extent, the growth of international trade in services reflects the fact that services, not manufacturing, account for the largest chunk of economic activity in most nations and that the share of services in total output continues to grow. In most developed nations, services account for over 75 percent of GDP today, up from 61 percent in 1980. In the United States, the figure is over 80 percent. This is occurring not because manufacturing is in decline, but because services are in higher demand and growing more rapidly (manufacturing output in the United States has more than tripled since 1970, even as the share of manufacturing in the economy has declined).

In addition to the growing share of services in economic output, international trade in services is now being driven by digitalization and low-cost telecommunications networks. As a consequence of these trends, many services that were at one time non-tradable-because they had to be delivered face to face in fixed locations-have now become highly tradable because they can be delivered remotely over long distances. Thus, it is now possible and increasingly common for Americans to have their medical images diagnosed in India, their tax returns prepared in the Philippines, and their calls to company customer service centers answered by someone located in Costa Rica.

However, while the world trading system has been successful at fostering cross-border trade in goods, it has been more difficult to do the same for services. While trade in goods has been enabled by multinational agreements designed to lower tariffs and quotas, trade in services has been hampered by a wide range of different regulatory barriers to cross-border transactions. Differences in professional standards, licensing requirements, investment restrictions, work visas, and tax codes have all made cross-border trade in services more difficult than they could be.

For example, recently many European nations have been considering placing a digital service tax on the revenues that large (mostly American) digital enterprises make in their countries. France, for example, has introduced a 3 percent tax on revenues earned by large companies that provide digital services in the country. This would imply that the revenues that Google and Facebook earn from advertising to French customers would be taxed in France. The office of the United States Trade Representative has described such a tax as "a trade barrier for innovative American companies and small businesses." The American view is that such a tax represents an import tariff on the sales of American digital companies. President Donald Trump went so far as to threaten the French with retaliatory tariffs on $2.5 billion of French products, including French wine, if they continued to impose this tax.

In another example, China places restrictions on the routine cross-border transfer of information, imposes data localization requirements on companies doing business in China, bans foreign companies from directly providing cloud computing services to Chinese customers, and blocks many legitimate websites in order to control the flow of information to Chinese citizens. Such administrative rules have made it challenging for companies such as Google, Facebook, and Microsoft to export their services to China.

Most economist agree that if countries are to realize the substantial gains to be had from trade, by making it easier to trade services across borders, they will have to agree to common standards, rules, and regulations and take concrete steps toward removing barriers that impede cross-border trade in services.

Questions:

1. What factors have been driving the growth in cross-border trade in services in recent years?

2. Are the gains from trade in services different than the gains from trade in physical goods?

3. Politicians often bemoan the decline in manufacturing output as a percentage of the economy and pledge to increase both domestic manufacturing and manufacturing exports. Is there any rationale for arguing that trade in manufactured goods is more important than trade in services?

4. What are the barriers to cross-border trade in services? Why do you think more progress has been made in reducing the barriers to trade in physical goods, as opposed to trade in services?

5. Is it in the interests of firms to argue for lower barriers to cross-border trade in services? Is it in the interest of a nation to push for lower barriers?