Openness to trade has long been seen as an important element of sound economic policy – and trade liberalization as a necessary step towards achieving it. At the same time, continuing extreme poverty in developing countries is perhaps the biggest blemish on the global economic canvas. A new Report examines how our concerns about the latter should affect our attitude towards and implementation of the former. It draws on economic analysis and practical experience to construct a framework to analyse the complex links between trade liberalization and poverty. And it shows policy-makers how they can use the framework to identify the critical features in their economies so they can ensure that the poor benefit from liberalization.

In general, the Report argues, trade liberalization is an ally in the fight against poverty: it tends to increase average incomes, providing more resources with which to tackle poverty. And while it will generally affect income distribution, it does not appear to do so in a way that systematically worsens poverty. Nevertheless, it is important to recognize that most trade reforms will hurt someone, possibly pushing them into, or deeper into, poverty, and that some reforms may increase overall poverty even while they boost incomes in total. Thus, despite the general presumption in favour of trade liberalization, there remain important public policy questions of how to implement it in a way that maximizes its benefits for poverty alleviation and what to do about any poverty that it does create or exacerbate.

The Report contains a number of lessons for policy-makers, both general in terms of the broad potential linkages between trade liberalization and poverty, and specific in terms of the linkages in relation to particular sectors and instruments of trade policy:

• The weight of evidence suggests that openness to trade is good for growth and that growth benefits the poor. But to enjoy the full benefits of trade liberalization, it should be accompanied by sound policies in areas such as transport and communications infrastructure, market facilitation, competition, education and governance.

• There are three broad pathways through which trade liberalization can have a direct effect on poverty: through its impact on the prices of liberalized goods, through its impact on profits and hence on employment and wages, and through its impact on the government’s fiscal position. The outcome depends on whether the poor are net consumers or producers of liberalized goods, what types of labour they supply, and where their wages lie relative to the poverty line.

• Although it is possible to describe the pathways through which each aspect of liberalization might affect poverty, the impact of trade liberalization on poverty is very country-specific. This means that policy-makers themselves will have to identify which of these pathways are the most important in their particular circumstances.

• The range of potential linkages between trade liberalization and poverty is wide, but the most important effects in any given country are likely to be relatively simple and obvious. Hence policy-makers can develop suitable policy responses to help the poor gain from trade liberalization.

• For many dimensions of trade liberalization, the direct effects on poverty will be negligible. Where they are not, the appropriate response is not to stop liberalizing but to proceed while pursuing complementary policies to help the poor gain from liberalization and to provide social protection to support those who may lose. Trade-related compensation packages will not generally be feasible or desirable in developing countries.

• Trade liberalization almost inevitably involves adjustment costs, notably job losses in formerly protected sectors. The best way to ease the pain of transition is to protect social expenditure and ensure appropriate targeting of the poor, offering a cushion without undermining their incentives to adjust.

• Trade liberalization can change the nature of the risk and uncertainty that poor households face although not always for the worse. It can also affect their ability to cope with risk and uncertainty. Policies such as improving access to credit markets can help a great deal here along with improvements in asset distribution and in the flexibility of local labour markets.

• If the long-term benefits of the trade liberalization are to reach the poor, households must be able to respond by adjusting their supply of labour or their production of goods and services. These supply responses will be influenced by where the poor are located and by their demographic structure and their gender, health status, education and assets. Complementary policies are likely to be necessary in such areas as investment in infrastructure and the development of markets for credit, agricultural inputs and services.

• In most countries, agriculture is the key sector for poverty alleviation: despite rising urban poverty, the poor are still predominantly rural, agriculture is their major source of income, and farm incomes have large spillovers to others in the rural economy. Moreover, food accounts for a major share of all poor people’s expenditure. Liberalizing agricultural trade, both unilaterally and multilaterally and by both developed and developing countries, has the potential for considerable poverty alleviation, although particular groups of poor people may suffer.

• Trade in manufactured goods still faces significant barriers in developed countries (on products like clothing and footwear) and to a greater extent in developing countries. Liberalization will foster poverty alleviation by enhancing growth and productivity and improving resource allocation. But the conditions have to be in place for firms to respond to new threats and opportunities; and, even so, some manufacturing jobs may be lost. Safety nets may be necessary if alternative forms of employment are not rapidly available for displaced workers.

• Trade liberalization in services offers particularly promising – but largely neglected – opportunities for poverty alleviation, especially if temporary movements of relatively unskilled workers were to be allowed. Some service reforms can aid the poor directly – for example, those in transport, health and education, and others may increase unskilled employment – such as tourism, or boost local efficiency and competitiveness – such as financial services.

• The long-term effects of strengthening protection for intellectual property rights are uncertain, but in the short to medium term, although such moves may benefit some middle-income countries, they will almost certainly hurt small and poor economies.

• Specific interventions in international trade such as export subsidies, anti-dumping duties and local content requirements will rarely be to the advantage of the poor, who have too little power to prevent the transfers from being captured by other groups. Hence poverty concerns will rarely justify resisting liberalization in those areas.

• Strengthening domestic labour or environmental standards may help the poor, but linking higher standards to trade agreements is much more likely to hurt them.