Trade liberalization has progressed with historically unprecedented speed in the 21st century: trade volumes are booming; and hundreds of millions have been lifted out of dire poverty.

The policy reforms that underpinned this liberalization were implemented by a tangled mess of regional trade agreements, unilateral reforms and bilateral investment treaties. The good news is that mega-regional trade deals, such as the Trans-Pacific Partnership (TPP) and the Transatlantic Trade and Investment Partnership (TTIP), will tidy up the mess – turning tangled spaghetti into lasagne plates, so to speak.

The bad news is that mega-regionals also threaten to undermine world trade governance, and the WTO in particular. Trade liberalization in the past decades has had three parts: regional trade agreements, bilateral investment treaties and unilateralism. Unilateralism is not a systemic threat to the WTO and bilateral treaties have long coexisted with the WTO. But regional trade agreements – and even more so mega-regionals – are likely to erode the WTO’s central place in world trade governance. The threat is not on the tariff-cutting front; it is on rules-writing.

There are three main reasons to worry:

  • First, the basic WTO trade norms are almost universally accepted and respected, but this universality stems in large part from the way they were created – in multilateral negotiations where the WTO consensus principle held sway.

The new trade rules were promulgated in settings of massive power asymmetries between larger countries and small to medium-sized developing nations. The mega-regionals are slightly less asymmetric since more than one giant is involved in each, but the small member and third nations still find themselves at a huge disadvantage. Lacking the legitimacy that comes from multilateralism and consensus, it is not at all clear that the new norms will be universally respected.

For example, some emerging markets – China, India and Brazil – are large enough to attract foreign investment and technology without signing regional trade agreements, and have so far shunned them. China in particular may decide to reject the rules, creating something like a “Cold War of deeper trade disciplines”. This sort of distrust could spread beyond the new rules, especially if China, India and Brazil believe that the US is practising what Fred Bergsten calls “competitive liberalization”; that is, encircling them with trade deals in a way that could be seen as an ultimatum.

  • Second, a world where the WTO is irrelevant to trade’s most dynamic developments is not a world that fosters multilateral cooperation on other issues.

Without a single forum for all trade and investment issues, it will be difficult to arrange the trade-offs necessary to make progress on trade-related policies that help with climate mitigation and adaption, food shortages linked to drought or floods, etc. US, EU and Japanese interests may be served in the short term, and the interests of small to medium-sized emerging markets will likewise be served (if not evenly), but where do Brazil, India and China fit in?

These countries are not in a position to set up their own systems of deeper disciplines for the trade-investment services nexus because they do not have advanced technology factories to offshore in exchange for host-nation reforms. By the time their multinationals are ready to make major outward pushes, the rules-of-the-road will have been written by the deep regional trade agreements of the US, the EU and Japan.

If the mega-regionals conclude, they will have been firmly embedded in international commerce; the members of TPP and TTIP account for over half of world trade. More precisely, they will be embedded in the domestic laws and regulations of all the host nations that the Chinese, Indian and Brazilian companies will be looking at. Like it or not, Chinese, Indian and Brazilian companies will have to play by the rules that are now being written by the mega-regionals.

  • Third, the WTO’s adjudication function is still working well, but any dispute settlement system must “walk on two legs”.

The judges can connect the dots for particular cases, but the basic rules must be updated occasionally to match evolving realities. If the rules are being written in the mega-regionals, the only way to update the WTO rules is to multilateralize TPP and TTIP rules. That may be very difficult politically.

Mega-regionalism is not yet a disaster for the world trade system. The present trajectory, however, seems certain to undermine the WTO’s centricity – mega-regionals will take over as the main loci of global trade governance. Over the past 15 years, WTO members have “voted with their feet” for the regional trade agreement option. Without reform that brings existing agreements under the WTO’s aegis and makes it easier to develop new disciplines inside the system, the trend will continue, possibly taking it beyond the tipping point where nations ignore WTO rules.

In the best of cases, the WTO continues to thrive as the institution that underpins 21st-century trade flows. The Marrakesh Agreement would form a “first pillar” of a multi-pillar trade governance system. All the new issues would be addressed outside the WTO in a setting where power asymmetries are far less constrained. But this is not the only scenario. It is also possible that the WTO’s inability to update its rules gradually undermines the authority of the dispute settlement mechanism.

If the mega-regionals and their power asymmetries take over, there is a risk that the WTO could go down in future history books as a 70-year experiment in which world trade was rules-based instead of power-based. It would, at least for a few more years, be a world where the world’s rich nations write the new rules-of-the-road in settings marked by vast power asymmetries. This trend should worry all world leaders. In the first half of the 19th century, attempts by incumbent Great Powers to impose rules on emerging powers smoothed the path to humanity’s greatest follies – the two world wars.

Author: Richard Baldwin is Professor of International Economics, Graduate Institute of International and Development Studies, Switzerland

Image: Names of countries taking part to the 8th World Trade Organization Ministerial Conference are pictured on the chairs for delegates, in Geneva. REUTERS/Denis Balibouse