Public Goods For Economic Development

Printed in Austria Sales No. E.08.II.
B36
V.08-57150—November 2008—1,000 ISBN 978-92-1-106444-5
Public goods for economic

development
PUBLIC GOODS FOR ECONOMIC DEVELOPMENT

This publication addresses factors that promote or inhibit successful provision of the four key
international public goods: financial stability, international trade regime, international diffusion
of technological knowledge and global environment. Each of these public goods presents
global challenges and potential remedies to promote economic development. Without these
goods, developing countries are unable to compete, prosper or attract capital from abroad. The
undersupply of these goods may affect prospects for economic development, threatening global
economic stability, peace and prosperity. The need for public goods provision is also recognized
by the Millennium Development Goals, internationally agreed goals and targets for knowledge,
health, governance and environmental public goods.
Because of the characteristics of public goods, leaving their provision to market forces will
result in their under provision with respect to socially desirable levels. Coordinated social actions
are therefore necessary to mobilize collective response in line with socially desirable objectives
and with areas of comparative advantage and value added.
International public goods for development will grow in importance over the coming decades
as globalization intensifies. Corrective policies hinge on the goods’ properties. There is no single
prescription; rather, different kinds of international public goods require different kinds of policies
and institutional arrangements. The Report addresses the nature of these policies and institutions
using the modern principles of collective action.
UNITED NATIONS INDUSTRIAL DEVELOPMENT ORGANIZATION

Vienna International Centre, P.O. Box 300, 1400 Vienna, Austria
Telephone: (+43-1) 26026-0, Fax: (+43-1) 26926-69 UNITED NATIONS
E-mail: unido@unido.org, Internet: www.unido.org
INDUSTRIAL DEVELOPMENT ORGANIZATION
Public goods for
economic development

Vienna, 2008
ID/437
UNIDO Publication
Sales No. E.08.II.B36
ISBN 978-92-1-106444-5
Copyright © 2008 United Nations Industrial Development Organization
The designations employed, descriptions and classifications of countries, and the presentation of the material
in this document do not imply the expression of any opinion whatsoever on the part of the Secretariat of the
United Nations Industrial Development Organization (UNIDO) concerning the legal status of any country, terri-
tory, city or area or of its authorities, or concerning the delimitation of its frontiers or boundaries, or its eco-
nomic system or degree of development. The responsibility for opinions expressed rests solely with the authors,
and publication does not constitute an endorsement by UNIDO of the opinions expressed. Although great care
has been taken to maintain the accuracy of information herein, neither UNIDO nor its Member States assume
any responsibility for consequences which may arise from the use of the material. This document may be freely
quoted or reprinted but acknowledgement is requested. This document has been produced without formal United
Nations editing. The views expressed in this document do not necessarily reflect the views of the Secretariat of
the United Nations Industrial Development Organization. Terms such as “developed, “industrialized” and “devel-
oping” are intended for statistical convenience and do not necessarily express a judgment. Any indication of,
or reference to, a country, institution or other legal entity does not constitute an endorsement.
PREFACE
S
ince the United Nations Development Programme (UNDP) published its first
book on global public goods in 1999, the global public goods approach has
been on the agenda of multilateral agencies such as the International Monetary
Fund, World Bank, Food and Agriculture Organization, World Trade Organization
and United Nations Industrial Development Organization; non-governmental organi-
zations; and donor countries. Donor countries have also begun examining the role of
public goods in the development process. France and Sweden created the International
Task Force on Global Public Goods in December 2003 to “assess and prioritize inter-
national public goods, global and regional, and make recommendations to policy
makers and other stakeholders on how to improve and expand their provision.” There
has also been growing interest in the academic community in the transnational public
goods approach.
Because global public goods tend to be underfunded and undersupplied, par-
ticularly those that would benefit the economic development of developing countries,
this UNIDO publication aims to enrich and complement the international public de-
bate by examining in more detail the relationship between such market failures as
public goods and externalities and the economic development in developing countries.
The focus is on four core areas:
1. Addressing the financial instability that threatens development and may lead to
distortions in the allocation of resources, curbing productivity and income growth.
Addressing financial instability is an integral part of effective development and
institutional capacity building and requires national and international action.
2. Enhancing market integration, because trade is vital for poverty elimination.
3. Creating developmentally relevant knowledge. Diffusion of technology is the key
to productivity convergence, but severe structural barriers impede the process. It is
thus essential to ensure the provision of the public goods required to foster the in-
ternational diffusion of technical knowledge and to enable developing countries to
overcome market failures.
4. Protecting the global economic environment by making environmental manage-
ment an integral component of poverty reduction, with major long-term impacts
on health and other key aspects of human development.
Institutional innovations are needed within the United Nations system to take
full advantage of the potential of the wealth of knowledge, skills, experience and re-
sources of institutions that have been working on these matters for the last 40 years.
This has implications for organizations concerned with economic development, like
UNIDO. Through internal restructuring, reorganization of its operations and substan-
tive improvements in its approach to research and technical cooperation UNIDO has
PUBLIC GOODS FOR ECONOMIC DEVELOPMENT iii

already greatly enhanced its performance. But its ability to achieve further progress
depends on overall system potentials. Many other United Nations institutions, funds
and programmes are active in the areas of UNIDO’s mandate, and a more focused ex-
change of experience and information would reciprocally enhance the value of each
institution’s contribution to economic and social development while adding to their
joint impact.
iv PUBLIC GOODS FOR ECONOMIC DEVELOPMENT

ACKNOWLEDGEMENTS
T his Report was edited by Olga Memedovic, UNIDO staff member.

Contributors to the Report include José Antonio Alonso, Isabel Álvarez,
Daniele Archibugi, Jean-Claude Berthélemy, Michael Braungart, Domingo
Cavallo, Philip Cooke, Richard N. Cooper, Joaquín Cottani, Carl J. Dahlman, Rod
Falvey, Neil Foster, Carlos Garcimartin, Richard Higgott, Peter Holmes, Leonardo
Iacovone, Raphael Kaplinsky, Carlos Magariños, Olga Memedovic, Oliver Morrissey,
Robert Mundell, Arvind Panagariya, Todd Sandler, Claudia, Silva, Dirk Willem te
Velde and Guus Velders.
José Antonio Alonso, Isabel Álvarez, Daniele Archibugi and Carlos Garcimar-
tin contributed to this study in the form of a “State of the Art” paper, which has been
integrated into this Report. Their individual inputs have been incorporated into Chap-
ters 1 and 2, 5, 4, and 3 respectively. Domingo Cavallo and his team, comprising
Joaquín Cottani, Claudia Silva and Anna Bandura, were responsible for the prepara-
tion of an issue paper and several regional studies, the findings of which have been
incorporated into this Report. Todd Sandler was the principal advisor on the theory of
collective action and made substantial contributions to Chapters 1 and 6. He also re-
viewed this Report during the various stages of its preparation. Guus Velders re-
viewed and made contribution to Chapter 5.
The Report benefited from the UNIDO Conference on International Public
Goods for Economic Development, held on 7–8 September 2005 at the Weatherhead
Center for International Affairs at Harvard University, which focused on the subject
of how to address challenges arising from globalization and the poverty reduction ob-
jective of the Millennium Development Goals from an international public goods per-
spective. Substantive contributions, in the form of roundtable presentations and dis-
cussion interventions, were made at this Conference by José Antonio Alonso, Alice
Amsden, Eduardo Aninat, Daniele Archibugi, Jean-Claude Berthélemy, Laura Boca-
landro, Rodrigo Botero, Michael Braungart, Domingo F. Cavallo, Christophe Cham-
ley, Richard Cooper, Roberto Dañino, Marek Dabrowski, Jorge Domínguez, Jeffrey
Frankel, Ricardo Hausmann, James Henry, Yasheng Huang, Neil Hughes, Inge Kaul,
Lawrence Kotlikoff, Gonzalo Sánchez de Losada, Arvind Panagariya, Suresh P.
Prabhu, Artur Radziwill, and Frederick T. Sumaye. Keynote addreses were given at
the Conference by Lawrence Summers, former President of Harvard University, and
Robert Mundell, 1999 Nobel Laureate in Economics.
The report also benefited from UNIDO participation at the Third Meeting of
the Group of Friends of the International Task Force on Global Public Goods held on
PUBLIC GOODS FOR ECONOMIC DEVELOPMENT v

20-21 January 2005 in Berlin and from its Regional Consultation in Latin American
and Caribbean held on 1 March, 2005, in Santiago, Chile.
Special thanks are due to Bruce Ross-Larson, Meta de Coquereaumont, Jodi
Baxter and Elizabeth Collins, with Communications Development in Washington,
D.C., for their style editing contributions. Research assistance was provided by
Anna Bandura, Zoson Enkhtaivan, Rashid M. Farah, Lambertus van Lavieren, Vinodh
Natarajan, Lorena Rivera León and Lara Salloum. Iguaraya Saavedra provided
administrative and secretarial support.
vi public goods for Economic development

CONTENTS
Preface iii
Acknowledgements vv
Introduction: Overcoming market failures for economic development 1
Chapter 1 The concept of international public goods 5
Global interdependence and international public goods 5
Need for cooperation and collective action 6
Externalities and public goods: conceptual clarifications 7
Explaining the incentives of public goods’ supply: aggregation 9
technologies
Geographic scope of spillover effects: cross-border, regional and global 12
public goods
Classifying international public goods 13
Institutional responses to the provision of public goods 13
International public goods governance and global citizenship 21
Multilateral framework for the provision of international public goods 22
Financing mechanisms for the provision of international public goods 27
Chapter 2 Financial stability as an international public good for development 39
Financial instability has high growth and distribution costs 40
Financial stability is an international public good 41
Resolving asymmetry internationally while preserving autonomy 42
nationally
Proposals for reform 43
Chapter 3 The international trade regime as a public good for development 55
The public dimension of the problem 56
Diagnosis of the institutional framework for regulation 62
The national framework for economic integration 74
Promotion and financing possibilities 78
Policy proposals 79
Chapter 4 Knowledge as a public good for development 83
Are knowledge and technology public goods? 83
Governments and the production and distribution of knowledge 85
The rationale for intellectual property rights 86
Knowledge across national boundaries 93
Successes and failures in technology transfer 97
Promotion possibilities 99
Policy implications 107
Chapter 5 Environment as a public good for development 109
Environment and development—converging towards sustainable 109
development
The environment as a public good 120
Montreal Protocol—the most successful international agreement 125
Kyoto Protocol: beyond 2012 127
Factors influencing the formation and operation of the multilateral 134
environmental regime
Policy issues 140
PUBLIC GOODS FOR ECONOMIC DEVELOPMENT vii

Chapter 6 Conclusions and policy recommendations 143
Growth in foreign aid for national and international public goods 143
Basic messages of the Report 144
Policy issues and recommendations 149
Concluding remarks 153
References 155
Boxes
Box 1 UN reform and the provision of public goods 3
Box 1.1 The Millennium Development Goals 6
Box 3.1 Core principles of the World Trade Organization 64
Box 5.1 The Asia-Pacific countries’ approach to sustainable development: 110
green growth
Box 5.2 The role of international organizations in the provision of 115
environmental public goods
Box 5.3 The EU Emissions Trading Scheme (EU ETS) 133
Figures
Figure 1.1 Institutional cluster in economic integration 26
Figure 2.1 Evolution of reserves by region, 1996–2003 51
Tables
Table 1 Industrial development, market failures and responses 2
Table 1.1 The characteristics and typology of public goods 8
Table 1.2 Supply prognosis for international public goods and role of 11
supranational institutions
Table 1.3 Geographic scope of the public goods 13
Table 1.4 International public goods classification 14
Table 1.5 Some examples of institutional responses for the provision of 16
international public goods
Table 1.6 Some self-enforcement mechanisms for international public goods 20
provision
Table 1.7 Financing mechanisms for global public goods 27
Table 2.1 Comparative output loss for each country in a financial crisis, 1997– 40
2002
Table 2.2 Codes and standards 44
Table 3.1 Share of merchandise and service exports 58
Table 3.2 Trade rounds under the General Agreement on Tariffs and Trade 62
Table 3.3 Tariff escalation in leather products 67
Table 5.1 Major international conferences and agreements on environmental 122
concerns
Table 5.2 Carbon dioxide emissions of countries with emissions higher than 1 129
percent of world emissions in 2002
Table 5.3 World carbon dioxide emissions by region, 2002 130
Table 5.4 Factors influencing the success of the environmental regime 136
Viewpoints
Viewpoint 1.1 Recent developments in aid financing of international public 17
goods
Viewpoint 1.2 Global public goods and global governance 28
viii PUBLIC GOODS FOR ECONOMIC DEVELOPMENT

Viewpoint 1.3 Sub-Saharan Africa—weakest link or de-linked from the global 35
economy?
Viewpoint 2.1 A world currency? 45
Viewpoint 3.1 For whom is a level playing field in international trade a global 59
public good?
Viewpoint 3.2 Capacity-building to meet international standards 71
Viewpoint 3.3 Preferential trade areas: an international “public bad”? 75
Viewpoint 4.1 Intellectual property rights, economic growth and technology 90
transfer
Viewpoint 4.2 Creating and disseminating knowledge 101
Viewpoint 4.3 Improving regional innovation systems 104
Viewpoint 5.1 Carbon dioxide tax: a role for China and India in sustaining the 111
environment and mitigating climate change
Viewpoint 5.2 Ecoefficiency versus ecoeffectiveness 113
Viewpoint 5.3 Cleaner Production and new technologies 117
PUBLIC GOODS FOR ECONOMIC DEVELOPMENT ix

INTRODUCTION
OVERCOMING MARKET FAILURES
FOR ECONOMIC DEVELOPMENT
S trong links between public goods provision and economic development make the
case for the provision of public goods at national, regional and international lev-
els. The provision of public goods is a key element of the quality of life and envi-
ronmental sustainability. Their undersupply may affect prospects for economic devel-
opment, threatening global economic stability, peace and prosperity.
Mechanisms for the effective delivery of public goods and services should there-
fore be central to any poverty eradication strategy. However, the role of public goods in
economic development has been neglected in the mainstream literature. Current views
of economic development (macroeconomic stability, market-oriented reforms, good
governance) need to be enriched and complemented by considerations of global public
goods to achieve sustained high-quality economic growth and to ensure that growth
translates effectively into poverty eradication. This is essential to achieve the Millen-
nium Development Goals.
Several categories of public goods identified in the public goods literature are
closely related to five of the Millennium Development Goals: the environment, health,
knowledge, security and governance (Kanbur, Sandler and Morrison 1999; Morrissey,
te Velde and Hewitt 2002). Three (environment, health and security) are associated
largely with benefits derived from reducing risks. Two (knowledge and governance) are
associated primarily with enhancing capacity. The environment, knowledge and govern-
ance public goods are most closely related to the work of the United Nations Industrial
Development Organization (UNIDO) while the other two are more ancillary. The pro-
vision of health public goods improves the health of the workforce, but it is the quality
of life, rather than of the workforce, that motivates the provision of health public goods.
Similarly, while security may benefit the economy and industry, that benefit does not
motivate the provision of security public goods. The provision of security public goods
is motivated by a fear that instability will either spread to other countries or create nega-
tive spillovers (refugees, blocked supply lines, reduced growth) for neighbouring and
other countries.
Various market failures can constrain industrial development (table 1) (Rodrik
2004, 2006; Hausmann and Rodrik 2006). Some government responses to market fail-
ures are providing public goods and addressing positive and negative externalities
through industrial policy. Capacity to efficiently deal with these market failures is related
to governance institutions for coordination or support of technology development. The
most extensive market failures relate to coordination failures, which tend to be most
severe in poor countries. National economic and industrial strategies are required to
identify complementarities and to identify and support the creation of linkages. This is
particularly important for developing countries striving to diversify from traditional to
non-traditional products and activities, for which markets are not yet formed. Institu-
PUBLIC GOODS FOR ECONOMIC DEVELOPMENT 1

tions, especially non-market institutions, are required to implement the strategy and en-
sure coordination. Intervention is also required to address positive and negative exter-
nalities. The various policy interventions devised to realize such policies need to be co-
herent, concerted and properly formulated.
Table 1. Industrial development, market failures and responses
Type
(sources of Examples of market Responses: poli- Relevant public
failure) failures cies and activities goods
Externalities ignored Capacity building for Governance

Linkages not ex- industrial policy to Knowledge
ploited identify linkages
and externalities
No policy coherence
Coordination on complementari- National strategy
ties (industrial policy)
Incomplete and im- Promotion of tech- Knowledge

perfect information nology transfer and
Network externalities adoption
Technology devel- Support for stan-
opment, adapting dardization and
and adopting quality control
Allowing more users
the ability to join
networks
Externalities (in train- Coordination and/or Knowledge
Skills formation ing workers) subsidies for train-
Imperfect information ing
Rationing or high Microfinance Knowledge

Capital markets,
interest rates schemes or formal
access to finance
sector subsidy
Environment Negative external- Product and process Environment
protection, conser- ities not accounted standards and
vation, cleaner for regulations
technologies
Source: Adapted from te Velde and Morrissey (2005).
In the international effort to address the undersupply of public goods facing de-
veloping countries and economies in transition, the multilateral institutions are working
largely in isolation. The international community is still learning how best to address
these challenges and to deal with their interdependencies. The diversity of institutional
arrangements needed to address the variety of global public goods underscores the im-
portance of effective collaboration across the multilateral system. Better coordinated
and more substantive and effective international programs are needed in this area, with
collaboration focusing on areas of comparative advantage and value added (see box 1
on United Nations reform initiative). With the diversity of institutions working in eco-
2 OVERCOMING MARKET FAILURES FOR ECONOMIC DEVELOPMENT

nomic development within the United Nations system, areas of intervention ought to be
selected within a transparent and clear intellectual framework. This Report aims to con-
tribute to this debate through the intellectual framework of international public goods.
Box 1. UN reform and the provision of public goods

In February 2001 the High-level Committee on Programmes agreed to systematically pursue
the issue of global public goods, particularly those set out in the Millennium Declaration. It
decided to focus initially on global public goods related to the poverty agenda. In 2003 the
Chief Executive Board initiated a new round of discussions on the future of multilateralism as
a reflection of changing international attitudes towards the role and capacity of the United Na-
tions system.
In a report to the Spring 2004 session of the Chief Executive Board the High-level Committee
on Programmes concluded that a much greater degree of policy, programme and operational
coherence is required within the United Nations system and in intergovernmental processes.
Greater collaboration is needed among the secretariats focusing on priority issues of common
concern, including the unification and coordination of programming frameworks at the field
level.
On 16 February 2006 the UN Secretary-General announced the formation of a High-level
Panel to explore how the UN system could work more coherently and effectively in the areas
of development, humanitarian assistance and the environment. In development, the key chal-
lenges are:
• How to provide more efficient, coherent demand-driven support to national partners by
building on the core normative, technical assistance and capacity-building strengths of
the UN system.
• How to achieve adequate coordination at the field level, by establishing links between
humanitarian, post-conflict recovery, development and environment activities.
• How to improve governance of the UN system, by strengthening interagency mechanisms
and reducing fragmentation in intergovernmental decision-making.
• How to strengthen the financing of development activities, to overcome the lack of ade-
quate and predictable funding and competition for donor resources, which results in over-
lap and distortion of core functions.
• How to establish a clear division of labour and effective partnerships based on compara-
tive advantages within the UN system.
On 9 November 2006 the Panel released its recommendations for dealing with each of these
five challenges.

CHAPTER 1
THE CONCEPT OF INTERNATIONAL PUBLIC GOODS
O
ne of the most striking trends at the beginning of this century is the clear drive
towards global integration. With the increasing importance of the international
exchange of goods, services and factors, and the seemingly limitless possibili-
ties offered by new communication technologies, the degree of interdependence of
countries and the influences beyond national borders are reaching new levels. National
problems have ramifications over ever larger areas, so that no place, however remote, is
immune to the risk of contagion. At the same time, governments are seeing their free-
dom to manoeuvre reduced, so that they are forced to consider the conditions imposed
on their decisions by the international framework. National spaces, previously frag-
mented, are being integrated on a global scale. There is an increased prevalence of in-
terdependencies and cross-border spillovers in the international arena.
GLOBAL INTERDEPENDENCE AND INTERNATIONAL PUBLIC GOODS
The effects of this interdependence vary: positive in some cases (expansion of interna-
tional trade), negative in others (the risks of contagion in cases of financial crisis), but
often mixed. The greater the international mobility of people, the higher the risk of in-
fection from diseases previously thought to be foreign, but also the faster the spread of
new knowledge about medical treatments. The international integration of communica-
tion systems not only promotes the circulation of information around the world, but it
also increases the harmful impacts of computer viruses. The integration of capital mar-
kets improves the efficiency of international savings allocation, but it also increases the
risk of financial instability.
Globalization therefore involves very different types of externalities and interna-
tional interdependencies. From them emerges the specific domain of international pub-
lic goods, whose benefits spread beyond the providing country’s borders. Public goods
possess non-rival benefits and non-excludable benefits. Benefits are non-rival when
consumption by one user does not diminish the benefits still available to others. Once
the public good is provided, benefits are non-excludable if they are received by payers
and non-payers alike. Public bads can be discussed in an equivalent, although inverse
way: the corresponding public goods would be the promotion of activities that manage
to prevent, avoid, or mitigate the harmful effects of public bads. Public goods are very
diverse. Some—such as a justice system, multilateral organizations or an international
regulatory framework—are essential for organizing coexistence. Others—such as safety in
health matters or environmental protection—are minimum safety requirements for sus-
taining life. Finally, some—such as financial stability, commercial integration or knowl-
edge promotion—improve the possibilities for progress throughout the world. Together,
they form a collection of goods, services and regulatory frameworks that, along with the
private goods that people can acquire, condition the level of well-being of the world’s
population.

NEED FOR COOPERATION AND COLLECTIVE ACTION
Because of the characteristics of public goods the market alone is often unable to en-
sure their efficient provision. Some form of collective action (planned effort by two or
more agents to act together for a particular result thought desirable for all) becomes
necessary to supply them, through coordination, cooperation or coercion. Within each
country, that response is directed through the available institutional framework, with the
nation state at the centre. At the supranational level, there is no institution similar to the
state, so the response has to be initiated through various forms of voluntary coordina-
tion and cooperation, generally among countries.
The recourse to international cooperation is driven by different factors. Activi-
ties once the exclusive responsibility of states, such as security, financial stability, envi-
ronmental management or public health, can no longer be efficiently tackled except
through international cooperation. And such coordination is obligatory for new goods
or activities that, because of their effects or their impact sphere, have had an interna-
tional status from the start, such as management of geostationary orbits, control of cli-
mate change or development of the Internet.
As interdependencies grow among countries in fields where it is crucial to or-
ganize coexistence, promote security and stimulate progress, managing these interde-
pendencies requires defining the framework of incentives in which agents operate and
appropriate institutions engage in effective collective cooperation. The future level of
world development and social well-being depends, to a large extent, on the ability to
supply international public goods.
This becomes all the more important at a time when the international commu-
nity seeks to accomplish the Millennium Development Goals, a set of shared goals for
development (box 1.1). Although these goals are not necessarily public goods by nature,
attaining them requires investments in international public goods. Finding a new vaccine
against malaria or developing an accessible treatment for AIDS, preserving the peace or
creating easier access to knowledge, promoting financial stability or establishing a more
open and fair trading system could have a greater impact on poverty than could interna-
tional aid.
Box 1.1. The Millennium Development Goals
Goal 1: Eradicate extreme poverty and hunger.

Goal 2: Achieve universal primary education.
Goal 3: Promote gender equality and empower women.
Goal 4: Reduce child mortality.
Goal 5: Improve maternal health.
Goal 6: Combat HIV/AIDS, malaria, and other diseases.
Goal 7: Ensure environmental sustainability.
Goal 8: Develop a global partnership for development.
Providing international public goods takes more than financial resources. It also
takes the proper regulatory framework and institutional responses to ensure their sup-
ply. And that is where the greatest shortcomings remain. The world has made enor-
mous strides in communications and interdependence between countries, yet we have
not developed the policies or institutions needed to manage that process. This asymme-
6 THE CONCEPT OF INTERNATIONAL PUBLIC GOODS

try is the basis of the increased levels of risk and instability that characterize the interna-
tional system. Insufficiencies in the provision of the international public goods that so-
ciety demands reveal what limited investment countries have made in international co-
operation. As a result of this failure, the world is more unstable, less safe, more unequal
and less wealthy than it could be.
EXTERNALITIES AND PUBLIC GOODS: CONCEPTUAL CLARIFICATIONS
To understand how to provide international public goods, it is first necessary to under-

stand the concept of international public goods and why markets fail to provide them.
The market is a powerful mechanism of coordination and social assignment.
But there are some situations where it cannot operate well, causing socially inefficient
results. Two such market failures are externalities and public goods.1 In these circum-
stances producer or consumer actions have negative or positive consequences for others
that are not taken into account in the decision that generates those effects and are un-
compensated, and prices either do not exist or do not transmit the relevant information
to allow agents to make optimal decisions. Resources are not efficiently allocated, which
may affect prospects for economic development. Deliberate social action is necessary to
modulate the incentives of individual agents and favour a collective response in line with
socially desirable objectives. As Arrow realized (1971: 137), “when the market can’t
manage to establish an optimum situation, society will, at least to some extent, become
aware of the shortages, and other social institutions, outside the market, will emerge to
try to fix them.”
To remedy market failure externalities, it is necessary to devise institutional
mechanisms and policy instruments that include the implications of an agent’s action in
the decision process. These may take different forms, such as the establishment of a tax
or fee equal to the external cost generated or the introduction of emission certificates
with commercial value determined by the market, for example, for carbon dioxide. The
theory of externalities provides the foundation for situations in which economic activi-
ties produce negative spillover effects that are often ignored by the initial generator.
Public goods have two features that make them different from private goods.
They are non-excludable in their supply, which means there is no easy way of prevent-
ing someone from having access to their consumption, and they offer non-rival benefits,
which means that consumption by one agent does not diminish the availability of the
good’s benefit for others. Non-exclusion implies that it is not possible (or easy) to limit
the supply of public goods only to those who are willing to contribute to the costs of
supplying them for society. This gives rise to free riding: potential users may wait for the
good to be supplied and then consume the good for free. Non-rival benefits give rise to
zero marginal costs of use, so that exclusion is inefficient since potential consumers with
a positive marginal benefit are denied access to the good. This access costs society noth-
ing while yielding positive benefits; thus welfare is not maximized by exclusion.
Because of the characteristics of public goods, leaving their provision to the
market will result in undersupply with respect to the socially desirable level. Collective
action is necessary to ensure efficient supply since the logic of individual interests results
in a socially less than optimum response. To sum up, the provision of public goods
faces two types of economic problems. First, non-rivalry introduces the challenge of de-
1 Other instances include asymmetric information and common property.

fining the optimum level of supply, given that an increase in the number of consumers
increases aggregate well-being at null (or very low) cost. Second, the non-exclusive na-
ture of a public good is the source of undersupply, since agents tend to hide their pref-
erences. Efficient provision needs to take into account the costs of design and promo-
tion of efficient collective action. Reaching optimum supply levels requires not only
financial resources, but also the incentives to get agents involved and the institutional
responses to ensure effective fulfilment.
The range of goods considered purely public is quite limited, whereas the num-
ber of goods that are partially non-rival or non-excludable—impure public goods—is
more extensive (table 1.1). For example, club goods are excludable and partially rival.
Partial rivalry is required to ensure that exclusion is not inefficient: the toll of a club in-
ternalizes the marginal congestion cost associated with another unit of utilization. Under
certain circumstances the congestion-internalizing toll can self-finance an optimal provi-
sion level (Sandler 2004b). All users pay the same fee per use: those with a greater pref-
erence for the club good will pay more in total tolls by visiting or using the good more
often. Thus, people’s utilization behaviour reveals their preferences. Examples are
management of a particular geostationary orbit, participation in a communications sys-
tem or access to a specific net service, such as cable television.
Table 1.1. The characteristics and typology of public goods
Benefits Rival Partially rival Non-rival
Excludable Pure private goods Club goods Weather-monitoring sta-

Food Intelsat tions
Cars, fuel International Space Sta-
tion
Canals, waterways
Non-excludable Common goods Impure public goods Pure public goods
Free access pasture Ocean fisheries Pollution-control
Open pathways Pest control Disease-eradication pro-
Hunting grounds grams
Air corridors Strategic weapons

Sound financial practices
Basic research
Partially Impure public goods

excludable Information dissemination
Extension services
Source: Adapted from Sandler 2002: 86; Kaul, Grunberg and Stern 1999: 5.
For other goods, even if access is non-excludable, consumption may include

some level of rivalry. These are goods subject to congestion. A road, though available to
everyone, is conditioned by the number of people that use it at any one time. For open-
access common goods (or commons), such as communal lands, forests or fishing areas
in international waters, consumption is wholly or partially rival but non-excludable. The
non-excludability of these goods can be culturally and physically determined or the re-
sult of international agreements and thus institutionally regulated (such as air corridors).

A common good (or resource) is one that can be exploited for private gain but
that no one owns. Free access to these goods brings up a basic management problem,
since the criteria derived from private benefits do not coincide with those that public or
intergenerational interests demand. Private benefits call for the most intense exploita-
tion, while public or intergenerational interests demand the establishment of control
mechanisms to preserve the resource.
Thus, the characteristics of both non-rivalry and non-excludability can vary
across classes of public goods. Finally, there are instances when an activity may simulta-
neously yield two or more outputs (joint products), some of them public or with differ-
ent degrees of publicness (pure, impure or club goods) (Sandler 2004b: 53; 1977). The
degree of publicness varies according to the dimension and characteristics of the public
effects. These joint products, such as education or biodiversity, benefit both those who
receive them and the entire society by fostering more responsible social behaviour.
Problems related to the efficient collective provision of public goods differ de-
pending on their characteristics. Thus, for example, club goods can be provided rela-
tively more efficiently since they allow for the possibility of differentiating among mem-
bers and charging according to preferences for using the good. Those who use the
goods most pay the highest charges. It is more difficult to instigate self-organized re-
sponses in the case of commons since there is rivalry for consumption but no possibility
of exclusion. Yet, as Ostrom (1990) shows, it is possible to find answers through strate-
gies of voluntary cooperation, without taking the extreme options of state intervention
or a stricter definition of property rights.
The greatest difficulties are in the case of pure public goods, where non-rivalry
and the lack of exclusion coexist. In this case, what is required is an efficient collective
response. This can be analysed by using aggregation technology classification schemes
of public goods (Sandler 2004b: 46).
EXPLAINING THE INCENTIVES OF PUBLIC GOODS’ SUPPLY: AGGREGATION TECH-

NOLOGIES
The way the supply of public goods is created by the individual efforts of different
community members is known as public goods aggregation technologies (Hirshleifer
1983; Cornes and Sandler 1984; 1996; Kanbur, Sandler and Morrison 1999; Kanbur
2001; Sandler 1997; 1998). An aggregation technology classification scheme of public
goods gives an important perspective on contributors’ incentives and so helps to explain
how individual contributions determine the overall supply of a public good (Sandler
2005: 60–61; 81). Although a more complete aggregation technology taxonomy of pub-
lic goods is possible, the following categories are commonly considered:
• Simple summation goods. In this, the most common option, the contributions of
each agent determine by simple addition the aggregate levels of provision of the
public good. For example, the level of damage to the atmosphere caused by a con-
taminating gas (such as carbon dioxide) is calculated by adding each country’s indi-
vidual emissions.
In this case, the level of public good provision is indifferent to any change in in-
come distribution among contributors (Bergstrom, Blume and Varian 1986; Cornes
and Sandler 1984). So, when voluntary contributions are positive, the neutrality
theorem applies: the amount supplied by one agent is a perfect substitute for the
amount provided by another (Kanbur, Sandler and Morrison 1999: 65). When in-

dividual contributors’ efforts are perfect substitutes and there is a lack of exclusion,
free-rider incentives can present a problem for provision.
• Best shot goods. The aggregated level of provision of the public good is determined
solely by the largest single contribution. For example, at the international level, de-
velopment of a treatment for a particular disease is determined by the countries that
make the greatest research effort or that have the highest technological levels. Pre-
vention of terrorism, for example, would be handled by countries with the most
solid and capable intelligence service. A strategic implication of best shot public
goods for collective action is the need for coordination to avoid wasting resources
because of duplication of effort.
• The existence of less extreme conditions for leadership permits differentiating a
subgroup called better shot goods (Sandler 2003). In this case the largest contribu-
tor has the greatest impact on supply, followed by the second largest contributor,
and so on. In developing a vaccine, the second-best vaccine may still have benefits
for those who cannot tolerate the best vaccine.
• Weakest link public goods. The smallest effort or contribution fixes the effective
provision level. Contributions beyond this smallest level use resources without in-
creasing provision. As a consequence, contributors will match the smallest contribu-
tion level. With weakest link public goods, there are no incentives to free ride since
then the effective provision level is zero. This is the case, for example, with the risk
of contagious diseases, which is influenced by the situation of the country with the
weakest health system. The country can easily become a focal point of infection
from which the disease can spread to the rest of the world. The supply chain of this
public good critically depends on its weakest point.
• Again, there is a subgroup of weaker link goods where demand is not as extreme. In
this case the smallest contribution has the greatest impact on provision, followed by
the second smallest contribution, and so on. The stability of financial markets, for
example, can be seen as a weaker link public good, because the more unstable the
market the more destabilizing is its overall effect. Additional gains can be achieved
with the efforts exceeding the minimal provision level.
• Weighted sum goods. The aggregated level of provision is determined by the
weighted sum of individual contributions. The weighting factor can differ by such
characteristics as countries’ geographical location (for example, desertification proc-
esses), dimension (such as forest preservation), or development level (for example,
the poorest countries with the highest weights).
Each aggregation technology presents different provision problems (table 1.2).
In the case of best shot technologies, aggregate supply is determined by the contribution
of only one agent. The problem, therefore, is to establish whether that agent is able to
provide efficient supply and how to ensure it. In the weakest-link case, everyone’s con-
tribution is important, and everyone has to match the smallest contribution. In the case
of summation technology, the issue is how to ensure shared contribution, as everyone’s
participation counts toward the aggregate provision, but not everyone’s contribution is
needed—some can contribute zero. And, in the case of weighted sum technology, the
key is to identify weights to be assigned to individual contributors to be able to deal with
incentives for achieving aggregate level of supply.
Problems may differ not only by the type of public good and its aggregation
technology but also by the management problem—undersupply or overuse—that affects

it. For pure public goods, supply generally improves in moving down the aggregation
technology scale. For impure public goods, non-exclusion causes mainly an undersup-
ply problem: consumers tend to hide their preferences in a situation where consump-
tion is non-rival. Overuse is common as partial rivalry assumes greater costs, while par-
tial excludability assumes that fees do not account for possible negative effects on
others. Partial excludability also leads to some undersupply for the weakest link, weaker
link, best shot and better-shot public goods. This occurs because what is supplied is
overused and because exclusion and tools in use have only partial remedy effect.
Club goods are goods with excellent supply possibilities because tools can be
used to finance the club. Exceptions exist for weakest link and weaker link aggregation
technologies, where externalities can appear and should be brought under club control.
In the case of commons the problem may derive from rivalry in an area where
there is no exclusion, sometimes causing overuse problems in consumption.2
Table 1.2. Supply prognosis for international public goods and role of supranational institutions
Impure public good Club good

Aggregation Pure public good
technology (partial rivalry and partial (partial rivalry and ex-
(non-rivalrous and non-excludable)
excludability) cludable)
Undersupply
Overuse/undersuppy
Efficient supply
Role for supranational institutions and
Simple summa- treaties Role for supranational insti-
Transnational parks
tion tutions and treaties
Deterring terrorism
Curbing ozone shield depleters Continental fishing
Undersupply dependent on the rela- Overuse/undersupply with

tive weight of agent-specific benefits agent-specific benefits
and actions; a large weight means important
that individual agent will tend to con-
tribute more to the supply Efficient supply
Weighted sum
Role for supranational insti- Intelsat
tutions and treaties
Role for supranational institutions and
treaties
Curbing the spread of AIDS
Reducing sulphur deposits
2 This is a matter of minor precision, since it is easy to understand overuse as a consequence of

undersupply from inadequate measures of control.

Table 1.2. Supply prognosis for international public goods and role of supranational institutions
(continued)
Impure public good Club good

Aggregation Pure public good
technology (partial rivalry and partial (partial rivalry and ex-
(non-rivalrous and non-excludable)
excludability) cludable)
For a homogeneous group, efficient

supply is expected; for a less ho- External force-based
mogenous group, the better- Overuse/some undersupply undersupply
endowed nations may have to bol- even for homogeneous
Weakest link ster the capacity of those in the groups owing to crowding Additional externalities
group that cannot meet the efficient
Monitoring disease out- must be taken into ac-
supply level
breaks count introducing tools
Air traffic control
Containing disease
Some external force-

For a homogeneous group, efficient
based undersupply
supply is expected. The smallest
contribution has the greatest supply
impact; less a capacity issue. Sup- Overuse/some undersupply Additional externalities
pliers can make up for undersuppli- owing to crowding must be taken into ac-
Weaker link ers. A better endowed country may count introducing tools
be less interested in the capacity of Maintaining sterilization
the less endowed. Need for coordi-
nation
Prudential norms and
Maintaining financial stability
standards of finance
Undersupply or efficient supply. Sup-

ply determined by the agent with the
highest contribution. Leadership by
Overuse/some undersupply;
a dominant nation or institution is
coordination and pooling
needed Efficient supply
Best shot issues
Requires coordination and pooling of Rapid reaction force
resources based on comparative Gathering intelligence on
advantages terrorists
Discovering a vaccine against

HIV/AIDS or Ebola
Undersupply or efficient supply. The

largest contributor has the greatest Overuse/some undersupply;
marginal impact. Coordination and coordination and pooling Efficient supply
Better shot pooling issues are of a lesser con- issues are less of a con- Biosafety level 4 labora-
cern, as there are more suppliers cern tory
Sanitary and phytosanitary control of Database
foods export
Source: Based on Sandler (2004b: 60–68, 82).
GEOGRAPHIC SCOPE OF SPILLOVER EFFECTS: CROSS-BORDER, REGIONAL AND

GLOBAL PUBLIC GOODS
The international range of a public good may differ depending on the geographic scope
of its spillover effects (table 1.3). With cross-border public goods, effects spill over to
surrounding countries (management of a shared hydrographic basin, upkeep of a

common natural resource such as a forest). Regional goods affect a group of countries
that form a regional system (the regulatory framework of a regional integration process).
Global public goods have worldwide effects (ozone layer preservation or climate change
prevention). Together, these groups form the large domain of international public
goods.
In addition to the two characteristics common to global public goods—strong
qualities of publicness and quasi-universal benefits (benefit all countries and all peo-
ple)—some people would add an intertemporal dimension, with effects going beyond
the current generation or “at least meeting the needs of current generations without
foreclosing development options for future generations” (Sandler 1999).
Table 1.3. Geographic scope of the public goods
Kind of public good Definition Example
Spillover effects limited to national National health care system

National
borders Ground water purification
Regional economic cooperation

Cross- agreements
Spillover effects reach a group of
International border/
countries forming a region Shared river pollution
Regional
Regional corridors
Spillover effects have worldwide
Global Climate change prevention
scope
Source: Adapted from Sandler (2004b: 136).
CLASSIFYING INTERNATIONAL PUBLIC GOODS
To sum up, in addition to their aggregation technology, public goods may be classified
according to three complementary criteria: the good’s public (pure or impure) nature,
the geographic coverage area of its benefits (cross-border, regional and global) and the
generational dimension of its effects (inter- and intra-generational). This classification is
useful in considering the most suitable institutional framework for managing each good
(table 1.4).
Because of the supranational nature of the externalities of all these types of
goods, they need an international institutional and regulatory framework to manage
them. But several factors encourage opportunistic behaviour in the international arena,
including limited world regulation in the public domain, lack of executive supranational
power and the weakening of collective controls caused by the large size of the affected
community (Olson 1965).
INSTITUTIONAL RESPONSES TO THE PROVISION OF PUBLIC GOODS
Public goods and externalities are instances that call for a coordinated social response
and collective action to provide a good. However, the presence of mutually beneficial
goals is not enough to ensure the voluntary participation of agents involved, especially if
there is no possibility of excluding access to collective benefits. In these cases, there

may be a “failure of collective action.” Solutions call for the design of appropriate insti-
tutions to facilitate strategic interactions that are more conducive to cooperation among
individual agents. Several key principles are usually considered.
THE SUBSIDIARITY PRINCIPLE AND ECONOMIES OF SCALE AND SCOPE
The subsidiarity principle assumes bringing institutional responses as close as possible

to the area affected by the goods spillover. In other words, lower jurisdictions should
make the decisions unless convincing reasons exist for assigning them to higher jurisdic-
tions (Bryant 1995). At the same time, those directly affected by the public good should
be in charge of its supply.
Table 1.4. International public goods classification

Spillover range Pure public Impure public Club Joint products
Intragenerational
Waterways
Forest fire prevention Electric grid Medical aid
Rivers
Cross-border Groundwater pollution Information networks Technical assistance
Highways
cleanup Peacekeeping Internet connectivity
Local parks
Animal disease control Regional parks Free-trade zone Regional peace-

Regional Flood control Treatment of en- Common market keeping
Weather forecasts demic disease Monetary area Military forces
Electromagnetic
spectrum allocation Air corridors
Ocean pollution cleanup Foreign aid
Satellite transmis- Internet
Global Monitoring station Disaster relief
sions Shipping lanes
World Court Drug interdiction
Postal service Financial stability
Disease control
Intergenerational
Wetland preservation National parks

Acid rain reduction Natural disaster pre-
Cross-border Lake cleanup Irrigation system
Fisheries protection vention
Toxic waste cleanup Lakes
Reduction in emis-
Lead emissions reduc-
sions of volatile or- Transnational parks Cultural norms
Regional tion
ganic compounds Barrier reefs Bioprospecting
Forest conservation
Agricultural research
Ozone shield protection Overuse of antibiot- Tropical forest pres-

Global warming preven- ics ervation
Geostationary orbits
Global tion Ocean fisheries Space colonies
Polar orbits
Disease eradication Antarctica protection United Nations
Knowledge generation Revolution making Poverty alleviation
Source: Sandler (1999: 24–25).

This assumes respect for the principle of fiscal equivalence, defended by Breton
(1965) and Olson (1969), which establishes the relationship between the decision-
making processes affecting the supply of a specific public good and allocative efficiency.
The principle states that political jurisdiction should be decided by the spillover effect
of a public good: those affected by the public good should have the greatest stake in de-
ciding on the level of supply. According to this principle, the sum of marginal benefits
from the provision of a good is equal to the marginal costs of provision, thus ensuring
the social optimum. Any disruption in applying this principle may lead to suboptimum
results, either because those who do not receive benefits are asked to contribute to pro-
vision (generating oversupply) or because some who receive benefits are kept out of the
group of contributors (leading to undersupply) (Kanbur, Sandler and Morrison 1999).
Applying the subsidiarity principle decreases transaction costs in the negotiation
and supervision of the agreement. It reduces the number of participants to those di-
rectly affected and allows for greater homogeneity in the interests of those involved.
Application of the subsidiarity principle would, however, also lead to the creation of a
variety of overlapping institutions at the international level, because of the diverse scope
of international public goods. This would create a problem of inadequate specialization
and coordination between the institutions involved, as discussed further on.
Strict application of the subsidiarity principle may be counterproductive when
goods have important economies of scale in their production or distribution. It may
then prove more efficient to search for institutional solutions with a larger jurisdictional
remit, aiming to explore the advantages derived from increasing returns from scale. The
presence of economies of scope, where unit costs fall as more public goods are pro-
vided by the same institution, may also limit the advisability of subsidiarity. These scope
economies arise from shared fixed inputs underlying the transaction. With such
economies it may be worthwhile to supply public goods with diverse spillover ranges
within the sane jurisdiction if cost savings more than offset any losses in efficiency from
not matching benefit recipients with decision-makers. Thus, for example, the strict ap-
plication of the subsidiarity principle might suggest that the institution in charge of ma-
laria prevention include only countries where this disease is endemic. However, as long
as dynamic advantages and economies of scope arise from this health-related research,
it might be advisable for the institutional response to have a wider jurisdictional cover-
age (such as that of the World Health Organization).
Another factor to be considered in the design of the institution is the sectoral
scope of the response. Specialization (a narrow scope) would be a desirable criterion for
a public good with limited relationships and oriented towards a specific demand, such
as the North Atlantic Treaty Organization (NATO). Specialization would be counter-
productive for goods with important externalities related to other kinds of goods, pre-
senting high economies of scope. For them, it might be desirable to appeal to an institu-
tion capable of supplying different goods at the same time (a wide scope), such as the
World Bank.
The combination of efficiency criteria (economies of scale and scope) and juris-
diction level gives rise to a matrix of institutional possibilities (table 1.5). It is hard to
find a response at the international level that integrates economies of scale and econo-
mies of scope to this extreme (wide scope and global jurisdiction), since that would im-
ply a structure similar to that of a world government. In more modest proportions, insti-
tutions such as the World Bank or the United Nations Development Programme
(UNDP) possess many of the dimensions of these two characteristics. More narrowly, it

might be possible to select integrated structures, although they are notably more special-
ized (such as the World Health Organization, the United Nations Conference on
Trade and Development, the International Labour Organization and the United Na-
tions Industrial Development Organization). For public goods with more limited geo-
graphic coverage and high economies of scale and scope, the institutional response
should combine wide specialization and regional jurisdiction (as in the case of regional
development banks). And finally, for public goods with limited geographic coverage and
low externalities, regional jurisdiction and narrow scope can be combined (for example,
the Co-operative Program for Monitoring and Evaluation of the Long-Range Transmis-
sion of Air Pollutants in Europe, or the Amazon Co-operation Treaty).
Table 1.5. Some examples of institutional responses for the provision of international
public goods
Activity Jurisdictional coverage
coverage
Regional Global
Co-operative Program for Monitoring

World Health Organization
and Evaluation of the Long-Range
Narrow United Nations Industrial Development
Transmission of Air Pollutants in
(specialized) Organization
Europe
North Atlantic Treaty Organization
Amazon Co-operation Treaty
World Bank
Wide
Regional Development Banks United Nations Development Pro-
(diversified)
gramme
While this classification gives some notion of the diversity of institutional re-
sponses according to the sectoral scope required for supplying a public good and on the
jurisdictional level, it would be a mistake to have just one institution responsible for the
provision of each international public good. Managing international public goods is
complex enough to involve multiple institutions at different levels. Some may supply
core activities aimed at the production of public goods and others may focus on com-
plementary activities that help to generate conditions for the good’s provision and con-
sumption (see viewpoint 1.1 on aid financing of international public goods); some may
supply final public goods, and others intermediate public goods, needed in order to
supply final public goods. Therefore, clusters of institutions should be considered for
each international public good, institutions with different missions and tasks that to-
gether provide the institutional infrastructure necessary for supplying the good. To
avoid overlap it would be crucial to define the specific task specialization in the cluster
core, assigning coordination and leadership functions to institutions according to the
tasks that the supply of the good requires.

Viewpoint 1.1
Recent developments in aid financing of international public goods
Should aid finance international public goods? Who should provide international public
The current consensus is that aid should go to goods?
financing activities to achieve the Millennium De-
Three arguments make the case for aid financ-
velopment Goals, so any aid to international pub-
ing of international public goods. First, the private
lic goods would need to be justified by addressing
sector will not provide a sufficient amount of public
the Millennium Development Goals. However,
goods, because it will consider private rather than
there are other resources for financing interna-
social benefits. This calls for some public sector
tional public goods (taxes, private resources, non-
engagement. Second, individual countries have
aid public resources and combinations of these),
insufficient incentives to make an optimal contri-
so an argument needs to be made for the role of
bution to international public goods, given that not
aid, not only that the provision of public goods
all benefits accrue nationally. This calls for some
helps countries achieve the Millennium Develop-
form of cooperation among countries. Third, poor
ment Goals.
countries lack the resources to make a full contri-
Providing public goods to achieve the Millen- bution to the provision of international public
nium Development Goals goods. This justifies aid finance of international
The categories or sectors identified in the public public goods in poor countries.
goods literature relate quite well to the types of However, the argument is more complex in
Millennium Development Goals, at least in name. practice. Aid financing does not necessarily imply
Typically, five public goods sectors are consid- actual provision by donor agencies. Provision of
ered—the environment, health, knowledge, secu- international public goods can involve coordina-
rity and governance. Three of these sectors— tion with other actors, such as the private sector.
environment, health and security—are largely And even if a pure public good could be identified,
associated with benefits derived from reducing it is almost impossible to verify exactly how much
risks. The other two—knowledge and govern- current financing contributes to the provision of
ance—are associated primarily with enhancing the good and by how much the good is underpro-
capacity. vided. Certain financing mechanisms (Global En-
There are at least three related ways to think vironmental Facility) try to finance provision up to
about aid financing for the international public the point at which the private sector would stop.
goods needed to achieve the Millennium Devel- But in practice this point is difficult to identify,
opment Goals: more so for the more common impure public

goods, and provision may depend on the strong-
• Providing public goods to address market
est pressures.
and coordination failures that prevent indus-
trial development, growth and the achieve- How much aid financing of international public
ment of the Millennium Development Goals. goods?
• Assessing the aid financing needs to meet The share of aid allocated to international public
the Millennium Development Goals, many of goods has risen since the early 1980s (Raffer
which correspond to some degree with the 1998; World Bank 2001a; te Velde, Morrisey and
provision of international public goods. Hewitt 2002). Te Velde, Morrisey and Hewitt
(2002) estimate the share of aid allocated to inter-
• Analyzing the costs and benefits of over-
national and national public goods since the
coming major challenges in development,
1980s, in total and by individual donors, and show
some of which might be overcome though
that by the late 1990s donors allocated at least
the provision of international public goods.
10% of aid to international public goods and at
least 30% to national public goods. They also
show that using the Organisation for Economic
Co-operation and Development’s Creditor Report-

ing System data may underestimate the share of aid allocation or at least that they have not done
aid allocated to international public goods by so in the past. Because financing of international
some 50%. Te Velde, Morrisey and Hewitt (2002) public goods requires donor coordination, the
also show that the share of aid allocated to financ- analysis suggests that cooperative behaviour
ing public goods doubled in the 1980s and 1990s. cannot be assumed and, indeed, that consider-
Aid allocated to environmental public goods ac- able effort will have to be made to engineer
counted for more than half the total. In the 1990s greater cooperation in donor financing of interna-
in particular, greater shares of aid were allocated tional public goods.
to health, knowledge and conflict prevention. Re-
Provision of international public goods and
cently, there has been discussion on supporting
aid architecture
international public goods related to governance.
Aid architecture is changing and will have to
Furthermore, te Velde, Morrisey and Hewitt
deal with large increases in aid in coming years
(2002) show that in the 1980s and 1990s, aid
and with issues of aid effectiveness, including
spending on public goods increased at the ex-
harmonisation, alignment and ownership. It will
pense of other types of aid spending. Some of
also have to deal with an increasing number of
these other types of spending may be desirable in
new initiatives and institutions providing interna-
their own right (for poverty reduction) or may gen-
tional public goods.
erate externalities and benefits that contribute to
growth and development (capital infrastructure Lead donors have managed to alter the donor
projects that are excluded from the definition of focus to one of systematic support for recipient-
public goods). The implication is that future in- owned plans and schedules for the attainment of
creases in spending on international public goods development outcomes, greater use of national
in developing countries should not come from administrative systems in aid transmission and
further increasing the share of aid allocated to this greater coordination between donors and recipi-
purpose. So, either the value of aid should be ents (Rogerson, Hewitt and Waldenburg 2004).
increased or sources of non-aid funding will be Measurable and monitorable targets have been
required to increase support for international pub- agreed. Once set in motion, the aim is to secure
lic goods. In encouraging donors to increase the these changes in donor behaviour towards a more
amount of aid allocated to public goods, especially balanced international aid delivery system. Much
international public goods, attention should be international reform may still be needed. Many
given to the form of aid (grants or loans) and co- issues of international accountability remain, and
operation between donors. donors still have to loosen the bonds of aid policy
conditionality (Rogerson 2005), but the donor-
Mascarenhas and Sandler (2005) provide an
recipient relationship system does seem to be on
empirical analysis of the use of aid to support the
track for qualifying as an international public good.
provision of public goods, although their focus is
on the balance between grants and loans. They However, the proliferation of special funds (as
argue that grants are the most appropriate form of for HIV/AIDS), unless genuinely additional, may
aid for financing spillovers associated with interna- divert resources from other genuine development
tional or regional public goods and that therefore priorities, hampering the delivery of real interna-
multilateral agencies and regional development tional public goods. There is also the issue of
banks should give a higher proportion of aid in the substitution, with donors sometimes claiming in-
form of grants. ternational public good status in their development
spending for activities that do not qualify.
Mascarenhas and Sandler (2005) considered
the broader question of whether the total amount Policy issues
of aid spent by a donor reflects what other donors There are some interesting policy implications
are doing. In general the results suggest that a for international organizations such as the United
donor’s decisions on how much aid to allocate, Nations Industrial Organization (UNIDO).
overall or to particular regions, are independent of
• What is the rationale for providing the good
the actions of other donors. They suggest that
(that is, what is the market failure, what is
donors are not making cooperative decisions on

the cost-benefit ratio of intervening and what aspects of international public goods. Such
are the best initiatives)? knowledge needs to be built up and main-
For UNIDO, it seems clear that knowledge tained internationally but transferred to
(industrialization strategies) and governance countries in alignment with their priorities.
of international economic relationships af- Knowledge should not be too dispersed
fecting industrial development and environ- among donors or organizations but concen-
ment (effects of industrialization) are key in- trated to reach critical mass and economies
ternational public goods. The rationale for of scale and scope. For instance, UNIDO
UNIDO in providing such goods seems will have an advantage in building knowl-
clear. Few institutions focus on industrializa- edge on industrialization.
tion strategies, and UNIDO can aspire to be • How does provision of an international pub-
the world’s main body of knowledge on in- lic good sit with the Paris declaration aims of
dustrialization. harmonisation, alignment and ownership?
Another opportunity lies in recent aid for To take the aid for trade example, financing
trade initiatives, which can be used to im- trade rules will depend on how aid for trade
plement international trade rules and stan- fits with the strategies of receiving countries.
dards for production processes, contributing Financing trade rules must be coordinated
to international public goods related to gov- with other players, because coordination re-
ernance. The provision of trade-related pub- lates to the debate on aid effectiveness.
lic goods tends to have a favourable cost- Alignment with developing countries’ priorities
benefit ratio. needs to be safeguarded. To support economic
Addressing climate change may require a development, technical assistance activities in a
different approach towards supporting the country should build on international knowledge
development and diffusion of new energy- and be aligned with other activities. This means
and carbon dioxide-saving technologies. linking with national working groups on trade or
UNIDO is already doing similar things under private sector development. Funding for knowl-
the implementation of the Montreal Protocol, edge-related public goods may occur at the na-
so it could extend these efforts to try to un- tional level, though executing agencies could be
derpin the implementation of the Kyoto Pro- international players building knowledge interna-
tocol in a way that is more cost-effective. tionally and helping coordinate. The existence of
• What type of international organization demand for knowledge-related public goods at the
should provide the international public country level and continued interaction between
good? If the good is aid, should it be bilat- global institutions and beneficiaries of knowledge
eral or multilateral donor agencies? transfer both seem key to reducing the gap be-
tween global initiatives on knowledge activities
Knowledge of industrialization or implemen-
and the harmonization, alignment and ownership
tation of international rules and energy-
agenda.
efficient technologies is necessary for eco-
nomic development and is associated with Source: Drawn from a background paper by te
Velde, Hewitt and Morrissey (2006).

SELF-ENFORCEMENT MECHANISMS
The second important aspect in institutional responses is to ensure self-enforcement,

which depends on the type of public good and the aggregation technology considered
(table 1.6). For club goods there seems to be no serious problem in reaching an effi-
cient result by demanding mandatory contribution from participants who want to access
the good’s benefits. The possibility of exclusion and monitoring permits this toll-based
club arrangement. In addition to the contribution assessed to meet the fixed costs of
production, supplemental contributions can be assessed according to each participant’s
use of the good to meet the difference between the marginal costs of the good’s produc-
tion and the aggregated marginal benefits gained by the consumers.
Table 1.6. Some self-enforcement mechanisms for international public goods provision
Aggregation
Pure public goods Impure public goods Club goods
technology
Undersupply Undersupply (overuse)

Cost sharing Cost sharing Efficient supply
Simple summation
Threshold Threshold Tolls
Property rights Property rights

Cost sharing Cost sharing Efficient supply
Weighted sum
Threshold Threshold Tolls
Property rights Property rights

Transfer Transfer Undersupply
Weakest link
(or homogeneous (or homogeneous Tolls and transfer
group) group)
Efficient or undersupply Undersupply (overuse)
Efficient supply
Best shot Leadership and coordi- Leadership and coordi-
Tolls
nation nation
Source: Adapted from Sandler (2004b: 82).
The efficiency associated with a club mechanism can be obtained for most ag-
gregation technologies, with the exception of weakest link. For that, there are potential
externalities that may not be fully addressed by the individual suppliers. In the case of
air traffic control, one country’s less reliable control infrastructure can disrupt the flow
of the entire network when the component system malfunctions. Uniform tolls to air
carriers for using the network are unlikely to adjust for differential reliabilities. More-
over, the suppliers may have little incentive to bring their component system up to the
standard of the rest of the network unless pressured to do so or subsidized by other
club good providers. The Quality of Service Fund of the Universal Postal Union is a
mechanism of this kind; it aims to improve the quality of postal services in developing
countries through the financial support of developed countries.
For impure public goods the market leads to the good’s undersupply (or over-
use). Correcting this situation depends on the type of aggregation technology consid-

ered. With a best-shot technology, some leadership and coordination capabilities may
be necessary to avoid redundant initiatives. If that capability exists, provision may reach
the social optimum.
If the technology is a weakest link type, there will be a less than optimum supply
unless a transferral procedure is established from countries with greater resources to
less privileged ones either directly or through an international institution.
A more complex option is when the good has a summation technology. Opti-
mum supply requires a cost-sharing system among participants or better definition of
participants’ property rights. Both cases depend on some sort of agreement to ensure
those institutional adjustments. Such agreement may be unnecessary if the good’s sup-
ply requires a minimum contribution threshold, in which case some leadership ability
may be enough, or if inaction entails costs, in which case at least one agent may be mo-
tivated to contribute. These same options could also be suitable responses for a
weighted sum technology; however, this case would crucially depend on the weights be-
ing considered.
Generally, efficient provision is a concern for the pure public good case. For
most aggregation technologies, the market is not able to supply a socially optimum
level. An exception is weakest link when all countries have identical tastes and income,
since each country has the desire and ability to match the efficient provision level. Also,
in the case of a discrete best shot public good (where the good is provided or not), the
richest country is apt to efficiently supply the good for everyone. In best shot scenarios
where alternative levels of the good are possible, efficient supply requires leadership
and coordination. And for summation (and weighted sum) technologies, as for impure
public goods, some institutional response or the establishment of property rights will be
necessary to ensure a cost-sharing structure in the good’s production (penalizing those
who do not contribute).
INTERNATIONAL PUBLIC GOODS GOVERNANCE AND GLOBAL CITIZENSHIP
Globalization has increased the sphere of international public goods. This process en-
tails a double challenge: one political and one economic. The political challenge refers
to the fact that globalization is displacing basic principles on which democracy is
founded, such as symmetry and coherence among decision-makers and the people af-
fected by those decisions (Held 1997). Both citizens’ control over their representatives,
through electoral processes, and public and institutional accountability rest on these
principles. These basic principles have been undermined through a set of decisions af-
fecting citizenship that were taken in contexts or by institutions beyond the scrutiny or
control of those who are finally affected by them.
Today, national communities are no longer the only source of decisions that in-
fluence their members’ lives, nor are the effects of government decisions limited to the
strict domain of the citizens themselves (Offe 1985). Some international institutions—
such as the World Bank and the International Monetary Fund (IMF)—make decisions
with limited effective participation from the citizens affected, and national decisions in-
creasingly have impacts beyond their borders. There is a growing mismatch between the
scope of the problems, which is increasingly supranational, and the scope of political
processes, which is still largely national. The greater that mismatch, the greater the diffi-
culties that states will encounter in erecting a predictable environment for their citizens

and the less citizens will be able to control the decision-making processes that affect
them.
Restoring the democratic principles of symmetry and coherence would effec-
tively lead to the configuration of a more democratic and responsible international
framework. It would also lead to a multilateralism committed to the government of the
new interdependencies that globalization entails in a more representative and account-
able way. For that institutional order to be legitimate it should be based on the effective
recognition of a certain concept of global citizenship (Archibuggi 2004). There is no
doubt that the Human Rights Charter constitutes, in moral and judicial terms, an incipi-
ent core from which this concept of global citizenship can be formed (Alonso 2000).
The economic challenge has to do with the effects on allocation caused by
cross-border externalities. When the indirect effects of a decision are not taken into ac-
count by those who make the decision, a social allocation problem is created: the na-
tional benefit (or cost) of a particular activity, which is the element considered by deci-
sion-makers, does not match the aggregated benefit (or cost) on a global (or
intergenerational) level of the activity. Correcting this inefficiency requires strengthening
the international coordination framework, either for taking advantage of the interde-
pendencies (the positive externalities) or for preventing the allocation problem (the
negative externalities). This problem is exacerbated in the case of international public
goods.
Both problems point to the need for a sounder normative and institutional
framework that allows greater means of governing international interdependencies. The
problem, however, is that the international community faces the difficulty, as Kindle-
berger (1986) stated, of finding a way to provide “international public goods without
international government”, a challenge that increases the importance of international
cooperation.
Integration has advanced among countries, but the coordination institutions
necessary to manage the new interdependencies have not yet emerged. This asymmetry
is at the basis of the increased risk and instability of the international system, and it
poses an obstacle to the fullest shared use of the possibilities for progress that interna-
tional integration offers. Correcting that asymmetry requires strengthening the norma-
tive and institutional bases of more democratic and effective collective action on an in-
ternational level.
Several problems lie in the way, however. One is to find a suitable definition of
an incentive framework in order to encourage the involvement of agents and to deter
opportunistic behaviour. Another concerns the efficiency and coherence of the interna-
tional system in charge of the supply of international public goods.
MULTILATERAL FRAMEWORK FOR THE PROVISION OF INTERNATIONAL PUBLIC GOODS
The range of problems facing the world’s governing powers urges the increasing promi-
nence of multilateral responses, such as consultative and international action forums.
The current system is inadequate to the task. As Sutherland (1998a) put it in his Per
Jacobsson Lecture at the annual meetings of the IMF and the World Bank, “globalisa-
tion is imposing new pressures on key international institutions. It is also exposing
weaknesses in the current system of global leadership.”
This judgement seems validated by repeated efforts over the years to renew the
United Nations system, with numerous proposals for reform. Yet, as Smouts (1999: 29)

states: “These occasionally result in marginal adjustments that create an illusion of pro-
gress without fundamentally altering the state of affairs.”
The number of proposals seems to have increased in the last three decades,
shortly after the initial reports of Jackson (1969) and the Gardner Commission (United
Nations 1975). A far from exhaustive list would include the Heritage Foundation pro-
posal (1984), the Bertrand proposal (1985), The Group of 18 report (1986), the UN
Association of the United States study (Fromuth 1988), the Childers and Urquhart re-
port (1994), the ambitious work of the so-called “Nordic Project” (1991, renewed in
1997), the South Centre proposal (1996) and the report derived from the Commission
on Global Governance (1995). To these proposals should be added the reform initia-
tives promoted by the Secretary-General, such as An Agenda for Peace and A Devel-
opment Programme, both proposed by Boutros-Ghali, or those promoted by Kofi An-
nan, Renewing the United Nations: A Programme for Reform proposed in 1997 or A
More Secure World: Our Shared Responsibility in 2004, and the ongoing debate and
donor initiatives on UN reform.
In contemplating this series of initiatives, the real question is not whether change
is necessary, but what magnitude of change and what the implications would be. While
the structures and functions of the United Nations institutions have changed noticeably
over the last few years, the world has changed far more (Zoninsein 1999).
The system of international relations is quite different from the one on which
the current multilateral system is based. Important changes challenge the post-war in-
herited international order. The post-war bipolar world has been replaced by a multipo-
lar configuration of international economic gravitation centres. The world economy has
become regionalized, with the formation of integrated areas of diverse scope and cover-
age. The developing world is increasingly heterogeneous, with countries of very unequal
conditions. Globalization has brought new interdependencies between countries and
new possibilities and new risks beyond national borders. And there has been growing
awareness of human rights and the necessary commitments required for their effective
application. The international system modifies its procedures to adapt to such new
conditions. But limitations remain that must be corrected if the multilateral system is to
efficiently confront the challenges of the new international order.
In the provision of international public goods, Kaul, Grunberg and Stern (1999:
xxvi-xxix) identify three large gaps that need to be corrected. The jurisdictional gap re-
flects differences between the international (or global) dimension of an important part
of public goods-related aspects and the national limits for representatives’ decision-
making capabilities. The participation gap occurs because the mainly intergovernmental
nature of international cooperation involves largely intergovernmental agents whereas
many stakeholders contribute to the supply of international public goods. And the in-
centives gap occurs because moral arguments are not enough for countries to integrate
the external effects they generate into their decisions or to respond cooperatively to
supply international public goods. For this reason, Kaul, Grunberg and Stern (1999,
466-93) proposed redefining international cooperation to close these gaps, creating a
new jurisdictional framework through a dynamic of greater participation (integrating all
the stakeholders involved) and a new incentives framework (facilitating cooperative re-
sponses).

JURISDICTIONAL GAP
Dealing with the jurisdictional gap requires a more appropriate institutional definition
for the management of the new interdependencies that globalization entails. The roles,
missions and coordination among multilateral institutions may all need to be revised.
Doing so exposes one of the main problems of the multilateral system: its lim-
ited internal coherence. The largely disordered process by which the United Nations
institutions were created did not favour an ordered system. There is considerable over-
lap in the activities of institutions, without any clear specialization. For example, the
fields of rights and reproductive health are treated by the United Nations Children’s
Fund (UNICEF), United Nations Development Programme (UNDP), United Nations
Population Fund (UNFPA) and the World Health Organization (WHO). UNICEF,
the UNDP, the International Labour Organization (ILO) and the United Nations Edu-
cational, Scientific and Cultural Organization (UNESCO) are all involved in education
and human resources training. The Food and Agriculture Organization (FAO), ILO,
World Food Programme (WFP), United Nations Industrial Development Organization
(UNIDO), and the World Bank all focus on promoting employment and supporting
small enterprises. The UNDP, World Bank and UNIDO all promote private sector
development. The FAO, United Nations Refugee Agency (UNHCR), United Nations
Relief and Works Agency (UNRWA) and WFP, among others, carry out emergency
and humanitarian aid tasks. Overlapping also occurs among financial and non-financial
institutions, such as the UNDP and the World Bank, in technical assistance tasks. How
can the system be better structured to achieve synergies and avoid overlaps?
While such competition among institutions might be thought to encourage mu-
tually positive stimulation, in most cases this overlap of activities is due to a lack of co-
ordination. This situation not only impedes the institutions’ effectiveness, but also seri-
ously damages their international image.
Establishing order is not a simple matter of assigning the tasks of the supply of
each international public good to just one multilateral institution, however. That would
be both naive, considering the degree of institutional overlap, and clearly inefficient,
because of the diverse nature and different functional level at which international public
goods must be supplied. Promoting an international public good requires both estab-
lishing an incentives framework at an international level (core activities) and implement-
ing policies aimed at strengthening countries’ ability to produce complementary na-
tional public goods and to benefit from international public goods (complementary
activities). Each of these tasks could be the responsibility of a different institution, oper-
ating at a different level, with a different scope. With this interpretation, the problem is
not to find the responsible institution (“anchor institution”, to use the term of the Inter-
national Task Force on Global Public Goods), but to define each institution’s speciali-
zation inside a cluster of institutions within the system of international public goods
supply.
Proposals for an issue-driven and network approach are based on this under-
standing. It is based on clustering various institutions to work jointly on adding value in
providing a public good according to their respective comparative advantages and fields
of excellence (UNIDO 2005; Magariños 2005: 36; Rischard 2002). Coordination func-
tions would be given according to each specific task, taking into account each institu-
tion’s specialization, rather than through one bureaucratic command centre. An exam-

ple of the division of tasks among institutions that could take place for economic inte-
gration is shown in figure 1.1.
Regional institutions can also contribute to the creation of an institutional
framework for the provision of international public goods and help to reduce the juris-
dictional gap (Estevadeordal, Frantz and Nguyen 2004). Many international public
goods have a regional scope, and many tasks involved in the provision of international
public goods could be deployed in that context. Consider, for instance, the positive role
that a regional agreement such as the Amazon Cooperation Treaty could play in the
provision of such global public goods as biodiversity preservation and climate change
prevention or the effects that the New Partnership for Africa’s Development may have
in promoting a more open economic order in Sub-Saharan Africa.
There are also intermediate institutions, between national and global levels, that
are more accessible to national efforts and closer to state control and so may be more
conducive environments for encouraging international cooperative action, like regional
development banks (Sandler 2005; Kanbur 2004; Martínez Nogueira 2004). These in-
termediate institutions have an important role to play but are less developed and have a
limited capacity to provide regional public goods because of the greater focus on fund-
ing the provision of global or national public goods. The publicness of regional public
goods should be taken into account when tailoring financial and institutional support for
the provision of regional public goods (Sandler 2005: 15–17; 32).
The supply of international public goods needs to start at the national level
(Kaul, Grunberg and Stern 1999), with each country accepting its national responsibility
in the provision of international public goods. International institutions acquire author-
ity mainly through the delegation by member states. Thus it is very difficult for an inter-
national institution alone to design agreements and enforcement mechanisms to guaran-
tee the adequate provision of international public goods. When international public
goods involve spillovers that spread globally, international networks and partnerships
from different regions are important to their provision. In these cases the role of multi-
lateral institutions is important in avoiding duplication of efforts and to providing for
adequate financing (Kaul, Grunberg and Stern 1999: 33).
PARTICIPATION AND ACCOUNTABILITY
The formation of networks and partnerships has increased participation in deliberations

and decision-making processes at the international level. Civil society parties have be-
come active agents in the international system, responding to globalization. They have
created platforms for international action, working networks and shared systems of in-
ternational organization separate from national government and with the aim of estab-
lishing foundations of control, advocacy and pressure in the face of transnational pow-
ers. Beyond the possible weaknesses of this process (Edwards 1999), international civil
society organizations are a political response to globalization.
More and more non-governmental agents actively participate in the supply of
and demand for international public goods. For example, in the provision of a legal
framework for human rights, contributions came not only from the United Nations and
the nation states that signed the letter, but also from civil society organizations, such as
Amnesty International, Transparency International and Human Rights Watch, which
promote human rights. In the prevention and treatment of HIV/AIDS the UN and na-
tional specialized bodies are now joined by private groups such as the Rockefeller, Ford

and Bill & Melinda Gates Foundations and non-governmental organizations. Biodiver-
sity preservation is ensured thanks to the efforts of states, multilateral institutions and
large numbers of private players, such as Greenpeace and the Worldwatch Institute.
Thus, it is no longer possible to understand the international regime of international
public goods supply without considering all the stakeholders involved.
Figure 1.1. Institutional cluster in economic integration
World Trade Organiza-

tion/International Monetary
Fund/Environmental treaties
United Nations
Development G
World Bank Core activities Programme
L
O
Domain of the global
Regime on trade and capi- B
tal relations United Nations
A
United Nations Indus- Conference on L
trial Development Trade and Devel-
Organization/World opment
Trade Organization Domain of the
networks
R
Regional
E
institutions of G
Regional
development banks Domain of the local
integration I
National regime O
N
Complementary activities A
L
N
A
T
I
National O
government N
A
L
Source: Adapted from Sagasti and Bezanson (2001)
Another concern is the democratic limitations of some of the management

structures of multilateral institutions and the implications for accountability. The sever-
est criticisms are directed at financial institutions (such as the IMF and the World
Bank), whose decision-making processes are determined largely by the quotas that
countries contribute to the institution’s social capital. The weight assigned to countries
may be far from their actual influence in the current international economy. For exam-

ple, China, the second largest economy in the world in purchasing-power terms, has a
membership quota in the IMF similar to that of Belgium (Buira 2003).
Additionally, this decision-making structure ensures that industrial countries
have the majority of the votes on the governing bodies: 24 industrial countries enjoy a
61.4% voting share, while developing countries (and non-oil producers) have scarcely
29% of the vote. And this structure is replicated in the IMF’s government system: the
same 24 industrial countries, none of them beneficiaries of IMF-supported pro-
grammes, have 10–11 executive directors, while 42 African countries, for which IMF
decisions are crucial, have just 2 executive directors. Obviously, many countries feel that
they are not well represented in the decision-making processes.
Even in institutions such as the World Trade Organization, where all countries
have equal voting capability, there are complaints about the degree of democracy and
transparency in decision-making and about the representativeness of governing bodies
(see viewpoint 1.2 on global public goods and global governance). Developed countries
reach agreements among themselves that they later try to impose on the other member
states using their greater economic weight.
It is difficult for international institutions to promote effective processes of nego-
tiation and agreement based on voluntary cooperation formulas between countries if
they are not capable of appropriately integrating and representing all countries involved.
This requires intense efforts at transparency, accountability and legitimacy.
FINANCING MECHANISMS FOR THE PROVISION OF INTERNATIONAL PUBLIC GOODS
There are four basic mechanisms for supporting public goods supply: correcting the
effect of externalities by creating a quasi-market or applying taxes or fees; turning to
voluntary private resources from individuals, businesses or foundations; claiming public
resources from national contributions or international funds and combining any of
these three mechanisms (table 1.7). The relevance of each mechanism depends on in-
centives and government structures that are internationally established for the provision
of these goods (Sagasti and Bezanson 2001).
Table 1.7. Financing mechanisms for global public goods
Financing means Mechanism
Market creation or strengthening

Internalizing externalities
Taxes, fees and levies
Corporations (for profit)

Drawing on private sources Corporations (not for profit)
Individuals
National sources
Relying on public sources
International sources
Forming partnerships Combination of various different sources
Source: Sagasti and Bezanson 2001.

Viewpoint 1.2
Global public goods and global governance
Why does sound economic theory with impor- cal questions about the appropriate manner in
tant policy implications such as that advanced in which policy is made, decisions are taken and
international discussions on global public goods implemented and resources are distributed. This
so often prove difficult to implement in practice? is an issue for the theorist as much as the practi-
Frequently, such economic theory demonstrates tioner. Indeed, a problem with the much of the
little or no appreciation of the political constraints contemporary analysis of the demand for govern-
likely to work against policy implementation. While ance, beyond the confines of the state, is that it is
economic assumptions about what constitutes often posed as a technical and managerial prob-
good governance in the twenty-first century are lem. This approach removes any notion of politics
becoming increasingly sophisticated technically, or ethics from problem solving.
especially for the provision of public goods, they But actors in this process are not ethically neu-
often remain oblivious to the nature of the politics tral and dispassionate. They are players with po-
that can derail them, no matter how theoretically litical agendas. This is so whether the relevant
sound and policy relevant. international institutions are included (United Na-
In short: economics, even the emerging subdis- tions and alliances in the security domain, the
cipline of political economy, is not comfortable International Monetary Fund in the international
with politics. Political economy, as what might be financial arena; the World Trade Organization and
called a theory of choice under constraint using regional and bilateral institutional arrangements in
game theoretic models, may offer important in- the trade arena; the World Bank in the context of
sights into issues such as scarcity and the role of development) or those ever more visible non-state
institutions in the policy process. It is less com- actors (such as multinational corporations and
fortable with questions of ideological contest, non-governmental organizations) and various
power, political struggle, representation, legiti- advocacy coalitions and global public policy net-
macy and accountability, all of which can make or works such as the Davos Forum or the emerging
break the implementation and acceptance of a counter-voices at the Global and European Social
given policy. Forums or what is generically thought of as the
That discomfort sets the stage for discussing alternative globalization movement.
global governance, an overused and underspeci- The financial crises of the late 1990s generated
fied concept. The demand for research on global precisely the sorts of distrust and animosity that
governance has followed the recognition that sov- detract from the possibilities for mutually benefi-
ereignty is more a relational and relative question cial cooperation at the international level. The
of responsibility. The result is a dramatic change rhetoric in industrialized countries about burden
in the role of international law. sharing—the implication being that developing
countries did not share the burdens of global pub-
More than a technical and managerial problem
lic goods—was more than countered by percep-
The demand for global and regional governance tions in developing countries that the burdens of
has become increasingly complex. And the role of moral hazard, social dislocation and the impact of
multilevel governance structures in key policy unfettered competition had been unloaded on
areas has grown dramatically. precisely the economies and societies that were
Yet in some key areas of the global cooperative least equipped to deal with them. In an era of
agenda, in both the economic and the security deregulated capital movement and the processes
domain, collective governance capacity appears of financial change that brought hedge funds,
to be deteriorating and resistance to its enhance- pegged exchange rates and precipitous currency
ment to be growing. For an increasing number of collapses, the notion of global burden sharing
actors global governance questions resist the adopted by the developed world was thought by
technocratic fix and pose major political and ethi-

many in the developing world to be putting the stitutions increasingly important as instru-
cart before the horse. ments for reducing transaction costs, coor-
dinating policy and ensuring compliance to
Broadening the discourse
mitigate risk in an open and deregulated
Knowledge of global public goods is embedded global economy.
in socio-political and methodological-philosophical
• Global governance 2–open and fair negotia-
contexts that can impede or derail the translation
tion processes, which is the emergence of
of good economic theory into successful policy
systems of representation and accountability
practice. What is required is a broadening of the
for enhanced legitimization and democrati-
discourse to acknowledge the importance of jus-
zation of policy-making in global, as op-
tice and fairness in the successful development of
posed to national, contexts. As the role of
global public goods and the need for the literature
the nation state as a vehicle for democratic
to engage more strongly with the insights from
engagement becomes more problematic,
theorizing in positive political philosophy that ad-
the clamour for democratic engagement at
vance concrete ideas of justice and fairness ar-
the global level has become stronger.
guments within this important sector of the global
development debate. This twofold definition is central to understand-
ing the prospects for developing a working system
If the economic theory and practice of global
of global governance for the efficient and effective
public goods is not embedded within this wider
provision of public goods in the twenty-first cen-
normative context, especially the intermediate
tury. This question concerns the degree to which
institutional global public goods meant to facilitate
private or non-state actors are meaningfully in-
the liberalization of trade, then discussion of the
volved. Without meaningful involvement by the
relationship between trade and development as
private sector, global governance as a transpar-
more than simply a rationalist enterprise will con-
ent, accountable and representative process of
tinue to take place in parallel universes. Theoriz-
decision-making will always lack legitimacy and,
ing must be embedded in a wider context that also
as a consequence, long-term sustainability.
appreciates the salience of linking human actions
and social relations with values and meanings In sum, current understandings of governance
(such as altruism) and social and political power exhibited in the work on public goods have little or
relations. no awareness of politics as ethics and politics as
struggle for accountability, representation and
Broadening the conception of governance
legitimacy.
Much, although not all, global public goods the-
Scaling up the public domain to the global
ory has a limited conception of governance.
level
Global governance is no administrative science to
accompany economic science. It is a contested We now understand, at least better than we did
political process that can be seen in a number of before the financial crises of the late twentieth
ways. Global governance (economic governance) century, that separating markets from politics and
encompasses the arrangements—across a spec- institutions—or of the private from the public—is
trum from weak to strong in influence—that vari- unsustainable. The spotlight in policy and aca-
ous actors attempt to put in place to advance, demic debates has thus fallen on the role of public
manage, retard, control, regulate or mitigate eco- authorities in minimizing a raft of public bads as-
nomic globalization. It has two types: sociated with market failure, social exclusion and
financial volatility, and on the public domain as an
• Global governance 1–efficient negotiation
arena in which market and non-market social rela-
processes, which is the enhancement of ef-
tionships can be effectively mediated. As yet,
fectiveness and efficiency in the delivery of
however, we have no way of scaling up the public
global public goods through collective prob-
domain to the global level. The overdeveloped
lem solving and underwritten by a techno-
global economy is unfortunately matched by an
cratic managerial elite, with international in-
underdeveloped global polity.

The development of a better understanding of This has several implications. First, the nature of
global governance 2 is central to the global gov- what constitutes global public goods will continue
ernance agenda, especially the ability to deliver to be strongly contested. Second, to be blunt, both
global public goods. Much of the literature has so the ability and political will of the United States to
far represented an extension of the domestic offer self-binding hegemonic leadership, under-
analogy to the global context, extending the model writing multilateralism as a principal institutional
of democratic accountability to the global context. form of global governance, will continue to be
However, all but the most minimal of democratic problematic. Third, without reform, resistance
constraints present within a domestic polity are among global rule takers to hegemonic order will
absent at the global level. There is no serious grow.
institutionalized system of checks and balances at The next step in the enhancement of global
the global level. And the institutional constraints governance 2 needs to be modest. It will certainly
that do exist have little purchase on the behaviour not appeal to radical transformationalists. It will
of major powers, should they choose to ignore not deliver an ideal type of global democracy (with
them. Nor is there a meaningful global public universalist participation) predicated on the global-
sphere in either a legal or a sociological sense. izing of the domestic analogy. But it does recog-
Thus for global governance 2 to be meaning- nize the ability to enhance, and in some instances
ful—acceptable to a large group of principal actors to consolidate, existing patterns of legitimacy and
in global politics—and at the same time remain accountability. Legitimacy must be embedded in
supportive of global governance 1 there has to be shared norms (usually of elites, but wherever pos-
an understanding of the fundamental differences sible of national publics, of the major state actors)
between unrealizable concepts of cosmopolitan and be underwritten by judicial instruments (such
global democratic governance and systems of as the International Criminal Court and increas-
accountability that can have real political purchase ingly the dispute-settlement mechanism of the
in global public policy. Claims to legitimacy, or World Trade Organization). It should also be en-
rather the absence of it in global public policy, are shrined in negotiation practices that are not only
frequently a euphemism for the rejection by efficient (global governance 1) but also open and
weaker actors of the asymmetrical structure of inclusive (global governance 2). This is not ab-
power in the contemporary global order. This is an stract political theorizing. Successful, albeit
unfortunate political reality. Exercises to enhance gradually enhanced, such activities will eventually
the accountability of global governmental actors cast massive and beneficial policy shadows.
that do not take seriously notions of procedural Source: Drawn from a background paper by
fairness will do nothing to fundamentally alter the Higgott (2005).
structural nature of global power.

INTERNALIZING EXTERNALITIES
Since the private benefits of public goods are lower than the social benefits, markets
lead to underproduction compared with the socially desirable level. This difficulty can
be overcome by defining property rights more precisely, to strengthen the market
mechanism, or by levying a tax or fee, to internalize social costs. Both methods internal-
ize externalities by making marginal social benefits coincide with marginal social costs.
Informational difficulties have to be overcome, however, since those who bear the ex-
ternal costs tend to exaggerate the harm while those who gain the external benefits tend
to underplay them.
Markets for public goods do not arise spontaneously—the conditions for appro-
priating the good are absent, and agents fail to express preferences that would lead to
the setting of prices. For a market to exist, those factors need to be created through in-
stitutional change. Property rights have to be defined (through setting quotas, for exam-
ple), an information system has to be created and a transparent regulatory framework
has to be established to ensure exchange operations. With an association established
between preferences and costs, agents can exchange the good’s access rights for pay-
ment. However, there are costs involved in creating a market, associated with establish-
ing the legal framework and the enforcement mechanisms, and these costs are often
borne by public institutions (Sagasti and Bezanson 2001: 41).
Under the Kyoto Protocol, for example, this part of the market is being created
to control greenhouse gas emissions. Once the maximum quantity of emissions consid-
ered internationally acceptable is set, that total will be allocated to countries through
quotas. Later, countries could exchange quotas with each other, so that the most envi-
ronmentally efficient countries could sell a part of their emissions rights to countries
that need to exceed their emissions quotas. Internationally established emissions limits
can be met, while countries that make an extra effort to reduce emissions will be re-
warded by countries that are unable or unwilling to reduce their emissions to the agreed
level. Such mechanisms could be used to manage scarce basic resources (common
goods) such as water or fishing, where it is necessary to fix a maximum consumption
level in order to share the good among different agents.
The main drawback is the difficulty of achieving agreement on overall limits and
quotas among participants. Reaching agreement is easier at the national level, where the
state’s legal authority can be brought to bear.
Another way to internalize externalities is to establish a tax, fee or contribution
related to the consumption of the public good. A common procedure for national pub-
lic goods, it too presents greater difficulties at the international level since there is no
equivalent fiscal authority. This procedure seems especially suitable for club goods,
such as irrigation systems, access to communication networks or the use of certain
shared resources (satellites, for example), or for common goods, with their discrepancy
between the immediate interest of each agent (to pursue the highest exploitation) and
the collective or intergenerational interest (to maintain the resource’s sustainability).
Payment of a tax or fee is expected to bring private behaviour closer to the conduct
demanded by collective interests, avoiding congestion, instability or overexploitation of
the resource.
Proposals to use taxes to manage specific international problems have a long
history in development thinking. The Brandt Commission (1980) suggested drawing aid

resources from an international tax on a socially non-beneficial activity such as trade in
weapons, luxury goods, international common goods or oil. The 1987 Brundtland
Commission report on sustainable development made a similar recommendation.
Although none of these proposals has been implemented, the suggestion has
emerged again in Nobel Prize winner James Tobin’s proposal to apply a tax on interna-
tional financial transactions in part to correct the high volatility of international capital
flows. While the proposal has become part of several social movements for alternative
globalization, there has been no consensus on its viability or technical feasibility.
DRAWING ON PRIVATE RESOURCES
International public goods can also be supplied through voluntary contributions from
individuals, independent foundations, non-profit institutions, businesses and
individuals.
The Rockefeller and Ford Foundations have promoted research and technolo-
gies related to the green revolution that were later taken up by international institutions
and the governments of developing countries. The Rockefeller Foundation has also
supported vaccine development for “forgotten diseases” through the Great Neglected
Diseases of Mankind Programme and more recently, along with the Ford Foundation,
has supported AIDS research. The MacArthur Foundation supports biodiversity pro-
grammes, while the Bill & Melinda Gates Foundation promotes childhood health pro-
grammes and AIDS research.
Non-profit institutions also make a substantial contribution to international pub-
lic goods. Non-governmental networks, such as Oxfam, CARE, Save the Children,
Greenpeace, Human Rights Watch and Amnesty International contribute to interna-
tional public goods supply partly through direct interventions and through their pres-
sure on governments to make a more effective commitment to social needs. Even with
limited resources NGOs contribute by mobilizing public opinion, demanding that gov-
ernments become more aware of international public goods management, and by
agenda setting. Academic and research institutions also contribute to the supply of some
international public goods, especially in research, the spread of information and statisti-
cal data and the consolidation of cognitive communities.
Businesses have also contributed to the supply of international public goods by
sponsoring funds and programmes related to public goods or by making decisions and
assuming costs. Examples are Astra-Zeneca’s efforts in developing a drug to cure tuber-
culosis and Novartis’s work developing products against Dengue fever. Shell and British
Petroleum have adopted agreements to reduce greenhouse gas emissions. That these
actions are motivated by profits or the desire to improve corporate image does not de-
ter from the beneficial results they have for the international community.
Individual contributions also play a part, whether channelled through NGOs or
the United Nations system or contributed directly to specific causes. Examples are Ted
Turner’s donation to the United Nations, Live Aid concerts to collect funds for AIDS
in Africa and Elton John’s donation of royalties on his CD tribute to Princess Diana to
finance the campaign against anti-personnel mines.
These are donations arising from personal initiative. There are also proposals to
institutionalize the collection of private contributions for certain international public
goods. An initiative with the longest tradition may be the creation of a United Nations
lottery, initially proposed in the UN General Assembly in 1970 and recently revived by

different NGOs, to create the People’s Earth Fund for environmental programmes.
The financial possibilities of this kind of system are broad.
RELYING ON PUBLIC RESOURCES
A third option for the provision of international public goods is to turn to public funds,
either through direct contributions by developed countries or through the budgets of
international organizations.
Development assistance. Development aid is the dominant source of international pub-
lic resources from developed countries. Developed country contributions include bilat-
eral programmes and contributions to international institutions, including those with a
clear mission to tackle common problems on a global scale.
While a great part of official development assistance is already used to finance
activities related to the supply of international public goods, international aid and global
public goods supply are not identical. Kaul and Le Goulven (2003) identify several dif-
ferences between the two. A key difference is that aid refers to international equity
problems and its purpose is to eradicate poverty; therefore, its actions are directed at
distribution. By contrast, public goods supply refers to the correction of market failure,
seeking to arrive at better efficiency levels by focusing on economic allocation. Aid
works mainly through unilateral transfers of resources (from donor to recipient coun-
tries). Public goods management appeals to a wider variety of political means (including
changes in legal frameworks to promote cooperative action) and is directed mainly at
goods rather than countries. And while aid is directed to developing countries, all coun-
tries potentially benefit from public goods supply.
New objectives are emerging for international cooperation related to common
problems, but the traditional goals of aid—poverty eradication and meeting basic
needs—still have not been achieved. For that reason, even with closely related policies
for aid and public goods supply, it might be wise to maintain a certain autonomy of
policies and equally diverse sources of finance (see viewpoint 1.1 on aid finance of in-
ternational public goods).
Other international activity by government agencies. Developed countries also contrib-
ute to the provision of public goods through other kinds of activities that are not strictly
valued as official development assistance, such as those generated by the international
activity of various government departments. Examples are the financing of international
cooperation in environmental management, international security, financial coordina-
tion, transport regulation, postal traffic and management matters. The scope given to
activity that is part of international cooperation in fields of shared interest is quite wide.
Developing country financing. In developing countries, most resources for the provi-
sion of public goods come from the national budget, through allocations to core activi-
ties of a good’s supply or to complementary activities to generate conditions for the
good’s provision and consumption (see viewpoint 1.3 on Sub-Saharan Africa). Public
resources are extremely limited in developing countries, and financing for global public
goods faces competition from demands for improving national public goods’ provi-
sion—security, health, education and infrastructure. India has made progress in the de-
velopment of a vaccine against hepatitis B, Viet Nam in the vaccine against meningitis B
and Brazil and India in the production of generic drugs for AIDS treatment. There is
no shortage of such innovative efforts as the Millennium Network for Tuberculoses
R&D organized by the Brazilian government or the Coalition for R&D in TB Endemic

Countries, included in the Global Alliance for Tuberculoses Drug Development
(www.tballiance.org).
Multilateral institutions. Finally, funds for managing shared global problems may also
come from multilateral public institutions including the IMF, World Bank, regional
development banks and special funds such as the International Fund for Agricultural
Development. Some of these institutions’ initial objectives—financial stability, interna-
tional legal activity or research promotion—may be considered global public goods.
Some of their investment programmes relate to sectors (health, education, environ-
ment, communications) that have some of the characteristics of a global or regional
public good.
Non-financial multilateral institutions, many of them within the United Nations
system, are also engaged in funding international public goods, such as peacekeeping
and security tasks, humanitarian crisis help and human rights protection. That said, the
United Nations’ difficulties in increasing its financial capacity greatly limit its role as a
supplier of international public goods.
The financial difficulties of this system prompt a search for alternative mecha-
nisms for providing international public goods. A pragmatic approach is to create multi-
lateral specific funds. The Global Environment Facility (GEF) finances international
efforts in preventing biodiversity loss, climate change, the degradation of international
waters and the depletion of the ozone layer. The GEF was established as a financing
mechanism under the Convention on Biological Diversity and the United Nations
Framework Convention on Climate Change and has management participation from
the World Bank, UNDP and United Nations Environment Programme. Despite the
importance of the tasks assigned to it, the GEF’s financial capacity is limited. In 2002,
32 donors countries pledged US$3 billion to fund operations between 2002 and 2006
(www.GEFWEB.org).
FORMING PARTNERSHIPS
These mechanisms are not mutually exclusive. They can be combined to enable diverse
agents to work together. This occurs in programmes to develop drugs and vaccines for
specific diseases, such as the International AIDS Vaccine Initiative, the International
Microbicides Partnership in developing vaccines against Dengue fever, the Pediatric
Dengue Vaccine Initiative, the Global Alliance for TB Drug Development, the Medi-
cines for Malaria Venture and the Onchocerciasis Control Partnership.
The Global Fund to Fight AIDS, Tuberculosis and Malaria, created in 2002, includes
international institutions (the World Bank, UNDP and WHO) and bilateral donors,
and private contributions are possible as well. The fund was created as a financial in-
strument to collect, manage and finance actions to fight the three diseases worldwide.

Viewpoint 1.3
Sub-Saharan Africa—weakest link or de-linked from the global economy?
The many weaknesses of African economies production of international public goods, but there
and political systems shape Africa’s access to is still a wide shortfall in the provision of such
international public goods and the capacity to transfers. One reason may be that the harm po-
participate in the provision of such goods, in sev- tentially inflicted on the world system by the
eral ways. weakest link nature of Sub-Saharan Africa is
somewhat mitigated by its de-linking from the rest
Implications of Sub-Saharan Africa’s delinking of the world.
from the global economy This de-linking implies that Sub-Saharan Africa
has little responsibility for the global crises asso-
First, an international public good may be avail-
ciated with the underprovision of international
able in the world economy without being available
public goods. This is true for best shot public
everywhere. This may be because complemen-
goods and for public goods whose aggregation
tary activities are needed to consume the public
technology is linear, in that the contribution of
good in addition to the core activities required to
each actor depends on its economic size. Interna-
produce it (World Bank 2001b). A classic example
tional public goods such as macroeconomic and
is scientific and technical knowledge (see chapter
financial stability and the protection of global envi-
5). Even though in most cases the complementary
ronmental resources are of this sort. Since their
activities are private rather than public goods, an
production does not depend much on African
optimal scheme of provision of international public
countries’ contributions, there is a risk that the
goods must provide for the measures necessary
specific needs of Sub-Saharan Africa will be ig-
for the international public good to be consumed
nored in the global deals struck to produce such
globally as well as produced.
international public goods.
This issue is particularly relevant for Sub-
Thus Africa faces problems based on an ab-
Saharan Africa, where countries often lack the
sence of complementary activities, public goods
capacity to take advantage of international public
with weakest link aggregation technologies and
goods. An example is the international trade re-
the near exclusion of its needs from discussions
gime (see chapter 3). Even if the World Trade
of international public goods production. Lack of
Organization (WTO) were able to fully enforce
complementary activities affects three areas in
free trade rules, poor countries in Sub-Saharan
particular: the international trade regime, global
Africa and elsewhere would not necessarily be
financial stability and knowledge diffusion and
able to increase their participation in the world
adaptation. The weakest link public goods aggre-
trading system. Lack of capacity to consume in-
gation technology is particularly relevant to health
ternational public goods is a major contributor to
and peace and security, areas in which Africa has
the “de-linking” of Africa from the rest of the
been dramatically absent from progresses
world—and from its inability to participate fully in
achieved or attempted worldwide. The near exclu-
globalization (Collier 1995).
sion of African needs in international public goods
Second, for many international public goods discussions concerns principally the conservation
Sub-Saharan Africa is the weakest link in the of global environmental resources.
world economic system. In case of weakest link
Much of the recent international debate on the
aggregation technologies, improving the capacity
Millennium Development Goals has focused on
of African countries to participate effectively in the
the objective of worldwide poverty eradication as
production of such international public goods is
an international public good. While there have
critical. Examples are global health and control of
been some opposing arguments, there are at
communicable diseases.
least two reasons to consider poverty eradication
Economic theory calls for in-kind transfers to the as an international public good: first, growing
weakest agents, to help them contribute to the numbers of people around the world view the

extreme poverty in which so large a part of hu- provision of international public goods must be
manity lives as unacceptable on ethical grounds, complemented by investments in local capacities
and second, this extreme poverty, which is more in the public health sector, with assistance from
and more geographically concentrated, may in the the international community. Health is the area in
long run become a risk factor for rich countries as which the weakest link aggregation technologies
well. have the greatest application in Sub-Saharan
Despite many years of preferential market ac- Africa.
cess for Sub-Saharan African economies, few Although the weakest link aggregation technol-
countries have been able to benefit. Certainly, ogy appears to apply as well to peace and secu-
there is a need for fairer trade rules, especially in rity, its relevance there is less straightforward.
agriculture, but the international trading system African security crises have so far been limited to
alone cannot be blamed for Africa’s trade failures. the continent. This does not mean that security
There is now ample recognition that African coun- crises in Sub-Saharan Africa are not serious. Con-
tries need to invest in trade capacity building if flicts in the region are responsible for half of all
they want to participate fully in international trade. global battle deaths, and these conflicts have set
Both African governments and donors have re- back development efforts in many countries. Re-
sponsibilities in this area. solving conflicts is largely the responsibility of
In the financial arena, the de-linking of Sub- Africans, but the international community can
Saharan Africa has tended to protect it from the assist, through rules and regulations that contrib-
turbulences of global financial markets. But Africa ute to improved governance and, in some cases,
has not been immune to external shocks. The through military intervention.
extreme volatility of terms of trade has inflicted Finally, the de-linking of Sub-Saharan Africa
heavy damage on African economies, and the from the world economy means that it has virtually
international community could do more to cushion no negotiating power in preventing global envi-
these shocks. Avoiding procyclical aid flows would ronmental damages that create special harm to
be a small, painless step in the right direction for the region, such as climate change and depletion
donors. of natural resources. Such damages are costly for
In the area of knowledge, the de-linking of Sub- the world system as a whole, but are particularly
Saharan Africa is harmful. The core issue here is harmful for Sub-Saharan Africa.
not the Trade-Related Aspects of Intellectual

Property Rights rules and the obstacles that they Implications for poverty reduction and capac-
create against transfers of technology. The main ity building in Africa
problem is the incapacity to take advantage of
Several proposals have been made in recent
existing knowledge because of a weak local
years to reduce poverty in Sub-Saharan Africa.
knowledge base and infrastructure. Inadequate
This renewal of interest by the international com-
education policies implemented by many African
munity in the future of Sub-Saharan Africa reflects
governments are a major contributer. The problem
the view that eradication of poverty worldwide is
is compounded by the flight of skilled labour from
an international public good.
the continent. The international community is now
working to improve the scientific and knowledge Poverty alleviation is not merely a matter of
base for African development in some domains, doubling official development assistance, how-
particularly in agricultural research, but corre- ever. It also requires dealing with several other
sponding efforts are needed on the African side to international public goods–related issues, such as
make use of such research investments. vulnerability to shocks, food insecurity, illnesses,
conflicts and environmental damages. Therefore,
Concerning health, international efforts to de-
considerations of the more traditional international
velop vaccines and find cures for diseases that
public goods are also considerations of the over-
are concentrated in Sub-Saharan Africa, such as
arching objective of poverty reduction. The in-
HIV/AIDS and malaria, have been insufficient,
come dimension of poverty certainly plays an
though work is intensifying. Again, international
important role—and improving the ability of Sub-

Saharan Africa to participate in the world trading is limited, but certainly several African countries
system would help to reduce poverty. But two could efficiently use additional aid resources. This
difficult questions remain: is more financial assis- is principally a matter of capacity building, notably
tance feasible, and is it desirable? related to development knowledge. The issue of
Feasibility is related to debates on the objec- incentives is more complex. At the microeconomic
tives of official development assistance. On bilat- level, aid may trigger rent-seeking behaviour.
eral aid, the empirical evidence suggests that the Progresses cannot be achieved without improve-
self-interest of donors is a major motive for their ments in governance. At the more macroeco-
assistance. In particular, aid allocation is strongly nomic level, free-riding by recipient countries
influenced by trade linkages with aid recipients, so could happen if poverty alleviation were consid-
that there is a significant negative aid bias against ered purely as an international public good. This
Sub-Saharan Africa. A clear debate on the inter- can be avoided only if it is clear ex ante that do-
national aid architecture would be necessary if nors and recipients have the same objectives. The
more aid is to be allocated on the basis of the Millennium Development Goals are an answer to
global objective of poverty eradication rather than this issue, but it remains to be seen whether all
the particular objectives of donor countries. governments adhere to these objectives. Again,
this is principally a matter of good governance.
The desirability of more assistance to Africa de-
pends on the absorptive capacity of Sub-Saharan Source: Drawn from a background paper by Ber-
Africa and whether foreign assistance creates thélemy (2005).
negative incentives. Absorptive capacity in African

THE SEARCH FOR NEW SOURCES OF FINANCING: THE UNITED NATIONS UNIVERSITY–
WORLD INSTITUTE FOR DEVELOPMENT ECONOMICS RESEARCH COMMISSION
Use of public budgets to fund the supply of international public goods, while seemingly
the simplest option, is clearly limited. The difficulties of increasing official development
assistance, despite repeated international commitments to do so, clearly illustrate this
point. That is what motivates the search for new sources of funding for the provision of
international public goods. At the request of the Department of Economic and Social
Affairs of the United Nations Secretariat, the United Nations University–World Insti-
tute for Development Economics Research convened an international commission to
study new sources of development finance (Atkinson 2005). The commission did not
examine all possible financing sources and excluded several proposals for global taxes.
But several well known proposals were explored, including global environmental taxes,
the Tobin tax, special drawing rights for development, the International Finance Facil-
ity, private donations, global lottery and global premium bond and remittances by emi-
grants. The study highlighted four conclusions:
• Not one proposal for global funding is free of criticism. Some new sources of fund-
ing could crowd out existing mechanisms, and so their introduction should be stud-
ied carefully.
• Only two of the mechanisms considered (carbon tax and Tobin tax) would provide
sufficient resources to be considered relevant for funding international public
goods, although other global funding proposals could make substantial contribu-
tions, such as the International Finance Facility, which would use securitization to
secure funding for development, or the establishment of a global lottery or a global
premium bond to encourage private contributions.
• The partial and imperfect nature of all of the mechanisms suggests the need to
maximize the advantages of their implementation. This becomes easier the fewer
the number of actors required for their implementation (which works against global
taxation proposals).
• The advantages of a proposal increases when it promotes an allocation correction
and penalizes the production of a public bad in addition to raising funds—a “double
dividend”.
But even though some of the proposals establish a double dividend, none is free
of costs. This means that besides their fundraising capacity, their economic implica-
tions—and the distortions they generate—must also be considered.

CHAPTER 2
FINANCIAL STABILITY
AS AN INTERNATIONAL PUBLIC GOOD
FOR DEVELOPMENT
T
he financial storms that hit international markets during the 1990s made it clear
that regulatory and institutional frameworks were inadequate to promote finan-
cial stability or to respond to crises and their effects at an international level. A
well-known study (Dobson and Hufbauer 2001) estimates that since 1975 financial in-
stability has reduced the incomes of developing countries by roughly 25%. Financial
instability cost Latin America alone some 2.2 percentage points of growth a year in the
1980s and 0.7 percentage points in the 1990s.
Financial markets are becoming increasingly integrated internationally, with the
liberalization of capital flows, rapid financial innovation (futures, forwards, options and
swaps), the development of telecommunications technology and its capacity to complete
orders and transactions in real time and the growth of strong institutional investors with
highly leveraged hedge operations.
But the international financial arena has only a limited normative framework for
preventive regulation, supervision and intervention. There are no mechanisms to en-
sure control of externalities derived from national decisions. This regulatory asymmetry
facilitated the development of international transactions, but it also increased the risk of
instability and negative effects connected with growing market interdependence.
While the institutional framework for international financial cooperation was
formed some 50 years ago, the participants and interactions that are the target of regula-
tions have changed considerably in recent decades. Several emerging economies are
active on the international scene, including some potential economic giants with the ca-
pacity to affect international financial markets. The range of matters requiring interna-
tional cooperation has widened: balance of payment adjustments, financial regulation
and supervision, debt management and financial crisis resolution—new matters requir-
ing new institutional and normative responses.
But as the global economy has moved further away from the harsh effects of the
last financial crisis, ambitious proposals for a new international financial architecture are
losing their appeal, and discussion now focuses on the technical requirements for im-
proving information and the levels of preventive regulation and supervision of national
markets. These issues are also important, of course, and can lead to improvements in
market efficiency at a microeconomic level. But it is doubtful whether these methods
alone can reduce systematic risks, such as economic volatility or contagiousness.

FINANCIAL INSTABILITY HAS HIGH GROWTH AND DISTRIBUTION COSTS
The current configuration of the financial system is doubly costly for developing
economies. First, it increases the risk and vulnerability of economies integrating in in-
ternational capital markets through the high volatility of capital flows and recurrent fi-
nancial crises. And second, the market configuration restricts developing countries’
possibilities of accessing public and private financing. Financial markets thus present a
double stability and efficiency problem that severely affects developing country growth
prospects.
A growing body of literature documents the costs of instability and financial cri-
ses (IMF 1998; Asís, Camarazza and Salgado 2000; Dobson and Hufbauer 2001; Ca-
prio and Klingebiel 2002) to economic growth (Obstfeld 1998; Reisen and Soto 2000;
Fernández-Arias and Hausmann 2000; World Bank 2001a). Griffith-Jones and
Gottschalk (2004) estimate the costs of the financial crises of 1995–2002, deliberately
restricting their study to financial crises (excluding bank crises) and countries directly
involved (Argentina, Brazil, Indonesia, Republic of Korea, Malaysia, Mexico, Thailand
and Turkey). Comparing the evolution of potential and real GDP over at least six years,
they estimate the cost of the crises at $1.2 trillion ($150 billion a year) (table 2.1).
Table 2.1. Comparative output loss for each country in a financial crisis, 1997–2002
Output loss
Country Period Billions of 1989 US$ Billions of 2002 US$
Argentina 2002 25.6 37.1

Brazil 1999–2002 96.7 140.1
Indonesia 1997–2002 238.6 345.9
Korea, Rep. 1997–2002 122.9 178.1
Malaysia 1997–2002 60.6 87.8

Mexico 1995–2002 78.1 113.2
Thailand 1997–2002 210.5 305.2
Turkey 2001–02 29.0 42.1
Total 862.0 1,249.6
Source: Griffith-Jones and Gottschalk (2004).
The results are only slightly higher than those of Mendoza (2002), who focuses
on bank crises more than currency crises, and are similar to the more recent results of
Dobson and Hufbauer (2001), who estimate average annual GDP losses of 0.7% for
Latin American economies and 1.4% for Asian economies. Bordo et al. (2001), in a
wide sample, find that the loss from an average crisis approaches 9% of GDP or close
to an average annual output loss of 1% and that the probability of a randomly selected
country experiencing a crisis is roughly 8%. And Eichengreen (2004), in a broad survey
of the literature, concludes that the cost of a financial crisis is roughly 1% of GDP
growth a year, meaning that the financial crises of the last 25 years reduced the income
of developing countries by a cumulative 25%.
40 FINANCIAL STABILITY AS AN INTERNATIONAL PUBLIC GOOD FOR DEVELOPMENT

The consequences of the financial crises were worsened by the distributive ef-
fects. The poorest social sectors of the countries involved were deeply affected by the
period of instability. Sustained high interest rates benefit the rich and hurt the poor,
both nationally and internationally. The retrenchments in social spending, reductions in
the growth rates and expansion in unemployment as a consequence of financial crises
usually have a regressive distributive impact, as in the Asian or Argentine crises (Fried-
man and Levinsohn 2001; Levinsohn, Berry and Friedman 1999; Manuelyan Atinç and
Walton 1998). Poverty in Indonesia increased as a result of the financial crisis from
7%–8% in 1997 to almost 18%–20% in 1998 (Suryahadi et al. 2000).
FINANCIAL STABILITY IS AN INTERNATIONAL PUBLIC GOOD
Financial crises often generate high costs in economies far away from the economy that
was initially involved. This ability of financial markets to create systemic effects, which
are difficult to contain locally, makes financial stability a public good.
Financial stability presents the typical features of a global public good. It affects
not only countries, but also the global economy. The regulatory and institutional re-
sponse should have a similar reach, even if some complementary activities are under-
taken in countries and some regulatory frameworks have a defined regional coverage.
Internationally, efforts to limit the risks of financial instability focus on improving the
strength of macroeconomic policies, applying financial codes and standards, and
strengthening prudential and supervisory mechanisms in each country. Regionally, it
may be effective to coordinate macroeconomic policies and set up regulatory frame-
works that permit the establishing of more stable financial environments. The Euro-
pean Monetary System and later the European Monetary Union demonstrate how to
improve financial security in a regional ambit.
Beyond such activities, however, financial markets are primarily global. Finan-
cial stability, because of its scope, is a global public good. It shares the features of a pub-
lic good and a club good. Its institutional and regulatory framework is a pure public
good. Any country can benefit from the rules and the logistic infrastructure for transac-
tions within financial markets, such as those of the Society for Worldwide International
Financial Telecommunications for managing transactions in convertible currencies. Yet
the financial framework also operates as a club good, since some transactions (for ex-
ample, access to loans) are excludable and subject to user fees (tolls) based on a coun-
try’s borrowing level. Countries that engage in more borrowing will pay more fees. The
less a country is involved in international financial markets, the less it will be affected by
financial market instability. This explains why emerging markets, which are highly inte-
grated into international financial markets and have a high degree of internal fragility,
suffer most financial crises.
The provision of financial stability is a weakest link aggregation technology: the
integrity of the financial system is dependent, in part, on its weakest component finan-
cial market, where crises can begin and affect other markets. Countries with greater
economic difficulties and a weak financial system are where a crisis will start that may
subsequently affect countries with sound macroeconomic fundamentals. As Eichen-
green (2004: 250) notes: “countries without financial markets cannot have financial cri-
ses.” At times, financial stability is a weaker link public good in which the smallest pro-
vision level has the greatest impact on the level of the good. The second smallest
provision level has the next greatest impact, and so on. With a weaker link public good,

the smallest provider does not solely determine the public good’s level. Thus, better
financial practices by some countries can insulate them somewhat from a financial crisis
originating in a crisis-ridden economy. As a weaker link public good, the desire for fi-
nancial stability induces countries to use sound financial practices even though they may
be affected by poor practices abroad, since sound practices at home limit this external
impact. When, instead, financial stability is a weakest link public good, countries have
little choice but to “shore up the weakest link” or to isolate it from the system. Shoring
up activities give rise to free rider concerns as countries prefer that another country per-
forms these costly actions.
RESOLVING ASYMMETRY INTERNATIONALLY WHILE PRESERVING AUTONOMY NA-

TIONALLY
Advances in financial security require effective treatment of the asymmetry and ine-
qualities between countries and markets at the international level. In an increasingly
globalized world, the weakness of one part affects the entire system. The main problem
is the diverse capacity of countries to access international capital markets and the con-
sequences for these countries’ effective autonomy in economic policy.
The combination of volatile capital markets and high debt to GDP ratios creates
an important systemic issue for international financial markets. Emerging market
economies are attractive destinations for foreign investment, so that in periods of
growth they register large capital inputs. As a consequence, their exchange rate appreci-
ates and the debt to GDP ratio falls, provided a significant part of their debt is in foreign
currency. Although interest rates fall during the expansion period, that does not relieve
the debt burden. Nor does it affect the profitability of foreign investors, due to the ap-
preciation of the exchange rate, thus boosting new capital inputs.
However, the high debt ratios (more than 50% of GDP) and the limited matur-
ity of these debts force a continuous renewal of the debt, rendering these countries
highly vulnerable to any internal event (growth reduction or a political crisis, for exam-
ple) or external shocks (terms of trade shock or financial contagion). In the event of a
shock, the currency may depreciate, forcing interest rates to rise, reducing growth pros-
pects and further raising the debt to GDP ratio. During the crisis, multilateral debt will
replace private capital leaving the country. If the stabilization is successful, the deprecia-
tion of the currency will stop and a new cycle of private debt with short maturity will
start up. If the stabilization fails, the country will plunge into financial crisis of variable
duration and effects.
Fiscal policy in countries with high debt accumulation tends to be procyclical.
Periods of recession worsen the debt to GDP ratio, increasing the risk of a debt event,
thus requiring a tighter fiscal policy. During periods of expansion, fears of a debt event
decrease and governments tend to expand. Anticyclical use of fiscal policy is lost.
The only way to deal with a high debt to GDP ratio is to keep GDP growth high
and to accumulate large primary surpluses. Such objectives are difficult to achieve,
however, and are to some extent contradictory. Large primary surpluses require lower-
ing investment, worsening the character of public spending and slowing economic
growth, and thus make reduction of the debt to GDP ratio harder. A combination of
episodes of adjustment fatigue, as a result of which primary surpluses appear, and weak
growth performance, due partly to the limited capacity of investment, ends up launching
these countries into a permanent debt trap (Derviç and Özer 2005).

International financial problems differ for the poorest countries. Many of these
countries are not fully integrated into international capital markets. Low GDP levels,
weak institutions and underdeveloped financial systems make access to private capital
markets difficult. Many countries are debt-ridden, with high public liabilities limiting the
possibilities for development. With little access to private capital markets, these coun-
tries depend crucially on public finance, but options are limited by the previous levels
of debt. The poorest countries need more active progress towards foreign debt relief
through the Heavily Indebted Poor Countries (HIPC) Initiative, better access to the
Poverty Reduction and Growth Facility (PRGF), managed by the IMF, and higher levels
of foreign aid.
An important restriction on the scope of economic policy concerns manage-
ment of the exchange rate. Many developing countries, wishing to improve their inter-
national reputation and provide guarantees against economic interventions, adopted
totally flexible exchange rates or rigidly connected their currency to the international
reserve currency. A totally flexible exchange rate regime increases transaction costs,
demands a solid internal monetary anchor and risks damaging the competitiveness of
the economy—through Dutch disease—in periods of massive capital inflows. A pegged
exchange rate regime could have positive effects on certain internal policy objectives,
such as control of inflation and capital movements, but at the cost of reduced levels of
economic flexibility and increased difficulty in price adjustment against balance of pay-
ment problems.
Another important issue affecting countries’ autonomy is their capacity to regu-
late capital transactions. Initially, recommendations for liberalization included not only
commercial but also full capital account liberalization. But neither theoretical principles
nor empirical evidence support arguments for an increase in the levels of discipline and
efficiency from this opening of financial markets. There seems to be no strong evidence
of a connection between liberalization of the capital account and economic growth
(Rodrick 1998; Garret 1998; Kraay 1998; Edwards and Gaventa 2001).3 There is con-
siderable evidence, however, that freedom of capital movement increases the levels of
instability. The experience of the last crises revealed the negative effects of financial lib-
eralization when financial institutions and regulatory frameworks are weak.
These observations point in one direction: the need to preserve a certain auton-
omy to shape national economic policies in developing countries. Although there are
many areas where this autonomy can be strengthened, two are especially important: the
exchange rate and regulation of capital movements.
PROPOSALS FOR REFORM
Two objectives should spur reform of the international financial system: stability and
efficiency. Increasing stability is desirable to prevent further financial crises and reduce
contagion. Providing adequate supplies of capital, public and private, to developing
countries, including the poorest, is important for economic growth. With these objec-
tives in mind, six aspects appear particularly important in reform of the international
financial system. (For a more radical proposal for a world currency, see viewpoint 2.1.)
3 Nevertheless, it is possible to admit the existence of a threshold above which the removal of
capital controls is advantageous (Edwards and Gaventa 2001; Klein 2003).

CODES AND STANDARDS
Considerable progress has taken place in defining codes and standards for financial sec-
tor regulation. Codes and standards aim at improving the information available to credi-
tors, increasing the transparency and efficiency of markets and reducing the risks of cri-
sis and contagion. The Financial Stability Forum points out 12 areas thought to be most
important for improvement (table 2.2).
The International Monetary Fund (IMF), in its Reports on Observance of Stan-
dards and Codes, follows up on implementation. It finds that the most important im-
provements have been in data dissemination, fiscal transparency, mon etary and finan-
cial policy transparency and banking supervision. Many developing countries favour
implementation of the regulatory frameworks to improve their access to international
capital markets, but most codes and standards are promoted by developed countries
with little participation by developing countries (Rojas-Suárez 2005).
Table 2.2. Codes and standards
Subject area Key standard Issued by
Macroeconomic policy and data transparency

Monetary and financial policy Code of good practices in International Monetary Fund
transparency transparency in monetary and
financial policies
Fiscal policy transparency Code of good practices in fiscal International Monetary Fund
transparency
Data dissemination Special data dissemination International Monetary Fund
General data dissemination
Institutional and market infrastructure
Insolvency Principles and guidelines on effective World Bank

insolvency systems
Corporate governance Principles of corporate governance Organisation for Economic Co-
operation and Development
Accounting International accounting standards International Accounting
Standards Committee
Auditing International standards on auditing International Federation of
Accountants
Payment and settlement Core principles for systemically Committee on Payment and
important payment systems Settlement System
Market integrity The 40 recommendations Financial Action Task Force
Financial regulation and supervision
Banking supervision Core principles of effective banking Basel Committee on Banking

supervision Supervision
Securities regulation Objectives and principles of securities International Organization of
regulation Securities Commissions
International Association of
Insurance supervision Insurance supervisory principles
Insurance Supervisors
Source: Financial Stability Forum (www.fsforum.org/Standards/).

Viewpoint 2.1
A world currency?
The idea of a world currency is by no means count, prices would be quoted in pairs. If there
new, but it has not had much attention in recent were n commodities, there would be 1/2 n(n − l)
discussions of reform of what many call—rather relative prices. If n = 100, then the number of rela-
too optimistically—the international monetary tive prices is RP = 4,950.
“system”. Of course, even some barter communities would
This system includes 184 members of the Inter- catch on and realize that with price relations such
national Monetary Fund (IMF) representing about as aX = bY = cZ they could find a common unit of
170 currencies. Looking at the complete disor- account, such as X, so that the relative prices
ganization of currency markets and the recurrent quoted in a unit of X is equal to X = b/aY = c/aZ,
currency and debt crises, one might well wonder giving birth to a numeraire and eventually a full-
why more than one currency is needed to conduct fledged unit of account. In a barter economy, the
international trade and payments in a world that unit of account would be a commodity.
has prided itself, since the end of the Cold War, And not just any commodity. By a process of
on globalization and has aspired to a high degree natural selection, the chosen unit of value or nu-
of free trade and international interdependence. meraire commodity would be the most familiar,
“Money-of-Account”, Keynes wrote in the open- reliable and stable: familiar because people have
ing lines of his Treatise on Money, “is the primary to know its value to relate other values to it; reli-
concept of a Theory of Money.” A money of ac- able because it must not be ephemeral and sub-
count comes into existence along with debt and ject to the vicissitudes of weather, harvests and
price-lists, which can be expressed only in terms political changes; and stable because it must re-
of a money of account. The money of account is a side in memory.
public good in the most precise sense of the term, International monetary systems have attributes
in that one person can use it without that good of public goods in the sense that one country can
detracting from the utility of money enjoyed by benefit from them without detracting from the
other users. benefits derived by other countries and can even
Even more than a public good as classically increase them. Monetary unions and currency
conceived, money as unit of account is a “super areas (fixed exchange rate zones) are examples
public” good or “magical good” in the sense that of monetary systems that produce welfare gains in
an individual’s utility is generally enhanced by the the form of reduced transaction costs, enhanced
participation of more users. To be more precise, transparency of pricing and elimination of balance
money as a unit of account is a “network external- of payments problems and uncertainty about ex-
ity,” where benefits increase to each user as more change rates. Larger monetary unions and cur-
agents recognize the same money account rency areas are more stable than smaller ones
measure. A lonely but rational Robinson Crusoe because the marginal utility of money declines at
would need an internal numeraire for economizing a slower rate, making the liquidity preference
on thought in making personal choices, but he schedule flatter.
would have no need for a social unit of account. In
Narrowing currency fluctuations: a basket of
a complex economy, however, it is indispensable
three currencies
and the more so the larger the economy. For this
reason the nation state, with hardly a single ex- How can a world currency be defined? One ap-
ception, has always evolved into a common proach would define it in terms of gold, the historic
monetary area. Not a single country today uses monetary metal. Gold has the sanction of history,
more than one domestically officially created including the Bretton Woods Agreement in 1944,
money within its territory. which settled on gold as the basis for currency
parities. A return to the system applied before
The public good nature of a currency, looked at
1971, in which the United States fixed the price of
from its primary concept of unit of account, hardly
gold in dollars and other countries used that “con-
requires explanation. Imagine a barter society
without a unit of account. Without a unit of ac-

vertible into gold” currency, could be the anchor be in doubt. Just as 11 European countries fixed
for a new world currency system. bilateral exchange rates credibly on July 1,
But the same factors that brought down the 1998—at once eliminating speculative capital
Bretton Woods arrangements would render it diffi- movements—they could do the same with the
cult, if not impossible, to make the dollar converti- dollar-euro exchange rate. A similar procedure
ble on demand into gold today. No price of gold could be conducted between the European Cen-
anywhere near current levels would make it plau- tral Bank and the Bank of Japan, and the Federal
sible to convert the trillions of outstanding dollar Reserve Board and the Bank of Japan.
claims into the precious metal. A monetary union of the Group of Three
Nor would the world’s second most important Make a leap of the imagination and consider the
currency area, the euro, want to take on the bur- possibilities of a monetary union of the three cen-
den of convertibility—despite the fact that the tral banks of the Group of Three (G-3). Of course,
European System of Central Banks holds half the the argument will be made that these areas are
world’s monetary gold reserves. Gold may find a too different to have a monetary union. But in
useful role in a future international monetary sys- terms of economic reality, they are much more
tem, but the possibility of a system involving the similar than the 12 countries that now make up
convertibility of dollar or euro claims into gold the European Monetary Union and far more simi-
seems unrealistic. lar than the 25 countries that now make up the
A better approach to creating a world currency European Union and that at some future date will
is to start with arrangements for stabilizing ex- probably all be members of the same currency
change rates and gradually move from there. The area.
three most important currencies in the world, the This G-3 monetary union would not be a single-
dollar, euro and yen, could be made into a basket currency monetary union. The United States
of currencies, called, let us say, the dey. Because would not give up the dollar, Europe give up the
there is no important inflation in the dey area, it euro or Japan give up the yen. It would be a mul-
should be possible for the three dey central banks ticurrency monetary union, a fixed exchange rate
to minimize currency fluctuations using a combi- area with a common monetary policy.
nation of unsterilized currency intervention and
Formation of a monetary union for members of
monetary policies. The dey could then become
either a closed economy or an open economy with
the platform on which to build a global currency—
flexible exchange rates requires five conditions:
let us call that the intor.
1. Consensus on an inflation target (for exam-
If the proposal were to be considered today, ac-
ple, 1%–3%).
tivity would start with a plan to prevent excessive
depreciation of the dollar, euro or yen. There 2. A common index for measuring inflation (for
would be a period of tâtonnement for the central example, the euro area’s Harmonized Index
banks to get a feel for the market and sustainable of Consumer Prices).
exchange rates. A look at the dollar-euro ex- 3. Locking of exchange rates, as the European
change rate over time shows that it would have Monetary Union did in July 1, 1998.
been fairly easy for the central bank to have put a
4. A dey central bank to determine monetary
floor for the euro at $0.90, or at least $0.85, when
policy, as the European Central Bank did for
market participants and officials asserted that the
the euro in 1999–2002.
euro had fallen too low. This could have estab-
5. A mechanism for distributing seigniorage (in
lished a precedent that would subsequently have
the European Monetary Union it is propor-
allowed establishing a ceiling for the euro.
tionate to equity in the European Central
Today, one might start with the European Cen-
Bank).
tral Bank and Federal Reserve Board establishing
A prime requisite for the stability of either a sin-
a $1.30 ceiling for the euro. No doubt that ceiling
gle-currency monetary union or a multicurrency
would be tested by speculators, but, provided the
monetary union with a fixed exchange rate is fis-
principles alluded to above are considered, the
cal discipline, whether voluntarily imposed by
victory of officials in maintaining the ceiling cannot

each government or agreed to by collective or the necessity of flexible exchange rates, the IMF
consensual agreement and enforced by sanctions Executive Board would stress the advantages of
for violations. achieving stable exchange rates to an intor that is
The duty of the dey central bank would be to stable in terms of the main world currencies.
pursue monetary stability in the dey area, which The process could start bilaterally between the
represents nearly two-thirds of the world econ- United States and Europe, Europe and Japan or
omy. Successful monetary unions need some the United States and Japan, or simultaneously
arrangement to prevent free-rider fiscal policies. with all three. The core basket of the three dey
The problems should not be insurmountable in an currencies could be altered at the discretion of the
arrangement with three central banks. There Board of Governors. As the economies behind the
would be a great increase in efficiency in ex- currencies in the basket expand or contract in
change and payments once the huge gyrations of relative terms, weights assigned to the currencies
exchange rates were removed and an enormous in the basket would be adjusted. Consideration
gain to the rest of the world. The dey unit should could also be given to changes in the currencies
become the platform on which to base a multilat- in the basket.
eral world currency in which every country would The basic plan for the world currency could be
have a share. implemented in three stages:
Creation of the intor • Stage 1 Transition to stable exchange rates.
A strong case can be made for widening, ex- Involving steps preparatory to the G-3
tending and generalizing the monetary union to monetary union. A gradual process could
other countries. Other countries would benefit start with ceilings and floors on the G-3 cur-
from stability of exchange rates among the three rencies.
largest currency areas because it would become a • Stage 2 G-3 monetary union based on the
more stable anchor for their own currencies. All dey. Fixing an inflation target and defining
countries would benefit from the adoption of a the price level in terms of the dey, locking
global unit of account. Countries outside the G-3 exchange rates, establishing the joint mone-
(especially larger countries) might resent trilateral tary policy committee and arranging for the
dominance in money matters in which they have division of seigniorage.
no voice. And a world currency is in the nature of
• Stage 3 Creation of the intor. Selecting a
a social contract in which every country has a
definitive name and value for the currency,
juridical stake in proportion to its economic size.
the mechanism and agency for introducing
The Board of Governors of the IMF, composed it, the system and criteria for controlling its
of the finance ministers or central bank governors quantity, its backing in terms of currency or
of all member countries, represents a broad- commodity reserves and the location of its
based international monetary authority in which all central authority.
countries have votes. Its sanction of the adoption
A world currency would level the playing field for
of an international currency such as the intor,
big and small countries alike. As Paul Volcker
freely convertible into dollars, euros, yen and dey,
aptly put it, "in a globalized world, we should have
would mark a great advance in the creation of an
an international currency.” Why not make one?
international financial architecture.
Source: Drawn from a background paper by Mun-
The Board of Governors could make whatever
dell (2005).
changes are necessary in the IMF Articles of
Agreement. Instead of emphasizing to its clients

INTERNATIONAL FINANCIAL COOPERATION
The advances in codes and standards have not been paralleled by similar advances in
regulatory standards for international investors, required for markets to perform prop-
erly (Kaufman 1998; Eatwell and Taylor 2000). There have been some improvements
in the exchange of information and coordination between regulators. The three Basel
committees began to work on common regulatory standards for application by the regu-
latory authorities of participating countries. The expectation was that these standards
would eventually spread to developing countries through international emulation, mar-
ket pressure and the persuasive capacity of the Bretton Woods institutions.
However, the limited participation of developing countries in the decision-
making processes of the Basel committees may have important costs in terms not only
of institutional legitimacy but also of regulatory efficiency. Many developing countries
have criticized the new Basel Capital Accord (Basel II) for its restrictive effect on loans
from international banks and its possible procyclical impact (Griffith-Jones and Spratt
2001).
Developing countries also have a very limited role in another new institution,
the Financial Stability Forum, created after the Asian financial crisis to identify financial
vulnerability and sources of systemic risk. Through its working parties, the Financial
Stability Forum prepares reports on such aspects of financial markets as the establish-
ment of minimum standards and conduct codes and control of hedge funds and off-
shore centres. Its capacity for influencing decisions made by regulatory authorities in
developed countries is limited, however.
NEW INTERNATIONAL MONETARY FUND FINANCING FACILITIES
The most recent financial crises revealed the importance of institutions able to inject
liquidity into economies suffering from acute instability. After the Asian crisis, the IMF
created two new facilities for this purpose, the Supplementary Reserve Facility and the
Contingent Credit Line, and in 2002 it created a unit for special operations to deal with
financial contingencies in emerging market economies.
The Supplementary Reserve Facility provides resources to relieve exceptional
short-term difficulties in the balance of payments caused by sudden changes in the mar-
ket affecting the capital account or the availability of reserves. The Contingent Credit
Line, a preventive financial instrument, is used to help countries with heavy pressure on
their capital accounts.
Though a step in the right direction, these responses are insufficient. The Sup-
plementary Reserve Facility’s effectiveness at time of crisis is limited by the small scale
of available credits. Adequate funds are needed to defeat speculative pressure—before
an affected country’s reserves are depleted. The IMF has traditionally been seen as a
catalyser or coordinator of other financial resources, an appropriate role in times of sta-
bility, but clearly insufficient in times of crisis.
However, the rescue operations of the Supplementary Reserve Facility may
function as a security mechanism against crises, helping to avoid problems of moral
hazard by preventing irresponsible or incautious behaviour by creditors and debtors.
The IMF needs to achieve a balance between its security-providing function of limiting

systemic risk and its role as guarantor of market discipline by preventing opportunistic
behaviour.
The greater novelty was the Contingent Credit Line, which was designed to sup-
port countries with no risk to the balance of payments but vulnerable to the effects of
contagion from crises in other countries. To be eligible, countries had to have good re-
lations with creditors; healthy macroeconomic policy; a satisfactory reform programme
for the mid-term; implemented international standards; sound indicators of fiscal bal-
ance, inflation, growth, capital flows, international reserves and the financial system; and
reduced international vulnerability. Both because of the onerous eligibility requirements
and because of the fear that resorting to this facility might send the wrong signal to fi-
nancial markets, no countries applied to the Contingent Credit Line. In 2000 the IMF
tried to make the facility more attractive by reducing the interest rate, but countries con-
tinued to avoid it. The Contingent Credit Line “ended up being neither a lender of last
resort facility” that could be drawn on quickly in times of crisis, nor a “protection facil-
ity” that would ensure a country against the risk of crisis (Derviç and Özer 2005: 124).
Proposals have been presented that would avoid the problems of the Contin-
gent Credit Line. For instance, Griffith-Jones and Gottschalk (2004) proposed a new
facility that would operate automatically, with countries becoming eligible through an-
nual IMF Article IV consultations. Derviç and Özer (2005) offer a more radical pro-
posal, warning that the correct level of debt is a prerequisite for avoiding the risk of cri-
sis. They propose creating a stability and growth facility, managed by the IMF and the
World Bank, directed at reducing the vulnerability of countries with debt accumulation
by backing country efforts to maintain growth and debt reduction over the mid-term.
Countries could qualify for support even if they were not in crisis if they had high levels
of debt and therefore suffered from high external vulnerability. Conditionality would be
adapted to each country’s circumstances and its need to grow. Support would be grad-
ual, to avoid problems of moral hazard, while still being a stable source of mid-term
financing. Adequate resources would be available at low prices to allow for effective
debt reduction, while maintaining growth and social policies to fight poverty. And there
would be trust-based credits of reasonably long maturity.
To sum up, reducing financial instability requires not only an effective mecha-
nism to provide liquidity when expectations change suddenly, but also instruments to
support efforts to reduce debts in countries that are a source of systemic instability.
Both tasks require new sources of finance and perhaps greater operational capacity for
the IMF (and the World Bank) as creditor and guarantor of the stability of the interna-
tional financial system.
MACROECONOMIC COORDINATION AND SURVEILLANCE
Financial risk is strongly affected by economic policies. Promoting healthy policies in

developing countries and boosting macroeconomic coordination among developed
countries, especially those with influence in international markets, are necessary to re-
duce financial instability. These practices are international public goods with wide-
reaching spillovers.
There have been few advances in this regard. Agreements at meetings of finance
ministers, governors of Group of Seven central banks, the IMF International Monetary
and Financial Committee and similar high-level financial groups have been quite lim-
ited. Such efforts, as the EU experience shows, may come up against the needs and

demands for national autonomy. Thus macroeconomic coordination among developed
countries should be envisaged as a set of procedures for reducing the externalities re-
sulting from economic policy decisions rather than as a strict symmetry of decisions.
Greater progress has been made in IMF surveillance of the policies of develop-
ing countries. There is more awareness of the need for preventative action, sound mac-
roeconomic policies, an appropriate framework of regulations and supervision, mini-
mum common codes of conduct and the provision of clearer information. New
indicators of financial vulnerability have been developed that permit clearer interna-
tional follow-up.
PUBLIC DEBT
The HIPC Initiative was a positive step in dealing with the foreign debt of developing
countries. However, severe problems remain, including how to define debt sustainabil-
ity. The established criteria (debt stock of 150% of exports and annual debt service of
15% of exports) are questionable in both theory and practice. Of the 42 countries po-
tentially eligible for the HIPC Initiative, 15 have received substantial debt reductions,
but only 7 have managed to maintain their debt at a level that is considered sustainable.
High variability in export prices and volatility in growth make keeping debt below the
established parameters a difficult task. Debtor countries must constantly revise the
amount due and subject to cancellation by recurrently topping up to maintain sustain-
ability. The World Bank has proposed a new composite index, and the UN Millen-
nium Project has recommended defining sustainability according to a country’s capacity
to achieve the Millennium Development Goals.
Another problem is the eligibility of debt for cancellation under the HIPC Ini-
tiative, which many believe to be too restrictive. Some have proposed applying the cut-
off date for bilateral debts considered at the Paris Club.
A third problem is the need to prevent debt relief activities from impeding other
activities of the IMF. Some have suggested revalorisation of IMF gold reserves, cur-
rently valued at $8 billion, although their real market price could reach as high as $40
billion if sales were managed so as not to depress the market.
Dealing with “sovereign bankruptcy” presents yet another challenge. Various
academic researchers and the IMF (Krueger 2002a,b) have proposed creating an arbi-
trage mechanism, a sovereign debt restructuring mechanism to avoid both collective
action problems derived from the existence of a plurality of creditors and the asymmet-
ric distribution of costs in credit agreements. The positive effect would come from a
quick, quasi-judicial process that considered all the interests involved, including those of
the populations of the debtor countries, which could have a positive effect at the inter-
national level. Against this statutory approach, other creditors (led by the US Treasury)
defend the advantages of reliance on collective action clauses in debt contracts, which is
a more decentralized and market-oriented approach.
RESORTING TO SPECIAL DRAWING RIGHTS
Developing countries, even very poor ones, keep high reserve levels as a preventive
mechanism against internal adjustments, external shocks or currency crises (figure 2.1).
However, accumulating reserves as a self-insurance mechanism has high costs. The re-

serves are invested in low-profit assets and cause capital to flow from developing coun-
tries to developed countries—opposite to the desired direction.
Figure 2.1. Evolution of reserves by region, 1996–2003
Community of Independent
States
Africa
Central and Eastern Europe
Billion Dollars
Middle East
Western hemisphere
Other developing Asian countries
China
Source: IMF 2005.
There have been repeated proposals to use special drawing rights (SDRs) as
more neutral reserve assets and as an international financial contribution to rescue
packages in cases of financial crises. New issues of SDRs could be temporary, during
periods of crisis only (Meltzer 2000), giving this instrument a clearly cyclical character,
or permanent, linking SDRs to the provision of reserve assets and to the financing of
activities connected with the provision of international public good (Zedillo 2001; Soros
2002; Stiglitz 2002). Resorting to SDRs would provide a source of finance at no cost, to
developed or developing countries, and would have clear positive effects on developing
countries if used correctly.
A traditional argument against resorting to new issues of SDRs is their inflation-
ary effect. However, the evidence suggests that the additional liquidity from the SDRs
would be unlikely to have even a slight effect on levels of international inflation, particu-
larly at a time when those levels are historically low.
INSTITUTIONAL EFFECTIVENESS AND LEGITIMACY
Debate of the financial agenda also focuses on international institutions, particularly on

institutional efficiency and on representativeness, legitimacy and accountability.
The most ambitious proposals call for creating a new international financial au-
thority with regulatory and risk management functions that would provide guarantees
and last resort loans and have the financial responsibility of the World Bank and the
IMF (Eatwell and Taylor 2000).
Less ambitious proposals call for retaining current institutions, while increasing
international, economic and financial coordination. Derviç and Özer (2005: 96) pro-
pose a new UN Economic and Social Security Council “responsible for the economic
and social sphere of the international system”. UN agencies, funds and programmes
with duties in the economic and social fields and the Bretton Woods institutions would

come under its executive authority. Kenen et al. (2004) would assign this directive task
to a new Council for International Financial and Economic Cooperation, which would
include the 15 economically most important countries, represented by their ministers of
finance, the UN Secretary-General, the IMF managing director, the president of the
World Bank and the director of the World Trade Organization.
Other recommendations focus on strengthening existing institutions and con-
solidating regulatory and coordination activities (Bank for International Settlements and
the International Organization of Securities Commissions, for example). The proposal
to create a Forum for Financial Stability, to study in depth cooperation in supervision
and surveillance in the international financial markets, would unite in one institution the
economic authorities (ministers of finance, governors of central banks and supervisory
authorities of the main countries) and the international financial institutions (IMF,
World Bank and Bank for International Settlements) and other regulatory institutions
(such as the Organisation for Economic Co-operation and Development, the Basel
Committee, the Committee on Payment and Settlement Systems, the International As-
sociation of Insurance Supervisors and the International Accounting Standards Board).
Most proposals seem directed towards correcting the existing institutional
framework rather than creating a new one, but there is no agreement on the guidelines
for reform. The Meltzer Commission report (Meltzer 2000) recommends precise spe-
cialization of the roles of the IMF and the World Bank, with the IMF limiting its atten-
tion to managing systemic risk and operating as a creditor of last resort, and the World
Bank directing its efforts towards fighting poverty and promoting reform in the poorest
countries.
So precise a functional division is questionable for several reasons. First, IMF
clients have changed considerably. Once the clients were mainly countries that were
rapidly undergoing advanced industrialization. Today most of the clients are transition
economies and developing countries with very high poverty indexes. The poorest coun-
tries, because of their rigid economies and limited productive bases, respond less to
price-based adjustment. Adjustment thus needs to be accompanied by changes in the
incentive system in the economy, which take time and require social action. Without
the economic and institutional strengthening of the weakest economies, progress in sys-
temic security will be limited.
Thus, the IMF should preserve its long-term financial facilities, assuming this
function in cooperation with the World Bank. That there may be an overlap in activi-
ties between the two institutions seems a minor issue, a reflection of the difficulties in
developing countries of establishing boundaries between adjustment financing and de-
velopment financing.
A second critical aspect of the debate about international institutions concerns
their representativeness, legitimacy and accountability (Alonso 2000). The Bretton
Woods institutions, in particular, are suffering from a severe problem of lack of per-
ceived representativeness and legitimacy. The 2002 Gallup International Voice of the
People Survey, which collected opinions from 36,000 people in 47 countries, found
that almost half of those interviewed did not believe that the activities carried out by the
Bretton Woods institutions were aimed at improving people’s quality of life. The global
poll Multinational Survey of Opinion Leaders commissioned by the World Bank in
2002 found that more than half of respondents in Sub-Saharan Africa, South Asia, the
Middle East and North Africa and Latin America believed that economic reforms rec-
ommended by the World Bank hurt poor people.

Representativeness is low in the Bretton Woods institutions and in other inter-
national financial institutions, such as the Bank for International Settlements and the
Basel Committee. Although decisions made in these institutions have enormous impact
on the developing world, developing countries have little influence on decision-making
processes. They are also largely excluded from forums created to support the reform
process of the international financial system, such as the Financial Stability Forum.
In sum, there is a problem of representativeness and accountability in interna-
tional financial institutions that particularly affects developing countries, which are un-
der-represented in the governance bodies of these institutions. This fact damages not
only the legitimacy of international institutions, but also their effectiveness. As Derviç
and Özer (2005: 145) have noted: “better globalisation requires more legitimate global
governance.”

CHAPTER 3
THE INTERNATIONAL TRADE REGIME
AS A PUBLIC GOOD FOR DEVELOPMENT
I
nternational trade has grown rapidly in recent decades, creating many potential
benefits and becoming central to any development strategy. But the benefits do not
materialize automatically as a country opens its economy to the rest of the world.
There is no clear-cut relationship between openness and development.
Arguments for free trade have their roots in comparative advantage theory,
which maintains that trade enhances every country’s welfare given the initial resource
base, because of relative differences in countries’ productivity across activities they un-
dertake (static mutual gains from trade). Dynamic gains from trade are often related to
increasing returns to scale, product differentiation and technological differences. The
modern theory of endogenous growth is ambiguous with regard to whether trade liber-
alization alone fosters growth, as this depends on different forces of dynamic compara-
tive advantage and whether they push the economy in the direction of activities that con-
tribute to long-run growth through externalities in research and development, process
and product innovations, value chain innovations and so on, or divert the economy
away from such activities (Rodrik 2001: 26). Thus, in assessing the benefits from the
trade regime, static and dynamic gains from trade need to be taken into account.
Empirical analysis is not conclusive either. For instance, while Dollar (1992),
Sachs and Warner (1995), Edwards (1998) and Frankel and Romer (1999) find that
trade increases income, Rodriguez and Rodrik (1999), in a review of these studies,
question the robustness of the relationship,4 and Wolff (2000) finds empirical support
for models defending the creation of comparative advantage. If anything, as Rodrik
(2001) observes, the only systematic relationship uncovered by empirical research is
that countries dismantle trade restrictions as they get richer, indicating that today’s rich
countries embarked on modern economic growth behind protective barriers. Despite
continuing claims of a relationship between openness and economic growth, Helleiner
(2000: 5) notes that “it isn’t at all obvious either (1) that further external liberalisation
(‘openness’) is now in every country’s interest and in all dimensions or (2) that in the
overarching sweep of global economic history what the world now most requires is a set
of global rules that promote or ease the path to greater freedom for global market ac-
tors, and are universal in application.”
In other words, since trade liberalization alone cannot be relied on to deliver
high rates of economic growth, it does not receive the same priority at the national level
as it typically receives in the development policies advocated by multilateral organiza-
tions. Mendoza and Bahadur (2002: 3) therefore argue that more attention should be
paid to whether the international trade regime is coherent or consistent with the devel-
opment goals of the countries it is supposed to benefit.
4 Rodriguez and Rodrik (1999) argued that the fragility of the trade and income link may stem
from the assumption of a linear relationship between openness and growth. Noguer and Siscart
(2004) reexamined the issue and found that open trade does raise income and found the results
to be robust to the Rodriguez and Rodrik assumptions.

Today’s international trade regime accepts different sets of policy instruments,
and those in place when the most recently successful globalizers, the East Asian tigers,
achieved their economic miracle are largely precluded by today’s rules (see Bora and
Pangesty 1999).5 Today, many internationally agreed rules on trade and investment also
go behind borders. Trade liberalization entails not only a reduction in trade barriers,
but also compliance with World Trade Organization (WTO) requirements on subsi-
dies, intellectual property and health standards, requiring, in turn, additional reforms on
taxes, social safety nets and other institutional issues. Finger estimated that it costs a
typical developing country $150 million to implement the requirements in just three of
the WTO agreements (customs valuation, health and phytosanitary measures and intel-
lectual property rights), an amount equal to a year’s development budget for many of
the least developed countries (Finger and Schuler 2000).
Despite successive rounds of multilateral trade negotiations under the General
Agreement on Tariffs and Trade (GATT) and the World Trade Organization (WTO),
and unilateral and bilateral liberalization of trade, most developing countries have been
unable to benefit from this trade regime and to better integrate into the global economy.
Industrial activity and production capabilities are highly concentrated in a few econo-
mies, both industrialized and developing, and most developing countries remain on the
bottom rung of the technology ladder (UNIDO 2002b). Exports of high value-added
manufactured products, a driver for growth, are concentrated within a small group of
developing countries. Only a few developing countries have experienced dynamic pro-
duction growth and a changing export structure characterized by an increasing share of
technology-intensive products. These have achieved sustainable income growth.
Discussing the issues that impede a multilateral trade regime that promotes
growth and development is therefore worthwhile. A fruitful way to do so is from a pub-
lic goods perspective.
THE PUBLIC DIMENSION OF THE PROBLEM
Global trade liberalization provides a global public good, an international trade regime
with full reciprocity and non-discrimination among trading partners (Zedillo 2006). The
international trade regime is a joint-product activity that yields outputs that vary in their
degree of publicness. As such, the regime has both private and public outputs (Birdsall
and Lawrence 1999; Mendoza 2003) with excludable benefits from the associated pri-
vate good (for example, most favoured nation status) and non-excludable benefits from
the associated public good (for example, efficiency gains to the traders). The presence
of country-specific private gains from the trade regime facilitates its provision, insofar as
countries are forced to reveal their preferences for these private goods and, thus, for the
jointly produced public good. If the component private and public outputs are com-
plementary (better when consumed together), then preference revelation will be fuller.
This follows because the desire for the public good increases with greater consumption
of the associated private good. An increase in the share of jointly produced excludable
to total outputs augments preference revelation.
Since membership may be restricted, the international trade regime may be a
club good. When, however, network externalities are present so that members’ benefits
5 As had been the case for today’s advanced industrial countries as well (Scherer and Watal
2001).
56 THE INTERNATIONAL TRADE REGIME AS A PUBLIC GOOD FOR DEVELOPMENT

increase with group size, exclusion becomes undesirable (Funke and Ruhwedel 2001;
Hummels and Klenow 2002; Rutherford and Tarr 2002). In this case, the trade regime
loses its exclusive club status and needs to be all-inclusive. If trade creation (for mem-
bers) and trade diversion (for non-members) considerations make membership restric-
tions beneficial, then a trade or custom union is formed with tariff barriers imposed on
non-members. Such a union is welfare improving for members at the expense of non-
members.
In an ideal setting a regime of free trade may be a global pure public good with
non-rival and non-excludable benefits worldwide owing to efficiency gains if there are
no distortions. Such an international trade regime discourages protectionalism and
races to the bottom that might otherwise occur from competitive pressures (Birdsall and
Lawrence 1999). Moreover, this regime minimizes the probability of costly trade wars
and increases the cost of conflicts (Conybeare 1984) from lost efficiency gains.
The issue is how in practice to achieve this global free trade regime. Nations
may see a strategic value to staying outside of the trading “club” by free riding on the
reduced tariff barrier without reciprocating. Such actions are likely to result in retalia-
tion or else the formation of distinct trading blocs with no tariffs within and high tariffs
between blocs. Even the formation of a trading bloc requires overcoming collective ac-
tion concerns, because nations are motivated to wait until others negotiate a regime and
then join to claim most favoured nation status. Thus, there is no guarantee that the first-
best worldwide free trade regime will be achieved. Regional trade blocs share a club-
good characteristic from trade creation, whose benefits can at time display rivalry as
members may lose some competitive advantage with a larger union.
Another important characteristic is asymmetry among members in level of de-
velopment or in share in international trade: for example, developed countries still ac-
count for the lion’s share of world trade (table 3.1). The way collective action takes
place depends on the presence of group asymmetries. There is a lack of consensus
among researchers about the impact of these asymmetries on the provision of this pub-
lic good. The hegemonic stability theory argues that the presence of a hegemonic power
promotes a stable international order (Kindleberger 1973, 1986), although with some
risk of exploitation of large countries by small ones because of free riding (Olson
1965).6 Imbalances of power in international trade may shape trade rules in favour of
the most powerful (Kwa 2002).
Asymmetries also affect the benefits of the collectivity, with respect to members
and non-members, because of the interactions between the groups. Although worldwide
free trade maximizes income for the world as a whole, it does not do so for each of its
parts. As a consequence, international trade benefits each participant only if there is
some mechanism to redistribute gains within and among nations. This is one of the
main difficulties for developing an international trade regime based on broad
consensus.
6 According to Kindleberger, an international order can exist insofar as a hegemonic power is

willing to provide certain essential public goods (cosmopolitan public goods), like a system of
international security, a currency to be used in international exchange or institutions to guaran-
tee the free functioning of the market.

Table 3.1. Share of merchandise and service exports (percent)
Exports 1960 1970 1980 1990 2000 2004
Merchandise
Developing countries 24.5 19.2 29.5 24.3 31.6 33.5
South-East Europe and Common- 5.7 5.8 5.3 3.7 2.7 3.5
wealth of Independent States
Developed countries 69.7 75.0 65.3 72.0 65.7 63.1
Services
Developing countries na na 19 19 23 23
South-East Europe and Common- na na 2 1 2 2
wealth of Independent States
Developed countries na na 79 80 75 75
na is not available. Source: UNCTAD Handbook of Statistics (http://stats.unctad.org/handbook).
It is useful to examine the distinction made by Mendoza and Bahadur (2002: 8–

9) between fair and free trade. They assert that the current system is biased towards free
trade and requires a better balance between free trade and fair trade to make this global
public good beneficial to all countries. To create a fair trade regime it is necessary to
consider how the gains from trade are shared across countries and over time (see view-
point 3.1 on the need for a level playing field in international trade). Pursuing more
trade among non-equals, without considering the capacity of a weaker player to develop
comparative advantages, could lead to an erosion of the gains from trade over time and
can even result in an increase in poverty and environmental degradation in developing
countries. An international trade regime that does not deal adequately with these vul-
nerabilities reveals its underprovision. Clearly there is a need to help developing and
least developed countries build their productive capacity.
There are many examples of developing countries facing anti-development
trade rules, indicating that their development concerns are not adequately reflected in
the design of the trade regime and in its decision-making process. This reveals malpro-
vision of the international trade regime as a public good (Mendoza and Bahadur 2002:
18). Reforms must focus not only on the actual imbalances, but also on the decision-
making process that generates these imbalances in the first place.
In addition, developing countries are concerned about the social costs and the
implementation costs of trade-related regulations and reforms. The proposal to estab-
lish an “aid for trade” fund to help poor countries meet the adjustment costs associated
with full implementation of a Doha development agenda recognizes this need.
The asymmetries concerning the individual provisions and benefits of the public
good are behind the tensions in the international trade system and are at the centre of
the difficulties of providing the global public good of the international trade regime.
Countries obtaining high benefits from the system have an interest in extending it to
more participants, since that increases their benefits and avoids the danger stemming
from a weakest link aggregation technology, while those obtaining low benefits are in-
terested in participating as long as the system provides a better balance in relation to
their benefits.

Viewpoint 3.1
For whom is a level playing field in international trade a global public good?
Trade liberalization presents two problems for that in high-income, high-productivity economies.
low-income economies (UNDP 2002; Mendoza Much of the labour force in low-income economies
2003). The first is that many of them operate in an is either unemployed or works at very low produc-
asymmetrical trade environment: they are forced tivity, often in the informal sector. In many devel-
to liberalize their markets to incoming manufac- oping countries the effective rate of unemploy-
tures, but their access to external markets for raw ment is high—more than 30% in some countries.
and semi-processed commodities is limited by In China, and to a lesser extent India, the num-
protectionism. This has led to widespread calls for bers are startling. Of China’s labour force of some
a “level playing field”. The second is the insistence 770 million, 100–150 million people currently work
that low-income economies do more to define the at very low levels of productivity and are waiting to
global trading system, so that these inequities are be absorbed into the global economy. This sur-
not sustained. plus is equivalent to more than one-quarter of the
Both these policy-related concerns derive from total labour force in all high-income economies.
an intellectual architecture that, while mindful of The absorption of the reserve labour force will
the redistributions deriving from trade policy re- take a very long time, particularly as technology
form and renewed patterns of specialization and becomes increasingly labour saving. But many
trade, is built on the premise of mutual gains from developing economies have invested substantially
trade. But this architecture is flawed: many trading in skill development. The consequence: the re-
partners are structurally excluded from the bene- serve army of labour is no longer confined to un-
fits of trade and suffer from the extension of a skilled workers.
liberalized trading system as a global public good. Questioning the assumption of capital immobil-
Questioning the case for openness ity. Much of the capacity expansion in low-income
The theoretical case for trade liberalization is economies, particularly in China, was financed
based on three key assumptions: full employment, domestically. But a considerable proportion was
the immobility of capital and resource transfers to sourced externally, through a combination of indi-
facilitate restructuring and dynamic comparative rect private portfolio investments into stock mar-
advantage. Each assumption defies reality, par- kets and direct foreign investment into enter-
ticularly with China’s increasing participation in the prises. Following the 1997 Asian financial crisis,
global economy. the developing world’s share of foreign direct in-
vestment (FDI) fell. But these reduced investment
Questioning the assumption of full employment. flows were concentrated: Asia accounted for more
Macroeconomic policies see unemployment as a than half of FDI into developing countries.
manageable, temporary departure from a world of
full employment. But an alternative body of think- Questioning income transfers to fund restructur-
ing argues that there is a systemic tendency to- ing. Dynamic comparative advantage must be a
wards a reserve army of labour: as global barriers central component of development strategies for
are reduced, either migrant labour saturates the sustainable income growth. It requires the capac-
market in countries formerly near full employment ity to develop processes of upgrading by building
or imports from labour-surplus economies do the dynamic capabilities in production. This upgrading
same. The net effect depresses the incomes of all targets not just products and process technology,
whose livelihoods depend on the work that can be but also positioning within value chains and the
performed by this surplus labour force, either be- capacity to move from highly competitive chains to
cause wages in a formerly tight labour market are chains with higher barriers to entry.
depressed or because the global labour pool Achieving dynamic comparative advantage and
forces widespread unemployment. systemic capacity to upgrade requires a strategic
This is precisely what is happening in the cur- and policy framework that includes the develop-
rent phase of globalization. The spectre of a ment of a stable macroeconomic operating envi-
global reserve army of labour is emerging to affect ronment with currency stability, affordable invest-
medium- and long-term employment and wage ment and low rates of inflation. It also requires
rates as the large labour surplus in China, India resources to cope with market failures across a
and elsewhere is made available to support global range of sectors. Underlying these industrial and
production networks. technology policies to promote restructuring—
particularly in the poorest countries—must be a
The long-term prognosis: The number of people pool of restructuring funds that governments can
available to work in low-income economies dwarfs

draw on that are not short-term and do not require These outcomes challenge the case for trade
a commercial rate of return. liberalization as a global public good, in the nor-
Aid flows can provide this form of restructuring mative sense of “good” as a welfare outcome.
resource. However, the absolute level of transfers This calls for alternative policy agendas designed
of aid fell during the 1990s. And the developing to rebalance the structural mismatch between
world is mired in debt, so that most incoming aid supply and demand, to encourage upgrading and
funds are destined for the repayment of past in- the growth of dynamic capabilities in low-income
flows. economies and to manage global market access.
UNIDO has an important role to play in the devel-
Challenged assumptions: with what conse- opment and support of the last two agendas in
quences?
low-income economies.
The unreality of the three key assumptions in
Policy issues
the case for trade liberalization has several con-
sequences. One is the growth of global excess What are the consequences of the negative ex-
capacity. Another is the possibility of significant ternalities flowing from trade liberalization as a
changes in the terms of trade for commodities and global public good? The first is the need to man-
manufactures. And a third is the extent to which age the relationship between supply and demand
this possibility explains the differential fruits of as a structural rather than a cyclical issue. Propo-
globalization. nents of across the board liberalization argue that
the problem of excess capacity will be readily
Structural excess capacity. The rising flow of in-
resolved. It might result from greater inward orien-
vestment ambitions in the developing world coin-
tation in China and India, expanding their domes-
cided with searches for new production outlets by
tic consumption. As demand in the United States,
foreign investors and new sources of supply by
the United Kingdom and other high-income mar-
global buyers. The result: a significant growth in
kets contracts, demand by China for inputs from
capacity in many sectors that exceeds all feasible
other countries might increase. Significantly ex-
demand.
panded aid transfers to poor economies might
The commodities-manufactures terms of trade. enhance consumption power in stagnating low-
Analysis of the price of globally traded manufac- income economies. These developments, it is
tures leads to two conclusions. First, the greater argued, will enhance demand.
China’s participation in global product markets,
But there are several problems with this argu-
the more likely it is that prices will fall. Second,
ment. For one thing, there is little sign of the politi-
this effect has a disproportionate impact on low-
cal commitment required to reverse the two-
income countries that face intense competition
decades-long decline in real resource transfers to
from Chinese producers. The early twenty-first
poor countries, to allow a major expansion in
century may be witnessing a shift in the secular
global demand from them. Moreover, to the extent
terms of trade. Instead of a decline in the barter
that these income transfers involve redistributing
terms of trade of manufactures against commodi-
consumption from rich to poor countries (rather
ties, a much more complex picture is emerging:
than global deficit financing), there will be no
falling terms of trade for exporters of some manu-
augmentation of global demand, merely a change
factures against exporters of both some manufac-
in its composition. For another, China and India
tures and some commodities.
are so large that the reserve army of labour at the
Gainers and losers. The notable performance of global level will also manifest itself at the sub-
East Asian growth rates reflects in large part continental level. In other words, they will have
China’s extraordinary growth performance in GDP difficulty balancing consumption and production
(about 10% annually) and manufactured exports domestically, even as they turn their focus inward.
(17% annually) since 1985. But it is more com- There is no reason to suppose that the systemic
plex. Many of the raw materials, equipment and trajectory towards excess capacity will change
intermediate inputs underlying China’s rapid with domestic market expansion in China and
growth (much of it processed for exports to other India.
regions) have been sourced from East Asia. By
A second set of policy prescriptions affects in-
contrast, the good performance of South Asia,
novation. In a world of excess capacity, competi-
reflecting India’s sustained and rapid growth, has
tion intensifies and sustainable income growth
not entailed trade expansion within the region.
requires the capacity to produce efficiently and to
In what circumstances should global public innovate effectively. With the growing complexity
goods be resisted?
in the pattern of price formation for different
goods, sustainable income growth cannot be de-

livered merely by switching from commodities to The second approach relates to access to mar-
manufactures. Instead, it requires the capacity to kets in low-income economies. Since these
upgrade from commodities and manufactures with economies cannot compete with China, India and
low barriers to those with higher barriers to entry other newly dynamic economies, they may need
and thus higher rents. to reintroduce forms of protection that they yielded
Here, as in the management of the global econ- over the past two decades. But to do so, they
omy, the efficient markets as a public good argu- need to learn from an era of import-substituting
ment breaks down. Abundant evidence shows industrialization. In many countries domestic mar-
that markets alone cannot upgrade dynamic ca- kets are too small to allow either scale economies
pabilities in production. Effective innovation re- or effective competition. Thus, there will be a need
quires a holistic approach, encompassing a vi- to foster sub-global openness with economies at a
brant private sector and effective policy support. It similar stage of competence, probably within re-
also requires effective processes of innovation, gions (to allow for the regional externalities so
crossing sectoral boundaries and addressing important in modern competitive production). They
value chains. This invariably requires facilitation will also need to attune their policy agendas to the
by national or regional governments (Kaplinsky competences of their state sectors, since weak
and Morris 2001; Rodrik 2004a). state bureaucracies cannot cope with the detailed,
prescriptive policy regimes used so successfully
Third is the issue of policies towards openness. in, for example, the Republic of Korea and Tai-
Effective innovation regimes do not work for all wan, China, during the 1960s and 1970s.
producers in an open economy, and excess ca-
pacity and heightened competition lead to the What roles do the UN system and UNIDO play
marginalization of many producers. Externalities in regard to these failings of trade liberalization as
in the extension of trade liberalization as a global a public good? UNIDO has a clear role in support
public good may be positive for many global citi- of innovation (often within value chains) and in the
zens (as in East Asia and the rich economies), but development of clustered areas of regional inno-
negative for others (in Africa, Latin America and vation and trade. Particularly with the advance of
the Caribbean, and Central Europe). systemic efficiency, where the boundaries of
competitiveness involve value chains or regionally
Strategic approaches clustered economic actors, market failure is en-
Two strategic approaches are indicated, and demic. Firms need to be not only encouraged to
both challenge the central tenet of the current collaborate but also provided with the skills to do
phase of globalization—market access. The first so, including developing dynamic learning capa-
approach is to argue the case against openness bilities. Particularly in low-income countries, this
in external markets. Instead of the level playing requires the development of tacit skills, with con-
field demanded in the development community siderable emphasis on support for capability build-
and policy circles, poor producers require an un- ing that draws on global best practices.
even playing field, tilted in their favour. They re- But many innovative capabilities are best pur-
quire preferential access in external markets, of- sued in a regional context. This support can be
ten at the expense of other low-income but more allied to the development of regionally clustered
competitive economies. For example, further ex- industrial, agricultural and service sectors, appro-
pansion of clothing exports to high-income priately linked to trade regimes that promote
economies can no longer be achieved by displac- enough openness to facilitate competition and
ing producers in these consuming countries—it is innovation and allow developing countries to reap
now a battle against other developing economies, consumer surpluses through cross-border trade,
notably China and India. Special and differential without the adverse implications of full trade liber-
treatment must endure, even if it changes as low- alization.
income economies show differential capabilities.
Source: Drawn from a background paper by Kap-
linsky (2005).

DIAGNOSIS OF THE INSTITUTIONAL FRAMEWORK FOR REGULATION
At the global level the General Agreement on Tariffs and Trade (GATT), both as a
treaty and an institution, has been one of the most important international public goods
available to the world economy for the last five decades. After the Second World War,
to end the unilateral trade retaliation seen in the interwar period and establish rule-
based international trade, 23 countries created the GATT. The creation of the World
Trade Organization (WTO) in 1995 as an independent multilateral institution offering
its 149 members (as of 2004) a level playing field for trade negotiations and dispute set-
tlements is an extension of the work of the GATT and a testimony to the ever-growing
importance of global trade in world affairs. As an institution, GATT served as the nego-
tiating forum for a series of rounds aimed at liberalizing trade among the major econo-
mies of the world. As a treaty, it provided a set of multilateral rules for the smooth flow
of global trade.
Up to the early 1960s, the GATT remained a small group of largely developed
countries. Much has changed since then. Successive rounds of trade negotiations have
increased the number of participants and the range of areas under its discipline (table
3.2). Today, 149 countries accounting for more than 90% of the world trade in goods
and services are members of the WTO.
The Tokyo Round (1973–79) and the Uruguay Round (1986–94) led to the
single undertaking approach (see box 3.1 on core principles of the WTO) for accepting
obligations under the GATT. Member countries could no longer choose which parts of
the agreement they would sign up for but had to accept all the obligations under the
GATT, although the time frame for implementing them could vary from country to
country. At the 1994 Ministerial Conference in Marrakech, four main agreements were
brought under WTO administration: the updated version of the old GATT (GATT
94), the Trade-Related Aspects of Intellectual Property Rights (TRIPS), the General
Agreement on Trade in Services (GATS) and the Dispute Settlement Understanding.
Membership in the WTO entails accepting all the agreements without exception.
Table 3.2. Trade rounds under the General Agreement on Tariffs and Trade
Number of
Year Place/name Subjects covered countries
1947 Geneva Tariffs 23

1949 Annecy Tariffs 13
1951 Torquay Tariffs 38
1956 Geneva Tariffs 26
1960–61 Geneva/Dillon Round Tariffs 26
1964–67 Geneva/Kennedy Round Tariffs and antidumping measures 26
1973–79 Geneva/Tokyo Round Tariffs, non-tariff measures, framework 102
agreements
1986–94 Geneva/Uruguay Round Tariffs, non-tariff measures, rules, services, 123
intellectual property, dispute settlement,
textiles, agriculture, creation of the World
Trade Organization
Source: World Trade Organization.

These modifications in the international trade regime changed the context for
the next round of trade negotiations. At the Seattle Ministerial Meeting in 1999 devel-
oping countries’ refusal to accept a process from whose development they had been
excluded led to the meeting’s collapse. The Doha meeting in 2001 avoided failure by
setting relatively vague objectives, known as the Doha development agenda.
At the Cancun Ministerial Meeting in 2003 divisions fell almost uniformly along
developed and developing country lines. The collective effort to develop a trade regime
has become more difficult over time as the number and diversity of participants and the
issues on the agenda have grown.
The expansion in membership and areas covered makes the international trade
regime a de facto global joint product activity with some global public output (Mendoza
and Bahadur 2002). Since countries can, in principle, interact on a level playing field
with all other WTO members, the international rules of trade resemble a club good.
This club-style character has been widely discussed (see, for instance, Keohane and Nye
2001; Kerr 2002; Tandon 1999; Conybeare 1984; Mendoza 2003): membership grants
non-discriminatory most favoured nation status and access to all discussion forums, to
the Trade Policy Review Mechanism that supervises members’ trade policies and to the
dispute settlement mechanism that countries apply to for enforcement of trade regula-
tions. Both the trade policy review mechanism and the dispute settlement mechanism
provide partially rival benefits subject to crowding as more situations are reviewed or
disputes are subject to settlement. Congestion can be relieved as the capacity of these
mechanisms is increased with membership. Non-members do not enjoy access to these
features.
For many developing countries, the concessions required for GATT member-
ship were well beyond their capabilities. A new class of membership was created—
developing country status—with weaker requirements. In exchange, developed countries
were able to keep control of the negotiating agenda. These hierarchies meant that de-
veloping countries demanded little from the GATT up to the Uruguay Round, having
little interest in setting the negotiating agenda (Kerr 2002).
At the Uruguay Round, developed countries were concerned with gaining major
concessions from developing nations, such as the opening up of markets for services,
the fastest growing sector in developed countries (Yeung, Perdikis and Kerr 1999), and
protection for intellectual property (Gaisford and Kerr 2001). Developing countries,
meanwhile, were abandoning protectionist development strategies and embracing an
export-led strategy. In a compromise, developing countries would receive increased
market access for textiles, a reduction in export subsidies, improved market access for
agricultural products in developed countries, and promises of increased resources for
capacity building in trade. But the Uruguay Round commitments were never fully im-
plemented.
These issues were at the core of the next WTO ministerial meetings, where de-
veloping countries increased their opposition to the rules of the current trade regime.
The rules of the club had to be changed.

Box 3.1. Core principles of the World Trade Organization
Three core principles guide the way decisions are made within the multilateral trade regime.
From its inception in 1948 the multilateral trade regime adopted a strong non-discrimination
principle embodied in the most favoured nation clause. While overridden in practice by pref-
erential trade agreements, this clause remains the most basic principle of multilateralism.
The second principle is national treatment. It implies that once imported goods pay customs
duties (are nationalized), they have to be treated in the same way as national products, par-
ticularly with respect to domestic taxes.
The third core principle is single undertaking. Before the Uruguay Round, it was possible for a
subset of member countries to reach so-called “plurilateral” agreements or “codes”. These
were usually subscribed to by developed countries and were non-binding for developing
countries, which could adhere voluntarily. After the Uruguay Round, however, this practice
was abandoned. Now, once a decision is made, all members acquire the same obligations,
although the time frame for implementing agreements may vary from country to country.
Finally, a corollary of single undertaking is full consensus. To protect the weaker nations from
being pushed by the stronger ones into adopting rules or codes they oppose, WTO negotia-
tions typically do not finish until a unanimous agreement is reached among all participating
members. In practice, this implies that any country, no matter how small, has veto power, with
two important clarifications. First, this is not a requirement but a practice to legitimize the
adopted rules (WTO articles allow simple majority voting). Second, countries that do not par-
ticipate in a negotiation because they are absent cannot veto.
In recent years, many participants in multilateral trade negotiations have been discouraged by
the lack of progress in trade liberalization. Because of the many exceptions, the most fa-
voured nation clause is no longer the rule of international trade but the exception. In addition,
regional agreements extend well beyond trade preferences to cover all sorts of regulations.
These facts account for a significant increase in the complexity of the rules, which burdens all
countries, especially the poor ones. The tremendous increase in the number of WTO mem-
bers has made negotiations more difficult and time consuming, calling into question the use of
the single undertaking and consensus principles.
FAIRNESS AND FAILED REFORMS
Mendoza (2003) considers three aspects of fairness for evaluating the trade regime: neu-
trality, meaning that each country should be at least as well off with the trade regime as
without it; net benefit for all, implying that all countries should benefit from the regime;
and maximin rule, meaning, from the point of view of developing countries, increasing
net benefits from the trade regime. A trade regime built according to these fairness
measures would not harm the progress of developing countries. This is not the situation
of the current regime, however. For example, Harrison, Rutherford and Tarr (1996)
estimate that full implementation of the Uruguay Round would cause a net annual loss
of $16–$30 billion for developing countries, and Anderson et al. (2002) calculate that
the benefits to developing countries of removing trade barriers in merchandise trade
would reach about $108 billion a year.7
Even though the WTO is not a development agency, it plays a key role in im-
proving the economic well-being of the poorer countries by enhancing their opportuni-
ties to participate in international trade flows and thereby boosting their economic
growth. But in 60 years of combined existence, the GATT and the WTO have failed to
persuade the civil societies of developing and least developed countries of the impor-
7 Estimate based on the assumption that high-income countries fully implement the Agreement
on Textiles and Clothing. For a similar analysis, see Mendoza and Bahadur (2002); Ostry
(2002); McCalman (1999).

tance of free trade for economic development. People in those countries see the WTO
not as a portal to material progress and poverty alleviation, but as an international code
of conduct imposed by rich countries on poor countries to serve rich country interests.
While this is a distorted perception, several features of the system have rein-
forced it. For example, tariff cuts under the GATT were negotiated in a reciprocal way.
This implied that developing countries, with smaller economies, had less to offer than
developed countries. When generalized cuts were introduced, developed countries
managed to obtain exceptions or extensions in precisely the sectors in which developing
countries had comparative advantages, such as agriculture, textiles, and footwear. Partly
because of this, poorer countries tended to become marginalized in GATT trade nego-
tiations.
Although the WTO has the specific objective of widening the scope of trade
negotiations and levelling the playing field between developed and developing coun-
tries, many issues remain unresolved. One is the Trade-Related Aspects of Intellectual
Property Rights Agreement (TRIPS), which sets minimum standards of intellectual
property rights protection to be provided by WTO members and requires countries to
develop enforcement mechanisms. The TRIPS Agreement allows countries to pursue
different policies with respect to intellectual property rights protection but specifies
minimum standards that should be attained by a designated time. The TRIPS Agree-
ment was strongly opposed by developing countries. Since developing countries hold
less than 2% of patents worldwide (UNDP 2001), the agreement implied high adjust-
ment and compliance costs for them and a large transfer of rents to developed coun-
tries (Panagariya 1999; UNCTAD 1996; World Bank 2001a: xvii). Full implementation
of TRIPS would increase the price of patent applications and would, for example, boost
drug prices by between 12 and 68% (Fink 2000; Watal 2001; Lanjouw 1997; Subrama-
nian 1995). And contrary to the TRIPS model, many developing countries have a col-
lective ownership tradition, especially for indigenous knowledge (Oxfam International
2002).8
Why, then, did developing countries agree to TRIPS? One factor was pressure
from developed countries, especially the United States and the European Union. De-
veloping country governments also believed in promises that agreeing to TRIPS would
encourage negotiations and allow them wider access to agricultural and textile markets
in developed countries (Baldwin 2004). And business interests in many developing
countries encouraged their governments to adopt stronger intellectual property rights
protection in order to shield their own innovative activities in domestic markets.
Stronger intellectual property rights protection can also encourage imports, inward for-
eign direct investment and technology licensing, all of which can lead to increased tech-
nology transfer.9 Article 7 of TRIPS states that “the protection and enforcement of intel-
lectual property rights should contribute to the promotion of technological innovation
and to the transfer and dissemination of technology, to the mutual advantage of pro-
ducers and users of technological knowledge in a manner conducive to social and eco-
nomic welfare, and to a balance of rights and obligations.” (The actual impact of
stronger intellectual property rights protection covered by TRIPS is likely to depend on
a country’s level of economic development; see viewpoint 4.1 in chapter 4.)
8 According to the World Bank (2001a: xvii), the cost of enforcement and administration to-
gether with high prices for drugs, agricultural inputs and other key technological inputs could
account for a significant share of public expenditure in many low-income countries.
9 For more on these issues, see Falvey and Foster (2005).

Another reform issue concerns the Agreement on Textiles and Clothing,
launched to phase out the Multi-Fibre Arrangement over a 10-year period ending in
2005 and to develop a fairer trade regime (Spinanger 1998).10 However, the Agreement
on Textiles and Clothing was structured so that developed countries preserved some of
their privileges. Developing countries did not achieve full gains from market access until
the end of the 10-year period, whereas developed countries could carry out selective
liberalization without violating the agreement. Safeguard provisions were also included
to restrict imports if the domestic industry faced serious damage.11 In other words, de-
veloped countries could protect domestic industries and restrict market access for at
least nine years. Developed countries also used antidumping duties to protect their
markets. This discriminatory trade regime has distorted specialization in textiles and
clothing industries for more than four decades.12
A third issue is agriculture. While there have been significant reforms in manu-
factures trade, agriculture is still a highly protected market in both developed and de-
veloping countries. The Agreement on Agriculture, the first international attempt to
reform agricultural trade policies, established an agenda for increasing market access
and correcting distortions by reducing tariffs and subsidies—both desired by developing
countries. Yet exemptions considerably weakened the agreement (Mendoza and Ba-
hadur 2002; UNDP 1997).
Agricultural markets are still far from transparent. Myriad trade-distorting in-
struments are used, such as tariffs, tariff-rate quotas, export and production subsidies
and price discrimination. However, empirical research is not conclusive about the po-
10 The Multi-Fibre Arrangement was designed to protect local producers and jobs in importing
developed countries. It laid down rules for imposing quotas through bilateral or unilateral ac-
tions when surges of imports caused disruptions in trade and production in the textile and cloth-
ing sector of importing developed countries. The quota system was applied differentially across
countries and products. The Agreement on Textiles and Clothing called for a gradual elimina-
tion of quota restrictions between 1995 and 2005.
11 The contingent protection rules were part of the protocol of China’s accession to the WTO.
They permitted other WTO members to use protectionist instruments against China for 15
years. Those instruments covered special anti-surge clauses for textile and clothing products for
four years (until 2008); general anti-surge clauses for 12 years; and initiation of antidumping
cases, allowing China to be treated as a non-market economy, for 15 years. Developed coun-
tries’ lobbies can also seek to use other protectionist devices such as eco-labelling schemes, la-
bour standards rules and other regulatory devices to control imports from China. The non-tariff
barriers and the technical barriers to trade may impose extra costs to suppliers.
12 The origin of the Multi-Fibre Arrangement dates back to 1961 and 1962, when the negotia-
tions for the Short-Term and the Long-Term Arrangements of International Trade in Cotton
Textiles started. The Long-Term Arrangement allowed developed countries to impose restric-
tions, unilaterally or through a negotiated voluntary restraint agreement, on imports from devel-
oping countries considered to be a source of actual or potential “market disruption.” The Long-
Term Arrangement meant breaking the non-discrimination principle of the GATT. Its provi-
sions were preferred to those of the GATT, which allowed safeguard action, retaliation and
proof of “serious injury” rather than “market disruption.” The developed countries considered
the Long-Term Arrangement to be more advantageous for developing countries as it offered a
transparent set of rules for market access, including a guaranteed increase in quotas (of 5% per
year in most cases) in place of a series of ad hoc, restrictive measures. The Long-Term Ar-
rangement also required developed countries to restructure their industries and return interna-
tional trade in textiles and clothing to GATT rules. The Long-Term Arrangement was ex-
tended twice, in 1967 and 1970. Extension of the arrangement in 1974 gave way to the Multi-
Fibre Arrangement.

tential benefits of agricultural liberalization. Some studies find the potential gains from
agricultural liberalization for all developing countries to be much smaller than the po-
tential gains from liberalization in other areas, such as services and manufacturing
(Charlton and Stiglitz 2004). Other studies report much higher potential gains (Cline,
2004). Despite these differences in quantitative results, empirical research points to
some important issues. One is that the gains from agricultural liberalization vary consid-
erably across countries. Another is that the absolute gains from liberalization are higher
for developed countries than for developing countries (Francois 2005). A third is that
while some developing countries will win from higher prices, and others will lose (Di-
maranan, Hertel and Keeney 2003), overall the impact is likely to be small for develop-
ing countries. Most gains for developing countries follow from improved market access
to other developing country agricultural markets. For developing countries to gain from
trade liberalization in agriculture and elsewhere, liberalization must take place in devel-
oping countries as well as in developed countries.
A fourth issue is the long decline in developing countries’ terms of trade, with
increasing volatility weakening development prospects (UNCTAD 1999). Yet the inter-
national trade regime has not implemented efficient mechanisms to prevent this decline
(see viewpoint 3.1).
A fifth issue is tariff peaks and escalation. Tariff peaks (tariffs of 15% and above)
reduce developing countries’ ability to export key products to the developed world,
while tariff escalation (tariffs increase as products undergo additional processing) acts as
a disincentive to adding value to products. Tariff peaks imposed by industrialized coun-
tries are often concentrated on labour-intensive products such as textiles, garments,
footwear and leather products, which are of export interest to developing countries.
Footwear and garments make up more than 60% of products affected by high tariffs
and exported to developed countries by developing countries. High-technology prod-
ucts such as computers and office equipment face significantly lower tariffs. Tariff esca-
lation constitutes an additional barrier to accessing new markets since the effective rate
of protection increases with each stage of processing (table 3.3). Exporting processed
industrial products becomes more difficult, and upgrading to higher value-added activi-
ties within a value chain is slowed. This biases exports towards unprocessed resource-
based commodities with a low level of value-added (UNCTAD 2003).
Table 3.3. Tariff escalation in leather products

Region or group Raw materials Semi-finished products Finished products
Asian Tigers 0.5 4.5 11.3
South Asia 0.0 14.0 32.9
North America 0.0 0.6 9.7
Sub-Saharan Africa 2.8 5.0 21.1
Oceania 0.0 0.0 7.6
Latin America 5.4 13.0 22.8
North Africa and 5.0 5.0 27.1
Middle East
Source: UNCTAD 2003. Note: Leather products include footwear, upholstery and general products. Tariffs are aver-
age values.
A sixth issue concerns the temporary movement of workers. Included as Mode

4 in the General Agreement on Trade in Services, the temporary movement of service

suppliers is of key interest for many developing countries. Yet the restrictions imposed
on such movements by developed countries are still very high for political reasons.
Finally, the WTO has been strongly criticized for being non-transparent and
undemocratic, marginalizing developing countries’ positions in trade negotiations (Kwa
2002). Developing countries do not have the negotiating capacity to deal with a complex
WTO agenda, and this is especially crucial in the framework of the single undertaking
principle. A country’s share in international trade strongly influences how it deals with
disputes in the WTO (Mavroidis 2002). There seems to be a contradiction between the
notion of a “development round” and the reality of hard bargaining in the WTO nego-
tiations.
Despite substantial improvements, bargaining power remains skewed in favour
of large developed countries, reinforcing the benefits to rich countries and the gains of
unfair liberalization. Complex rules, negotiation processes and trade disputes require
investments in specially trained staff and negotiation machinery, which only devel-
oped countries can afford. The remaining imbalance stems largely from the fact that the
WTO rules are not enforceable except by the threat of sanctions applied under the
dispute settlement mechanism. For a small victim of trade discrimination, curtailing im-
ports from a large offender is not much of a threat. A recent example is Ecuador. It
won a trade dispute against the European Union worth $200 million. But its authorities
decided not to enforce the sanction by curtailing imports from the European Union
since this would have done more harm than good to their country.
Developed countries are not alone in their protectionist bias. Average tariff pro-
tection in developed countries is 0.8% for imports from other developed countries and
3.1% for imports from developing countries (the difference is explained by higher-than-
average protection in sensitive sectors, such as agriculture). Average tariff protection in
developing countries is 10.9% for imports from developed countries and 12.8% for im-
ports from developing countries (WTO 2003). While developing countries are right to
demand the dismantling of protectionist barriers, including producer subsidies, in de-
veloped countries, they must be ready to lower their own barriers as well. But just as
agriculture and immigration policy are politically sensitive issues in developed countries,
so is liberalization of trade in manufactures in developing countries. In fact, the break-
down of the Cancun Ministerial Meeting was received with some relief by developing
countries, which were under pressure to liberalize their manufactures trade.
The failure to deliver equitable outcomes is the ultimate cause of the WTO cri-
sis of legitimacy (Esty 2002; Keohane and Nye 2001). Since 1999 and the WTO Minis-
terial Meeting in Seattle, tension has increased in the international trade regime. Many
developing countries consider that protection of intellectual property rights, the envi-
ronment and other of the so-called Singapore issues (trade and investment, trade and
competition, transparency and government procurement and trade facilitation) 1314 are
not of primary concern to them, and except for trade facilitation, these issues were
dropped from the work programme of the Doha Round. Developing countries regard
market access, antidumping measures and agriculture as their priorities. In July 2006
13 The so-called Singapore issues were introduced by the European Union at the 1996 Singa-
pore Ministerial Meeting and were received with little enthusiasm by the other members.
14 Trade facilitation means simplification and standardization of trade and customs procedures,
transport and other certifications, and information flows associated with the import and export
of goods.

the Doha talks were suspended by WTO Director Pascal Lamy, when it became ap-
parent that collective action by the negotiators from six countries, the core Group of Six
(Australia, Brazil, European Union, India, Japan, and United States), had failed to
reach an agreement on a compromise because of the large difference over trade liber-
alization (tariff and subsidies cuts) in agricultural goods. The inability of negotiators to
reach a deal on talks begun in Doha in 2001 does not mean that the international col-
lective effort to reduce trade barrier is dead. But this failure will significantly delay mul-
tilateral efforts towards freer global trade.
AN EXPANDING WTO AGENDA: COMPETITION POLICY AND STANDARDS

However, fairness is not the only problem in today’s international trade regime. An-
other important obstacle is the expanding WTO agenda. It has been argued that it is
not possible to regulate trade without including ancillary issues that affect it. The ques-
tion is, which issues should be considered? As Maskus (2000) put it: “Critics of TRIPS
wonder why, if [intellectual property rights] are included in the WTO to protect intel-
lectual capital, labour standards are not also needed to protect workers, environmental
regulations to protect natural resources, and competition policy to protect consumers”
(Maskus 2000: 2).
Competition policy has characteristics of a public good since the benefits it pro-
vides are often non-rival and non-excludable. A lack of effective competition policies
can hinder the realization of the gains from liberalization, especially for small, develop-
ing countries (WTO 1997; UNCTAD 1997; Jenny 2001; Osakwe 2001; OECD 2001;
Hoekman and Holmes 1999; Evenett, Levenstein and Suslow 2001). There are many
examples of cartels involving firms with headquarters in developed countries and sub-
stantial exports to developing countries (see, for example, Levenstein and Suslow 2000).
Two problems arise for competition policy: how adequately developing country
governments deal with anticompetitive practices, and what international cooperation is
needed to deliver this public good. Developing countries seldom have the resources to
implement effective competition policies. And while there are many bilateral and re-
gional agreements on competition policy, most multilateral principles for competition
are voluntary (Cooke 2002). These principles, thus, confront a collective action prob-
lem that limits implementation. WTO involvement in competition policy raises some
concerns, however, about the compatibility of the operational modalities of competition
policy and trade liberalization (Tarullo 2000; Klein 1996). These worries, supported by
the academic literature and practical experience, have derailed past proposals for a de-
tailed multilateral code on competition policy in favour of broad, generally accepted
principles (Anderson and Holmes 2002; Garcia-Bercero and Amarasinha 2001). Al-
though developing countries have a stake in a global competition policy framework, in
Cancun many opposed negotiations on the Singapore issues.
Environmental and health regulations and technical standards are intended to
achieve objectives where the private market has failed to do so, and their absence could
generate social losses. Standards can be considered a public good, involving no rivalry,
although they are not necessarily non-excludable (Casella 1996; Kindleberger 1983).
And unless they discriminate between sources of supply, they do not imply secondary
trade costs. Yet, in the real world, they can generate important trade distortions. Since
the costs of compliance with standards may be higher for foreign firms than for domes-
tic firms, they can be used to gain strategic international trade advantages. They may be
non-transparent, they may be tailored to exclude entrants into a particular market and

they may be higher than necessary to achieve a particular level of social protection
(Maskus, Wilson and Otsuki 1999). The number of trade disputes over standards
brought to the WTO has risen in recent years, especially those related to agricultural
products and the Agreement on Sanitary and Phytosanitary Standards.
Environmental standards and labelling are also an increasing source of trade
friction (Maskus, Wilson and Otsuki 1999; Jha, Markandya and Vossenaar 1999). De-
veloping countries consider standards and technical barriers a major issue since they
require technical assistance in meeting standards and are concerned about abuse of
standards by developed countries to restrict access to their markets (see viewpoint 3.2
on capacity building to meet international standards).
Labour standards are not a new issue in the WTO framework, although they
are not subject to WTO rules and disciplines. As early as 1953 the United States tried
(unsuccessfully) to add a labour standards article to the GATT. It tried, again unsuc-
cessfully, to negotiate an article on labour standards in both the Tokyo and Uruguay
Rounds (Charnovitz 1986). At the Marrakech signing of the Uruguay Round accords in
April 1994 the United States, with some support from Canada, Japan and the European
Union, obtained a commitment to add the issue to the WTO agenda for the Singapore
Ministerial Meeting in December 1996. This debate was negatively resolved at that
meeting (Stern 1998b). Although consensus has been reached among members on
committing to the set of core labour standards imbedded in International Labour Or-
ganization (ILO) conventions and on abstaining from their use for protectionism, still
lacking is an instrument to enforce those conventions. The ILO was recognized as the
competent body to set and deal with these standards, and the WTO and ILO would
continue their collaboration on these issues.
Some WTO member governments believe that core labour standards, such as
freedom of association, recognition of the right to collective bargaining, and elimination
of all forms of workplace abuse (forced labour, certain kind of child labour, gender dis-
crimination), should be brought under WTO rules and disciplines. They believe that
this would stimulate member governments to improve workplace conditions and con-
tribute to coherence in global policy-making. Developing countries fear that labour
standards will be used as a trade barrier by developed countries as developed countries
seek inclusion of labour standards under the WTO framework to avoid competition
from countries with a low level of labour rights. The empirical work shows that labour
standards do not much matter, either for trade or for foreign investment (see, for ex-
ample, Rodrik 1996; Aggarwal 1995; OECD 1996b). The theoretical literature suggests
that if the market produces sub-optimal labour standards, this market failure should be
corrected directly rather than through indirect instruments such as trade sanctions.
Trade openness in general also contributes to higher labour standards. Countries that
achieved high per capita income also rapidly eliminated child labour and made pro-
gress in improving their labour standards (Panagarya 2005a: 25, 32).

Viewpoint 3.2
Capacity-building to meet international standards
Standards are part of the architecture of mar- weaknesses and thereby affect the competitive
kets. On the face of it, they are quintessentially positions of countries and certain market partici-
public goods and so may be undersupplied, espe- pants. They note that a few developing countries
cially if the costs of provision are borne in one have gained access to high-value markets in in-
market and some of the benefits fall elsewhere. dustrial countries despite the existence of exact-
Standards play important roles in the world econ- ing standards. This less pessimistic view of the
omy and in economic development. impact on international trade of sanitary and phy-
tosanitary-related standards suggests that it can-
Standards and regulations: threats or oppor-
not definitively be concluded that standards and
tunities?
regulations are either barriers or facilitators. It is
Standards and regulations can be seen as trade more important to consider the effects of such
barriers or trade facilitators. Those who see them standards in the context of wider capacity con-
as trade barriers suggest that standards and regu- straints and underlying supply chain trends.
lations are established and abused to protect do-
Governments can help by facilitating collective
mestic markets from imports (Athukorala and
action among stakeholders in addressing sanitary
Jayasuriya 2003). The costs of complying with
and phytosanitary standards. Collaboration
standards are exorbitant and unrealistic for both
among industries, governments, universities and
producers and exporters, especially in developing
research organizations is needed to attain collec-
countries. Even when imposed as health and
tive efficiency and upgrading (Humphrey and
safety requirements, standards (such as sanitary
Schmitz 2000, 2002). By leading domestic pro-
and phytosanitary standards) can impede trade
ducers to improve their product quality and pro-
because of additional compliance costs or be-
duction methods, in the long run this could make
cause they are set at a level that foreign produc-
producers more aware of changing standards and
ers cannot profitably meet, allowing domestic
regulations and therefore more proactive. Never-
producers to monopolize the domestic market
theless, despite efforts to strengthen sanitary and
(Mattoo 2001). As a result, developing countries
phytosanitary-related capacity, developing coun-
may not benefit from trade liberalization not only
tries still need technical assistance from industrial
by being unable to enter new markets, but also by
countries and donor organizations to expedite
having difficulty maintaining existing ones (Wilson
technological and organizational upgrading.
2002; Unnevehr 2003).
Standards and regulations are also seen as Upgrading capacity

trade facilitators. Recent empirical evidence sug- The traditional technical approach was to treat
gests the potential for upgrading and integrating standards as public goods or services. Increas-
producers and exporters in developing countries ingly, trade economists have grouped standards,
in global value chains. Standards and regulations regulations and conformity-assessment proce-
are designed to support market development and dures together as technical barriers to trade. It is
facilitate transactions. Standardization allows time to return to the original paradigm, taking into
firms to reduce market uncertainty and the risks account recent thinking about where the border
associated with research and development (R&D) between public and private really lies in an era of
by setting clear and common requirements. In network firms. This is illustrated with sanitary and
addition, standards and regulations can expedite phytosanitary norms.
the diffusion of technical knowledge codified in Tighter sanitary and phytosanitary standards are
specific process or product specifications, for in- double-edged. They are clearly a public good in
stance, by providing the incentive to upgrade several respects. They raise output quality and
products and processes, leading to improvements help firms to better access markets and to lower
in productivity (Hufbauer , Kotschwar and Wilson costs through the adoption of best practices.
2002). However, they also act as a selection device,
More recently, Jaffee and Henson (2004) found assisting producers able to adapt them and con-
that rising sanitary and phytosanitary standards sumers wishing to pay for superior quality. The
accentuate underlying supply chain strengths and provision of standards therefore has uneven

benefits and may accentuate competitive differ- services in some regions but not in others, and
ences based on existing comparative advantage. this can change over time. The approach to defin-
Where markets are highly competitive, those who ing publicness needs to take into account histori-
gain least may go out of business. cal and institutional specificities.
However, many standards are based on institu- Moreover, private and public nature needs to be
tions in which the public and private sectors are assessed not only at the domestic level but also at
both engaged, and where the absorptive capacity the regional level. For example, the development
exists such standards may be able to create a of standards capacity in South Africa can have a
comparative or competitive advantage. From this major spillover on its neighbours. When domestic
perspective, there can be opportunities for up- market or supply capacities do not justify national
grading but there are also potential threats. Their public investment, developing standards capacity
effect is highly asymmetric: small countries, at the regional level may be justified. In southern
smaller producers and less advanced productive Africa, for example, it would be hard to justify in-
systems and institutions are in a much worse ini- vestment in upgrading the standards and quality
tial position. Special efforts towards them may systems for many of the minor tropical crops,
therefore be required. even in South Africa. But a regional approach
Where producers are trying to upgrade into new would make sense, given the importance of these
niches, the market may be best placed to create crops at that level and the possibility of spreading
standards for vertical Smithian trade. There is a the fixed costs among more countries and pro-
concern, however, that where buyer power is con- ducers.
centrated, the norms may evolve in a manner that A large part of standards-related activity has
does not reflect efficiency, let alone fairness. The characteristics of a private good, notably the ac-
difficulty in setting uniform international standards tual activity of conformity assessment, which is
is reflected in the increasing politicization and generally carried out by and for private actors.
recent contentious votes within the Codex Alimen- However, there are many possibilities for market
tarius. failure, economies of scale and externalities in this
domain. All these clearly call for public monitoring
Several policy priorities follow:
and intervention.
• Participate actively in the debate on the role
Excessive or inappropriate involvement by the
of standards, to complete the transformation
state may discourage private entrepreneurship
of the vision of standards as pure barriers
and worsen qualities of services (inspection and
into a more realistic vision of standards as
certification). This may frustrate international rec-
both a threat and an opportunity for export-
ognition while still increasing costs for domestic
ing countries.
producers. In the worst case, this may condemn
• Support developing countries in a selective producers to the outskirts of lucrative markets. But
and strategic manner. Analytical work is excessive or inappropriate reliance on the private
crucial to identify initial comparative advan- sector may also create serious problems, espe-
tages and basic absorptive capacities. cially for smaller and weaker entrepreneurs and
• Support development of the public-private countries. The development of strong institutions
interface and institutions to promote the is, in any case, required by recent moves by the
definition of priority investment areas and principal buyers. Where costs are too high at a
the upgrading of capacity to comply with national level, a regional response may be
standards and regulations. needed (as in the Southern African Development
Community).
Efficient public intervention
The implications for public policy are clearly that
The border between private and public goods
governments cannot neglect standards but must
and services is a shifting line. It is important to
think carefully about where the policy response
distinguish the two goods but also to recognize
should focus to encourage the private sector and
that there is no universal classification. Depending
where it should provide direct public infrastructure
on the strength and capacities of domestic and
services. If the toughest bottleneck for the least
regional institutions, the dividing line can move:
developed countries is in conformity assessment,
market institutions can develop standards-related
there is a dilemma. There are numerous market

failures, learning effects and informational exter- tentions and rejections by the United States and
nalities, but it is in the nature of this activity that the European Union as demand proxies. But
provision of public goods alone cannot substitute countries that are larger exporters still tend to be
for an effective market. The public provision has more present in the alerts, detentions and rejec-
to be of the basic infrastructure, within which in- tions database and are not always recipients of
ternationally recognized operators can provide aid funds. The best match appears to be with EU
services to local producers, who must be given alerts and rejections. However, this is linked to the
incentives to use them. There is a line between fact that Africa is one of the biggest aid recipients
appropriate and necessary public intervention, and traditionally also an important exporter of
and harmful interventionism. Where that line agricultural products to the European Union.
should be drawn often has to be determined An important conclusion is that more data are
through case-by-case analysis. required and more open discussions of criteria for
Several policy priorities follow: and mechanisms of allocations of sanitary- and
• Provide analytical support to countries or phytosanitary-related funds are needed. The
regions to identify where direct public inter- Standards and Trade Development Facility is a
vention is needed and where encourage- move in the right direction, but it is not yet
ment and support of the private sector enough. As to the scale of assistance provided, it
should be sought. is difficult to estimate what proportion of the need
is covered. Cerrex (2003) estimates that sanitary
• Provide support for the definition and im-
and phytosanitary measures represent annual
plementation of public intervention, with the
overheads of 2%–10% of the value of produce
aim of making it selective and efficient; build
exported by most African, Caribbean and Pacific
capacity to provide services efficiently; and
exporters. Cerrex (2003: 59) estimates of costs of
benchmark and diffuse successful interna-
individual projects for assisting with compliance
tional experiences across countries. An area
with EU maximum residue levels for pesticides
where the United Nations Industrial Devel-
range from $59,000 to $828,000, with the share
opment Organization has especially useful
covered by aid ranging from 28% to 90%. Given
experience is in fostering public-private
that donors do not pay the full costs, the more aid
partnerships to provide services and in help-
there is, the greater the scale of cofunding re-
ing to minimize the costs of public interven-
quired.
tion and to make it responsive to the needs
of the private sector. Several policy priorities follow:
• Support the effort of the Standards and

Data and analytical work Trade Development Facility in developing
complete and transparent data on the distri-
A preliminary analysis of global demand and
bution of aid funds for supporting activities
supply could be attempted only with great difficulty
to build capacity for complying with stan-
because of the many limitations with proxies for
dards and technical norms.
both supply and demand. Nevertheless, some
interesting lessons arise. • Conduct analytical work to identify priority
areas for donor actions and interventions
When trade concerns as a demand proxy, there
based on a set of appropriate demand prox-
is little correlation between assistance and the
ies and on detailed country- and regional-
concerns raised. This may be because countries
level studies.
most able to identify concerns at the World Trade
Organization are thought to be most able to re- Source: Drawn from a background paper by
spond at a national level, whether by private or by Holmes et al. (2005).
public means. The match is better for alerts, de-
.

Although there are arguments in favour of including new trade-related issues in
the international trade regime, there are also arguments against expanding the WTO
agenda. Charnovitz (1998) asserts that issues with non-trade-related goals have contami-
nated past trade regimes. In addition, an ever-expanding agenda creates incentives for
strategic behaviour since any country with little interest in a specific issue can employ a
strategic trade-related issue to reinforce its bargaining position on trade issues (Hoek-
man 2002).
To avoid this problem, Leebron (2002) suggests distinguishing between substan-
tive trade-related issues, which enhance policy effectiveness, and strategic issues. Simi-
larly, Maskus (2000) argues that the failure to make progress on trade-related issues
could erode support for the international trading system. According to Maskus, compe-
tition policy should be included in the international trade regime because of its strong
links to existing WTO rules and its potential institutional fit, claims that cannot be
made for the inclusion of environmental and labour standards (see Stern 1998b for a
review of the literature).
THE NATIONAL FRAMEWORK FOR ECONOMIC INTEGRATION

Adequate provision of the international trade regime as a public good requires national
as well as international inputs. National inputs include trade and industrial policy, insti-
tutional capacity, productive capacity, trade adjustment assistance and safety nets, and
the capacity of a country to supply them depends on how the international trade regime
is shaped by collective actions (Mendoza 2003). There are many trade-related areas
where the national framework is in short supply in developing countries. Technical ca-
pabilities to implement WTO agreements are limited. Social networks to deal with
trade adjustments are weak. Institutional adjustments related to trade are costly. Infra-
structure or financial markets are inappropriate to exploit the benefits of trade.
Regional trade agreements are one possible response to this inability to deliver
the national component of the international trade regime. Regional trade agreements
have proliferated in recent years, and several studies have concluded that such agree-
ments among developing countries, which provide preferential trade access to members
but keep trade policy with the rest of the world unchanged, are not always beneficial for
the bloc as a whole, although some members may benefit because of non-competitive
conditions or agglomeration effects (Panagariya 1997; Schiff 1997; Memedovic et
al.1999; Memedovic 2005b; see also viewpoint 3.3 on preferential trade areas). Re-
gional cooperation on production of public goods offers greater promise, however, than
regional trade agreements (Schiff 2002).

Viewpoint 3.3
Preferential trade areas: an international “public bad”?
The most favoured nation principle is the cen- bling clause, adopted in 1970 as a 10-year excep-
trepiece of the General Agreement on Tariffs and tion to GATT Article I but rendered as a “decision”
Trade (GATT)/World Trade Organization (WTO) in 1979 without an expiration date, two or more
system. If a member nation grants another mem- developing countries may engage in virtually any
ber nation a tariff concession, it must extend that exchange of trade preferences.
concession to all other member nations. The out-
come is a uniform tariff across all trading partners, Preferential trade areas as a national public
without discrimination. bad
There are two key advantages of this principle.
Economic theory concludes that preferential
First, if discrimination were permitted, each mem-
trade areas that are largely trade diverting and
ber nation could subject a product to as many
welfare worsening will be endorsed while those
tariff rates as it had trading partners. A bureaucrat
that are trade creating and welfare improving will
would then decide the national origin of the prod-
be rejected. The underling reason is that produc-
uct and assess the duty accordingly. With thou-
ers rather than consumers are the key driving
sands of products and hundreds of tariff rates
force behind policy changes and they benefit from
applicable to each product, this would be a night-
trade diverting preferential trade areas while los-
mare for the businessman and a dream come true
ing from trade creating preferential trade areas.
for the bureaucrat. Moreover, with the compo-
nents of each good produced in different coun- Three devices are commonly applied to contain
tries, establishing the origin of a good would itself competition between member country firms and to
be subject to arbitrariness. The most favoured maximize the benefits to these firms at the ex-
nation principle cleans up this potential mess. pense of outside firms. First, insofar as preferen-
tial trade areas admit sectoral exceptions, they
Second, the most favoured nation principle
focus on excluding precisely the sectors in which
promotes efficiency. A product is imported from
trade creation would dominate. Second, countries
the nation that can deliver it the most cheaply. We
use stringent rules of origin to contain competition
buy automobiles from Japan if it can deliver them
in sectors that are subject to trade creation. Third,
more cheaply than all other trading partners.
liberalization in sectors subject to trade creation
Likewise, we buy shirts from China if it supplies
may also be back loaded.
them the most cheaply. Preferential tariffs, on the
other hand, introduce inefficiency by allowing
Preferential trade areas as an international
high-cost sellers to outcompete low-cost sellers by
public bad
taking advantage of the preference. Economists
refer to this phenomenon as trade diversion. While private producer interests can come to-
Thus, the most favoured nation principle repre- gether to forge preferential trade areas that are a
sents an important public good available to the national public bad and to thwart those that prom-
world economy. Preferential trade areas allow ise to be national public goods, from the viewpoint
their members to lower tariffs among themselves of the international trading system, the adverse
without lowering them against other WTO mem- effects of preferential trade areas on non-
bers. All preferential trade areas involve discrimi- members are even greater. If two or more coun-
nation against outsiders in favour of insiders and, tries enter an arrangement that hurts one or more
thus, violate the most favoured nation principle. of them, it is their business. In the design of the
Nevertheless, two key forms of preferential trade rules of international trade, it is the impact of such
agreements—free trade areas and customs un- arrangements on the rest of the world that should
ions, which eliminate internal trade barriers—have receive the highest priority. Preferential trade ar-
been accommodated within the GATT/WTO sys- eas can adversely affect outside countries and the
tem through an exception contained in GATT Arti- multilateral trading system through five major
cle XXIV. Additionally, under the so-called ena- channels: terms of trade, increased protection

against non-members, fragmentation of the trad- First, discrimination against non-members can
ing system through what Bhagwati calls the “spa- occur at any time as long as the regionalism is of
ghetti-bowl” effect, the stumbling-block effect on Article XXIV variety. Therefore, an “open” club is
multilateral liberalization and proliferation of non- still likely to harm non-members.
trade issues. Second, openness is not as innocuous as it
sounds. As Bhagwati (1995, 1997) notes, the
Is open regionalism a public good? admission price can include several unpleasant
“side payments” that are essentially unrelated to
Some advocates of the current wave of prefer-
trade. These include acceptance of stronger intel-
ential trade areas defend it on the ground that it
lectual property rights regime, investment rules
represents “open regionalism” in contrast to the
and labour and environmental standards than a
closed, import-substituting regionalism of the
country would otherwise prefer.
1950s and 1960s. There is no single definition of
open regionalism but the most obvious one is Finally, open membership does not necessarily
open membership. Other criteria that have been translate into speedy membership. It took the
cited include compatibility with GATT Article XXIV European Union more than 40 years to grow from
and freedom of member countries to pursue fur- 6 members to 15. The Canada-US Free Trade
ther trade liberalization unilaterally or reciprocally. Agreement was concluded in 1988 and its mem-
bership had grown to only three by the mid-1990s.
The requirement that members be free to pur-
Attempts to join by even a small country such as
sue unilateral or bilateral liberalization rules out
Chile faced serious resistance. Larger countries
customs unions as being compatible with open
such as China, Japan and India are not even on
regionalism even though they are perfectly com-
the US radar screen.
patible with GATT Article XXIV. In a customs un-
ion, individual members are not free to lower their Some observers have noted that current re-
tariffs. Nor are members permitted to conclude gional arrangements are taking place after eight
preferential trade areas with outside countries on rounds of multilateral trade negotiations have
their own. This criterion rules out EU regionalism considerably lowered trade barriers. Therefore,
as open but not NAFTA, despite the fact that ex open regionalism can be defined as free trade
post the European Union has signed more new areas and customs unions with low trade barriers
preferential trade areas than NAFTA. Therefore, on outside countries. While this definition distin-
the condition would seem to be neither necessary guishes recent regionalism from earlier varieties, it
nor sufficient for a preferential trade area to qual- does not overcome the fundamental contradiction
ify as open. between openness and discrimination: outsiders
may face low barriers but they are nonetheless
Compatibility with Article XXIV may be a neces-
subject to discrimination relative to insiders.
sary but not sufficient condition for an open ar-
rangement. If two countries start with prohibitive For the sake of argument, even if this definition
tariffs and then form a preferential trade area, of open regionalism can be accepted, the level of
keeping prohibitive tariffs on outside countries, discrimination at which closed regionalism turns
they satisfy the requirements of Article XXIV. Yet, into open regionalism has to be defined. For ex-
such arrangements can hardly be characterized ample, if Mexico maintains a large number of ex-
as open regionalism. In more practical terms, this ternal tariffs in the 15%–20% range, keeps open
criterion says nothing about why the regionalism the option of raising them to 35% and also has
of 1950s and 1960s was closed while that being antidumping at its disposal, is it pursuing open
pursued today is open. regionalism under NAFTA? Or should external
trade barriers in the United States be adopted as
The remaining criterion—open membership—is
the critical level that distinguishes open from
perhaps the most important. If outsiders find it
closed regionalism? But this definition is also
attractive to seek membership, a preferential trade
problematic: even after the Uruguay Round liber-
area can eventually encompass the entire world
alization, more than half of textile and clothing
and thus lead to free trade for all. Despite this
products remain subject to 15%–35% tariffs in the
possibility, open membership has three important
United States, and antidumping remains a major
limitations that give critics reason to be sceptical.

trade barrier. To put the matter differently, despite intensive products such as apparel and footwear,
lower (though by no means low) external trade non-agricultural products in developed countries
barriers today, the motivating force behind re- are subject to tariffs of 5% or less. Tariffs in de-
gional arrangements is no different than in the veloping countries are higher, but have dropped
1950s and 1960s. Now, as then, discrimination is considerably in recent years. An agreement that
the name of the game as member countries con- phases out these tariffs over the next 15 years or
tinue to be driven by a desire to secure preferen- so is not unrealistic. To be sure, multilateral insti-
tial access to the partner country's market. tutions such as the World Bank and the Interna-
tional Monetary Fund will need to assist develop-
Turning negative preferential trade areas into ing countries to ensure that the loss of tariff
positive ones revenue does not result in serious macroeco-
nomic imbalances. But such resources are likely
The key policy question is how to turn the nega- to be well within the reach of these institutions and
tive force of preferential trade areas into positive will be well spent on opening world markets and
ones. Many proposals have been made to reform giving order to the world trading system.
Article XXIV, to make pursuit of preferential trade
Achieving free trade in agriculture in the next 15
areas more difficult or to make them more open.
years is less realistic, not least because even
But since virtually all WTO members are currently
many developing countries are not ready for it.
pursuing these arrangements, prospects for these
Nevertheless, there is reasonable scope for an
proposals to be taken seriously are negligible.
agreement that phases out export subsidies and
Therefore, the only practical option is to achieve
substantially lowers domestic support and border
worldwide free trade more speedily. This will kill
protection under the Doha Round. If the WTO
the preferences at the source: preference relative
members can come together to accomplish such
to zero tariffs is zero.
liberalization, the problem of discrimination will be
The goal of achieving free trade in industrial substantially alleviated.
products by 2020 for developing countries and
Source: Drawn from a background paper by
perhaps sooner for developed countries is not
Panagariya (2005a).
unrealistic. Except for a small fraction of labour-

The increase in cross-border interactions has created demand for the provision
of regional public goods in a variety of areas. Based on the subsidiarity principle, there
are several advantages to supplying regional public goods through regional cooperation
agreements (Devlin and Estevadeoral 2002; Sandler 2002, 2004a,b). The incentives to
free ride diminish as the number of countries that must supply a public good falls. In
addition, matching the public good’s benefit spillover range with the political domain
fosters efficiency by equating the good’s marginal cost of provision and the recipients’
marginal benefits. Regional agreement may save on transaction costs compared with a
larger decision-making jurisdiction. In particular, the presence of localized benefits
promotes the evolution of an institution based on shared culture, norms and values,
thereby reducing asymmetric information. Finally, regional agreements may increase
the credibility and ability of a regional group to act jointly to obtain external financing
for regional public goods provision.
However, there are also some disadvantages. One of the results of the prolifera-
tion of regional agreements has been the complexity of overlapping trade rules among
commercial partners and a lack of transparency. In the presence of economies of scale,
it may be more efficient to build institutions that provide regional public goods to sev-
eral regions. And there may not be a nation with enough leadership capacity to support
the appropriate regional institution and assume responsibility for some regional public
goods (Devlin and Estevadeordal 2002). Moreover, economies of scope from reduced
unit costs endorse providing two or more public goods in the same jurisdiction even
though the benefit spillover ranges of the goods differ. This difference means that bene-
fit recipients and funders of the goods do not match for at least one good, which then
results in inefficiency.
PROMOTION AND FINANCING POSSIBILITIES

The limited provision of national public goods related to trade in developing countries
has had a negative impact on the provision of the public good at a global level, since in
many cases the aggregation technology of trade-related public goods is that of the weak-
est link.
These supply shortages are due to financial and institutional constraints. For ex-
ample, to gain acceptance for its meat, vegetables and fruit in developed countries, Ar-
gentina invested about $83 million to achieve higher levels of plant and animal hygiene
during 1991–96. Hungary spent more than $41 million on upgrading hygiene condi-
tions in its slaughterhouses between 1985 and 1991. Mexico spent about $30 million to
upgrade intellectual property laws and enforcement (Finger and Schuler 2000). And
because the norms embodied in WTO agreements are often those prevailing in OECD
countries, implementation costs are especially high for developing countries and asym-
metrically distributed.
For the international trade system to function properly, developing countries
require additional financial and technical support from developed countries. In part,
this capacity building involves the provision of complementary national public goods to
recipient countries, so that these countries can gain access to international public goods
that include trade regimes. The extent to which countries are able to take advantage of
improvements in market access depends on a range of supply-related factors, and in
many of the poorest developing countries supply problems are so acute that the interna-
tional community should give immediate assistance in productive capacity building
(United Nations 2001). Since it is crucial for the proper functioning of the international

trade system that developing countries receive additional support to enable their effec-
tive participation, UN agencies such as the WTO, United Nations Conference on
Trade and Development or the United Nations Industrial Development Organization
should step in to provide support. And because support for legal and institutional re-
form based on some harmonization principle may not yield the desired benefits, tech-
nical support should be adapted to the specific needs of the receiving countries (Schiff
2002).
POLICY PROPOSALS
Changes are needed in the international trade system for full provision of this interna-
tional public good. And while the WTO has not formally signed up to the Millennium
Development Goals, it did make clear in its preamble to the inaugural Marrakech
agreement its commitment to development. Thus the Millennium Development Goals
should be an important yardstick by which the WTO is assessed.
Reforms should deal with the tensions that have emerged between developing
and developed countries from the Uruguay Round. The bargain struck at the Uruguay
Round entailed high costs of compliance and minimal benefits in terms of market ac-
cess for developing countries (Mendoza and Bahadur 2002; see also Finger and Schuler
2000; Oxfam International 2002; Page and Davenport 1994). The multilateral trade
regime is valuable only to the extent that it generates utility for its users. According to
Mendoza (2003), a better balance between free and fair trade is needed to fully provide
this public good.
REBALANCING THE RESULTS OF THE URUGUAY ROUND
Several changes are needed to rebalance the results of the Uruguay Round. The first is
liberalizing agriculture and textiles markets in industrial countries (Mendoza 2003; Fin-
ger and Schuknecht 2001; Hertel and Martin 2001; Ostry 2002). The second is restrict-
ing the use of antidumping measures by developed countries against developing coun-
tries (Rodrik 2001; UNCTAD 2000; Raghavan 1996; United Nations 2001). The third
is allowing greater international mobility of workers for trade in labour-intensive services
(Rodrik 2001). And the fourth is reducing tariff peaks and tariff escalation (United Na-
tions 2001; Mendoza 2003). As Hertel and Martin (2000) have argued, when weighted
by import volumes, manufacturing tariffs on developing countries’ exports to developed
countries average 3.4%, while developed countries face average tariffs of only 0.8% on
their exports to developing countries.
While caution is warranted in interpreting the quantitative results of empirical
research, further liberalization is important for reducing poverty. Cline (2004a) esti-
mates that 440 million people could be lifted out of poverty over 15 years if global free
trade were implemented. However, most of the poverty reduction would take place in
Asia, with more modest results in other regions.
Thus the benefits of trade depend not only on trade rules, but also on domestic
capabilities to exploit the potential benefits of international trade. Many developing
countries lack those capabilities. Therefore, not only a more development-oriented ap-
proach to trade rules is required, but also the financial and technical support to build
those capabilities.

INCREASING DEVELOPING COUNTRY PARTICIPATION IN THE WORLD TRADE
ORGANIZATION
Improving the participation of developing countries in the WTO requires increasing

the transparency of the WTO, improving developing countries’ bargaining capacity,
blocking the inclusion on the agenda of items that encourage strategic behaviour and
preventing coercion of developing countries by developed countries in the decision-
making process (Blackhurst, Lyakurwa and Oyejide 2001; Helleiner 2001; Shafaeddin
2000; Third World Network 2001; Jawara and Kwa 2004).
In addition, the decision-making process needs to become more efficient. Ostry
(2000), for example, advocates the creation of a restricted policy forum with rotating
membership on the basis of geography and share in world trade (see also Schott and
Watal 2000).
FOSTERING DEVELOPMENT GOALS
Fostering development goals in the international trade regime requires building com-
parative advantages that diversify exports and generate robust growth (Shafaeddin 1994;
Gomory and Baumol 2000). Such strategies are difficult to implement in the current
trade regime (Mendoza 2003; Helleiner 2001; Hausmann and Rodrik 2002; Rodrik
2001). Trade rules with a development-oriented approach would ensure sufficient pol-
icy manoeuvrability for developing countries.
The WTO agreements contain a number of provisions for the “special and dif-
ferential” treatment of developing countries, allowing for granting developing countries
special rights and privileges and for preferential concessions like longer time periods to
implement their tariff commitments and the preferential access to the markets of devel-
oped countries under the Generalized System of Preferences (GSP).
The concept of special and differential treatment has changed over time, from
one providing a range of flexibilities and “spaces for development policy,” making trade
liberalization supportive of development (GATT), to one that is more an instrument for
helping developing countries build their legal and institutional capacities to undertake
trade liberalization (WTO) but limiting the space for economic policy. The provisions
included broad and largely unenforceable statements in favour of development, without
distinguishing among developing country members in terms of their development
needs.
Developing countries agreed to these changes and also to new commitments re-
lated to intellectual property protection, services and investment measures, in the expec-
tation that in turn they would benefit from better market access in agriculture, textiles
and clothing and from greater sensitivity in implementation from special and differential
provisions. But benefits from these changes have, for the most part, failed to material-
ise. This has led to developing countries requesting, in the Doha Declaration mandate,
that the special and differential provisions in specific WTO agreements be made more
precise, effective and operational.
One suggestion to resolve the tensions arising from the politization of discus-
sions of special and differential treatment is to define developing country access to spe-
cial and differential provisions as an integral part of the provisions themselves. This
could be done through a more differentiated approach using certain development-

related criteria or through explicit thresholds based on economic criteria (Keck and
Low 2004: 24).
WTO rules failed to take the development needs of developing countries into
account (Birdsall and Lawrence 1999; Michalopoulos 2000).15 Rodrik (2001) has pro-
posed replacing the Agreement on Safeguards with a broader agreement on develop-
ment and social safeguards, and Mendoza (2003) has recommended creating a trade
and development review council to allow developing countries, individually or collec-
tively, to make a case for reforms of the trade regime. However, it would be important
to differentiate among developing countries since middle-income developing countries
would have to accept a more balanced set of rights and obligations than would low-
income countries (Rodrik 2001).
PROVIDING ASSISTANCE IN COMPLYING WITH TRADE RULES
Developed countries and international organizations should provide targeted aid to

strengthen laws and institutions in poor countries to assist them in complying with trade
rules (Audley et al. 2003). But this also implies the need to establish a realistic timetable
to implement reforms, to estimate the costs of implementation and to finance social
safety nets in countries that could be negatively affected by outcomes of WTO negotia-
tions (Mendoza 2003). The single undertaking rule for WTO commitments and obliga-
tions makes this assistance especially crucial.
IMPROVING DEVELOPING COUNTRY ACCESS TO TECHNOLOGY
For many developing countries it is unrealistic to impose state-of-the-art intellectual

property laws on the model prescribed following the WTO agreement (United Nations
2001). This issue needs to be re-examined, so that incentives to innovate are compatible
with development strategies and access to low-cost medicines. Some regulations have
been extremely hard to implement or been counterproductive for developing countries.
A recent review of the literature provides new evidence linking protection of in-
tellectual property to economic growth, innovation and technology diffusion. While
stronger intellectual property protection is likely to benefit many developing countries
with sufficient capacity to innovate, it is likely to be of little use to others, and may even
impose additional costs. There is considerable scope, therefore, for countries at differ-
ent stages of development to use the flexibilities in the TRIPS Agreement to enhance its
benefits (Falvey and Foster 2005).
15 When general agreements conflict with the “development needs” of developing countries,
WTO rules allow for exceptions to the most favoured nation clause under the Generalized Sys-
tem of Preferences (GSP). Begun as a system of unreciprocated concessions from developed to
developing countries to support the development of infant industries in developing countries,
the system has now become an instrument of pressure by developed countries to exert non-
trade concessions from developing countries (in areas such as intellectual property rights, hu-
man rights, and the environment). Increasingly complex trade rules and growing empirical evi-
dence that GSP has not benefited developing countries over the long run are directing increas-
ing attention to this issue.

RELATED CONCERNS
As Mendoza and Bahadur (2002) state, these reforms are not only in the interests of
developing countries. Developed countries should benefit as well from the more stable
and legitimate trade regime, anchored in a more participatory WTO. Without such
changes, the global public good of an international trade regime will continue to be un-
derprovided.
Any reform of the international trade system must take into account three fac-
tors. First, developing countries are not a homogenous group, sharing the same inter-
ests. For example, according to some empirical research, most benefits from agriculture
liberalization would go to just two countries, Argentina and Brazil. Other developing
countries would be more interested in issues such as technical assistance or greater mo-
bility of workers. Second, empirical research also shows that developed countries would
benefit much more than developing countries from trade liberalization (Charlton and
Stiglitz 2004), so even for efficiency reasons the developed world should work harder to
reach a broader agreement on trade rules. And third, major problems will arise if the
WTO no longer serves the interests of the major trading nations (Kerr 2002). They
may begin to rely more on regional trade organizations or look for new clubs. Develop-
ing countries ought to benefit more from the WTO, but this will happen only if the ma-
jor trading countries remain committed to it. Any reform must avoid the withdrawal of
the developed countries from the system.

CHAPTER 4
KNOWLEDGE AS A PUBLIC GOOD
FOR DEVELOPMENT
E
conomic and social development depends on the capacity to generate, absorb
and diffuse knowledge and technology. Knowledge and technology have the po-
tential to provide benefits to large numbers of users, and the benefit received by
any one user does not reduce the benefits received by others. Knowledge is often con-
sidered a public good (Stiglitz 1999), but it is more complex than it first appears. Several
important qualifications must be considered. These qualifications are crucial to the de-
sign of appropriate policies to increase the rate of innovation and to guide its direction,
at both the national and the international levels.16
ARE KNOWLEDGE AND TECHNOLOGY PUBLIC GOODS?
Technology and knowledge are neither totally private nor totally public goods (Nelson
1992; Callon 1994). Seen through the public goods lens, knowledge is only partially
non-rival and non-excludable.
KNOWLEDGE AND RIVALRY
If someone develops a new method to stop headaches, and others buy, rent, imitate or
steal the new method, the inventor is still able to use it. More people now benefit from
the same method. While the transfer of a physical commodity (a pen, a car, a machine)
implies that the original proprietor loses control of the object, nothing like that happens
when knowledge is acquired or transferred to others. In this sense, knowledge has the
key characteristic of a non-rival good in consumption.
But if someone has invested massively to develop the new method, the way oth-
ers acquire the knowledge becomes important. To ensure some form of remuneration,
the developer of the new method will want some way to exclude individuals who do not
pay to use the method (excludability).
The prospective purchaser of knowledge also has to face a market that is highly
imperfect. Not everyone will be willing to pay for knowledge whose usefulness has not
already been demonstrated. But once the knowledge is disclosed, there is no longer a
need to pay for it. There is an additional characteristic that differentiates knowledge
from other goods: there are no limits to duplication, but variable costs are zero or very
16 This chapter defines knowledge as the human capacity to understand and make sense of
external reality and technology as the application of knowledge to practical purposes. This dis-
tinction reflects, in terms of stocks rather than flows, the old Schumpeterian insight about the
difference between invention (which does not necessarily have an economic impact) and inno-
vation (which is the application of new ideas and designs to new products and processes). Sci-
ence and technology are defined as the overall activities carried out by public and business ac-
tors inside and outside designated institutions. The most formalized part of science and
technology is classified as scientific research and experimental development, and statistical evi-
dence is regularly collected by national and international organizations.

limited and at the end of the lease the purchaser will still possess the knowledge and the
developer will have difficulty preventing its further use.
If another creative inventor develops a competing device, a fierce competitive
race may occur to upgrade the knowledge to make it more appealing to a prospective
customer, to use current systems to protect it, to market it and to trade it. This process
has all the characteristics of economic rivalry and competition and relies, of course, on
the existence of methods that allow individuals to be excluded from the use of knowl-
edge. Although there is no rivalry in use of innovation, there might be substantial rivalry
in generating and upgrading it.
KNOWLEDGE AND EXCLUDABILITY
When a good is non-rival in consumption, excludability is no longer a technical issue,

but rather a social construct. More than in other areas of economic life, institutions are
needed to enforce the excludable nature of knowledge. Markets are incapable of
proper regulation, production and distribution of knowledge, especially technological
knowledge, which is likely to be applied and commercialized.
In the absence of public regulation, there is less economic incentive to generate
knowledge. Inventors might concentrate on knowledge that can be exploited even with-
out institutional regulations, such as knowledge that can be kept secret. This might im-
ply that investments to generate knowledge would be directed towards fields that are
difficult to imitate (such as aircraft) or that can be technically protected (such as DVDs)
rather than fields that can be easily imitated (such as drugs) or that cannot be technically
protected.
Of course, humans do not generate knowledge for economic returns only: in-
geniousness and creativity are fundamental components of human nature. But in a so-
ciety without public institutions and regulations, inventors are likely to keep their dis-
coveries secret or to neglect important practical applications because of lack of
incentives.
TECHNOLOGY IS NOT FREELY AVAILABLE
There are other reasons why it is difficult to apply the standard framework of pure pub-
lic goods to technology. Even if the producers of a technology are willing to make the
knowledge entirely non-rival and are prepared to distribute it freely, not everyone will
be able to acquire it and benefit from it. The costs of imitating and acquiring the same
expertise can be higher for some people than for others (Mansfield, Schwartz and
Wagner 1981). Typical public goods, such as security and clean air, assume that the
economic agent does not have to make any additional effort to take advantage of them.
That is not the case with technology: even when producers of knowledge have the best
intentions of transferring their expertise, the economic agent has to invest time, efforts
and resources to acquire it—and even that may not be enough.
The literature on technology transfer from developed to developing countries
has convincingly shown that technology transfer, like the generation of new knowledge,
is an uncertain activity with successes and failures (Bell and Pavitt 1997; Lall 2001).
Technology cannot be equated with information (Pavitt 1987). Callon (1994) intro-
duced the relevant difference between knowledge and technology that is freely available
(not protected by legal or technical devices) and that can be used without incurring costs
84 KNOWLEDGE AS A PUBLIC GOOD FOR DEVELOPMENT

(that can be directly applied without additional investment by the prospective user).
Freely available knowledge is a rather large basin. But to exploit this basin of knowl-
edge, a lot of additional effort in learning, tooling up and development is needed. In
this sense, the amount of knowledge that can be used without incurring costs seems to
be very limited, and it refers only to knowledge that is fully embodied in products.
The practical possibility of transferring technology also depends on the com-
plexity of the invention and on the infrastructures available to would-be imitators. Drugs
can be imitated and replicated rather easily while entry barriers in nuclear physics are
much higher.
If the distinction between technology that is freely available and technology that
can be used without incurring costs is accepted, important implications emerge for pub-
lic policy. The public good argument has a strong normative component, and it is raised
to advocate the direct intervention of public agents to produce a good that individual
agents otherwise will not produce.
But this assumes that the good is useful to the majority of people and therefore
that it is in the public interest to have a government that will ensure the production of a
good that would not otherwise be produced. On which sort of knowledge should the
government concentrate? On knowledge that is freely available (even if that implies ma-
jor individual costs to acquire it)? On knowledge that can be used without additional
costs? Or on knowledge that has welfare implications? The priority fields may differ
substantially according to the answer provided.
GOVERNMENTS AND THE PRODUCTION AND DISTRIBUTION OF KNOWLEDGE
Knowledge is so crucial for welfare and its public good characteristics are so peculiar
that public players have always taken an active role in its promotion and distribution.
To reward the producers of good ideas, to increase the investment in knowledge and to
induce inventors to reveal their discoveries, public policies and regulations are in place
in industrialized countries. Knowledge provides positive externalities that can potentially
benefit the whole community. From this springs the notion that it is in the interest of
the community to have public policies to foster knowledge. Governments have pro-
moted knowledge to win wars, to increase security, to safeguard public health, to ex-
plore the universe, to improve communications and to advance education and learning.
Public intervention and regulation has taken various forms. It can be subdivided into
four broad areas:
• In-house investment. The government develops knowledge through publicly funded
institutions such as research centres (examples are the National Aeronautics and
Space Administration and the European Organization for Nuclear Research) and
universities. This includes the training of qualified people under the assumption
that they will become a “creative class”. In principle, the results of government-
funded and performed research are in the public domain and freely available.
• Procurement. The government contracts with the business sector to develop the
knowledge it needs, whether embodied in final products or entirely disembodied.
In the first case, the government purchases products (for example, an aircraft with
given specifications) and the executing firm is required to develop the necessary
knowledge to build them. In the second case, the government asks the business sec-
tor to develop new disembodied knowledge (for example, the prototype of a new
vaccine). The government generally holds the property rights, although contracting

firms are likely to retain them de facto, and so may distribute the knowledge in
other fields. Since the contracting firm develops the knowledge, it retains the exper-
tise. Even if contracts require that the contracting firm eliminate all associated in-
formation, it is not possible to erase the knowledge acquired.
• Beauty contests. The government rewards individuals and organizations that have
produced socially relevant knowledge. These rewards act as incentives for the busi-
ness sector to conduct scientific and technological investigations. The contest im-
plies that private players disclose their knowledge, and in some cases the govern-
ment can acquire it as a consequence of delivering the reward. But this is more
likely to be effective for the codifiable than for the tacit component of knowledge.
• Intellectual property rights. The government guarantees private inventors will reap
the fruits of their discoveries, generally through intellectual property rights. These
provide an incentive to private agents to invest in the generation of knowledge and
to disclose the knowledge once developed. Intellectual property rights are designed
to exclude others from the use of knowledge, to make knowledge property and to
generate a market for it.
THE RATIONALE FOR INTELLECTUAL PROPERTY RIGHTS

Intellectual property rights, such as patents, copyright and trademarks, are institutional
devices that should allow the owner of knowledge to protect and trade ideas and there-
fore should make knowledge excludable. But intellectual property rights apply to only a
part of the overall stock of knowledge. They concentrate mainly on knowledge devel-
oped by profit-seeking agents that is “useful”—the component that is directly related to
technological applications and that has been developed relatively recently (Andersen
2005). When intellectual property protection is obtained, technology can be sold and
hired.
Intellectual property rights are based upon a pact between society, represented
by the government, and the individual: the individual makes some knowledge available
and the government protects the individual’s ability to obtain the benefits of that knowl-
edge. The protection consists of granting a monopoly on the economic use of the
knowledge, although this is neither in theory nor in practice a total protection. First,
governments grant monopoly rights on knowledge for a limited amount of time (at least,
for patents and copyrights). Second, if there is a strong public interest in doing so, the
government can decide to use the knowledge regardless, through compulsory licensing
or expropriation.
The aim of intellectual property rights is less to protect the rights of owners of
knowledge that has already been generated than to encourage investment in knowledge
and to induce inventors to disclose what they know (Scherer and Ross 1990). In other
words, it is based on the assumption that some static advantages—making privately gen-
erated knowledge freely available—have some dynamic disadvantages—the lack of incen-
tives will discourage agents from inventing in the future (Stiglitz 1999). The intellectual
property rights system should therefore try to balance the static and the dynamic advan-
tages and disadvantages.
Intellectual property rights are not limited by government legislation alone, but
also by the nature of a competitive economy. In the real world, intellectual property
rights provide only partial protection: competitors and would-be imitators are often able
to bypass the legal limitations by “inventing around” them. Consumers also often man-

age to acquire the knowledge associated with intellectual property rights without paying
its costs. Knowledge is used, copied and imitated, and existing legal devices are unable
to provide full protection to the singer, photographer, software engineer and inventor.
Public policies have tried to balance the private and the public interest. Without
any enforcement, intellectual property rights would lose their meaning. But enforcing
intellectual property rights strictly could imply collecting a fee every time that “Happy
Birthday to You” is sung, although such a policy would be difficult to enforce or to con-
sider as a welfare gain.17 Public policy has therefore been inclined to enforce intellectual
property rights with a certain relaxation, possibly on the assumption that less than per-
fect protection would increase welfare and reduce monopoly power.
Moreover, the somewhat relaxed attitude of governments in the face of intellec-
tual property rights infringements is associated with the idea that the generation of
knowledge is seldom up to a single individual. Innovation in contemporary society often
has multiple fathers and mothers (multiple independent discoveries), each able to ex-
ploit previous knowledge, to exchange information with colleagues, to absorb what is
generated in public research centres and universities. It is impossible to be a successful
producer of knowledge without being an even more successful absorber of knowledge.
In the world of ideas, the difference between “pupil”, “absorber”, “plagiarist” and “rob-
ber” is very thin. To give the full reward to the person who owns the intellectual prop-
erty right does not necessarily mean that the person who most deserves it has been re-
warded.
But as companies whose main products are software, cartoons, films, chemical
formulae or commercial design are becoming more and more prominent, protection of
intellectual property rights is also becoming more important than it was for automobile,
real estate or raw material companies. A dramatic shift towards the privatization of
knowledge is taking place, but it is uncertain whether this shift is creating welfare advan-
tages (Mazzoleni and Nelson 1998; Andersen 2004; Jaffe and Lerner 2004). While in-
tellectual property rights are an important asset for firms, especially multinational firms
in high-technology industries, intellectual property rights are not necessarily associated
with a commensurate increase in the amount of resources businesses devote to knowl-
edge and innovation.
LESSONS ON APPROPRIABILITY
The current system of intellectual property rights is designed to treat all cases uniformly.
Thus, the length of patents is the same, whether an invention is a radical or a simple
refinement of previous inventions, and all scientific and technological fields are treated
the same, regardless of their significance for economic development and human wel-
fare.
It may well be too complex to design a system of intellectual property rights that
differentiates protection according to the significance of an invention. And it is also true
that the current system assumes that the economy will be able to provide some differen-
tiation of rewards, so that a significant invention will become successful and provide
substantial returns to its inventor, while inconsequential inventions may not be imple-
mented at all. And, in cases of controversies, it is left to the courts to assess compensa-
tion for infringement, which is proportional to the damage incurred.
17 In the United States the copyright to “Happy Birthday to You” will expire in 2030 (Gorman
2005).

Evolutionary theory in economics has tried to bridge the gap between theory
and the real world. Nelson and Winter (1982) found that the rate and direction of in-
novation pursued by firms is strongly connected to technological opportunities and ap-
propriability. Not all fields offer the same potential for development. They present dif-
ferent technological opportunities, which vary according to scientific advances and
structural change. Firms concentrate on areas that promise greater industrial openings.
But technological opportunities alone do not drive the direction of technological
change pursued by the business sector. While business players take into account how
scientific and technological breakthroughs can open new markets, they are equally care-
ful to consider the possibilities for collecting the returns on their investments by appro-
priating the results of their innovations. The fields chosen for greater technological
change are not necessarily those that provide greater scientific advance, but rather those
that provide increased profits to firms. Firms consider appropriability, the combination
of economic methods (such as lead time, market power and economies of scale), legal
and institutional regulations (such as intellectual property rights) and technical devices
(such as industrial secrecy and access codes) that allow (or do not allow) the innovator
to obtain returns on knowledge (see Levin et al. 1987). Empirical results have yielded
several lessons about appropriability.
• Economic methods are more important than institutional methods. To get returns
from innovation, firms rely more on their ability to exploit the innovations in the
market than on intellectual property rights. Innovating firms do not consider patents
and other intellectual property rights as the most important method of appropria-
tion (Levin et al. 1987). Using data from the European Community Innovation Sur-
vey, Arundel (2001) confirms that lead-time advantages are considered the most ef-
fective appropriability method in 54.4% of cases of product innovation and 46.7%
of cases of process innovations, while patents are considered the most important
source in 11.2% of product innovations and in 7.3% of process innovations.
• There are significant differences across industries and technological fields. While
for some industries intellectual property rights are a key source of competitive ad-
vantage, they are not for others. Industry sensitivity to intellectual property rights is
often associated with overall technological intensity. In fact, high-technology indus-
tries rely more on intellectual property rights than do traditional industries. But
there are significant exceptions: for example, the aircraft industry, despite its very
high research and development (R&D) intensity, relies much more on industrial se-
crecy than on intellectual property rights.
• There are significant differences across countries. The coverage and effectiveness of
intellectual property rights also vary greatly across countries, and legislation is far
from uniform. Despite various international treaties and agreements, intellectual
property rights continue to differ across countries in rights granted to inventors and
innovators and penalties imposed for violations.
Differences are even greater in practice: while some countries are keen to
enforce intellectual property rights, others are much less prepared to use the institu-
tional machinery. Industrial countries have stricter rules for intellectual property
rights than do developing countries, although even among Organisation for Eco-
nomic Co-operation and Development (OECD) countries there are substantial dif-
ferences in legislation. These differences are strictly associated with the fact that
some countries have a very important knowledge-based industry and therefore are
strongly committed to protecting it against imitators. For countries with a very small

knowledge-based industry, which tend to rely on international diffusion and transfer
of knowledge, introducing strong intellectual property rights implies high costs,
which are not necessarily associated with advantages.
• Policy agendas will diverge across countries. In a multilateral context, some coun-
tries might try to free ride, to imitate and exploit the knowledge developed else-
where without investing their own resources in scientific and technological investiga-
tion. A weak intellectual property right regime may seem to work to their advantage
since stronger protection might be thought to be in the interest of foreign rather
than national firms. But a weak intellectual property right regime will provide little
incentive to domestic innovation, impeding a country’s ability to catch up. Gener-
ally, it is thought that catch-up will occur through technology diffusion, rather than
domestic innovation. Gerschenkron (1962) in his influential book talks of the ad-
vantages of backwardness and of countries away from the frontier being able to
“borrow” technology from the frontier. Here diffusion rather than innovation ap-
pears to be the method of catch-up (though see the comment below, suggesting that
innovation itself may help facilitate diffusion). The argument concerning weak intel-
lectual property rights and innovation would therefore seem to be based less on its
role for technology diffusion and catch-up and more on the idea that weak intellec-
tual property rights, by discouraging domestic innovation, result in countries relying
on inefficient firms that engage in counterfeiting and imitation activities. Countries
that are able to absorb the knowledge generated elsewhere are often also the most
successful innovators. The Japanese case appears to be quite subtle (Maskus and
McDaniel 1999), encouraging diffusion, but also incremental and adaptive innova-
tion, particularly through the use of utility models. In the post-war period Japan,
which despite often being accused of neglecting intellectual property right protec-
tion, was able to develop as a major innovator partly by encouraging the diffusion of
knowledge generated abroad. Recently, the Republic of Korea and Taiwan Province
of China have had the same experience. The implications of stronger intellectual
property rights depend on a country’s level of development (see viewpoint 4.1).
INTELLECTUAL PROPERTY RIGHTS IN DEVELOPING COUNTRIES

Within a developed society, intellectual property rights produce a static disadvantage,
but from the dynamic viewpoint they increase the resources devoted to inventive and
innovative activities. The same argument does not necessarily apply for developing
countries. If developing countries rely on the advancement of knowledge occurring in
the developed countries, existence of strong intellectual property rights in developed
countries will be crucial even for developing countries.
Provided that scientific and technological capabilities are asymmetrically distrib-
uted between developed countries and developing countries, a natural question is
whether developing countries have any reason to introduce legal norms to protect intel-
lectual property. Wouldn’t laws protecting intellectual property inherently advantage
developed countries, which produce the bulk of innovation, and disadvantage develop-
ing countries, which do not? If developing countries introduce stronger protection of
intellectual property, their firms and individuals will have to pay more for access to
knowledge.

Viewpoint 4.1
Intellectual property rights, economic growth and technology transfer
Developed countries, with many potential inno- For middle-income countries with high imitative
vators, have tended to opt for relatively strong capacity, the evidence suggests that strengthen-
intellectual property rights systems, with the aim ing intellectual property rights has no effect on
of encouraging inventive and creative activities, growth overall. In combination with the evidence
which are seen as an important source of long-run that a stronger intellectual property rights regime
economic growth. In most developing countries, encourages technology diffusion through higher
however, genuinely innovative activities are lim- trade flows and increased foreign patenting, it
ited, and the majority provide only weak intellec- would appear that the gains to growth from higher
tual property rights protection, if any, as a way of technology diffusion are simply offsetting the
allowing the rapid diffusion of knowledge. For growth-enhancing benefits obtained from the imi-
many of these countries, imitation is an important tation now precluded by the stronger intellectual
source of technological development, and provid- property rights regime. These are countries whose
ing stronger intellectual property protection is intellectual property rights regimes will need to be
seen as shifting profits from domestic imitative strengthened to meet the TRIPS standards. For
firms to foreign firms and reducing output in the them the policy focus should be to encourage
domestic economy rather than encouraging do- domestic firms to shift from imitation to innovation
mestic innovative activity (Deardoff 1992). The and to facilitate other activities with growth-
counterargument is that stronger intellectual prop- enhancing technology spillovers.
erty protection can reward creativity and risk- For poor countries some evidence suggests that
taking even in developing economies, with coun- strengthening intellectual property rights encour-
tries that retain weak intellectual property protec- ages growth, but research sheds little light on the
tion remaining dependent on dynamically ineffi- channels through which this occurs. Stronger
cient firms that rely on counterfeiting and imitation. intellectual property rights appear to have no ef-
The Agreement on Trade-Related Aspects of In- fect on domestic innovation. Moreover, the impact
tellectual Property Rights (TRIPS) was estab- of stronger intellectual property rights on the vari-
lished during the Uruguay Round of trade negotia- ous channels of technology diffusion for these
tions to strengthen the international intellectual countries is found to be ambiguous. But these
property rights regime. The first comprehensive countries will need to strengthen their intellectual
and global set of rules covering intellectual prop- property rights regimes to meet the TRIPS stan-
erty rights protection, TRIPS specifies minimum dards. Some of these countries may be con-
standards that should be attained by a designated cerned that TRIPS will inhibit their firms from
time. TRIPS covers copyrights and related rights, passing through the imitative stage that seems to
trademarks, geographical indications, industrial be the precursor to innovative capability in rela-
designs, patents, the layout designs of integrated tively high-technology industries. The TRIPS obli-
circuits and undisclosed information, including gations may make WTO membership less attrac-
trade secrets and test data. tive for countries with imitative aspirations.
Empirical findings on protection of intellectual A country’s openness to international trade also

property seems to be important. The evidence suggests
that, other things equal, stronger intellectual prop-
The implications of stronger intellectual property
erty rights have a larger impact on growth in more
rights depend on a country’s level of development.
open economies. The exact mechanism has not
For more advanced countries—those whose intel-
yet been revealed, but it appears that international
lectual property rights regimes already meet or
technology diffusion plays an important role. Re-
exceed the TRIPS standards—the evidence sug-
sults suggest that stronger intellectual property
gests that strengthening intellectual property
rights lead to less domestic patenting and more
rights increases growth, at least partly through
foreign patenting in more open economies. While
increased innovation, and partly through in-
this suggests larger outflows of royalty payments,
creased technology diffusion.

the growth-enhancing effects of foreign patenting should encourage technology diffusion and that
also appear to be stronger in more open econo- the benefits of technology diffusion should be
mies. In addition to the role of trade in the rela- greater in more open economies, in countries that
tionship between intellectual property rights pro- are more developed and in larger markets where
tection and growth, intellectual property rights foreign firms have less market power.
protection is also found to influence trade flows.
Policy responses to TRIPS
There is evidence suggesting that stronger intel-
lectual property protection leads to larger trade The empirical evidence makes it clear that pol-
flows, though mainly for countries with imitative icy recommendations should vary with a country’s
capability and not necessarily in goods and indus- development and its imitative or innovative capac-
tries considered high-technology or patent sensi- ity. The policy priority in low-income countries with
tive. weak institutions and limited research capacity, for
example, should be to improve the investment
Since most innovation occurs in a few advanced
environment with liberal trade policies to encour-
countries, foreign direct investment (FDI) and
age imports of technology embodied in goods.
technology licensing are, in addition to trade, per-
Such countries should not be required to apply
ceived to be the major formal channels for interna-
and enforce strong intellectual property rights
tional technology transfer. But while there is some
obligations, and they should have access to
evidence that stronger intellectual property rights
mechanisms that reduce the cost of importing
encourage licensing, the evidence on whether
patent-protected goods. For developing countries
stronger intellectual property rights encourage FDI
with relatively high levels of innovative potential,
is largely inconclusive. Intellectual property rights
the stronger intellectual property protection re-
do appear to be important for some transnational
quired by TRIPS can facilitate the transition from
corporation activities (research and development
imitation to innovation. By encouraging technology
and local production) and especially in some sec-
diffusion through international trade and foreign
tors (chemicals and pharmaceuticals). This means
patenting, stronger intellectual property rights
that transnational corporations are more keen to
protections will also help offset any adverse
invest in countries with stronger intellectual prop-
growth effects from lost imitative opportunities.
erty rights protection in these areas. Most host
countries anticipate that FDI or licensing will yield Policies related to the implementation of the
further benefits from technology spillovers to do- TRIPS standards should be country specific. A
mestic firms. Such spillovers are difficult to meas- range of policies that can assist countries in en-
ure, so perhaps it is not surprising that there is hancing the benefits from TRIPS have been dis-
little conclusive evidence of growth-enhancing cussed in the literature:
spillovers through inward FDI, at the economy- • Intellectual property rights–related policies.
wide, industry or firm level. Policies related to patent fees, the scope of
A further important source of technology transfer patentability and the novelty requirement in
for some countries is likely to be foreign patenting, patents can all contribute to the develop-
with a country’s market size potentially being im- ment of a domestic innovative sector and to
portant in determining whether increased foreign the international diffusion of knowledge.
patenting encourages or inhibits growth. The evi- Fees for patent applications and renewal of
dence suggests that increased foreign patenting patents and trademarks can be set to pro-
has a negative effect on growth in small countries, mote innovation and diffusion. Developing
a positive effect in middle-size countries and no countries can limit the scope of subject mat-
effect in larger countries. When attention is re- ter that can be patented and encourage
stricted to developing countries, foreign patenting rapid publication of patent applications, al-
has a positive effect on growth at high levels of lowing domestic firms to invent around the
intellectual property rights protection, high levels patent. Countries can set high standards for
of economic development, for relatively open the novelty requirements of patents, to pre-
economies and relatively large markets. This is vent routine discoveries from being pat-
consistent with the broad conclusions of the litera- ented.
ture that stronger intellectual property protection

• Competition policies. By creating market protection and encourage the dissemination of its
power for patent holders, stronger intellec- findings to all interested parties. More generally,
tual property rights protection can lead to multilateral organizations can reduce overall in-
reduced sales and higher prices, which can formation problems by encouraging collaboration
limit technology diffusion. Several policies and information sharing among governments,
consistent with TRIPS can offset these possibly by serving as an intermediary (Saggi
costs, including price controls through refer- 2003). Technical standards play an important role
ence prices or administrative ceilings, com- in diffusing production and certification technolo-
pulsory licenses entitling a domestic licen- gies, and learning technical standards is often
see to exploit the patent for a fixed period of tantamount to learning technology (Maskus 2004).
time during the patent life and use of parallel Here multilateral organizations could create a pool
imports. of experts to aid standard-setting bodies in devel-
• Complementary policies. Tax policies and oping countries.
regulatory regimes can be structured to Multilateral organizations could encourage the

avoid discouraging innovation. Investment in development of a research culture in developing
education, particularly in science and tech- countries, including training programmes in how
nology, may encourage domestic innova- technology is transferred, and general finance
tion. Development of a local innovative sec- education programmes, particularly those that can
tor can enhance the benefits from aid the diffusion of technology (Maskus 2004).
international technology diffusion. Donor countries and multilateral organizations
• Technology diffusion. For most developing could establish trust funds to finance the training
countries, improved technologies will be im- of scientific and technical personnel to facilitate
ported. International technology transfer oc- the transfer of technologies that are particularly
curs through imports, FDI, licensing and important in the provision of public goods and to
patent applications by non-residents. Poli- encourage research in developing countries
cies aimed at improving infrastructure for (Roffe 2002).
communication and transport and maintain- Maskus (2004) argues that multilateral organiza-
ing macroeconomic stability, along with tions, particularly the World Trade Organization
open trade and investment policies, can en- (WTO), could increase the scope for monitoring
courage such flows, allowing countries im- developed country efforts in the transfer of tech-
proved access to foreign technology. nology and could add an evaluative mechanism
for the effectiveness and extent of technology
Role of multilateral organizations
transferred. Hoekman, Maskus and Saggi (2004)
Multilateral organizations can assist developing argue that the most powerful indirect incentive for
countries in meeting the terms of TRIPS and ob- technology transfer is for developed countries to
taining the maximum benefit from it. grant significant market access for products in
Maskus (2004) argues that capacity building in which poor countries have a comparative advan-
intellectual property rights should focus less on tage. Multilateral organizations, particularly the
the specification of protective laws and regulations WTO, have an obvious role to play here.
and more on the technical, judicial and legal ex- Source: Drawn from a background paper by
pertise underlying effective technology transfer. Falvey and Foster (2005).
Multilateral organizations can facilitate research
on the economic effects of intellectual property

In recent years, a global tendency towards stronger protection of intellectual
property has emerged. Inventions are patented in a much larger number of countries.
Many developed country governments are concerned that the intellectual property of
their national firms is not well protected abroad. Countries whose economic activity is
more directly associated with non-material production are pressing international organi-
zations, especially the World Trade Organization (WTO), to enforce a stronger intel-
lectual property right regime, while other countries, especially developing countries, fear
that this will exclude them from the knowledge generated abroad (Shiva 2001).
Governments in developed countries have started to act directly in defence of
the interests of their corporations. The clearest expression of this tendency is the
Trade-Related Intellectual Property Rights Agreement (TRIPS), the institutional ma-
chinery designed to protect firms’ intellectual property even in countries where they do
not operate and where national sources are unlikely to protect them (May 2000).
Through the WTO, governments can defend their national firms and require foreign
governments to protect their intellectual property.
Why have so many developing countries voluntarily signed TRIPS? One reason
was the hope that OECD economies would open up their markets in return. But there
are also some more specific technological reasons. It was hoped that multinational cor-
porations would want to invest in countries where intellectual property rights were well
guaranteed. It was also expected that formal protection of codified knowledge would
increase the effectiveness of technology transfer, for example, by increasing the number
of patents and licences in developing countries. And it is also likely that developing
countries underestimated the difficulty of enforcing TRIPS in their own countries.
A review of the empirical evidence (Falvey and Foster 2005) finds no conclusive
evidence that TRIPS has favoured developing countries. The general conclusion from
this literature is that TRIPS will need to be toned down to allow developing countries to
acquire the knowledge they lack (May 2000).
KNOWLEDGE ACROSS NATIONAL BOUNDARIES
There is widespread recognition that nations are so strongly interlinked that both the
benefits and the problems associated with technological change are also interrelated.
Major scientific and technological breakthroughs have an impact beyond the borders of
the state that produces the knowledge. Likewise, human problems that require the gen-
eration of new scientific and technological competencies are not confined to the coun-
try where they originate. Health, environment, communications, mobility and safety all
require the development of new knowledge that can potentially provide global benefits.
How do public and business players address these issues?
PUBLIC INSTITUTIONS
Public funding of research and education is grounded in the notion that these will de-
liver some advantages to the community. The advantages can be instrumental (defence,
environment, medical research) or contributions to the general advancement of knowl-
edge (astronomy, archaeology, basic research). In all cases, the government is commit-
ting public resources and so must be able to account for the benefits provided. The na-
ture of knowledge, however, makes it very difficult to single out a community of
beneficiaries. The citizens of any state benefit from knowledge that has been generated

elsewhere (and often paid for by taxpayers of other countries), and, at the same time,
have paid for knowledge that benefits citizens of other countries as well as themselves.
With the non-rival nature of knowledge, this is not necessarily bad news, but this fact
should be taken into account when science policy governance is discussed.
Knowledge has never stopped at the boundaries of territorial states. Through a
variety of channels, knowledge has spread from individual to individual and from gen-
eration to generation, without respecting national borders. Members of the academic
community have always had a strong propensity to exchange the results of their studies
with their colleagues. Cross-border collaborations in academia have many channels, in-
cluding academic societies, international journals, conferences, sabbaticals and mobility
grants. Despite the open nature of the academic community, the bulk of public re-
sources devoted to knowledge—especially to education and R&D—are national in scope.
National governments may decide how much to spend and which fields and institutions
to spend on. It is therefore legitimate to wonder whether there is still a connection be-
tween what taxpayers pay and what they receive.
The strong differences in investment in knowledge mean that some states, par-
ticularly developed countries, will contribute much more to the overall stock of knowl-
edge than others, generally developing countries. In this sense, it can be argued that na-
tional expenditure on knowledge, even when funded and performed within the
boundaries of a territorial state, is also a contribution to international public goods.
But this does not necessarily mean that developing countries will benefit from
this knowledge, especially in the short run. In fact, the low level of technological capa-
bilities and infrastructures in developing countries and a lack of resources often con-
strain the absorption of knowledge generated in developed countries. This is a typical
case where the difference between freely available knowledge and knowledge that can
be used without incurring costs becomes relevant.
The patronage of knowledge produced by governments has followed both co-
operative and rival paths. Governments have generally promoted cooperation across
national academic communities, and many institutional instruments have fostered co-
operation. Public sources have funded joint research programmes, international con-
ferences, international disciplinary academic associations, sabbatical years and student
exchanges. In these areas, each country fosters its own academic community in order to
achieve a better performance, but the methods and results are generally shared.
One way to gather empirical evidence on this form of transborder collaboration
is by looking at scientific papers that are coauthored by scientists of different countries.18
Internationally coauthored papers have increased substantially, thanks in part to the
Internet and information and communication technologies. Internationally coauthored
papers have more than doubled as a proportion of total coauthored papers in the last
15 years (US National Science Foundation 2002). This form of collaboration has af-
fected all countries, but it has become more important in the areas of the world with
small academic communities. While internationally coauthored papers account for 21%
of papers published by US scholars and 30% of papers published by Western Euro-
pean scholars, they account for nearly 50% of papers published by Sub-Saharan African
18 While the number of publications generated by researchers in the business sector is increas-
ing, the bulk of publications are still the outcome of publicly funded research. And researchers
and engineers working in industry tend to publish their results in academic journals when they
are not looking for proprietary claims to the knowledge disclosed.

scholars and more than 40% of those published by Latin American scholars. Regions of
the world with lower scientific capabilities rely proportionally more on cross-border col-
laboration.
THE BUSINESS SECTOR
The business sector is becoming a more important player in the development of

knowledge. Although participation by the business sector in education is still limited,
firms are a crucial player in generating and upgrading professional skills. In both devel-
oped and developing countries firms contribute substantially to training. The role of
firms in financing and conducting R&D is even more important: in OECD countries
the business sector is the major source of financing of domestic R&D, accounting for
some 60% of R&D funding in 2003.19
While a large portion of the results of publicly funded R&D is freely available,
business-funded R&D is generally proprietary and protected through secrecy or intellec-
tual property rights. But even the best-protected industrial secrets and the most effective
intellectual property right regimes will not allow a firm to retain its advances in knowl-
edge. Over time, other firms will imitate successful innovations, leading to the diffusion
of knowledge generated by profit-seeking agents.
Firms can no longer be associated with national territory. Most firms have sub-
stantially increased activities outside their national territory. New products introduced
by firms are traded in international markets, new processes are scrutinized and diffused
by competitors at home and abroad. Not even the technological activities carried out by
multinational corporations are strictly associated with the nation of their headquarters.
In fact, leading multinational corporations have built their own innovation centres,
which are both intrafirm and international. The geographical expansion of firms is also
affecting their technological strategies. Whatever knowledge they produce is by defini-
tion transnational rather than national. Empirical evidence has shown the following:
• More than 15% of the innovations of transnational corporations are generated in
countries other than where their headquarters are located, and that share has been
slowly rising over the last 30 years (Cantwell and Janne 1999).
• The bulk of transnational corporations’ foreign investment-related innovation is di-
rected within North America, Europe and Japan. Just a tiny share of the investment
flows of OECD transnational corporations moves in the direction of developing
countries (UNCTAD 2005).
• There are significant variations across regions in the propensity to invest abroad for
R&D. The propensity is much higher in Europe than in the United States, while
Japanese transnational corporations continue to concentrate their technological ac-
tivities at home (Cantwell and Janne 1999).
There are many reasons why transnational corporations prefer to expand their
activities internationally (for an overview, see Archibugi and Michie 1997; Narula and
Zanfei 2005). Among the main ones:
• Transnational corporations whose headquarters are in high-wage countries can ex-
ploit the wage differentials of low- or medium-wage countries.
19 http://lysander.sourceoecd.org/vl=1798u729/cl=ig/nw=1/rpsv/scoreboard/a03.htm

• To develop products that serve local markets, transnational corporations need to
adapt their products to local regulations. To do that, they need to perform a sub-
stantial amount of R&D and related activities in host countries. Food and pharma-
ceuticals are examples (Molero and Alvarez 2003).
• Companies can “plug in” to the expertise of other countries (Cantwell and Noonan
2001).
• Transnational corporations keep offshore R&D centres in foreign countries to lev-
erage the technological opportunities that exist there (Narula and Zanfei 2005).
Transnational corporations are important vehicles for the international spread
of technology, whether they wish to be or not. They do not always succeed in maintain-
ing ownership of their knowledge, but they often act as dispersers of skills that are fur-
ther developed in the host country. Consider the software district of Bangalore. From
an original foreign direct investment by Texas Instruments in the mid-1980s, a hub of
excellence in information and communication technology and software has developed,
supported by education policies that have led to a substantive base of university-trained
computer engineers (Arora et al. 2001). This resulted in the birth and growth of a clus-
ter of dynamic local firms, which induced other multinational corporations to invest. In
this case, a deliberate policy to build competences has achieved the upgrading of re-
gional technological capabilities.
In recent years, firms have become more willing to collaborate with other firms
on their technological knowledge than is generally assumed. There is a vast literature of
evidence collected on interfirm technology agreements, where the generation and appli-
cation of knowledge is a key component (Hagedoorn 2002). The need to share costs
and risks with others is often more important than the need to keep research projects
confidential.
INTERNATIONAL ORGANIZATIONS
Finally, since intergovernmental organizations are established by states to address com-

mon problems, it seems natural that they could also play a role in improving general-
purpose knowledge.
International organizations set common standards that allow all countries to
benefit from best-practice knowledge. For example, transport and information and
communication technologies can operate internationally only if there are agreed stan-
dards. The value of the standards increases with the number of players able to use
them. Therefore, producers have an incentive to transfer the relevant knowledge and
expertise related to standards to the largest number of potential users. International or-
ganizations devoted to establishing, disseminating and upgrading standards therefore
play an important role in transmitting knowledge. In fact, standards have many of the
attributes of pure public goods.
Second, a key component of multilateral development aid is the transmission of
technological expertise. Specialized agencies such as the Food and Agriculture Organi-
zation of the United Nations, United Nations Children’s Fund, United Nations Indus-
trial Development Organization, World Health Organization and World Bank play a
crucial role in allowing countries to acquire competencies. This does not happen only
in development projects. When international organizations convene countries in a mul-
tilateral context, they provide an important learning opportunity. Multilateral institu-

tions thus provide opportunities for the exchange of knowledge not only from devel-
oped to developing countries but also among developing countries.20
Third, international organizations have promoted and funded several research
centres. Research centres have been established by the United Nations University or
under the auspices of UN specialized agencies. A case in point is the UNIDO Interna-
tional Centre for Science and High Technology.
In some fields with high fixed costs, governments have promoted joint research
centres, as in the case of the European Organization for Nuclear Research (CERN).
The European Union has established several international centres in areas where the
costs and risks of scientific investigation are high and where the benefits are likely to be
collective.
Why is publicly funded research aimed at the direct advancement of knowledge
not larger than it is? The bulk of knowledge-related government spending is still di-
rected towards national institutions. There are many explanations. First, governments
are aware that R&D generates externalities and that there is an equally important local-
ized dimension. Second, there is always a desire to keep the R&D system under direct
control since it is an important instrument for long-term policies. Third, government
R&D spending is not geared only to international cooperation. Despite the general ten-
dency to make the results of R&D freely accessible, there are important areas where
government-sponsored R&D is confidential (as in defence-related R&D). In other cases,
governments, through procurement and other policies, attempt to support the competi-
tiveness of their national firms and are unwilling to share or disclose information when
this can help competitors.
WHAT INSTITUTIONAL FRAMEWORK?
All the considerations above show that both government and business players contrib-
ute to the international provision of knowledge, despite the fact that actions are con-
tinuous and relatively weak. The nature of knowledge allows some of its components to
be distributed as international public goods even in the absence of purpose-designed
institutions: governments may supply the good globally even when that is not their main
motivation, and corporations may do so even against their wishes. But because firms
tend to retain exclusive use of their knowledge, and governments are not necessarily
keen to share it with foreigners, the generation and distribution of knowledge are not
socially optimal.
SUCCESSES AND FAILURES IN TECHNOLOGY TRANSFER
The current controversy in the international regime of intellectual property rights, espe-
cially TRIPS, shows that the business interests in the international diffusion of knowl-
edge are rather different from the public ones. Nonetheless, many developed country
governments follow a two-way track: they protect the interests of their own national
20 An example is oral rehydration therapy, developed in Bangladesh to fight diarrhoea (UNDP

2001: 28). Developed countries have sufficient medical infrastructure to combat diarrhoea by
providing sterilized liquid through an intravenous drip. But when this medical infrastructure is
not available, a simple solution of salt and sugar has often proven effective in preventing child
deaths. Since the same problem affects the majority of developing countries, it is a typical case
where developing country to developing country technology transfer is needed.

companies to prevent other countries from acquiring their know-how without payment
while simultaneously attempting to transfer knowledge to developing countries through
official development aid.
If knowledge could be equated with information and could be transferred be-
tween economic agents at no or very limited cost (regardless of the accumulated skills,
productive activity, geographical location and absorptive capacity of the receiving agent),
it would be a pure global public good. But even in the absence of intellectual property
rights, knowledge cannot be acquired without cost nor will prospective users necessarily
gain any advantage from it. The amount of knowledge freely available and readily ac-
quirable is very small. From this it follows that the main obstacle to technology transfer
is not industrial secrecy or intellectual property rights but rather the lack of absorptive
capacity in developing countries.
Developing countries lagging in technology can benefit from a stock of knowl-
edge that is freely available (neither secret nor legally protected) if they upgrade their
absorptive capacity. They must be active learners, investing massively in human re-
sources in order to scrutinize, choose, modify, improve and apply the stock of available
knowledge. Only a few developing countries, such as the often cited Asian tigers, have
managed to do so (Hobday 2003; Viotti 2002; UNIDO 2002b, Memedovic, 2005a).
Responsibility for successful technology transfer does not only rest with public
policy in developing countries, however. International organizations also have an institu-
tional mandate to facilitate the diffusion of knowledge, and governments of developed
countries should deliberately pursue policies that promote knowledge transfer. A suc-
cessful strategy for technology transfer from developed to developing countries should
therefore consider both the generation and transfer of knowledge.
Often, technology transfer is seen as a two-stage process. In the first stage,
knowledge is generated in some geographically concentrated centres of excellence. In
the second stage, once the knowledge is considered suitable for technological applica-
tions, it is distributed in firms, industries and countries. This strategy is based on the
notions that transmission costs are small and that technological innovation can occur
without direct contact with users. This strategy, applied frequently in the past, has led to
remarkable failures.
A prominent example was the research system of the former Soviet Union.
R&D was heavily centralized to prevent duplication and take advantage of economies of
scale and scope. R&D was fully publicly funded on the assumption that the government
would be able to transfer the results to all interested potential users equally (Hanson
and Pavitt 1987). In reality, the concentration of resources in a very few large research
centres of excellence reduced competitive incentives. And local users of knowledge—the
various productive units scattered across the vast Soviet territory—were often unable to
use this knowledge because it failed to meet their specific needs or because they lacked
the appropriate expertise to use it. Practical problems encountered in production shops
were not properly addressed since R&D centres were too remote. Similar failures in
transferring knowledge have also been experienced in countries with large-scale pro-
grammes in fields such as defence and space.

PROMOTION POSSIBILITIES
Investing in knowledge provides enormous advantages for economic and social devel-
opment. In the long run, advantages will probably repay the costs and will be distributed
internationally and across generations.
But this long run is often too long, especially for the millions of people whose
hardships can be alleviated by technological knowledge already available or nearly avail-
able. The increasing interdependence of societies, the difficulty of retaining the results
of knowledge within national borders and the emergence of global challenges in fields
such as health, security and environment demonstrate the need for a strategy of global
governance that promotes increased coordination among national efforts and an en-
hanced role for international organizations that are dedicated to knowledge generation
and dissemination. Currently, most research activities are planned and implemented at
the national level without international coordination, even within the restricted club of
the most technologically advanced countries. Radical changes in policy attitudes will be
needed to foster investment in knowledge as an international public good.
This chapter has highlighted some of the special characteristics of knowledge as
a public good. Knowledge can be considered a pure public good since it is non-rival in
consumption and is often not excludable. But the generation of knowledge will not nec-
essarily benefit economic and social development unless it is actually put to use through
technological applications. Public policy should therefore focus not only on the produc-
tion of knowledge, but also on its distribution (see viewpoint 4.2 on creating and dis-
seminating knowledge).
First, the fact that profit-seeking agents finance, create and use a substantial
amount of knowledge implies that it is often made excludable through industrial se-
crecy, access codes or intellectual property legislation. These barriers can be lowered or
even removed through appropriate incentives. Public policy should resolve the di-
lemma of static and dynamic advantages of intellectual property rights: in the short run,
weakening intellectual property rights might increase the amount of freely available
knowledge, but in the long run it might reduce incentives to invest in knowledge, at least
the part financed by profit-seeking business.
Over the last 20 years, the proportion of business-funded R&D has increased,
while publicly funded R&D has remained stagnant or even declined. There is no evi-
dence that the growth of business funded R&D has occurred at the expense of the pub-
lic component. But to increase the amount of freely accessible knowledge will require a
greater financial effort from public sources. Reform of the system of business incentives
might also be effective. This could include incentives for the diffusion of innovations as
well as for the protection of innovation. Greater efforts at the regional level would also
be valuable (see viewpoint 4.3)
Second, freely accessible knowledge becomes useful only when prospective us-
ers have the necessary absorptive capacity (Abramovitz 1989; Bell and Pavitt 1997).
This has major implications for an international technology transfer strategy. Building
absorptive capacity requires time and investment: infrastructures, education, training
and R&D labs are needed to assimilate and take advantage of the existing stock of
knowledge. The policy implication is that concentrating on the supply side without tak-
ing the absorptive capacity of recipient agents (individuals, firms and even nations) into
account could lead to a waste of resources.

Third, knowledge as an international public good will not be used in the ab-
sence of greater coordination and collaboration among national governments and inter-
national organizations. Many national governments develop their own science policy
agenda on the implicit assumption that sooner or later they will benefit from basic re-
search funded and performed elsewhere. But when such an attitude becomes general,
the free-riding syndrome prevails: each country is tempted to wait until others invest in
finding a solution. This leads to underprovision of the knowledge public good. In-
creased coordination and collaboration necessarily imply a greater financial commit-
ment to knowledge, but also to accountable governance. It is unlikely that more public
resources will be directed to the international dissemination of knowledge if stake-
holders are unable to assess what these resources are used for.
Fourth, the current distribution of scientific and technological capabilities has an
important effect on the priorities of scientific and technological investigation. Capabili-
ties are strongly concentrated in developed countries. Not surprisingly, public expendi-
ture and other government intervention for advancing knowledge are generally directed
towards the specific situations of these countries rather than those of humanity more
widely. It is understandable that governments of developed countries use the resources
provided by their taxpayers foremost to serve the needs of their constituency rather
than the needs of developing countries. Likewise, business companies invest according
to prospective economic returns rather than to satisfy the needs of humanity. There-
fore, neither pubic nor business expenditure will automatically address the most impor-
tant global human needs.
In the long term it is desirable and feasible that developing countries expand
their research capabilities and contribute to the generation of knowledge. In the short
term, however, knowledge to address the basic human needs of developing countries
relies on the willingness of developed countries. If more resources are to be put into
financing R&D for basic human needs the targets and priorities need to be clear and
visible, with the financing fully transparent and accountable. This will require different
national and international governance systems.

Viewpoint 4.2
Creating and disseminating knowledge
The gap between developing and developed increase in current aid budgets—if the aid were
countries in their formal ability to produce knowl- used more effectively, with a greater focus on the
edge (and in the actual production of knowledge) transfer of knowledge and the strengthening of
is larger than the gap in incomes per capita. The domestic knowledge capabilities, and were di-
good news is that the gaps in connectivity are not rected towards developing new international pub-
as great and are narrowing, at least in terms of lic good knowledge addressing some of the most
basic access. The best news is that the gaps in devastating problems developing countries face.
education are even smaller and are narrowing
even faster. Creating new international public goods
• While the average per capita income of the knowledge
high-income countries is 65 times that of the
There is ample scope for increasing the produc-
low-income countries and growing, the dif-
tion of international public good knowledge in
ference in research and development (R&D)
specific areas where there are good expectations
expenditure is estimated at 94 times greater
of high social returns. A recent analysis of 292
in high-income countries.
published studies shows that the median social
• The difference in the production of basic return to agricultural research was 48% a year
knowledge as measured by output in scien- and that the average return was 100%. For agri-
tific and journal articles is 42 times greater in cultural extension services the medium returns
high-income countries than in low-income were 63% and the average returns were 85%
countries. However, the difference in the (Barton 2004a in Alston et al. 2000). For medical
production and sale of commercially rele- research there have been fewer cost-benefit stud-
vant knowledge (as measured by royalties ies. However, there are some dramatic examples
and licensing fees) is much larger, probably of spectacular rates of return in some areas of
about 200 times greater. preventive medicine.
• The difference in phone connectivity and One way to subsidize the production of this
Internet users per thousand persons is just knowledge is to mobilize global funds, as was
23 times higher for high-income countries done to fund the green revolution. Initiatives along
and has been falling. But the number of these lines include the Global Environmental Fund
computers per thousand people is still 68 and extensions of the work of the Consultative
times higher. In education, as measured by Group on International Agricultural Research in
enrolment rates, the difference is just 2.3 tropical agriculture.
times greater for secondary education and
Another way is to use demand-pull mecha-
6.6 times greater for higher education in
nisms. These involve a commitment to purchase a
high-income countries. This difference has
new product, such as a new effective AIDS vac-
been narrowing over the past 10 years (the
cine, provided it is developed to certain perform-
differences were 2.7 times greater for sec-
ance parameters. A good example is the proposal
ondary education and 9.4 times greater for
to encourage R&D on an AIDS vaccine by com-
higher education).
mitments to purchase the vaccine once it is de-
The greater provision of global public goods, veloped. Variants of demand-pull are government
and of knowledge in particular, can help redress procurement contracts or prizes for the develop-
some of the growing inequality and tensions. ment of new technology.
While it is difficult to estimate the precise costs, it
Other mechanisms include building research
is clear that there is tremendous potential to in-
consortia among potential public developers or
crease the welfare of the developing world by
even among public and private developers who
making a concerted effort to provide knowledge
are working or could be convinced to work to-
as an international public good. It could also be
gether on some of the needs of developing coun-
argued that this could be achieved without much
tries. Potential problems would be coordination

and the allocation of intellectual property rights for knowledge, at least in the short run. For example,
a successful product or service. it has been estimated that a program using exist-
Improving development policy knowledge as ing technology more fully to prevent and treat
opposed to specific technical or organizational HIV/AIDS and malaria would be among the most
knowledge also requires support of an interna- economically desirable and cost-effective inter-
tional public goods type. The rapid rate of inventions in developing countries (Barton 2004a
crease and dissemination of knowledge, and the citing Mills and Shillcutt 2004; the ranking of inter-
increase in globalization, are opening up some ventions in several sectors can be seen at
new opportunities and foreclosing others. It is no www.copenhagenconsensus.com). More gener-
longer good enough to advise countries to follow ally, raising average local productivity across all
the historical patterns of developed countries, for sectors of a developing economy to the average
example, by following labour-intensive export productivity of developed economies would in-
strategies. crease average incomes in developing countries

by several factors—much more than by the devel-
International public goods knowledge should be
opment or introduction of any new technology.
developed more systematically by the interna-
tional development institutions. Think tanks, com- The scope of action here is extremely large. In-
panies, non-governmental organizations and na- ternational institutions can play an important role
tional and local governments in developed and in collecting and distilling existing knowledge, and
developing countries all have a role here. improving access. At a basic level this means
making the information available. One example is
A third possibility is to reverse or even reduce
the Development Gateway, which uses the power
the strong drive towards intellectual property
of information and telecommunications technology
rights. There is some recognition that regimes
to provide a gateway to development knowl-
established as part of the Trade-Related Aspects
edge—including technical, organizational and
of Intellectual Property Rights Agreement may be
managerial, and policy knowledge. Other organi-
too onerous for the least developed countries.
zations, such as the United Nations Industrial
There is also some concern that the tendency
Development Organization and World Health Or-
towards the privatization of knowledge is harmful
ganization, have also developed websites to dis-
even for developed countries.
seminate existing knowledge.
This is clearly a contentious area. However, to
The problem is not only what information is
the extent that intellectual property rights regimes
available, but what it is relevant for, how to access
are made less strict and less binding, more
it and how to use it. This usually requires distilling
knowledge will be in the public domain and more
the knowledge to its essentials and providing a
will be available to transfer. The drawback is that
mechanism to facilitate its transfer. Even when
there may be a disincentive to initiatives to create
knowledge is in the private domain, it is still useful
new knowledge. Although this has been argued
to know what knowledge exists, what it can do
by many on theoretical grounds, there have been
and what it would cost to get access to it. In addi-
no clear empirical studies confirming this expecta-
tion, international organizations could buy up the
tion. The issue of the most appropriate intellectual
rights to relevant patents and then transfer the
property rights regime from a global perspective,
knowledge as part of development projects or as
rather than a narrow national perspective, de-
part of regular business.
serves further research. This is particularly impor-
tant now that the production and dissemination of
Supporting the development of domestic ca-
knowledge are increasingly global rather than
pacity for effective use
national.
The inability to use knowledge locally is proba-
Disseminating knowledge bly the most serious problem in knowledge trans-
fer. Overcoming this problem requires local institu-
Disseminating existing knowledge to meet the
tions, education and skills. International
needs of developing countries is probably more
institutions can help establish or strengthen the
important than creating new technical or policy
relevant institutions, providing technical assis-

tance and training. This can be done as part of 1. Propose and sponsor the creation of more
development assistance or investment operations knowledge as an international public good.
in developing countries. Development institutions 2. Create more policy knowledge.
and bilateral aid programmes can support free-
3. Fund more research on a better intellectual
standing projects to help a country develop spe-
property rights regime.
cific institutions or capabilities such as metrology
and quality control centres, standards research 4. Increase the focus on transferring and dis-
laboratories, extension and productivity centres, seminating knowledge.
technology parks, business incubators, schools, 5. Enlist contributions from the private sector
universities and specialized technical training more directly.
institutions. More broadly, it also involves improv-
6. Encourage all international agents to do
ing the whole economic incentive and institutional
much more to develop the domestic human
regime at the core of the development challenge.
capital, research, and institutional capabili-
ties of developing countries, so they can
What international institutions can do
participate effectively in the knowledge-
International institutions such as the UN agen- driven international environment.
cies are well placed to contribute to these efforts, Much more needs to be done to address asym-
to lead a major advocacy drive for knowledge for metries in global governance structures, which
economic development by getting governments constrain the opportunities for developing coun-
and especially the private sector to do more in this tries to benefit in an increasingly competitive in-
area. They can use their convening power to raise ternational system. This links with the other ele-
awareness of the problems and to illustrate what ments of this project on international public goods,
kinds of actions are working. including the trade system, the financial system
The UN agencies could also provide more sys- and the management of natural resources and the
tematic information on the knowledge dimensions environment.
of the economic development challenge and co- Source: Drawn from a background paper by
ordinate the actions of the many international Dahlman (2005).
players. These efforts could be structured around
six key actions:

Viewpoint 4.3
Improving regional innovation systems
Ideas and knowledge have always been impor- as a patent application, to release intellectual
tant to production and growth, but today their con- property rights by licensing, trade sale or forma-
tribution as formalized ideas and knowledge within tion of a spinout company. These three types of
production is central to the knowledge economy, knowledge integration are fundamental to an in-
where increasing amounts of production are posi- creasing amount of what is called “open innova-
tioned. Regional innovation systems are both a tion” and offer opportunities to innovative develop-
useful framework for studying economic and inno- ing country firms. Other examination knowledge
vative performance and functional tools for en- opportunities arise through clinical trials and pa-
hancing the innovation processes of firms. They tient testing of candidate products.
do this by knitting together knowledge flows and Incubation is extremely important in nurturing
the systems on which they rely, building trust and new businesses, in technology as in other sectors.
confidence in institutional reliability, and generat- Funding programmes may be influenced at the
ing institutional self-knowledge and collective dis- idea stage by multilateral assistance organi-
satisfaction with the status quo. A regional innova- zations, but if there is inadequate follow-up by
tion system comprises a set of public and private private or public programmes, new businesses
institutions that produces pervasive and systemic are likely to be stillborn. Even when there is a
effects to encourage firms within the region to relatively generous national funding programme
adopt common norms, expectations, values, atti- for incubators and associated infrastructure, with-
tudes and practices that nurture a culture of inno- out seed-funding for new businesses, such pro-
vation and enhance knowledge transfer proc- grammes are likely to be ineffective. Thus there
esses. A national system of innovation cannot should be appropriate multilevel governance of
adequately do this. incubator programmes with pump-priming from
Lessons from successful innovation support multilateral external assistance organizations.
services Then infrastructure on a scale beyond the re-
sources of regions should be supplied by national
Regional innovation systems are a powerful in-
programmes. Finally seed-funding must be estab-
strument for accelerating economic growth. In line
lished at regional, municipal and local levels
with new economic growth theory, they rest fun-
through associative public-private partnerships.
damentally on the notion of public goods provi-
sion, where market failure to support innovation is Innovation support is fundamentally a public
evident. They encourage collective entrepreneur- goods activity justified by a general failure of the
ship; exploit social capital advantages where market to come forward and anticipate a rate of
these exist and build networks where they do not; return on capital investment in incubator facilities.
and provide specialist, small-scale enterprise and There is virtually absolute market failure in the
innovation support services, regional financing provision of necessary finance for incubatee firms
and investment vehicles and labour market ad- in many cases, although some systems have per-
justment services. Producing innovation creates a formed better than others (Brazil, for example). A
three-way relationship of innovation, entrepre- case in which innovation advantage was systemi-
neurship and talent formation interacting system- cally constructed by linking excellent science and
atically over time, evolving as local and global technology (talent) to entrepreneurship (incuba-
conditions dictate. tion) and innovation (financing) in the absence of
both entrepreneurship and innovation resources is
Innovation is the commercialization of new
that of Israel. Moreover, Israel shows that public
knowledge. Knowledge may be generated inside
goods may be in advance of market thinking in the
a firm or a public goods organization practising
provision of systemically interacting innovation
“open science”, such as a university or major pub-
support, but that public goods may transform into
lic research institute. Exploitation of the discovery
private goods once a profitable return on invest-
or invention generally follows an intensive period
ment can be envisaged or demonstrated. The
of the application of examination knowledge, such

introduction of public goods may thus contribute to policy, for example, by redirecting traditional ivory
reducing the asymmetric information uncertainties tower research institute and university practice
that caused market failure in the first place. towards more market-facing academic entrepre-
Knowledge exploration institutes may adapt to a neurship. Science policy ministries must interact
systemic innovation posture at the regional level positively with ministries of industry and employ-
in part by retraining management and research- ment to recognize the strains involved in organiza-
ers, engaging in public goods strategies of sub- tional transformation—and to avoid wasteful du-
national institutions or opening and recruiting new plication. The necessity for academic
businesses for an incubator. entrepreneurship to have an outlet in specific or

generic incubators means that such policy transi-
Policy areas for improving innovation tions and investment redirections could be pilot
Several policy areas need to be tackled before projects cofunded by multilateral external support
the innovative performance of developing coun- organizations at specific experimental and institu-
tries can be advanced by strengthening innovative tional levels.
capabilities at regional and local levels. In general, training for management, entrepre-
A stimulation from exogenous sources is neurship and knowledge exploitation should be
needed where evidence exists that innovation mainstreamed in higher education institutions
mechanisms work successfully in neighbouring specializing in innovation studies. Practical ex-
countries with comparable developmental trajecto- perience of nuts and bolts elements such as incu-
ries. The United Nations Educational, Scientific bation should be pursued, with knowledge transfer
and Cultural Organization’s (UNESCO) sponsor- through internships. Innovation performance must
ship of the incubator concept through the Associa- be benchmarked against comparator countries
tion of European University Rectors is a case in and regions. Subnational development agencies
point. But it is not enough to alert and advise if the must fine-tune regional innovation system policies
resources necessary to achieve aims are absent. to better integrate system interaction and improve
Tighter partnerships with national governments knowledge flows.
are required for implementation. Cofunded pilot A regime that creates positive climates for in-
projects based on successful experimentation in vestment in spinout firms, whether from public
comparable settings are an obvious means of good organizations or from private companies, is
achieving this where recipient organizations show reinforced by government regulatory, taxation and
receptivity to innovative candidate solutions. incentive policies at the national level. But every
There is clearly a role for the United Nations In- region is distinctive economically. Thus the re-
dustrial Development Organization (UNIDO) to gional or provincial level becomes an active inte-
initiate the regional innovation system-building grator of multilevel public and private investment
process, perhaps in partnership with UNESCO, pools for seed-funding and subsequent venture
beginning with regional conferences to ensure capital opportunities. Israel did this successfully
that national stakeholders are receptive and will- as a small country. Other examples reveal suc-
ing to invest heavily in innovation infrastructure cessful and unsuccessful venture capital vehicles
(exploration, examination and exploitation dimen- with public status (as in Wales) or private, though
sions). At national and subnational levels it is im- formerly public, status (as in Scotland). It is also
portant to ensure that seed-funding and other risk possible for private sector vehicles to have an
investment capital are available and tailored to immediate public presence in the investment syn-
local needs and potentials. UNIDO must follow dicates (Northern Ireland). This stage is thus cru-
through on these ideas with committed develop- cial in building knowledge entrepreneurship. The
ment cofunding for knowledge centres, partner- regional system, if well integrated, is an appropri-
ships and networks. ate partner, interacting vertically and laterally with
key stakeholders in building knowledge entrepre-
At the national level a general policy to adopt
neurship.
approaches that suit changing global conditions is
a fundamental responsibility. This can be Generally speaking, knowledge transfer centres
achieved with vigour in science and technology should be public where estimates of market

strength suggest that private solutions are inap- be a problem if technology can be bought as
propriate. But to ensure regional and national needed from elsewhere. These are usually re-
commitment, policy instruments such as seed gional and local interactions rather than national
capital funds cofunded by public-private partner- or international ones, although pilot projects to
ships are a suitable way to proceed. If services establish such support vehicles in clusters can
are successfully provided and firms improve prof- help the aims of collective entrepreneurship by
itability, privatization should not be ruled out. Pri- supplying common business services, networking
vatization could be a central part of the job de- opportunities and representation at overseas
scription of knowledge transfer centres, where trade fairs and exhibitions.
appropriate. Where there is market failure in the
Conclusion
supply of innovation services, regional innovation
systems must be public entities, although firms Implanting regional innovation systems that dis-
that use them in the system are presumed to be burse public goods is desirable in developmental
private. Thus systems should expect to be more terms. It also fits modern economic growth theory
or less pure public goods with some joint private by stressing global trade, increasing returns to
element at the outset, if it is feasible. Thereafter, agglomeration and the key role of public goods
profitable elements may evolve into jointly funded such as ideas and knowledge. The approach is
public-private entities. A membership subscription seen fully to engage with distinctive responsibili-
arrangement can turn the service into more of an ties at all economic governance levels. UNIDO
associative or club form of good. and other multilateral external assistance organi-
zations can be initiators, securers of national sup-
Talent formation in clusters at more prosaic lev-
port, advisers and cofunders of pilot projects.
els is also a crucial factor in innovative competi-
tiveness. The Italian ceramics industry has histori- National governments should take the lead in
cally emphasized marketing and design skills, policy formation and reform, funding and cofund-
which served the industry well in global markets ing packages in science, industry and employ-
and may be extremely important in any restructur- ment ministries to ensure that transformation of
ing to face mounting competition from China. research cultures towards market opportunities is
Spain’s ceramics cluster, by contrast, has defi- thoughtful and well planned. Policy-related fund-
ciencies in this aspect but strengths in the science ing for infrastructure and pump-priming (early
of ceramics. A forum and consensus approach stage stimulation by seed-funding to get initiatives
towards change in complex and unstable competi- going) is also key. Financing for incubation and
tive environments may be an advantage of con- seed-funding are best conducted at the regional
siderable value for correctly balancing the skills level with local fine-tuning regarding talent and
mix from the labour market. skills formation and the building of strong multi-
level interactions. Regional funding of specific
Business and industry associations can serve
initiatives for venture capital, entrepreneurship
their overall membership better when they are
and skills adaptation is also appropriate, as is
confederated or consolidated with one voice than
cofunding such activities with the private sector
when they are fragmented. In the case of suc-
wherever possible.
cessful real services units or centres, tailored to
meet customer and member needs, the absence Source: Drawn from a background paper by
of basic scientific research in the cluster may not Cooke (2005).
.

POLICY IMPLICATIONS
Since the amount of public expenditure devoted to R&D for global issues is likely to be
limited, a crucial aspect will be to identify to which fields of knowledge generation to
direct the investments. Can an international public good framework provide guidelines?
The fields considered important by broad agreement are usually those that are mutually
advantageous for current and future generations and that are less likely to be associated
with sectors where trade rivalry exists. Astronomy, space, theoretical physics, environ-
ment and health are ideal candidates and, not surprisingly, areas where active collabora-
tion and even permanent international research centres have already been established.
Despite an increase in cooperative international public programmes, the bulk of the
funding continues to be national in scope. How should the fields be selected?
Human necessities differ across geographical areas. Consider health research.
Poor countries undertake a tiny fraction of world health R&D, although they bear 90%
of the total disease burden (10/90 gap; see Global Forum for Health Research 2004).
The countries that carry out the other 90% of health R&D might have very different
priorities since many of the diseases affecting developing countries have already been
eradicated in developed countries.
A typical case is scientific research on vaccines. Knowledge leading to the identi-
fication of successful vaccines is very close to a pure international public good: vaccines
are costly to invent, but can be produced and transmitted at rather low cost,21 and they
can provide benefits globally and across generations. (There is an intergenerational ad-
vantage if the vaccines are available to future generations or if the disease is eradicated.)
A successful World Health Organization programme on smallpox eradication has gen-
erated advantages for both developed and developing countries (see Fenner et al.
1988). For example, it is estimated that the United States recovers its own share of in-
vestment for smallpox eradication every 26 days (Tenkorang and Conceição 2003).
With appropriate investment, vaccines can be developed for some of the major
fatal illnesses of our age, such as malaria, tuberculosis and AIDS. These three diseases
are responsible for some 5 million deaths a year. It has been estimated that an invest-
ment of $1.5 billion a year for 15 years could lead to the development of effective vac-
cines (Archibugi and Bizzarri 2004). Yet R&D investments are negligible, at $55 million
(malaria), $150 million (tuberculosis) and $400 million (AIDS) (Archibugi and Bizzarri
2004). The relatively higher investment in vaccines for AIDS is due to the fact that this
disease is a top priority for developed countries, while malaria and tuberculosis are not
a major concern because they have been largely eradicated.22 It is significant, however,
how that globalization is changing the outlook of developed countries as well: inward
migration is bringing tuberculosis back, and outward tourism is exposing people to ma-
laria. And now there is a risk of avian influenza. Vaccines are therefore an area in which
both developed and developing countries will have an advantage and an interest in in-
21 Certainly, it is much easier to transfer the knowledge necessary to successfully administer

vaccines between countries than to transfer the knowledge related to nuclear programmes or
even specialized machinery. However, even in the case of vaccines it is not possible to ignore
absorptive capacity. Woodle (2000) shows the difficulty encountered by developing countries
when they have to rely solely on external supply sources.
22 The only high-income country with reported malaria cases is the Republic of Korea (UNDP
2003: 258, table 7).

vestment. The relative advantage for developed countries will be comparatively smaller
than the advantage for developing countries, but this should not obscure the fact that
developed countries will obtain much higher returns from this investment than from
many others.
An increased financial commitment to these and other issues should be in-
formed by several lessons.
• Coordination rather than centralization. Centralization of R&D and innovation in a
few world centres is not recommendable. Duplication is not necessarily undesirable
in achieving scientific and technological advances since competing teams will ex-
plore alternative paths and are likely to expand the frontier of knowledge. It is
highly desirable to disseminate information among teams from the beginning, but
public research institutions are generally more willing to disseminate the results of
their work than business R&D centres. A system of incentives that rewards interme-
diate and final results might help to increase information flows.
• Generation along with diffusion. A policy aimed at increasing the generation of
knowledge is effective when it considers from the start the problems associated with
technology transfer. Generating knowledge without taking into account the needs of
final users has too often led to knowledge that is not transferable or that is too ex-
pensive to transfer.
• Integration among partners. Laggard countries should be integrated into core activi-
ties from design through implementation, to help transmit learning and build skills.
Teams of excellence will not all come from the same countries. International coop-
eration between centres in developed and developing countries has proven the most
effective way to spread expertise.
• Strengthen international organizations. The generation and diffusion of knowledge
also requires institutional change. While national R&D and innovation facilities are
crucial in a strategy to produce knowledge for development, they are not necessarily
the best institutions for the exchange of expertise. International organizations can
become hubs of research excellence in specialized areas; they can expand their role
as network facilitators; and they can help to set priorities, taking into account broad
human needs.
Knowledge is seldom a pure international public good. But it might move close
to becoming one if attempts to augment it are coupled with appropriate policies in de-
veloped and developing countries. Developed countries should show their willingness
to enlarge the research agenda by taking into account the priorities of developing coun-
tries and opening the gates of their innovation system to newcomers. Developing coun-
tries, rather than expecting to be handed knowledge from developed countries, should
support resources to increase their absorptive capacity.

CHAPTER 5
ENVIRONMENT AS A PUBLIC GOOD
FOR DEVELOPMENT
E
conomic activity can put pressure on ecosystems and degrade environmental
quality. Some environmental problems are global, making cooperation among
countries essential for dealing with them. Some national problems also result
from economic activities abroad. That is why an outlook broader than national is re-
quired.
This chapter reviews the relationship between the environment and develop-
ment and focuses on the environment as an international public good. It examines the
current institutional framework for tackling environmental problems and uses the limi-
tation of ozone-depleting substances (Montreal Protocol) and the mitigation of global
climate change (Kyoto Protocol) to illustrate the challenges of international provision of
environmental public goods. The chapter concludes with proposals for managing their
provision.
ENVIRONMENT AND DEVELOPMENT—CONVERGING TOWARDS SUSTAINABLE DEVEL-

OPMENT
Alternative theories try to model sustainable growth as combining environmental quality

and permanent growth of per capita income through technological change. These at-
tempts to combine ecological and development goals have resulted in the concept of
“sustainable development.”
Economists generally distinguish two definitions of sustainability. The first ar-
gues that a development path is sustainable if it provides constant and growing utility, or
well-being, to future generations, assuming natural assets to be fully substitutable (Solow
1993). The second puts stronger constraints on growth, arguing that natural assets (or
some of the functions they perform) cannot be replaced and that benefits can be en-
sured for present and future generations only by conserving resources and protecting
environmental quality (Daly 1995). This second definition implies environmental regu-
latory reforms to ensure intergenerational equity. More recent definitions incorporate
environmental sustainability along with economic and social development as three pil-
lars of the concept (World Bank 2003b).
Social considerations of sustainable development focus on equity (Kaul et al.
2001) and are based on intergenerational justice, which demands that the satisfaction of
current needs not risk the ability of future generations to satisfy their needs (Barrett
1996). Sustainable development involves multiple difficulties for action and manage-
ment, since the challenge is to deal with both natural resources and the destiny of hu-
manity. Different approaches to sustainable development have been taken in different
regions, with some calling for new concepts and systems (box 5.1).
Institutional responses to environmental threats highlight the relationship be-
tween the environment and development. Principle 4 of the Rio Declaration stipulated:
“to achieve sustainable development, environmental protection shall constitute an inte-

gral part of the development process and cannot be considered in isolation from it”
(UN 1992). At the United Nations Conference on Environment and Development in
Rio de Janeiro in 1992, Agenda 21 made the protection of climate and biodiversity a
priority in world environmental policy.
Box 5.1. The Asia-Pacific countries’ approach to sustainable development: green

growth
Green growth seeks to harmonize economic growth and environmental sustainability by pro-
moting “fundamental changes in the way societies produce and consume” (ESCAP 2006). It
calls for new concepts and systems to de-link economic growth and environmental degrada-
tion.
Green growth focuses on demand-side management and on the promotion of environmentally
sustainable decisions through market, economic and fiscal systems. Ecotaxes and other eco-
nomic instruments are recommended as a means of influencing decision-making for greater
environment sustainability at the individual, firm, community and government levels (see
viewpoint 5.1 for an example of an ecotax and viewpoint 5.2 on eco-effectiveness).
Source: ESCAP 2006.
In the debate on development priorities and environmental protection, the ap-

proaches and perspectives of developing and developed countries do not always coin-
cide (Azqueta 1994). International responses have tended to focus on risks that are
greater for developed countries. For example, the agreed solution is often to replace
toxic substances and pollution-emitting technologies with more benign ones, tasks easier
for developed countries than for developing countries (World Bank 2003b).
People living in poverty are more vulnerable to environmental damage and to
the loss of access to natural resources (World Bank 2001b; UNDP 2003; WRI 2003).
The relationship between environmental deterioration and per capita income also ex-
tends to urban areas, with ecological degradation tending to be worst in the poorest ur-
ban neighbourhoods (Heal 2001; WRI 2003). Although poorer countries have contrib-
uted less than richer countries to the deterioration of the environment, they are affected
by the depletion of global environmental assets.
Poverty reduction and environmental protection are also closely connected to
achieving the Millennium Development Goals. Goal 1, to eradicate poverty and hun-
ger, and goal 7, to ensure environmental sustainability, are linked through ensuring ac-
cess to clean drinking water, appropriate sanitation facilities, and biodiversity (UNDP
2003).
110 ENVIRONMENT AS A PUBLIC GOOD FOR DEVELOPMENT

Viewpoint 5.1
Carbon dioxide tax: a role for China and India
in sustaining the environment and mitigating climate change
By 2025 both China and India will be very large has a great interest in the character of expan-
economies. Estimates predict that China’s gross sion in these countries in the next two decades.
world product will be 7.6% (up from 3.5%) and In- Worldwide agreement on national greenhouse
dia’s 2.7% (up from 1.5%). Many Chinese and Indi- gas emission targets that are strong enough to
ans under the age of 50 in 2025 will have grown up limit growth in atmospheric carbon dioxide con-
in a period of rapid economic growth and increasing centrations is likely impossible, at least for sev-
prosperity, and the middle classes of both countries eral decades to come. It is hard to imagine an
will have grown enormously. effective formula for national targets that will be
Rapid growth and increased GDP imply a rising acceptable both to developed countries, such as
demand for energy, especially electricity. China and the United States, and to developing countries
India are both well endowed with coal, which is with aspirations for rapid growth, such as China
especially relevant for climate change, but both are and India (Cooper 2001). The targets of the
short of oil relative to their prospective needs. By Kyoto Protocol are keyed to a base year, 1990,
2025, China’s demand for oil will be more than twice which is unappealing to countries that desire
Japan’s and India’s will approach Japan’s. and expect rapid economic growth.
China is already the largest consumer of coal, ac- Another approach is needed if human sources
counting for a quarter of the world’s total, and its of climate change are to be addressed seriously.
use is expected to grow rapidly despite vigorous A leading alternative approach is to focus on
programs for introducing nuclear and hydropower concrete national commitments to action rather
and for importing liquefied natural gas. India ac- than on emission targets. One such action to
counts for about 7% of current world coal consump- deal with negative externalities from human
tion and its use of coal is also expected to grow action, favoured by many economists, is to tax
significantly, though less dramatically than it will in the offending activity. The idea would be to tax
China. carbon dioxide emissions from major sources
World carbon dioxide emissions are projected to around the world, particularly the burning of
increase 1.9% a year to 2025 (on the assumption of coal, oil and natural gas and the making of ce-
world economic growth of 3.0% a year). China’s ment, unless the carbon dioxide released from
carbon dioxide emissions are projected to grow such processes is prevented from entering the
3.3% a year, the highest rate in the world among atmosphere through sequestration. The even-
large countries or regions, with Brazil (3.1%) and tual rate of the tax would be calibrated to the
India (2.9%) not far behind. China’s share of world desired reduction in carbon dioxide emissions,
carbon dioxide emissions will increase from an al- although the initially agreed tax should be at a
ready significant 12% in 2000 to 18% in 2025, ex- level sufficient to attract serious attention to tax-
ceeding that of Western Europe by 2010 and rapidly avoiding emissions reduction.
approaching the US share of 22% in 2025. India’s The attraction of a carbon dioxide tax to China
share will reach 5%, making it the fourth largest and India would rest less in its contribution to
national emitter after Russia and putting it well avoiding climate change than in its contribution
ahead of Japan. China’s projected growth in emis- to reducing air pollution, which derives heavily
sions of 3.8 billion metric tons by 2025 far exceeds from burning coal and increasingly from automo-
the US projected growth of 2.4 billion tons, and tive emissions in the larger cities. Above all, a
India’s projected growth far exceeds Japan’s. In tax would be attractive as a source of revenue,
view of these trends, the problem of greenhouse greatly needed by the central governments of
gas emissions cannot be seriously addressed with- both countries. China and India are unlikely to
out engaging cooperation from China, India, Brazil impose stiff carbon taxes on their own, because
and other rapidly growing economies. The world of concerns about loss of international competi-

tiveness in energy-intensive industries such as steel Making the tax fiscally neutral, either by in-
production. But this effect would be neutralized if creasing expenditures or by using the new reve-
the tax were imposed as part of a broad interna- nues to reduce other taxes, could minimize mac-
tional agreement. roeconomic effects. Moreover, developing
A uniform incremental tax on the major sources of countries could be granted a longer period of
carbon dioxide emissions would introduce an incen- time to introduce the tax.
tive, worldwide, to reduce carbon emissions. Re- Mitigating climate change will require the ac-
sponses to the tax would of course differ from coun- tive participation of rapidly growing energy-using
try to country. Where emissions can be reduced at a countries such as China and India. A target-
cost lower than the tax, reductions can be expected. based regime such as the Kyoto Protocol will
Where the cost of reducing emissions exceeds the not appeal to them. A regime based on common
tax, the tax will be paid. In either case the cost of action, such as imposition of a worldwide carbon
fossil fuels will be raised everywhere, proportional to tax, could have that appeal, mainly for the reve-
their carbon content, as they should be if emissions nue it would provide without any loss of interna-
are to be reduced. A uniform tax is economically tional competitiveness.
efficient, in that reductions will be greatest where Source: Cooper 2005.
the cost of such reductions is least. A universal tax
will also avoid geographic relocation of industries to
evade the tax—a potential weakness of the Kyoto
Protocol, with its limited geographic coverage.

Viewpoint 5.2
Ecoefficiency versus ecoeffectiveness
“Efficiency is doing things right; effectiveness is nese are blended in the recycling process, their
doing the right things.” discrete value is lost forever, and creating new
Peter F. Drucker (2002) stockpiles is extremely costly, both economically
The principle of ecoefficiency promotes reducing, and ecologically.
minimizing and limiting the size of ecological foot- Ecoefficiency as a negative approach
prints. More specifically, ecoefficiency strategies
In the short-term, ecoefficiency strategies
focus on maintaining or increasing the value of eco-
have the potential for tangible reductions in the
nomic output while simultaneously decreasing the
ecological impact of industrial activities and pro-
impact of economic activity upon ecological systems
vide opportunities for significant cost reductions.
(Verfaillie and Bidwell 2000). Environmental sus-
But such strategies are insufficient for achieving
tainability, based on the principle of ecoefficiency,
economic and environmental objectives in the
has become a leading issue in economic develop-
long-term. Although ecoefficiency reduces re-
ment. The ultimate aim is maximization of economic
source consumption and pollution and may pro-
value with minimal ecological impact.
vide temporary economic advantages, it lacks
Ecoefficiency begins with the assumption of a lin- the long-term vision for establishing a truly posi-
ear flow of materials through industrial systems: raw tive relationship between industrial activity and
materials are extracted from the environment, trans- nature. Ecoefficiency strategies tend to address
formed into products, utilized, and eventually dis- the symptoms rather than the causes of ecologi-
posed of. Ecoefficiency approaches then seek to cal problems by setting goals and using prac-
minimize the volume, velocity and toxicity of this tices that sustain an unappealing compromise
“cradle-to-grave” dynamic, but at all levels of deci- between industry and the environment.
sion-making accept the ultimate and inevitable de-
Current corrective action programs are inher-
mise of materials as useful resources.
ently ecoefficient in that these programs seek
In the material realm, ecoefficiency can be said to quick fixes to improve the present situation.
encompass the concepts of dematerialization, in- However, decreasing the amount of extracted
creased resource productivity, reduced toxicity, raw materials and limiting the amount of toxic
increased recyclability (downcycling), extended emissions into the atmosphere do not solve the
product lifespan and cleaner production. Each of problem of pollution of the environment and
these strategies presupposes a system of produc- precious materials being wasted. These meth-
tion and consumption with a linear cradle-to-grave ods indirectly generate more problems because
flow of materials that inevitably transforms re- they establish a waste management practice
sources into waste. that is not beneficial to the relationship between
Strategies for toxicity reduction largely focus on economy and ecology. Moreover, legislation that
replacing the most hazardous materials with others provides incentives in this direction may hinder
that pose fewer problems to humans and ecological the development of new and healthier technolo-
systems throughout their lifespan or after disposal. gies, resulting in sub-optimal solutions.
Moreover, strategies for generating increased recy- Ecoeffective corrective action
clability and extended product lifespan seek to pro-
long the period until resources acquire the status of Typically, biodiversity is much higher in devel-
waste, for instance by increasing product durability oping economies than in highly developed
or reprocessing post-use material for use in lower economies. In this context, traditional economic
value applications. Though recycling strategies growth always means damage to the environ-
begin to approach ecoeffectiveness, the large ma- ment and loss of biodiversity.
jority of recycling actually constitutes downcycling The concept of ecoeffectiveness offers a posi-
because the recycling process reduces the quality tive alternative to traditional ecoefficiency ap-
of materials, making them suitable for use only in proaches, as it aims for the development of en-
lower value applications. Their lifespan has been vironmentally benign products and systems. In
prolonged, but their status as resources has not contrast to approaches of minimization and de-
been maintained. For example, when plastics get materialization, the concept of ecoeffectiveness
recycled into countertops, valuable materials are involves the transformation of products and as-
mixed and cannot be recycled again. From the sociated material flows in such a way that these
same perspective, mixing metals dilutes their value form a supportive relationship with ecological
and increases their ecological impact. When rare systems and future economic growth. The prin-
and valuable metals like copper, nickel and manga- cipal goal is not to minimize or delay the cradle-

to-grave flow of materials, but to generate cyclical, dependence and regenerative productivity of
cradle-to-cradle “metabolisms” that enable materials natural systems. In nature, nearly all outputs
to maintain their status as resources and accumu- from one process become inputs for another.
late intelligence over time (upcycling). This inher- The concept of waste hardly exists. The blos-
ently generates a synergistic relationship between soms of a cherry tree bring forth a new genera-
ecological and economic systems—a positive reuni- tion of cherry trees while simultaneously provid-
fication of economy and ecology. The characteristic ing food for microorganisms, which in turn
of zero waste then arises as a natural side effect of nourish the soil and support the growth of plant
efforts to maintain the status of materials as re- life. Elements within a natural system may be
sources. highly inefficient. With the growth and release of
Materials that flow optimally through the biological thousands of cherry blossoms, only a few may
metabolism are called biological nutrients. Biological become new cherry trees. However, if the cherry
nutrients are biodegradable materials (or the result tree is viewed as part of an interdependent natu-
of biodegradation processes) that pose no immedi- ral system, then the overall effectiveness of the
ate or eventual hazard to living organisms and that system becomes clear.
return safely to the environment to feed biological In ecoeffective industrial systems, the material
processes. Biological nutrients can be natural or intensity per service unit of each individual ele-
plant-based materials, but also include materials ment is irrelevant to the effectiveness of the
like biopolymers and other synthetic substances whole. As long as the materials that enter an
that are safe for humans and natural systems. The industrial system perpetually maintain their
biological metabolism includes processes of re- status as resources, the system is perfectly
source extraction, manufacturing and customer use, ecologically effective and no waste is produced.
as well as the eventual return of these materials to For example, if the secondary outputs (trim-
natural systems, where they can be transformed mings) from the production of a textile are com-
into resources for economic activity again. posed such that they become inputs for ecologi-
After it has been used, a consumer product can cal systems, then it is ecologically irrelevant
return to the natural environment, becoming a nutri- whether they are included in the commercial
ent for living organisms. For example, a biological product. Even if the material intensity per ser-
nutrient textile can be used as garden mulch after vice unit of the textile mill was astronomically
its useful life as an upholstery fabric. An ice cream high, the system as a whole would be highly
wrapper can be designed such that once it is thrown ecoeffective because the trimmings would be-
away it dissolves safely into the ground, supporting come productive resources for natural systems.
the growth of plant life through seeds added to the If industry is driven by systems that are inher-
wrapper material (Newcorn 2003). ently destructive, making them more efficient will
A technical nutrient is a material, usually synthetic not solve the problem and may even aggravate
or mineral, that has the potential to remain safely in the damage done (for example, the rebound
a closed-loop system of manufacture, recovery and effect) (Berkhout et al. 2000). Slimming down
reuse, maintaining its highest value throughout material flows per product or service unit (ecoef-
many consecutive product life cycles (McDonough ficiency) is only beneficial in the long-term if the
et al. 2003). Technical nutrients are integrated into goal of closing material flows (ecoeffectiveness)
durable goods that are used by customers but has first been achieved. Once effectiveness has
owned by the manufacturer, either formally or in been achieved, efficiency improvements are not
effect. This strategy is mutually beneficial for both. an environmental necessity, but a matter of eq-
The manufacturer maintains ownership of valuable uity. They are necessary to ensure a fair distri-
material assets for continual reapplication in produc- bution of goods and services.
tion processes while the customer receives the The solution is the design of products and in-
product without assuming its material liability. The dustrial processes that turn materials into nutri-
process also fosters long-term producer-consumer ents (resources) by enabling a perpetual flow
relationships. Consider, for instance, a television or within one of two distinct metabolisms: the bio-
a washing machine that is leased to a customer for logical metabolism and the technical metabolism
a defined period and then returned to the manufac- (McDonough and Braungart 2002). As such, a
turer, which uses the materials again for producing cradle-to-cradle design enables the creation of a
equivalent or higher-quality products. wholly beneficial specially designed industrial
Ecoeffectiveness encompasses a set of strategies system driven by the synergistic pursuit of posi-
for generating healthy, cradle-to-cradle material flow tive economic, environmental and social goals.
metabolisms. It is modelled on the successful inter- Source: Braungart et al. 2005.

The challenges that the international community faces in managing the envi-
ronment efficiently while attending to sustainable development are complex and di-
verse. They are related to problems of market and policy failure, both affecting private
sector responses, such as subsidies for energy consumption (World Bank 2003b).23 An
effective response requires actions from the local to the national and the international
levels (box 5.2). The global scope of many environmental problems complicates both
the organization of solutions and the establishment and fulfilment of the rules (Ostrom
et al. 1999).
For core activities, various factors may condition the success of collective ac-
tions. These include differences in national interests, lack of information or technologi-
cal ability to find substitutes, the number and role of players and intergenerational fac-
tors. Complementary actions, such as transferring technology and diffusing best
practices, require local capabilities. Shifting national responses, the varying strength of
interest groups and efficiency differentials impede efforts to coordinate solutions that
favour the environment.
Box 5.2. The role of international organizations in the provision of environmental pub-
lic goods
The United Nations Development Programme (UNDP), in its 2006 Annual Report Global
Partnership for Development, provides clear examples of international organizations enhanc-
ing the provision of environmental public goods in partnership with local governments and the
private sector and local communities.
For example, in Moldova the UNDP is helping to empower communities economically through
its Agenda 21 initiative. By involving citizens in decision-making and promoting public-private
partnerships, this effort integrates sustainable development principles into local authority poli-
cies.
Some small-scale projects can deliver big results. In Gaza projects funded by grants from the
Global Environment Facility helped women fruit producers acquire solar-powered machines to
dry fruits and herbs more quickly and efficiently. This environment-friendly initiative has en-
abled the women to expand their businesses and sell their produce in local markets.
UNIDO is supporting small and medium enterprises in their efforts to incorporate environ-
mental considerations in their products and production processes through building business
partnerships with large and small companies. It is cooperating with BASF, a transnational
chemical corporation, on a UN Global Compact project to establish a comprehensive eco-
efficiency analysis tool for small companies in developing countries, to be applied through the
network of National Cleaner Production Centres (viewpoint 5.3). Morocco has agreed to par-
ticipate in a pilot phase to test a customized version of the tool. If the tool proves useful, it will
be made available to small companies in more than 20 developing countries (UNIDO 2002a).
International organizations can also help governments strengthen regional cooperation on
environmental issues. For instance, UNDP established the Transboundary River Basin Initia-
tive, a platform for dialogue and consensus building for countries that share the same water
resources. In another example of regional cooperation supported by international organiza-
tions, UNIDO has been selected by the Multilateral Fund for the Implementation of the Mont-
real Protocol as the implementing agency for an investment project to assist the Chinese
23 Sectors accounting for most global subsidies—agriculture, fisheries, transport and energy—are
also those with the largest emission of greenhouse gas and other forms of pollutants.

government in phasing out production of ozone-depleting substances in household refrigera-
tors.
Finally, international organizations can also help local governments communicate with civil
society about environmental problems with development implications. A partnership between
the UNDP and United Nations Environment Programme (UNEP) supports environment-based
policies in Cambodia, Kenya, Nicaragua, Rwanda, Tanzania and Vietnam. Through a Poverty
and Environment Initiative both organizations help governments integrate environmental con-
cerns into the poverty reduction strategy process. The programme also supports dialogue
among policy-makers, nongovernmental organizations and community groups on poverty-
environment linkages and the use of environmental indicators in local and national planning.
Source: UNDP 2006; UNIDO 2002a, 2005 and 2006.

Viewpoint 5.3
Cleaner Production and new technologies
Cleaner Production is a holistic and integrated initially appeared. End-of-pipe technology has
method for dealing with environmental issues. It frequently simply shifted waste or pollutants
recognises that most of our environmental prob- from one environmental medium to another, as
lems—such as global warming, toxic pollution and with air- and water-pollution control devices that
loss of biodiversity—are caused by the way and rate produced concentrated hazardous waste for
at which we use natural resources for production. leaking landfills (UNIDO 2002c).
The approach questions the very need for natural In the mid-1980s recycling of waste and en-
resource consumption and looks for other ways to ergy recovery gained momentum. But recycling
satisfy that need. Clean production systems use has proved insufficient, as it often suffers from
less energy and fewer natural resources. Resources limited or unpredictable markets for its products
flow through the production-consumption cycle at (UNIDO 2004). Since the beginning of the
slower rates. The approach also deals with the 1990s, concepts such as Cleaner Production,
transformation of products and associated resource pollution prevention, waste minimization and
flows in such a way that these form a supportive ecoefficiency represent an intellectual shift away
relationship with ecological system and future eco- from the issue of what to do with pollution to the
nomic growth. The approach also acknowledges the issue of why pollution is generated and how it
need for public and private participation in political can be prevented. These concepts all comprise
and economic decision-making. attempts to maintain the same level of output
while using fewer inputs and producing less
Developments in environmental action
waste, improving the efficiency of natural re-
Industrial activity is of major importance to eco- sources use and reducing pollution (UNIDO
nomic development, but it is also a cause of envi- 2002c).
ronmental degradation and pollution. In the course
In 1998 UNEP issued the International Decla-
of time, industrialised nations have responded to
ration on Cleaner Production. The goals of the
environmental pollution and waste in five character-
Declaration are to encourage support for the
istic ways:
adoption of Cleaner Production activities, inten-
• By not recognizing—or ignoring—the problem sify the commitment of the various actors in-
of environmental pollution. volved, promote international cooperation and
• By diluting or dispersing pollution, so that its spread awareness of the concept. More than
effects are less harmful or apparent. 1,700 regional and national parties have now
• By seeking to control pollution and wastes (the signed the Declaration (UNEP 2001).
end-of-pipe or pollution control approach). At the national level, most developed and
• By trying to develop and improve environ- some developing countries have introduced
mental technology that will help close the loops in environmental and other policies, strategies and
material flow streams during the production process instruments to support the application of cleaner
and facilitate reuse and recycling. production, resource efficiency and waste mini-
mization measures, as well as renewable en-
• By implementing Cleaner Production through
ergy. However, enforcement of these policies
the prevention of pollution and waste generation.
has often been problematic, especially in devel-
Conventional pollution control approaches, using oping countries.
end-of-pipe measures (after-the-event “react and
At company level, either as a result of the in-
treat”), have been used to treat polluting substances
ternational context or because of changes in
and waste by such methods as neutralisation and
their business strategies, many transnational
evaporation at the end of the production process.
corporations, have made public commitments to
But the level of treatment has often been limited
the principles of pollution prevention or other
and solutions have proved less effective than they
environmental principles such as those included

in the Global Compact or have adopted environ- Cleaner Production approaches involve more
mental managements systems such as ISO 14001 than just the application of cleaner technologies.
or EMAS (European Union Eco-Management and Technical solutions alone are not sufficient in
Audit Scheme). A number of these companies are addressing the challenge of ecological progress.
also beginning to use their market power to require Effective management and organization, as
an equally stringent commitment to environmental important as technological application, require
performance from their suppliers (UNIDO 2004). new attitudes and management practices and
the application of available know-how.
Cleaner Production processes
The Cleaner Production approach to environ- Policy aspects of Cleaner Production
mental management involves reducing the amount Cleaner Production programmes are posi-
of inputs (energy, water and raw materials) per pro- tioned at the intersection of the Millennium De-
duction unit, eliminating toxic raw materials, mini- velopment Goals of environmental sustainability
mising pollutants or waste throughout the entire and poverty reduction. Although sustainable
product life cycle and incorporating environmental development requires much more comprehen-
concerns into the design and delivery of services. It sive cultural changes within industry, govern-
is seen as a superior alternative to traditional pollu- ments and communities, Cleaner Production
tion control systems for minimising environmental and preventive environmental management may
problems, because it saves resource inputs and provide a first step towards sustainability
reduces waste. (UNIDO 2002c).
Cleaner Production can accrue additional benefits To accomplish environmental sustainability it

to firms: is essential to improve the efficiency and effec-
• Cost-saving through reduced wastage of raw tiveness of the way natural resources are being
materials and energy. used to form supportive relationships with eco-

logical systems and economic growth. For in-
• Improved operating efficiency.
stance, waste can be eliminated if it contains
• Better product quality and consistency, be- reusable substances of high value. Depending
cause factory operation is more predictable. on adequate technology, residuals can be re-
• Recovery of some wasted materials (UNIDO processed, either as raw materials for secon-
2004). dary processes or as inputs for the production of
new products.
Cleaner Production does not deny economic and
industrial growth, but it insists that growth be ecol- Differences in pollution intensity on the firm
ogically sustainable (UNEP 2001). This dual aim is level are largely caused by variations in technol-
to increase productivity by ensuring a more efficient ogy, industrial practices and pollution-control
use of production inputs and to achieve a better regulations. Firms that want to adopt Cleaner
environmental performance. Cost savings are one Production methods need to possess a variety
of the most important direct economic benefits from of skills and means. Among the prerequisites
implementation. Lower water consumption, higher are technological capabilities, availability of
energy efficiency or reduced need for input materi- technical and organizational information and
als results in lower operating expenses (UNIDO affordability. The high implementation costs of
2002c). cleaner technologies have been a major barrier
to their application in developing countries. In-
Traditionally, Cleaner Production has focused on
ternational efforts must concentrate on acceler-
production processes, but this has changed in re-
ating development while controlling environ-
cent years. Efforts now intend to reduce the envi-
mental impacts through enabling technology
ronmental, health and safety impacts of products
adoption.
throughout their entire life cycles by the design of
environmentally friendly but cost-effective products. Committed policy actions are needed to in-
crease international assistance in cleaner tech-
nology transfer from developed to developing

countries. Policy interventions for industrial envi- Sustainable development can only be
ronmental management should go beyond the tradi- achieved when traditional pollution control ap-
tional domain of environmental policy and regula- proaches are combined with policies focussing
tions to enhance the technological capabilities of on Cleaner Production. Pollution control meas-
the private sector in developing countries, espe- ures through the regulation of waste and pollu-
cially small and medium-size enterprises, in order to tion emissions from production processes do not
enable them to utilize technically proven innovative by themselves provide for easing the pressures
cleaner technologies and compete competitively in from the current pattern of economic growth.
domestic and international markets. This requires Source: UNIDO 2002c, 2004, 2005 and 2006;
sizeable investments in engineering skills, assis- UNEP 2001.
tance services, information dissemination measures
and incentives to reward favourable practices
(UNIDO 2004).

THE ENVIRONMENT AS A PUBLIC GOOD
Public goods related to the environment can be classified by their nature (pure or im-
pure) and their geographic scope (global or regional). Restoring and protecting the
ozone layer and curbing global warming are examples of pure public goods that follow
summation technology in their provision. These public goods are also looked at as a
subset of negative externalities, which the market fails to internalise (Memedovic, 2006).
Impure environmental public goods include club goods, whose benefits can be
excludable to a certain degree (international protection of ecosystems in national and
transnational parks, for example)—and commons, which involve partial rivalry in their
consumption (the preservation of river fishing activities and efforts to preserve the
Amazon region are examples) (Sandler 2001). Without sensible policies these com-
monly owned resources risk depletion from overuse, because individuals do not ac-
count for the crowding externality that their consumption imposes on others. At times
regulations may exacerbate the problem if they provide perverse incentives to exploit
the commons at an even faster rate. For example, past actions to limit the length of a
fishing season have led to investment in fishing vessels that can land a greater harvest in
less time (faster vessels equipped with sonar, for example). Other regulations to curb
fishing efficiency have resulted in wasteful cost.
The main difficulty with the provision of most environmental public goods is a
lack of information on individual preferences for the good’s use (Cline 2004a). These
externalities can be corrected through various instruments:
• Multilateral organizations and treaties are usually needed for dealing with the un-
derprovision of pure and impure environmental public goods, like protecting the
ozone layer and curbing global warming, which follow the summation aggregation
technology in their provision. Other instruments can also be used ranging from
market-based instruments, to support for research development and to voluntary
mechanism. Market-based instruments are designed to include external implications
of an agent’s action in his decision-making. Possible means of market internalization
are a corrective tax (for negative externalities), or subsidy (for positive externalities)
(Azqueta and Ferreiro 1993; Sandler 2004b: 71).24
• Another market-based corrective instrument is assigning property rights to agents in
the bargaining process to maximise welfare. Quotas can be introduced allowing for
limited activity, which is consistent with the social optimum. Quotas can take the
form of permits that impose extra costs (such as pollution permits) and can be
traded. Pseudo markets for trading pollution permits, similar to the emissions trad-
ing scheme initiated under the Kyoto Protocol on Climate Change, could reduce
pollution and ensure a more efficient and fairer allocation (Sandor, Bettelheimand
and Swingland 2002).
• Support for research and development and for innovation is important for the de-
velopment of new long-term options and for the shift to a low-carbon economy. For
developing countries, this also assumes capacity building programmes in specific
science, engineering and technology areas and thus greater international coopera-
tion and collaboration.
For an overview of instruments used for promoting energy efficiency see UNIDO (2007).

• Voluntary mechanisms can also work. For instance, in the Netherlands, to achieve
an overall national energy-efficiency improvement target of a 20% reduction in en-
ergy use between 1989 and 2000, voluntary agreements were reached between gov-
ernment ministries and the largest energy-consuming sectors (UNIDO 2007: 62).
Communities can also take different approaches to property rights and can develop
valuable cooperation skills to avoid resource degradation and depletion (Feeny et al.
1990).
• Finally, market-based incentives can be combined with public information disclo-
sure (compiling reliable indicators of underprovision of environmental public goods
and reporting them regularly) enabling various stakeholders (firms, bankers and
consumers) to make informed decisions. Better information would enable better
bargaining. Media may also be important in this.
LOCAL AND NATIONAL INSTITUTIONS
In recent decades, environmental issues have moved to the highest levels of national
policymaking in many countries—either through the creation of a Ministry of Environ-
ment or other institutions and agencies dedicated to sustainable development. Local
governments also manage and provide environmental public goods, such as participat-
ing in decentralised environmental action, as defined by Agenda 21 (WRI 2003).
Local governments have more knowledge of some aspects of the natural envi-
ronment and of the agents involved in the production and use of environmental public
goods. Enabling local communities to manage their natural resources is crucial for deal-
ing with eradication of poverty. Recent initiatives such as the Equator Prize focus on
improving the abilities of local communities to foster sustainable development and to
link achieving economic development goals with environmentally friendly behaviour
(Timmer and Juma 2005).
Some public goods (water supply and utilities) are increasingly being provided
by private entities, mainly due to privatization processes (Heal 2001). Privatization can
stimulate cleaner production, as demonstrated by China, Brazil and India. A country’s
choice to use cleaner technologies (see viewpoint 5.3) could lead to cleaner production
systems in other countries, through demonstration effects (Heal 2001).
INTERNATIONAL INSTITUTIONS
Over the last 30 years the international community has been actively involved in design-
ing a supranational institutional network to deal with the international provision of pub-
lic goods (table 5.1). The institutional process started in 1972 with the United Nations
Conference on the Human Environment in Stockholm, the first world environmental
conference that laid the foundations for action at the international level. Since then, in-
ternational agreements have become the most frequently used instruments for interna-
tional regulation of the environment.

Table 5.1. Major international conferences and agreements on environmental concerns
Year Event Main issue/outcome
1972 United Nations Conference on Recommendation on the creation of a UN envi-

the Human Environment in ronmental organization.
Stockholm
1982 Stockholm +10 conference in Newly industrialising countries and the effects of
Nairobi explosive urbanisation.
1985 Vienna Convention for the Pro- Multilateral cooperation on research, systematic
tection of the Ozone Layer observation of the ozone layer and monitoring
on the production of depleting substances.
Led to the Montreal Protocol on Substances
that Deplete the Ozone Layer in 1987, which
focuses on phasing out the production and
use of a number of potentially harmful sub-
stances.
1987 World Commission on Environ- The concept of sustainable development intro-
ment and Development report duced.
“Our Common Future”, also
known as the Brundtland Re-
port
1989 Basel Convention to control As of October 2003, the Basel Convention has
transboundary movements of 158 parties.
hazardous wastes and their
disposal
1992 United Nations Conference on The Rio Declaration on Environment and De-
Environment and Development velopment; and Agenda 21, a blueprint for ac-
in Rio de Janeiro (Earth Sum- tion on sustainable development, which inte-
mit) grated environmental matters into economic
and development goals and led to a redirec-
tion of national and international policies.
1992 Convention on Biological Diver- Requires countries to formulate national strate-
sity (adopted at the Earth gies for the protection of biodiversity and inte-
Summit) grate these into national policies for environ-
ment and development. Developed countries
are called upon to assist developing countries
with the implementation of these strategies in
order to enable them to meet the Convention's
objectives and to achieve global biodiversity
benefits. The three main goals of the Conven-
tion are conservation of biodiversity, the sus-
tainable use of its elements, and fair and equi-
table sharing of benefits from the use of
common resources.
Many actions have been undertaken on the
global scale, but strong cooperation and
commitment in this area is clearly lacking.
Much still needs to be achieved by the global
community in protecting biodiversity.

Table 5.1. Major international conferences and agreements on environmental concerns
(continued)
Year Event Main issue/outcome
1992 United Nations Framework Con- Climate change acknowledged as a serious

vention on Climate Change problem for the Earth. Calls for avoidance of
(adopted at the Earth Summit) human interference with the Earth’s climate
system by stabilisation of atmospheric green-
house gas concentrations. Established the
framework for the Kyoto Protocol on Climate
Change (1997).
1998 The Rotterdam Convention Convention focused on steps needed in moni-
toring the import and use of hazardous chemi-
cals and pesticides. It came out with a manda-
tory practice on the Prior Informed Consent
Procedure for certain hazardous chemicals
and pesticides in international trade. In 2004
the Rotterdam Convention on PIC Procedure
for certain hazardous chemicals and pesti-
cides in international trade became an interna-
tional law.
2001 The Stockholm Convention It focuses on eliminating or reducing releases of
12 persistent organic pollutants (POPs), the
so-called Dirty Dozen, to protect human health
and environment through legal and administra-
tive measures to minimize and prohibit the
production and use of intentionally and unin-
tentionally produced and used POP chemicals
and through management and disposal of
stockpiles in an environmentally safe method.
It calls for changes in the production process
of industries and for cleaner production sys-
tems.
The Global Environmental Facility (GEF)a is the
designated interim financial mechanism for the
Stockholm Convention, which entered into
force in May 2004.
2002 World Summit on Sustainable The Johannesburg Declaration highlights sus-
Development in Johannesburg tainable development, poverty reduction and
environmental protection.
a. The Global Environment Facility (GEF), established in 1991, helps developing countries fund projects
and programs that protect the global environment. GEF grants support projects related to biodiversity,
climate change, international waters, land degradation, the ozone layer and persistent organic pollut-
ants.
Source: Based on UNEP 2006; UNIDO various documents.
Some 300 international treaties have been drawn up, and countries have signed
and ratified about 60% of them. In the 1970s and 1980s, treaties were aimed at specific
problems, such as contamination, species preservation and conservation. In recent dec-
ades, new goals pertain to depletion of ozone layer, climate change, loss of biodiversity
and use of hazardous chemicals. One of the most important new aspects is the empha-

sis on equity in the provision of environmental public goods and the need to improve
the redistribution of benefits related to environmental conservation and the reduction
of greenhouse gas emissions.
A network of multilateral mechanisms emerged from these international con-
ferences and agreements; among them are the United Nations Environment Pro-
gramme (UNEP) and the Commission on Sustainable Development. The commission
ensures effective follow-up to the Earth Summit and is responsible for observing the
progress on the implementation of Agenda 21 and the Rio Declaration on Environ-
ment and Development. UN regional commissions and specialised agencies like
UNIDO also implement environmental programmes according to their respective
mandates and competencies.
Regional groupings—such as the Group of Eight (G-8), the European Union, the
Association of South-East Asian Nations (ASEAN), the African Ministerial Conference
on the Environment and the Council of Arab Ministers of Environment—have policies
to protect the environment. Civil society organizations (non-governmental organizations,
universities and private organizations) and information exchange networks between
governmental and non-governmental organizations support decision-making on the
provision of environment public good.
Overall, the international regulation framework for managing, regulating and
conserving the environment is shaped by soft legislation that depends on voluntary be-
haviour—non-binding rules, norms and action plans—and by multilateral environmental
agreements that bind signatories.
This institutional framework contributes to better and broader understanding
about the importance of international management of environmental public goods. But
it also suffers from several weaknesses that may have consequences for global govern-
ance. Its institutional complexity may hinder effective international management if co-
ordination processes are not improved (WRI 2003) to strengthen the effectiveness, effi-
ciency and coherence. Industrial and trade policies still give too little attention to the
connection between industrial development, trade and environmental necessities. Nor
are the mechanisms for providing environmental goods well understood by all coun-
tries.
There is no systematic vision for environmental matters—and no overarching
mechanism that links them. As a result, many years may elapse between the negotiation
and ratification of treaties. There is also little enforcement of objectives and schedules
and no central oversight of the financial and technical resources to ensure agreement
fulfilment. This results in wide gaps between the regulatory framework for environ-
mental goods and their provision.
Two examples of international collective action—with very different outcomes—
are the Montreal Protocol, dealing with elimination of the use and production of sub-
stances that deplete the ozone layer, and the Kyoto Protocol, dealing with the effects of
greenhouse gas emissions on the world’s climate system. While the first is perceived as
the most successful international agreement, the second is considered much less suc-
cessful (Sandler 1997, 2004b).

MONTREAL PROTOCOL—THE MOST SUCCESSFUL INTERNATIONAL AGREEMENT
The Montreal Protocol deals with elimination of the use and production of ozone-
depleting substances (ODS), like chlorofluorocarbons (CFCs), halons, hydro-
chlorofluorocarbons (HCFCs), methyl chloroform, methyl bromide and carbon tetra-
chloride, which are used in industry, households and agriculture. These chemicals can
remain in the atmosphere for a very long time. The ozone layer is essential to life on
earth as it absorbs ultra-violet B-radiation from the sun, which at the earth’s surface
causes health hazards to human life (melanoma and non-melanoma skin cancers, more
eye cataracts, weakened immune systems, reduced plant yields) and damages the
aquatic animal and plant ecosystems.
The Montreal Protocol was signed on September 1987 by 130 parties account-
ing for more than 83% of the consumption of ODS at that time. Reduction goals in-
creased in subsequent revisions, as did the number of signatories, reaching 182 coun-
tries by June 2008. Amendments to the Montreal Protocol were made at conventions
held at London (1990), Copenhagen (1992), Montreal (1997) and Beijing (1999).
In 1990, a Multilateral Fund was set up to help developing countries that are
large consumers and producers of ODS to eliminate these substances in line with their
obligations under the Protocol and at an agreed schedule.25 With the assistance pro-
vided through the Multilateral Fund developing countries that produce CFCs are able
to achieve the Montreal Protocol targets and some of them are expected to meet their
production phase-out commitments at least a year in advance.
Notwithstanding its success, the 2006 assessment report by the World Meteoro-
logical Organization (WMO) indicated that even with full compliance with the Mont-
real Protocol by all parties, the depletion of ozone layer would not be a thing of the
past. It is expected that recovery of the ozone layer will not take place before the middle
of this century, mainly because of the long lifetimes of the ozone depleting substances
Concerns also remain about the full implementation of the Montreal Protocol
by all countries within the stipulated time schedule. This adherence to the phase out
schedule is important due to the precedent bad consequences of ozone layer depletion.
Since 1979, stratospheric ozone has decreased over the entire globe. The ozone layer is
between 3% and 6% below 1980 levels in mid-latitudes. The ozone layer over the Ant-
arctic has steadily weakened since measurements started in the early 1980s.26
The land area under the ozone-depleted atmosphere over Antarctica increased
steadily to more than 20 million sq. km in the early 1990s and has varied between 20
and 29 million sq. km since then. The levels dropped to record lows following the June
1991 volcanic eruption of Mount Pinatubo in the Philippines. In 2000, the area of the
ozone hole reached a record 29 million square kilometres. On 12 September 2000 the
largest and the deepest ozone hole was recorded, but it dissipated early in October.
While no hole has appeared elsewhere, the Arctic spring has seen the ozone layer over
25 Developing countries eligible for financial assistance are those with an annual per capita con-
sumption of ODS of less than 0.3 kg a year, as defined in Article 5 of the Protocol. They are
referred to as Article 5 countries.
26 UNEP/WMO, 2006, Scientific Assessment of Ozone Depletion
[http://pdftohtml.spiritofanime.com/pdf2html.php?url=http://www.unep.org/ozone/pdf/execsu
mm-sap2002.pdf]; Canada’s National Environment Indicator
[www.ec.gc.ca/soerree/English/indicator_series/new_issues.cfm?issue_id=5&tech_id=21].

the North Pole thin by up to 30%, while the depletion over Europe and other high lati-
tudes varies between 5% and 30% (UNEP 2004).
The production of CFCs, with large ozone depletion potentials (ODPs27), still
accounts for the largest share of ODS production in ODP tonnes. The shares of HCFC
and Methyl Bromide are slowly and steadily increasing.28 Current international legisla-
tion has mandated production caps for HCFCs; its production in developed countries is
prohibited after 2020 and in developing countries after 2030, but not all nations have
officially agreed to abide by these limits.
The consumption of CFCs has decreased with respect to total consumption of
ozone-depleting substances, while at the same time the consumption of HCFCs has
steadily risen over the last few years. Unless all countries stop the production and con-
sumption of Methyl Bromide and the HCFCs, the recovery of the ozone layer will be
delayed.
There has been a significant decline in the production and consumption of
ODS from around 1,800,000 ODP tonnes in 1989 to around 170,000 in 2002. This
incredible decline in the production and consumption of ODS is clearly the result of
the protocol. Many countries during this period had achieved zero levels of production
in CFCs and halons.
This has led to many people calling the Montreal Protocol a success, unparal-
leled on tackling a global environmental issue. But the world community needs to exert
caution, as there still exist some challenges which need to be addressed and can be
summarized in the following points.
Some countries have yet to ratify the ozone treaties, and the London, Copenha-
gen, Montreal and Beijing Amendments. Since all countries have not ratified the Proto-
col and the subsequent treaties there is always an element of risk that there could be a
possible increase in the consumption and use of the banned ODS. Concentrations of
halons continue to increase, as there has been no alternative to replace existing fire
fighting equipments, which contain halons that are released whenever a fire is being put
out or during testing of equipment.
Many countries, especially developing countries and countries with economies
in transition, are facing challenges and problems in adhering to the phase-out target
schedules of the Montreal Protocol. Although assistance has been provided to some of
these countries more assistance may be needed in helping all the parties to achieve the
targets.
While consumption levels in the developed countries have been virtually
phased out, the Montreal Protocol can only succeed if the developing countries or,
more importantly, emerging economies phase out these substances. Therefore it is im-
perative for implementing agencies to focus their attention on these developing coun-
tries that are likely to emit more of these ozone-depleting substances.
27 ODP is a number that refers to the amount of ozone depletion caused by a substance. Scien-
tifically the ODP is the ratio of the impact of a chemical compared to the impact of a similar
mass of CFC-11 on the ozone.
28 The HCFC compounds are viewed as temporary replacements for the CFCs as they have
shorter atmospheric lifetimes than CFCs but they still contain chlorine and have the potential to
destroy stratospheric ozone.

Some of the major targets yet to be reached include total phase-out of CFCs, ha-
lons and carbon tetrachloride in developing countries by 2010, total phase-out of
methyl chloroform and methyl bromide in developing countries by 2015, total phase-
out of HCFCs in developed countries by 2020, and total phase-out of HCFCs in devel-
oping countries by 2030.29
The problem is compounded by illegal trade. The scope for black market trade
is very high due to high taxation on production of banned ODS in developed countries.
Because developing countries have longer periods to meet their targets, traders in de-
veloped countries are trying to create a market for recycled substances using them also
as exports to developing countries. In addition, while consumption of most ozone-
depleting substances is forbidden, industrialized countries still produce some banned
ozone-depleting substances, primarily to meet the most essential uses and to supply de-
veloping countries.
The 1987 Montreal Protocol on Substances that Deplete the Ozone Layer is a
landmark agreement that has successfully reduced the global production, consumption
and emissions of ozone-depleting substances (ODSs). ODSs are also greenhouse gases
that contribute to the radiative forcing of climate change. The ODS contribution to ra-
diative forcing most likely would have been much larger if the ODS link to stratospheric
ozone depletion had not been recognized in 1974 and followed by a series of regula-
tions. The climate protection already achieved by the Montreal Protocol alone is 5 to 6
times larger than the reduction target of the first commitment period (2008-2012) of the
Kyoto Protocol30. Additional climate benefits that are significant compared to the Kyoto
Protocol reduction target could be achieved by actions under the Montreal Protocol, by
managing the emissions of substitute fluorocarbon gases and/or implementing alterna-
tive gases with lower global warming potentials
Finally, the health hazards caused by ODS cannot be ignored even with the full
implementation of the Montreal Protocol targets. A major concern that confounds the
international community is the existence of time lag between the release of ozone-
depleting substances, their impact on the stratosphere, and the development of skin
cancer31. This is not caused by the depletion of the ozone layer but more probably
more related to changes in behaviour of humans. An increase in skin cancer related to
ozone layer depletion lags the depletion by 20 to 40 years.
KYOTO PROTOCOL: BEYOND 2012
The release of various greenhouse gases, notably carbon dioxide (CO2), methane CFCs,
and nitrous oxide (N2O) in the atmosphere contributes to changes in climate and global
29 Report of the Nineteenth Meeting of the Parties to the Montreal Protocol on Substances that
Deplete the Ozone Layer, UNEP/OzL.Pro.19/7, 21 September 2007,
[http://ozone.unep.org/Meeting_Documents/mop/index.shtml].
30 Velders, G.J.M., S.O. Andersen, J.S. Daniel, D.W. Fahey, M. McFarland, The importance
of the Montreal Protocol in protecting climate, Proc. Natl. Acad. Sci., 104, doi:
10.1073/pnas.0610328104, 2007.
31 There is also an important delay between ozone depletion and for development of skin cancer. The
maximum increase in skin cancer from ozone depletion is expected in 20-40 years.

warming.32 The increases in the temperatures around the world over the last five dec-
ades have been accelerated by intensified human activities.
Gases from using carbon-rich materials like petroleum, coal, and natural gas
that are exploited to gain energy, are responsible for the lion’s share of greenhouse gas
emissions. Non-CO2 greenhouse gases (resulting from agriculture, industry, energy and
waste treatment) and emissions due to land-use changes (timber harvest, land-clearing
and deforestation, forest re-growth and shifting cultivation) contribute to approximately
40% of overall global greenhouse gas emissions.33 In many developing countries, due to
their agro-based economies and significant deforestation practices, the non-CO2 green-
house gases represent the highest share of total emissions.34
The consequences of climate change can be seen in rising sea levels, glacier de-
clines, a shoot down of the Gulf Stream, coastal flooding, heavy rainfall, extreme heat
waves, increasing hurricane activity and extinction of species. The climate change affects
the productivity of farmlands, fisheries and forests. People are increasingly exposed to
the risk of water stress, diseases, loss of land and biodiversity (loss of mangrove forests,
coral reefs, fish populations), which affects the quality of their lives (human health, mi-
gration, cultural diversity, resource conflicts, and so on).
To control for climate change, stabilizing the concentration of the atmospheric
greenhouse gases that have been increasing at a faster rate in the last two decades is
called for. International discussions often consider that the concentration of CO2 in the
atmosphere should not exceed 550 parts per million volume, approximately 10 gigatons
(see Blanchard et al 2003). Higher concentration levels mean higher and more unpre-
dictable risks for natural systems and society. The CO2 emitted today stays in the at-
mosphere for up to 200 years; hence reducing these accumulated concentrations will
take a long time.
It is vital to accept that problems at the local level are major factors that act as a
catalyst in damaging the global climate. But dealing with the problem at the local level is
becoming difficult as the United States, the major greenhouse gas emitter, is not doing
much to cut emissions. Both in absolute figures and in terms of average per capita
emissions, the United States leads the emissions levels from developed countries (table
5.2).35 Emissions per capita in the United States were five times the world average in
2002.36
Intensified industrialization and urbanization in some developing countries also
puts more stress on the earth’s atmospheric concentration level. The relative growth of
CO2 emission has been highest in developing regions, especially in Asia in the period
32 The Kyoto Protocol also addresses hydrofluorocarbons (HFC), perfluorocarbons and sul-
phur hexafluoride.
[http://unfccc.int/resource/cd_roms/na1/ghg_inventories/english/8_glossary/Glossary.htm].
33 Van Vuuren et al (2006) estimate that currently non-carbon dioxide greenhouse gases
(methane, nitrous oxide, perfluorocarbons, hydrofluorocarbons and sulphur hexafluoride) con-
tribute to about a quarter of the global greenhouse gas emissions.
34 These figures come from Baumert and Pershing 2004. The estimates of land-use related
carbon fluxes, however, are very uncertain.
35 In 2002, of all developed countries only Luxembourg emitted more CO2 per capita than the
United States.
36 The average emissions on the world level were 3.93 metric tons per capita in 2002 (World
Bank 2006).

1990–2004 (table 5.3). The industrial sector accounts for more than one-third of global
primary energy use (Price et al 2006) and for 36% of carbon dioxide emissions (IEA
2007, cited in UNIDO 2007). In 2004 global energy-related CO2 emissions from the
industrial sector were approximately 10 gigatons of CO2, representing 37% of global
CO2 emissions. Developed countries accounted for 35% and transition economies for
11% of global CO2 emissions from the industrial sector while the remaining countries
accounted for 54% (Price et al. 2006: 13). The largest emissions from industrial energy
use were in several Asian countries (China, Taiwan Province of China, Hong Kong
SAR, Republic of Korea, and Vietnam), accounting for more than a third of global
CO2 emissions due to increasing energy-intensive industrial production and the heavy
use of coal in the industrial and power sectors. (Price et al 2006: 13).
Table 5.2. Carbon dioxide emissions of countries with emissions higher than
1% of world emissions in 2004 (ranked by percent of world total)

Carbon Di- Percent-
oxide Emis- Carbon Diox- age
sions (CO2); ide Emissions Change Share in CO2
Thousand (CO2); Thou- from Rank World Emissions
Country or Area Metric Tons sand Metric 1990 - In Total (%) Per Capita
Name 1990 Tons 2004 2004 2004 2004 Average
United States 4,821,190 6,049,440 25.48 1 22.20 20.06
China 2,400,350 5,010,170 108.73 2 18.39 2.43
Russian Federa-
tion n.a. 1,524,990 -23.19 3 5.60 9.71
India 682,137 1,342,960 96.88 4 4.93 0.89
Japan 1,071,360 1,257,960 17.42 5 4.62 8.89
Germany 981,038 808,767 -17.56 6 2.97 9.94
Canada 416,086 639,403 53.67 7 2.35 17.64
United Kingdom 579,709 587,261 1.30 8 2.16 9.69
Korea, Republic
of 241,315 465,643 92.96 9 1.71 8.36
Italy 389,960 449,948 15.38 10 1.65 7.50
Mexico 413,512 438,021 5.93 11 1.61 3.63
South Africa 332,040 437,032 31.62 12 1.60 8.46
Iran (Islamic Re-
public of) 218,393 433,571 98.53 13 1.59 4.70
Indonesia 213,964 378,250 76.78 14 1.39 1.16
France 364,036 373,693 2.65 15 1.37 6.43
Brazil 209,671 331,795 58.25 16 1.22 1.77
Spain 212,274 330,497 55.69 17 1.21 7.16
Ukraine 330,039 -45.02 18 1.21 6.48
Australia 278,645 326,757 17.27 19 1.20 17.16
Saudi Arabia 254,949 308,393 20.96 20 1.13 12.77
Poland 347,776 307,238 -11.66 21 1.13 8.06
na is not available.
Source: UNIDO calculations based on CDIAC data; United Nations Common Database, United Nations
Statistics Division, 2006.

Table 5.3. World carbon dioxide emissions by region, 1990–2004
CO2 emissions Share of world Percentage
(million metric tons) total, 2004 change,
Region 1990 2004 (%) 1990–2004
Developing regions
Africa 270.63 394.14 3.66 45.64
Latin America and the Car-
ibbean 49.99 77.86 0.72 55.75
Asia without Japan 2594.29 5476.49 50.88 111.10
China 1,886.01 3827.33 35.56 102.93
India 380.21 765.12 7.11 101.24
Oceania without Australia
and New Zealand 2732.25 5692.52 52.89 108.35
Developed regions
North America 1,910.82 2294.31 21.32 20.07
Europe 1,815.62 1376.33 12.79 ‐24.20
Japan 245.96 432.68 4.02 75.91
Australia and New Zealand 137.96 216.65 2.01 57.04
World 8,260.49 10763.75 100.00 30.30
Note: Regional classification according to United Nations “Composition of macro geographical (conti-
nental) regions, geographical sub-regions, and selected economic and other groupings.”
Source: UNIDO calculations based on Energy Information Administration Database, Office of Energy
Markets and End Use, International Energy Statistics, 2008.
Therefore, it is necessary to see how country and especially developing country

governments and industries can implement sustainable approaches to economic devel-
opment, including sustainable methods of production and environmentally sound tech-
nologies, and use renewable sources of energy in their goal of achieving higher eco-
nomic growth and infrastructure development (see viewpoints 5.2 and 5.3).
The Kyoto Protocol, which came into force on 16 February 2005, sets legal
quantitative emission reduction targets for developed countries and countries with
economies in transition. These countries, known as Annex I Parties, have legally bind-
ing targets to reduce their overall emissions of six greenhouse gases by an average of
5.2% below 1990 levels in the period 2008–2012 (the first commitment period), with
specific targets varying from country to country. However, the achievements of the
Kyoto Protocol have been limited. This is because the United States and Australia did
not ratify the Protocol. Some developed countries like Canada fail to comply with the
established targets. The main achievement of the Kyoto Protocol was the initiation of
emissions trading and creation of the carbon market, both with a potential to reduce
emission and to ensure more efficient and fairer distribution of obligations.
Even with the implementation of the Kyoto Protocol there are many concerns
about whether the international community can stabilize climate change in the long run.
The reasons are several. First, the steps undertaken by the United States as the largest
emitter in controlling its emissions are not favourable. Second, it is too early to suggest

whether all countries will be able to achieve the Kyoto Targets. Third, whenever there
has been a decline in emission volume during the last two decades this was mainly dur-
ing the time of economic slowdowns. It is not in the interest of any country to have a
stagnant economy. This means that the slowdown in CO2 emission can be made possi-
ble only if the economic growth is driven by the adaptation across all sectors of envi-
ronmental friendly technologies like electricity generation, transportation, industry,
buildings, agriculture, forests and fisheries. Finally, there is no general uniformity by
various organizations, governments and industries to tackle this problem on a unified
basis.
Experts, governments, economists and scholars discussing international collec-
tive actions to deal with climate change beyond 2012 have developed a great number of
alternative proposals representing the general perception that the Kyoto Protocol is not
sufficient for dealing with the global warming challenge. Aimed at addressing Kyoto’s
perceived flaws and underpinning its strengths, the proposals vary widely in scope—from
building on the basic Kyoto architecture and modifying singles issues, to new compre-
hensive and alternative approaches.37 However a number of common themes may be
identified among the proposals.
First, the majority of the proposals suggest continuation of the international col-
lective action under the auspices of the UNFCCC, considering that climate change is a
global concern requiring global cooperation. A few proposals, however, contemplate
the alternative approach of undertaking negotiations among a limited number of like-
minded states (for example, beginning with bilateral negotiations between countries with
domestic emissions trading schemes and then broadening the regime to others). Almost
all the proposals include some form of developing country participation and burden
sharing.
In sum, while the Kyoto Protocol does not perform well by most criteria, no
single proposal performs well along all the dimensions either, because of the tensions
and trade-offs that exist among the criteria.
An efficient and cost-effective emission abatement proposal would require the
participation of all countries in actively reducing their greenhouse gas emissions. How-
ever, equity concerns favour the exemption of developing countries from emission re-
ductions. While some proposals try to address this conflict by allocating “headroom”
emission allowances to developing countries, the environmental outcome is hindered.
On the other hand, proposals that maximize environmental outcome may be inconsis-
tent with dynamic efficiency and undermine participation and compliance incentives,
and those that focus on cost-effective implementation only occur conditional on partici-
pation and compliance. Other proposals including various kinds of domestic policies
and measures appear better at promoting compliance and participation, but are less
likely to be cost-effective. Finally, even policies that address intergenerational equity,
protecting future generations (presumably better off than current ones), can translate
into fewer resources to help today’s poor in developing countries and conflict with dis-
tributional equity concerns.38
Based on the trade-offs it becomes a challenge to identify and develop a single
proposal that can effectively perform well on all criteria. Moreover, most of the propos-
als have only been designed on paper and have not yet undergone a political process. It
37 Based primarily on the work by Bodansky 2004 and Aldy et al. 2003.
38 This paragraph draws primarily on Aldy et al. 2003.

is important to bear in mind that the Kyoto Protocol has come into force as a result of
many years of negotiations and political processes, and some could consider it as the
limit to what is politically feasible in spite of its many flaws. However, new negotiations
and policies will have to advance the efforts beyond 2012. Therefore it is important to
consider all the alternative proposals, especially as they have been developed in re-
sponse to the imperfections in the current regime. Working around the common
themes and combining the best performing elements of different proposals could help
shape a policy that balances the different dimensions and is as efficient, cost-effective,
fair and inclusive as possible.
ALTERNATIVE MECHANISMS FOR DEALING WITH GLOBAL WARMING ISSUES
Besides Kyoto Protocol alternative policy instruments, such as carbon taxes, quotas and
property rights are also proposed for correcting the underprovision of this public good.
Carbon tax is the imposition of additional cost on each tonne of emissions. Those who
have to pay higher prices would seek alternatives. Thus, carbon taxes would provide
incentives for the reduction of emissions and also revenues for national governments.
At the international level, these revenues could be used for achieving development ob-
jectives, and a fair distribution would be guaranteed because the wealthiest countries
would pay most of the tax (Sandmo 2004).
Quotas involve some form of allocation, but would be unlikely to have the same
distributional effect (Cline 2004a). Quota allocations based on population, rather than
total energy use, would distribute quota rents to large economies with low income per
capita (for example, China and India), whereas the carbon tax approach would distrib-
ute the quota equivalents on a basis of economic strength and hence the ability to pay
the tax. An additional difficulty concerns the degree of uncertainty over the response of
carbon-based energy supply and price demand. The carbon market is a policy-driven
market. Decisions concerning framework conditions and operating guidelines, as well
as issues like National Allocation Plans, linking access to finance to clean development
mechanisms (CDM) and joint implementation (JI) and the future status of the Kyoto
Protocol, will all affect price fluctuation and market developments. Nevertheless, poli-
cies designed to prevent global warming—whether tax-based or through quotas—are
long-term strategies and should therefore be subject to periodic revisions.
Finally, an approach based on property rights has led to the creation of the
emission trading system, which could be adapted and extended into a worldwide mar-
ket for trading CO2 emission rights. The emission trading system includes two types of
policy frameworks, namely “cap and trade” and the offsets (or credit) trading system
allowing for trade in allowances and in credits. These frameworks can exist at interna-
tional, national and sub-national (regional) levels (Ward 2005).
Under the cap and trade framework, once the overall quantitative limit (a cap)
on the aggregate emissions for a group of emitters is determined over a period of time—
usually reached through negotiation—then the cap is divided into tradable emission
units (or allowances) among the emitters in the group, thus setting emission targets for
the emitter. If one emitter has emitted less than allowed and the other more than al-
lowed then the first emitter can trade its surpluses with the second. Efficiency is served
because those that value carbon emissions more will purchase emission rights from
those that value them less. In the process, net welfare is maximized. Each emitter will
be better off, and the objective is reached at lower costs.

The EU has established its own entity-level cap and trade programme to help
manage a portion of the emissions it is responsible for under the Protocol (Box 5.3). In
the US and Australia, state governments are heralding emissions trading initiatives in-
dependent of their central governments’ policies and Kyoto. There are also discussions
about possible linkages of such markets with the Kyoto market.
This policy framework has also provided for the flexibility of obligations under
the cap and trade framework through allowing for trading in credits for projects that oc-
cur outside the cap and trade policy framework. They allow emissions inside the main
group to be higher than they otherwise would be. Developing countries do not have
emission targets. Projects in developing countries that reduce emissions and that would
not have occurred in the absence of the CDM are considered an acceptable offset to
emission reductions that could occur in industrialized countries with Kyoto emissions
targets. The CDM provides additional tradable units into the overall system, that is,
more supply to the carbon market created by the Protocol.
Offset trading programmes do not need to be connected to a cap and trade
emission-trading programme. The denomination of the credit can be tonnes of emis-
sions or some other measurement unit related to the obligation. Because there are will-
ing buyers and sellers of the tradable credits, a market exists.
Box 5.3. The EU Emissions Trading Scheme (EU ETS)
The European Union Emissions Trading Scheme (EU ETS), a multi-nation, industry-based
cap and trade programme involving some 11,500 EU installations, started on 1 January 2005
and dominates the international carbon market. EU ETS covers some 12,000 installations,
mostly utility combustion plants, oil refineries, iron and steel plants, energy intensive industry,
such as cement, glass, lime, brick and ceramics production facilities, and the pulp and paper
industries. For these industries, emission trading has become a means of managing the fi-
nancial risks and opportunities in complying with greenhouse gas emission obligations. Com-
panies participating in the scheme can use credits obtained through JI and CDM projects. The
EU ETS not only provides the conditions for the cost-effective reduction of the CO2 emissions,
but also the incentives for business and industry to invest in countries covered by the JI and
the CDM mechanisms, such as Russia, Ukraine or Kazakhstan. This in turn leads to the
transfer of the new environmentally sound low emissions technologies and contributes to
achieving the national objective of sustainable industrial development in these countries.
The emission trading within the EU ETS and eventually the global trading (as envisaged in
the Kyoto Protocol) is a new issue for business and industry. Participation in emissions trad-
ing requires development of new skills and expertise at the company-level. UNIDO global fo-
rum activities focus on enhancing the understanding and operations of emissions trading and
its linkages with the project-based mechanisms of CDM and JI. It provides for expert discus-
sion and knowledge sharing among the participating countries that recently joined the EU and
some countries with economies in transition that are likely to become hosts of JI and CDM
projects.
The Kyoto Protocol includes both frameworks at the international level. Its Ar-
ticle 17 is an example of cap and trade framework. Under the Kyoto Protocol’s emis-
sions trading scheme, Annex I Parties,39 which have legally binding targets under the
protocol, can buy allowances (certified absence of carbon emissions) from Annex I
countries that have not reached their emission limits if they do not meet their reduction
commitments. JI and CDM further allow these countries to earn credits by investing in
39 Annex I Parties include industrialized countries and transitional economies.

clean energy programmes and other CO2-reducing measures, such as reforestation
(UNFCCC). Trade in credits has more impact on reducing CO2 emission than trade in
allowances.
This has led to the creation of carbon market, a main achievement of the Kyoto
Protocol. Each ton of CO2 emission obtains a commercial value governed by market
forces. Traders are now monitored on a daily basis by a large international emissions
trading business sector, emission units can be measured (or estimated) with acceptable
accuracy, emission units are held and tracked in a secure registry system and there are
enforcement mechanisms to ensure that the obligation is enforced.
The carbon market has been growing fast. In the first half of 2006, 12 billion
euros worth of carbon was traded, five times more than in the same period in 2005.
The buyers of credits are participants in the EU Emissions Trading Scheme and Ja-
pan’s voluntary reduction scheme. The sellers are developing countries, offering the
projects that deal with cutting the emissions of some factories. The projects have to be
certified by the UN. Most of the credits sold in the beginning of 2006 were HFC pro-
jects.40
There may be another form of obligation placed on a group of emitters on a
voluntary basis. This may be a carbon fund, established to buy outcomes of emissions
reductions or sink enhancement activities. Although most of the carbon funds that have
been established to date are connected to cap and trade or credit trading programmes,
they do not have to be. Air miles carbon offset programmes, for example, can be seen
as managed funds created by voluntary consumer donations, which then are used to
buy the emission reduction or sink enhancement activities. It is conceivable that large
institutional funds could be created for a similar purpose (Ward 2005).
The emission trading system and carbon market encourages the internalisation
of externalities because economic agents—such as firms—treat CO2 emission costs as
production costs. This provides incentives to reduce emissions as well as to achieve effi-
ciency gains through the use of less polluting technologies (Vela 2005). Emission trading
stimulates investments in CO2-saving technology and also emergence of a new market
for traders of emission certificates and credits, for professional experts, and for other
service providers. There are also some concerns. Trade in allowances can also create
extra costs that are passed on to consumers while purchase of credits from developing
countries may result in EU companies and thus consumers paying much more for the
actual price of reducing emissions.
FACTORS INFLUENCING THE FORMATION AND OPERATION OF THE MULTILATERAL EN-

VIRONMENTAL REGIME
Although ozone layer depletion and climate change are both global pure public
bads, global collective action to reduce them has met with drastically different success to
date.
Collective action to curb ozone depletion (Montreal Protocol) and efforts to re-
duce global warming (Kyoto Protocol) are examples of pure public goods, sharing the
same properties of publicness, that of the summation aggregation technology—the level
of their overall provision is a function of the cumulative contributions by individual con-
tributors. Yet their effects were not equally successful. According to Sandler (2004b),
40 The Economist 2006.

understanding the properties of a public good is not always sufficient to ensure its effec-
tive provision through collective action. Besides the free riding problem that may arise,
other underlying factors may also play a role, such as a lack of information on the costs
and benefits of acting, the role of leading players, the number of participants and the
level of technological progress in the field. It is important to identify and understand
how these factors influence the success of an environmental regime’s formation and
operationalization (table 5.4).

136
Table 5.4. Factors influencing the success of the environmental regime
Underlying factors Montreal Protocol Kyoto Protocol
The availability of Cooperative gains were achieved because the Governments were less informed of the cost-benefit of
information on the leading country governments, especially the climate change and of trying to mitigate it. Predictions
costs and benefits of United States, were more informed about the based on modelling exercises of what is going to
the specific cost-benefit analyses of reducing ozone-depleting happen to climate in the next 100 years are tricky. The
corrective action substances. The dominant strategy for the complexity of predications arises from many reinforcing
leading player, the United States, was to curb and counteracting factors at play, and various
CFCs based on the calculations. Other developed uncertainties are involved in this analysis. According to
countries followed suit. recent estimates, the economic costs of climate
change account for –3% of average global outputs
(Nordhaus 2006). The estimation of the costs of
mitigation in terms of global output ranges from 0.2%
to 1 % of GDP a year. (The Economist 2006). Most
calculations in the economics of climate change do not
take into account the possibility of eventual extreme
risks of catastrophic climate change and what happens
if those risks materialize. Such an approach, followed
in defence and financial stability, should be considered
as well.
Leadership The strong commitment and leadership of key Absence of leadership from key polluters. The world’s
industrial countries, particularly the United States, largest emitter of greenhouse gases, the United
were essential, as those countries were the States, is signatory to the Protocol but has not ratified
highest consumers of the most important ozone- it, making its requirements non-binding. Other major
depleting substances, CFCs. polluters, such as China and India, have ratified the
Treaty but are not obliged to reduce emissions under
the specifications of the current agreement, despite
being large greenhouse gas emitters.
ENVIRONMENT AS A PUBLIC GOOD FOR DEVELOPMENT

If the United States as key polluter does not lead the
efforts to cut emissions other big polluters will be
indifferent.
Table 5.4. Factors influencing the success of the environmental regime (continued)
How many countries Less uncertainty about the impacts on individual Costs of climate change are expected to be higher in
and activities would countries: all countries could suffer from ozone some regions than in others (for example, higher in
be affected by depletion. India than in Brazil), and the impact assessments of
underprovision? climate change on economic and social life and their
distribution, both temporal and geographical, have not
yet produced convincing conclusions.
Concentration of Concentration of interest and little political Significant uncertainties about global warming processes
interest and political pressure to oppose the treaty and its and their consequences keeping countries from making
pressure to oppose amendments. commitment. Mitigating climate change assumes
the agreement spending real money today in exchange for uncertain
benefits in the far future.

Technological Major players searched for substitutes, which were Lack of viable alternative technologies and substitutes
breakthroughs/ found for some ozone-depleting substances, like that would compensate industries for economic losses
substitutes CFCs, and other harmful materials that also gen- from the Protocol’s measures.
erated profits for the affected businesses. Even Commercial interests not so concentrated as for CFCs.
major producers of CFCs, with strong commercial Industries that incur the costs of emissions reductions
interest, were to gain from CFC reductions due to are not likely to be the same as the ones that will gain
profitable substitutes. from possible substitutes.
Commercial interests were concentrated. The Pro-
tocol has remained mostly limited to those indus-
tries dealing with the ozone-depleting sub-
stances.
Finding replacements for CFCs was much easier
for developed countries than for developing
countries.
137
138
Number of The impact of outcomes differs based on geographic Controlling greenhouse gases involves more players, mak-
participants suffering location. Countries at the higher latitudes are more ing the process of international cooperation more compli-
from underprovision at risk from ozone holes. cated in this area.
and number of
Mainly requires involvement of manufacturing Efforts may affect different industries in almost every coun-
participants
industries, especially chemical industries. try. Achieving reductions relates not only to manufacturing
contributing to the
underprovision but also to agricultural activities.
Larger contributors are nations with large rain forests (Bra-
zil and Indonesia) and agricultural countries with methane
and nitrous oxide emissions (China, India and the United
States).
High population growth in some countries also puts pres-
sure on the ability to curb greenhouse gas emissions
through increasing demand for food, shelter and energy.
Greenhouse gas emissions are wide-ranging and
changes require the involvement of millions of people,
requiring national government policy to influence
domestic behaviour.
Treaty flexibility, High flexibility and norms of good behaviour estab- Complicated collaborative processes.
norms, standards lished. The treaty mandates could be easily changed Special status given to developing countries, especially to
and enforcement when new circumstance appear (new substitutes, key emitters, will keep the industrial polluters from ratify-
mechanisms new information, or treaty–mandated reductions are ing the Kyoto Protocol.
exceeded).
Some cutbacks will have to be mandated to all countries,
The treaty framework united environmental, political with some allowed differentiation over time.
and commercial interests.
A treaty instrument for global warming needs to be de-
Special status given to developing countries (delayed signed that accounts for its unique aspects.
compliance) as minor producers of CFCs was feasi-
ble and sufficient to concentrate collective action on
major producers.
Early ratifiers persuaded others to sign the treaty
ENVIRONMENT AS A PUBLIC GOOD FOR DEVELOPMENT

through positive incentives (delayed compliance by
developing countries) and threatening with trade
sanctions.
Innovative financial mechanism used: Multilateral
Fund was established to finance the Montreal
Protocol.
Intertemporal/ The reduction of CFCs under the Montreal Protocol The benefits from actions taken today will come in the dis-
generational will result in clear benefits for current generations as tant future, while the political and economic costs are
well. borne by the current generation. Climate change is not
expected to do much damage within next 50 years, so at
a normal discount rate mitigating climate change today
does not seem worthwhile. The effects of reducing green-
house gas emissions require a much longer time span to
take hold. Cutting emission gradually is a much cheaper
than doing it quickly.
The wide distribution of benefits across countries amplifies
the free rider problem.
Source: Sandler (2004b: 215–18; 225; 232–34; 257–59; 269); Braungart et al. 2005; Cooper 2005; Rock 2006, The Economist 2006; Memedovic, 2006;
Nordhause 2005.

139
POLICY ISSUES
The undersupply of environmental public goods has become a major issue on the in-
ternational agenda. Finding appropriate mechanisms to correct this deficiency is crucial,
both for mitigating environmental degradation and for supporting economic develop-
ment.
Although many other agents may contribute to the provision of environmental
public goods, the participation of national governments remains vital. Countries have
different abilities in assuming the commitments to sustainable development. In addi-
tion, actions by national governments may be insufficient, due to spillover effects that
reach beyond national borders. In this context, international collaboration gains special
relevance. Several suggestions for the international debate follow:
• Considering complementarities. Most environmental impacts from human activities
are intergenerational in character, with direct consequences for the management of
environmental public goods. Global problems such as depletion of the ozone layer
and climate change have consequences for both present-day societies and future
generations. Each of the mechanisms highlighted in this chapter—regulating, coop-
eration, establishing rights of exchange—represents measures for promoting action
on the international level. Therefore, their implementation may as well be comple-
mentary.
• Avoiding earlier mistakes. Developing countries, especially those at low incomes,
have fewer financial options and are more vulnerable to environmental problems.
Many of these countries also depend heavily on natural resources, making the con-
ditions of their environment crucial to their progress. Sustainable development re-
quires averting repetition of the polluting practices during the industrialisation of
developed countries. Governments should thus take notice of the ecological conse-
quences of their industrialisation efforts, and the international community should
provide strong incentives for developing countries to leapfrog the historical errors of
developed countries.
• Accommodating different needs. While greater international coordination could
help prevent opportunistic free rider behaviour, it is also essential that international
differences be considered from a principle of common but differentiated responsi-
bilities. Developing countries have specific concerns and priorities for the environ-
ment, especially in the realm of sustainable development. It is therefore important
that the agenda for international environmental public goods reflect primary con-
cerns of different countries and population groups in a balanced manner.
• Improving the coordination of global and regional efforts. The success of some in-
ternational agreements suggests the need to reinforce international treaties and con-
vince countries of making further commitments. At the same time, greater decen-
tralisation in the provision of environmental public goods should be considered.
Governments could support the development of capabilities in local entities with
closer ties and greater knowledge about specific aspects of the environment. It is
also important to strengthen information sharing and to foster an integrated ap-
proach for environmental problem-solving across disciplines and institutions.
• Moving to environmentally friendly production. Technological improvements can
promote economic dynamism and development and simultaneously lead to more
environmentally friendly production processes. The application of clean and effi-

ciency-improving technologies, in both material and energy use, is a good example.
To increase the capabilities of developing countries, international efforts should be
directed at technology transfer and the creation and dissemination of specific scien-
tific and technological knowledge.
• Educating everyone. The intergenerational scope of environmental issues under-
lines the importance of education and learning. It is essential that governments im-
plement education policies and training practices, which can build environmental
awareness about more sustainable use of natural resources and stimulate environ-
ment-friendly changes in consumption patterns.

CHAPTER 6
CONCLUSIONS AND POLICY RECOMMENDATIONS
T
raditionally, foreign assistance has provided private goods and social overhead
capital to recipient countries not only to reduce abject poverty but also to pro-
vide the necessary preconditions for sustained economic development. Social
overhead capital—schools, bridges, highways, law enforcement, communication systems,
waterways, irrigation systems, courts—often consists of national public goods for resi-
dents. This social overhead capital is necessary for markets to function; for example,
law enforcement is required to protect property rights, while courts are needed to adju-
dicate property right disagreements.
In giving foreign assistance, donor countries have been motivated by a combina-
tion of altruism and self-interest. Altruistic gifts are based on a desire to improve the
well-being of those less fortunate even when it means giving up some of the donor
country’s own savings or consumption. In contrast, assistance is founded on self-interest
if the donor stands to gain directly or indirectly from its actions. This self-interest may
manifest itself in aid that results in stronger allies, military bases, or better trading part-
ners, which was true for the Marshall Plan following World War II. The practice of
conditionality, whereby aid is tied to recipients abiding by certain stipulations—
introducing certain policy reforms or purchasing technical assistance from the donor
country, for example—is another instance of assistance being driven in part by the do-
nor’s interests. In recent years the practice of conditionality has lost support because it
may weaken recipient countries’ sense of ownership of their development plans. Such
practices may also inhibit recipients from developing their own expertise while paying
too much for donor-supplied services or inhibit development by imposing practices on
a recipient that are foreign to its culture or way of doing business.
GROWTH IN FOREIGN AID FOR NATIONAL AND INTERNATIONAL PUBLIC GOODS
Interest has been growing in the provision of foreign aid in the form of national and in-
ternational public goods. International public goods include goods whose benefits are
non-rival and non-excludable to two or more countries. For example, assisting a devel-
oping country to implement sounder financial practices reduces the likelihood that fi-
nancial crises will arise in that country and spread to other countries or hurt foreign in-
vestors with portfolio or foreign direct investments in the country. Similarly, assisting a
country to switch from chlorofluorocarbons to more ozone-benign substances benefits
all countries by limiting ozone-shield depletion. In fact, as these examples show, donor-
provided international public goods generate benefits that may assist the donor country
as well, thereby providing additional incentives to support aid. For aid-funded interna-
tional public goods, donor self-interest derives from the nature of the public good sup-
plied and not from explicit stipulations on recipient behaviour. Such benefit spillovers
may make this form of aid an easy sell to the donor country’s constituency.
Recent studies have documented an increase in foreign aid support of national
and international public goods. The World Bank (2001a: 110–13) estimated that $5
billion is directly spent annually on aid-assisted international public goods and another

$11 billion annually on complementary activities that permit developing countries to
use these goods. Such complementary activities include primarily the provision of na-
tional public goods that improve education, health, governance and the environment.
Te Velde, Morrissey and Hewitt (2002: tables 5.1 and 5.2) show that the financing of
both national and international public goods grew from just over 16% of foreign assis-
tance in the early 1980s to almost 40% in the late 1990s. In an updated study te Velde
(2006) indicates that the share of foreign assistance supporting both international and
national public goods doubled between 1983 and 2003. About 45% of foreign aid
funded these two classes of public goods in 2003.
Estimates by Raffer (1999) indicate that such support varies from 20% to 40% of
official development assistance depending on the definition of public goods assistance.
Although estimates will vary widely until researchers agree on how to measure public
goods aid, different studies still find that more aid is either financing international public
goods directly or preparing recipients to take advantage of the benefits of these goods.
In recommendations for reforming aid the United Nations (2001) High-Level Panel
called for increased support of international public goods in health and other key sec-
tors and cautioned that this support must be in addition to traditional poverty-alleviating
assistance.
The need for international public goods for economic development is tied, in
part, to globalization—the increase in cross-border flows of all kinds. First, increased
capital flows associated with globalization mean that financial crises may have more far-
reaching consequences than in the past. Developing countries increasingly rely on capi-
tal inflows to finance domestic investment and economic development. These flows
have in some instances replaced loans and grants from multilateral organizations.
Second, advances in transportation and communication networks and in pro-
duction networks facilitate cross-border flows from externalities (for example, transna-
tional transmission of diseases, the contagious anxiety caused by large-scale terrorist
events, and international dissemination of best practices), so that countries’ welfare is
more interrelated in today’s globalized world.
Third, technological advances, by enabling countries to identify cross-border ex-
ternalities, create the need for international public goods such as transboundary air pol-
lution control to address these externalities. These advances may also give rise to new
international public goods and externalities in an increasingly interdependent world
economy. Thus, for example, the development of nuclear energy created nuclear wastes
that have to be stored for generations.
Fourth, globalization leads to more trade, which also gives rise to international
public goods concerns, including the importation of contraband and the creation of pol-
lution havens.
This chapter has two main purposes. It distils the basic messages of the Report.
And it presents some policy recommendations regarding the allocation of foreign assis-
tance, the choice of jurisdiction, the proper sectors to support and the design of institu-
tions.
BASIC MESSAGES OF THE REPORT
This section highlights five main messages of the Report and prepares the way for a dis-
cussion of policy recommendations.
144 CONCLUSIONS AND POLICY RECOMMENDATIONS

DEVELOPING COUNTRIES NEED INTERNATIONAL PUBLIC GOODS FOR DEVELOPMENT
To function in today’s global economy, developing countries require a host of interna-

tional public goods that promote good governance, financial stability, technological pro-
gress, health and commerce. Without these goods developing countries are unable to
compete, prosper or attract capital from abroad. In a globalized world social overhead
capital involves international public goods as well as national public goods. Thus devel-
oping countries must be sufficiently integrated in the world’s trade regime to find mar-
kets for their export sector, which is often a leading sector for development. Interna-
tional public goods—reduced urban pollution, improved disease control, better
sanitation—not only increase welfare in developing countries but also promote their de-
velopment and growth.
This need for both national and international public goods for development is
recognized by the Millennium Development Goals, internationally agreed goals and
targets for knowledge, environment, health, and governance public goods. To further
knowledge, the Millennium Development Goals focus on universal primary education
for both men and women. The targets for environmental sustainability call for increas-
ing the supply of potable water and reversing losses in natural resources. Environmental
sustainability in developing countries will have positive spillovers not only on neighbour-
ing countries but also on other countries by limiting harmful transnational externalities.
A better environment has secondary health influences, since air pollution leads to respi-
ratory diseases and water pollution leads to water-borne diseases. The achievement of
the goal of global partnerships can improve health, governance and knowledge in de-
veloping countries through best practices and technology transfers. Additionally, the
elimination of unfair practices can provide developing countries with more viable mar-
kets for their exports. The development partnership goal also speaks to governance be-
cause partnership means that steps are taken to allow developing countries to engage
with the developed world.
INTERNATIONAL PUBLIC GOODS DIFFER ACCORDING TO THEIR THREE BASIC PROPERTIES,

WHICH AFFECT THEIR EASE OF PROVISION
International public goods come in a variety of forms because they differ in their three
basic properties: non-rivalry of benefits, non-excludability of benefit recipients and the
technology of aggregation. The prognosis for successful collective action critically hinges
on these three properties. Some combinations of these properties imply that the goods
will be provided efficiently, with little need for intervention or explicit policy. For ex-
ample, weakest link public goods will be provided optimally with no outside guidance
when benefiting countries possess similar tastes and resource endowments (Sandler
2004b: 61–68).
When, however, both developing and developed countries are involved, devel-
oping countries will have fewer endowments and will be unable to afford the level of
provision for the weakest link public good considered adequate by developed countries.
This applies to actions to monitor and contain an infectious disease outbreak, for ex-
ample. Because the least action fixes the effective supply of a weakest link public good,
the rich nations then have a motive to shore up the weakest link suppliers through in-
kind or income transfers. The issue becomes how the developed countries confront the
free rider problem of wanting other rich countries to take the lead in shoring up the
weakest links. Multilateral organizations can coordinate these efforts as the World

Health Organization did in eradicating smallpox and is currently doing in eliminating
polio.
Another example of a potentially non-problematic international public good is a
best shot public good—one that is adequately provided for all countries when just one or
a few countries have the ability to supply the good. This is especially the case when the
pool of benefit recipients includes a rich country with a strong preference for the good
even if it has to supply it alone—for example, the United States funds the Centres for
Disease Control and Prevention.
The provision of many international public goods for development confronts
collective action difficulties. Policy is then needed, and this may require institutional
arrangement such as multilateral organizations, partnerships and treaties. Since policy-
making resources are scarce, efforts must focus on the international public goods that,
by their nature, pose a collective action difficulty. Sometimes, institutional design can be
used to give the international public good a set of properties more conducive to provi-
sion. Recent action to have donors earmark contributions through multilateral organiza-
tions to support specific sectors may augment donor-specific joint products, increasing
the motivation to give. In some instances the comprehensive development framework
and the pursuit of partnerships have altered the properties of associated international
public goods and motivated generosity by augmenting favourable joint-product combi-
nations (Sandler 2004b: 129–43).
PROPERTIES OF INTERNATIONAL PUBLIC GOODS DETERMINE THE REQUIRED CORREC-

TIONS AND MOST APPROPRIATE INSTITUTIONAL ARRANGEMENTS
It is primarily the properties of international public goods that dictate the corrections
required. Alternative property rights assignments or sharing rules—whether the catch in
a fishery is distributed among exploiters by effort or output—may address some open-
access commons concerns (Cornes and Sandler 1996: 283–90). In other cases taxes or
quotas are appropriate. The properties of international public goods also point to the
most appropriate institutional arrangement. For goods with readily monitored and ex-
cludable benefits, club arrangements can be used, so that countries can join private col-
lectives to obtain the public good, financed from congestion-internalizing tolls. For the
good to be efficiently financed through a toll arrangement, use of the good must give
rise to crowding or non-zero marginal cost. The arrangement cannot work efficiently if
the marginal cost from use is zero, because then the toll is zero. Clubs present a di-
lemma because developing countries may not be able to afford the payment and so
cannot gain access to essential development activities—for example, access to INTEL-
SAT and the satellite-based communication network. The solution is not to resort to
less efficient allocation mechanisms but to provide aid to fund developing countries’
membership.
For other international public goods the institutional decision may involve pay-
ment arrangements for benefit recipients. Thus, cost sharing among participants can
circumvent the free-riding problem, as has been used since 1974 to underwrite peace-
keeping missions by the United Nations. This organization also uses cost sharing to
support its operations through membership fees. The World Bank and the Interna-
tional Monetary Fund (IMF) give large stakeholders more voting privileges to increase
donor-specific benefits and provide private incentives to be generous to the many de-
velopment functions that these institutions supply. International organizations that cre-

ate specialized agencies are attempting to better serve a particular international public
good and its recipients. Certainly, the World Health Organization was established to
better fulfil health needs, especially in developing countries.
As discussed below, institutional design also involves choosing the proper deci-
sion-making jurisdiction when, say, deciding between an international or regional facili-
tating institution. A current debate involves the proper development bank—the World
Bank or a regional development bank—to support some international public goods
whose benefits are confined to a well-defined domain (Kanbur 2004).
COMPLEMENTARITY OF NATIONAL AND INTERNATIONAL PUBLIC GOODS
Traditionally, development assistance focused only on providing private goods. More

recently, the need for both national and international public goods is now understood
to promote development (Sandler 1997; World Bank 2001). National public goods
play a complementary role for international public goods, because national public
goods are required for developing countries to take advantage of international public
goods. Without adequate hospitals and medical staff, a developing country is unable to
take advantage of medical breakthroughs and best practices that are international public
goods.
FOUR INTERNATIONAL PUBLIC GOODS, THEIR CHALLENGES AND POTENTIAL REMEDIES TO

PROMOTE DEVELOPMENT
This message concerns the four key international public goods highlighted in chapters
2–5. Each presents challenges and potential remedies to promote development.
Financial stability. Financial stability generally involves weakest link or weaker link in-
ternational public goods, with poor financial practices in developing countries hurting
these countries by turning away capital inflows that offer increased employment, tech-
nology transfers, aggregate demand and savings. Poor financial practices also create
negative spillovers for neighbouring and investing countries stemming from financial
losses. Neighbouring countries can also suffer by being associated—perhaps unfairly,
owing to propinquity—with nearby financial crises that lead to bank runs, with some
banks becoming insolvent owing to insufficient reserves.
Such financial governance failure can be corrected through best practices such
as those incorporated in the Basel Capital Accord, which was first adopted by the
Group of 10 (G-10) countries (Sandler 2004b: 9). Once developing countries adopted
the accord, they had little choice but to abide by it because to do otherwise would signal
risks to would-be investors. The IMF monitors adherence and supplies stop-gap liquid-
ity to developing countries to forestall crises. Thus there are clever ways to foster finan-
cial stability in developing countries that require little explicit intervention. The weakest
link nature of this international public good provides the right incentives for developed
countries to define better operating procedures and for developing countries to em-
brace them.
International trade regime. International trade regimes yield joint products with purely
public good outputs (more unrestricted commerce) and country-specific outputs (most
favoured nation status). The public goods outputs offer far-reaching gains, while the
country-specific outputs motivate countries to be part of the regime. The real issue is
how to achieve global free trade. As an interim measure regional trade blocs are likely

to form, with trade creation within the bloc and trade diversion between blocs. These
regional trade blocs can also offer regional public goods, as in the European Union. But
there is no clear roadmap on how to move from a patchwork of regional trade blocs to
a global free trade system. The World Trade Organization has assisted in this transi-
tion, but the process is far from completed.
Trade offers developing countries a way to expand their markets and to grow. It
also offers a pathway to improve social welfare by importing some products at cheaper
prices than home production. Developing countries have received asymmetric and
smaller benefits than developed countries from freer trade in recent years due largely to
rich countries’ protection of agriculture and other primary commodities that greatly
burden developing countries, whose export sector relies on such products.
Unlike for financial stability, incentives are less well aligned for trade. This can
be rectified by engineering trade regimes with either a higher proportion of country-
specific benefits or net improvements for a larger set of countries. More countries can
see a net improvement from the international trade regime if developed countries be-
lieve that the dynamic gains from expanding markets outweigh the short-run losses from
ending tariffs. The collective problem involves compensating individuals who lose in the
short run from freer trade so that all can gain in the long run. Countries must be as-
sured, however, that their actions will be reciprocated by other countries, and ensuring
reciprocity requires an international institution.
Knowledge. Knowledge public goods for development highlight the conflict between
static and dynamic efficiency (Stiglitz 1999). Patents and other knowledge-exclusion
mechanisms create short-term welfare losses by excluding those with a positive marginal
willingness to pay when the marginal costs of another user is near zero. This exclusion-
ary practice, however, maintains strong incentives for investing in knowledge and new
technologies owing to patent-protected property rights that result in higher short-run
profits. This should induce more investments in discoveries, which correspond to dy-
namic efficiency gains. But these dynamic gains create ever greater hardships for the
developing countries that cannot afford access to the new technologies and, thus, fall
farther behind.
One policy solution is to increase assistance to developing countries to give
them access. Another solution is to offer information products and technologies at
lower prices in developing countries through a two-tier price scheme. For such schemes
to work, however, arbitrage schemes must not be available that would enable agents to
buy the product (say, a computer program or drug) at a low price in a developing coun-
try and then sell it in a developed country at a higher price but still below the patent-
protected price.
Once developing countries can afford access to new technologies, agents in
these countries must still acquire the absorptive capacity to gain from these innovations.
Here, UNIDO and other multilateral organizations can play an essential role in creating
and financing this capacity. Many collective action problems must be surmounted for
international knowledge public goods.
Environment. Environmental public goods abide by a host of different aggregation
technologies—summation, weighted sum, threshold, weakest link and others—so there
are myriad provision prognoses. For reciprocal bilateral externalities where, say, coun-
try A imposes air pollution on country B while country B imposes river pollution on
country A, the countries should be able to bargain to an efficient outcome. Greater dif-
ficulties are involved when there are a large number of polluters and recipients and the

externality is unidirectional. But even then, if the identity of the polluters and recipients
is known, a treaty can be self-enforcing, particularly when there is significant self-
pollution accompanying transboundary pollution, as there was with the Helsinki Proto-
col for sulphur emissions (Murdoch, Sandler and Sargent 1997). When there are harm-
ful pollution spillovers, developed countries often have an incentive to assist developing
countries for international and transregional environmental public goods. For ozone-
shield-depleting chlorofluorocarbons, the Montreal Protocol sets up a multilateral fund
through which developed countries subsidize the switchover to more benign substances
by developing countries.
Corrective policy is tied to the properties of environmental public goods—for
example, the direction of income redistributions depends on the publicness properties.
For weakest link environmental public goods income redistribution is to the poor coun-
tries so that they can bring their provision (and thus everyone else’s) up to an acceptable
standard. Best shot environmental public goods require redistributing income to the
most likely provider even if this means a more unequal distribution of income among
recipient countries. The transboundary range of spillovers is often the key determinant
of the treaty membership. Regional pollution in developing areas poses the greatest dif-
ficulty because developed countries may not have a direct interest in curbing localized
pollutants. Moreover, there may be no country in the region with the capacity to curb
regionwide pollutants. These are the cases where foreign assistance is especially impor-
tant. Regional agreements can also play a role in supporting these efforts.
POLICY ISSUES AND RECOMMENDATIONS
This section investigates several policy issues and proposals regarding international pub-
lic goods for development. These goods are associated with a host of policy concerns,
many of which have already been addressed in the Report. Some new ones are also
raised.
WHICH JURISDICTIONAL LEVEL?
Given differing spillover ranges for international public goods, a crucial question con-
cerns the jurisdictional level at which these goods should be provided. The principle of
subsidiarity supports a match between the decision-making jurisdiction and the spillover
range of the public good. Thus, a national public good should be provided by a national
government, a regional public good should be supplied by a regional organization, and
an international public good should be supported by an international institution. By
matching the decision-making jurisdiction and the good’s economic interests, subsidiar-
ity seeks to foster allocative efficiency, whereby those affected by the public good cover
the marginal cost of its provision. When the coordinating jurisdiction extends beyond
the spillover domain, it is anticipated that some agents who do not benefit will be sub-
ject to fees or other financial burdens, thus resulting in oversupply. When the coordi-
nating jurisdiction is a subregion of the good’s spillover domain, then it is anticipated
that decision-makers will fail to adjust for benefits received by those beyond the jurisdic-
tional domain, so the public good is undersupplied.
Another argument in favour of subsidiarity is to curb transaction costs by limit-
ing participants to those with a stake in the associated activity. By emphasizing the es-
sential decision-makers, subsidiarity fosters repeated interactions and thus promotes
cooperation even in perverse situations where incentives are not usually aligned. Sub-

sidiarity also bolsters interaction at the local level for public goods with small spillover
domains. Localized interactions draw on shared cultures, norms and values and thus
curtail asymmetric information.
The subsidiarity principle raises concerns for supplying public goods for devel-
opment because many developing countries require assistance for their national and
international public goods. By its nature foreign assistance means some relaxation of
subsidiarity since the supplier may necessarily be outside of the spillover range of the
public good.
There are other grounds for not strictly adhering to subsidiarity. First, strict ad-
herence would result in an excess of jurisdictions since public goods have diverse spill-
over domains. Second, economies of scope may justify providing two or more public
goods in the same institution to take advantage of unit cost savings even though the
spillover ranges of the international public goods do not coincide. Third, economies of
scale may justify using institutions with a larger jurisdictional mandate than a good’s
spillover range to save on unit cost. Fourth, the proper jurisdiction may not exist, so that
subsidiarity may sometimes have to be ignored. For a transtropical public good such as
action to limit river blindness, the world community had to rely on a multilateral institu-
tion—the World Bank—to alleviate the problem. Fifth, the need to address best shot
and better shot public goods, where efforts must be pooled, may necessitate that an in-
ternational institution supply some regional public goods, because it is easier for such
bodies to amass large amounts of money.
The upshot is that national and international public goods for development
should be supported by bilateral and multilateral (regional and global) organizations.
The cost savings from scope economies represent a key rationale for using regional and
international institutions to support a host of different international public goods. To
adapt support of regional public goods to constituent needs, there are grounds for in-
creasing the capacity of regional institutions. This policy will also curtail “mission creep”
in international institutions that supply an ever-increasing number of public goods that
possess less than global spillovers. Better linkages between regional and international
aid institutions should adjust for previously unrecognized complementarities between
regional and international public goods. Specialized agencies—UNIDO and others—
within international institutions must promote the supply of public goods that are tied
by a common function, such as the pursuit of industrialization. Subsidiarity should serve
as a guiding principle that is not too strictly followed.
SUPPORT OF PUBLIC GOODS: SPATIAL CONSIDERATIONS
The empirical analysis of te Velde, Morrissey and Hewitt (2002) establishes that the
bulk of foreign assistance for public goods funds national public goods. This support
makes sense because these goods are necessary for development and are a prerequisite
for taking advantage of international public goods.
In recent papers Sandler (2005) and Sandler and Arce (2007) argue that re-
gional public goods for development are relatively neglected. Their argument is based
on a number of considerations. First, in contrast to international public goods, regional
public goods are unlikely to yield benefit spillovers to donor countries, thus limiting
their funding. Second, international institutions are better funded than their regional
counterparts, which is due to a culture of contributing to international bodies. Thus,
these bodies are well equipped to finance international public goods. Third, developing

regions often lack a lead country that can coordinate actions to provide infrastructure—
interstate highway systems and waterways, for example—to advance regional develop-
ment. Fourth, some developing regions are plagued by conflict that inhibits the supply
of regional public goods. Fifth, there may be no clear entity that can obtain loans and
provide collateral at the regional level for regional public goods.
Thus, there is a need to make sure that regional public goods are not ignored;
actions to expand the capacity of regional development banks can foster the provision
of regional public goods. There is also a need for specialized agencies within the World
Bank and in the United States to support region-based activities.
INSTITUTIONAL DESIGN FOR INTERNATIONAL PUBLIC GOODS
There are some institutional design principles to highlight. When exclusion can be
practised and the international public good displays crowding, clubs are a low transac-
tion cost means for financing such a good. Even some regional club goods—such as
tunnels, bridges and waterways—can be privately provided by clubs. Foreign aid should
support access to communication, transportation and other clubs for developing coun-
tries so that they have the same advantages as rich countries.
Another design principle is to exploit novel forms of organizations so as to offer
the right incentives to member nations. When, for example, helping to finance regional
public goods, regional development banks should rely more on grants than on loans. A
country has little incentive to take on debt if the loan funds a regional public good with
spillovers to other countries not saddled with the debt. Thus, the division between loans
and grants must be geared to the mix of country-specific and regionwide benefits.
Institution engineering that augments country-specific joint products provides
incentives for countries to fund international public activities. Recipient-specific joint
products provide a sense of ownership, while donor-specific joint products motivate
generosity. Recent calls to take away quota-based voting in the IMF would eliminate a
motivating donor-specific benefit. Public-private partnerships offer an institutional form
that takes advantage of diverse participants’ comparative advantage. As such, partner-
ships economize on transaction costs while maximizing output. Institutions for funding
international public goods must also limit overlap of functions. Currently, international
institutions appear to be pursuing some of the same functions—the United Nations and
some of its specialized agencies, the World Bank and others have focused on promot-
ing a sustainable environment.
SECTOR CHOICE
In the late 1980s, following publication of the Brundtland Report (Brundtland 1987),
foreign aid to the environmental sector increased greatly and accounted for the largest
share of foreign assistance until the mid-1990s (Mascarenhas and Sandler 2005: 1102).
After the East Asian financial crisis of 1997 foreign assistance was redirected to govern-
ance and other capacity-building activities. During the late 1990s the health and knowl-
edge sectors also attracted more foreign assistance (Mascarenhas and Sandler 2005:
1101–03).
As best practices emerge, governance will correct itself in developing countries
through self-enforcing incentives, provided that these countries possess the requisite
capacity. As indicated earlier, if developing countries are to attract capital they have little

choice but to adopt best practices such as the Basel Accord. Thus, the share of assis-
tance going to governance should begin to decline as this capacity is obtained. In its
place institutions such as the IMF will need to monitor for trouble, having ready an ac-
tion plan to correct the problem and minimize the contagion when instability or crises
are discovered.
Although the share of assistance going to the environment has declined in re-
cent years as the share going to governance has increased, aid-supported environmental
activities will remain high because of significant donor spillovers, especially for trans-
boundary pollution concerns. Free riding will plague the provision of environmental
public goods, so many of which are summation based. Greater incentive compatibility
and thus more efficient collective action will be associated with pollutants adhering to a
weighted sum aggregator (sulphur, for example). The real worry is to make sure that
donor countries do not allocate too much aid to international environmental public
goods—global warming and ozone depletion—to the neglect of more localized and re-
gional environmental concerns.
With the spread of such diseases as HIV/AIDS and Ebola and rising concern
about bird flu, foreign support to the health sector (providing healthcare infrastructure,
eradicating communicable diseases, treating the ill, vaccinating against diseases, moni-
toring outbreaks and limiting disease transmission) in developing countries increased as
a share of foreign assistance in the 1990s. The rise in support reflects partly the self-
interest of donor countries. The health interests of rich and poor countries are not
completely aligned, however, since rich countries are more interested in non-
communicable diseases such as cancer and heart disease, whereas many of the infec-
tious diseases in developing countries do not pose a risk to developed countries.
The prevalence of weakest link and best shot aggregators in the health sector
means that there is a need to provide developing countries with a capacity to address
myriad concerns, such as stemming the spread of infectious disease. This requires aid
to a sector that is still relatively ignored owing to limited donor country spillovers. New
participants—charitable foundations, public-private partnerships, and non-governmental
organizations—have a significant role to play by taking up health causes that are not al-
ways championed by developed countries. Moreover, many of these organizations have
funds whose sources differ from those of the multilateral institutions so that crowding
out may not be a concern. And as the need for governance support wanes, funding
should be redirected to the health sector. A healthy population is crucial for sustainable
development.
Knowledge is also essential for development and is complementary to other sec-
tors. For example, a higher level of education improves governance and allows bureau-
crats to use advanced technologies for auditing and other purposes. Without knowledge
public goods developing countries cannot take advantage of most international public
goods. Thus, knowledge must be bolstered early in any development plan. With
knowledge a best shot public good, most breakthroughs are anticipated to take place in
developed countries. This raises a concern for regions where required innovations have
no benefit spillovers for rich countries and where there is no regional member state that
can supply the discovery. Once again, new participants can provide the expertise or of-
fer the funding.

CROWDING-OUT
Anand (2004), te Velde, Morrissey and Hewitt (2002) and others raise the issue that
greater assistance given to international public goods will mean less support for tradi-
tional forms of aid if foreign assistance amounts do not increase. Some international
public goods have donor-specific benefits associated with them, providing an incentive
for rich countries to favour goods whose benefit spillovers further their own interests.
When combined with aid fatigue, this focus can have dire consequences for the well-
being of developing countries.
The irony is that crowding out traditional assistance creates negative externalities
for rich countries—for example, an unhealthy population serves as the perfect host for
infectious diseases. In addition, poverty inhibits recipient countries from providing the
international public goods sought after by rich countries. Multilateral organizations need
to build awareness in donor countries that support for international public goods
should not be in lieu of standard development support. Also, these organizations must
forge links with the new participants since, as already mentioned, their assistance may
have no crowding-out implications because their money is not coming from the public
sector of donor countries.
CONCLUDING REMARKS
International public goods for development will grow in importance over the coming
decades as globalization intensifies. This Report has shown that these goods come in
many varieties and affect all sectors of developing countries. Corrective policies hinge
on the goods’ properties. There is no single prescription; rather, different kinds of in-
ternational public goods require different kinds of policies and institutional arrange-
ments. The Report addresses the nature of these policies and institutions.

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Printed in Austria Sales No. E.08.II.B36
V.08-57150—November 2008—1,000 ISBN 978-92-1-106444-5
Public goods for economic

development

This publication addresses factors that promote or inhibit successful provision of the four key
international public goods: financial stability, international trade regime, international diffusion
of technological knowledge and global environment. Each of these public goods presents
global challenges and potential remedies to promote economic development. Without these
goods, developing countries are unable to compete, prosper or attract capital from abroad. The
undersupply of these goods may affect prospects for economic development, threatening global
economic stability, peace and prosperity. The need for public goods provision is also recognized
by the Millennium Development Goals, internationally agreed goals and targets for knowledge,
health, governance and environmental public goods.
Because of the characteristics of public goods, leaving their provision to market forces will
result in their under provision with respect to socially desirable levels. Coordinated social actions
are therefore necessary to mobilize collective response in line with socially desirable objectives
and with areas of comparative advantage and value added.
International public goods for development will grow in importance over the coming decades
as globalization intensifies. Corrective policies hinge on the goods’ properties. There is no single
prescription; rather, different kinds of international public goods require different kinds of policies
and institutional arrangements. The Report addresses the nature of these policies and institutions
using the modern principles of collective action.

Vienna International Centre, P.O. Box 300, 1400 Vienna, Austria
Telephone: (+43-1) 26026-0, Fax: (+43-1) 26926-69 UNITED NATIONS
E-mail: unido@unido.org, Internet: www.unido.org
INDUSTRIAL DEVELOPMENT ORGANIZATION

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Public goods for economic

UNITED NATIONS INDUSTRIAL DEVELOPMENT ORGANIZATION

UNITED NATIONS INDUSTRIAL DEVELOPMENT ORGANIZATION

Copyright © 2008 United Nations Industrial Development Organization

PUBLIC GOODS FOR ECONOMIC DEVELOPMENT iii

iv PUBLIC GOODS FOR ECONOMIC DEVELOPMENT

T his Report was edited by Olga Memedovic, UNIDO staff member.

PUBLIC GOODS FOR ECONOMIC DEVELOPMENT v

vi public goods for Economic development

PUBLIC GOODS FOR ECONOMIC DEVELOPMENT vii

viii PUBLIC GOODS FOR ECONOMIC DEVELOPMENT

PUBLIC GOODS FOR ECONOMIC DEVELOPMENT ix

PUBLIC GOODS FOR ECONOMIC DEVELOPMENT 1

Table 1. Industrial development, market failures and responses

Externalities ignored Capacity building for Governance

Incomplete and im- Promotion of tech- Knowledge

Rationing or high Microfinance Knowledge

2 OVERCOMING MARKET FAILURES FOR ECONOMIC DEVELOPMENT

Box 1. UN reform and the provision of public goods

PUBLIC GOODS FOR ECONOMIC DEVELOPMENT 3

GLOBAL INTERDEPENDENCE AND INTERNATIONAL PUBLIC GOODS

PUBLIC GOODS FOR ECONOMIC DEVELOPMENT 5

Box 1.1. The Millennium Development Goals

Goal 1: Eradicate extreme poverty and hunger.

6 THE CONCEPT OF INTERNATIONAL PUBLIC GOODS

EXTERNALITIES AND PUBLIC GOODS: CONCEPTUAL CLARIFICATIONS

To understand how to provide international public goods, it is first necessary to under-

1 Other instances include asymmetric information and common property.

PUBLIC GOODS FOR ECONOMIC DEVELOPMENT 7

Benefits Rival Partially rival Non-rival

Excludable Pure private goods Club goods Weather-monitoring sta-

Air corridors Strategic weapons

Partially Impure public goods

For other goods, even if access is non-excludable, consumption may include

8 THE CONCEPT OF INTERNATIONAL PUBLIC GOODS

EXPLAINING THE INCENTIVES OF PUBLIC GOODS’ SUPPLY: AGGREGATION TECH-

PUBLIC GOODS FOR ECONOMIC DEVELOPMENT 9

10 THE CONCEPT OF INTERNATIONAL PUBLIC GOODS

Impure public good Club good

Undersupply dependent on the rela- Overuse/undersupply with

2 This is a matter of minor precision, since it is easy to understand overuse as a consequence of

PUBLIC GOODS FOR ECONOMIC DEVELOPMENT 11

Impure public good Club good

For a homogeneous group, efficient

Some external force-

Undersupply or efficient supply. Sup-

Discovering a vaccine against

Undersupply or efficient supply. The

Source: Based on Sandler (2004b: 60–68, 82).

GEOGRAPHIC SCOPE OF SPILLOVER EFFECTS: CROSS-BORDER, REGIONAL AND

12 THE CONCEPT OF INTERNATIONAL PUBLIC GOODS

Table 1.3. Geographic scope of the public goods

Kind of public good Definition Example

Spillover effects limited to national National health care system

Regional economic cooperation

Source: Adapted from Sandler (2004b: 136).

CLASSIFYING INTERNATIONAL PUBLIC GOODS