The debate on the contribution of economic processing zones (EPZs) to national economic development has been raging for decades. A cursory glance at websites of international, regional and local labour unions and labour rights organisations, as well as that of an organisation such as the World Economic Processing Zones Association (WEPZA), shows there is no sign of this debate subsiding.

Every possible aspect of EPZs has become a topic of discussion: labour rights, women’s rights, children’s rights, environmental protection and environmental justice, urban planning, the cultural impact of foreign investment, budgetary impact, employment impact, foreign exchange, and so on. All of these issues are of crucial importance. All affect policymakers at some point in the life of the EPZ policy cycle, be it at conception, implementation or during the operational life of the zone.

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Some of these issues can have crippling effects on the zone and can sometimes affect national policy and politics, for the better or the worse. At a time of increasing strength of what is commonly referred to as the anti-globalisation movement, governments should have appropriate answers for these issues.

Among the facets of the debate, the most critical is the EPZ’s economic contribution to growth. Some EPZ models affect the rate of economic growth and are worthy of exploration.

The orthodox view

The World Bank, as the world’s premier development lending institution, has been at the forefront of EPZ policy. As such, its perspective is crucial to all governments considering having free zones or rejuvenating their existing zones.

The World Bank has long been concerned with the economic benefits of EPZs and their overall contribution to economic reforms. In a 1992 report entitled EPZs, the bank said that EPZs should be evaluated not only by their static contribution to foreign exchange earnings and employment but also “by their dynamic contribution to continuing policy reforms”.

These policy reforms include, among others, “the demonstration of the feasibility of an outward-oriented development strategy”, which results from economic liberalisation and, particularly, from the liberalisation of the trade regime. The report recognises that EPZs’ contribution to such developments is difficult to establish empirically because available evidence on the impact of zones on the direction of trade policy reform is contradictory. It suggests that while in some cases EPZs have contributed to trade and investment liberalisation, in others they have permitted the continuation of highly protective trade and investment regimes.

The mixed evidence of the contribution of EPZs to economic reform is met, in the World Bank’s perspective, by mixed evidence of their contribution to the creation of economic benefits. The bank published a series of cost benefit analyses conducted by Peter Warr in the 1980s, which generally found that zones contributed marginally to growth and welfare, their benefits being limited to employment and foreign exchange earnings.

Neoclassical theory

The foundations of the World Bank’s position on export processing zones lie in neoclassical economic theory, and particularly in the confines of welfare economics.

In market economies that are not based on a laissez faire approach, welfare is a function of the allocation of resources resulting from both market interactions and government intervention. The greater the number of distortions away from the laissez faire ideal, the greater the loss in welfare and economic growth. On this foundation, any form of government intervention results in the reduction of welfare.

Whereas laissez faire is considered to be a Utopia, free trade is considered to be highly desirable, following the principles of second best welfare economics. Second best welfare economics seeks to determine optimal intervention: the policy response that seeks to correct distortions in resource allocation in an attempt to create free trade like conditions.

In this framework, analyses of EPZs have been pessimistic. The majority of analyses have found EPZs to be either directly welfare reducing or resulting in the constitution of a dual economic structure harmful to long-term efficiency in the allocation of resources.

Policy implications

For the World Bank, EPZs are a third best option, to be used with parsimony where and when the first best (countrywide liberalisation) and the second best (economy-wide duty-free import systems) options are not available. In its EPZs report, it says that:

  • Economy-wide duty-free import systems should be emphasised over specific EPZs.

 

  • Support to EPZs should be considered individually for each economy, in the context of broader trade policy reforms involving a shift toward outward-oriented development, mainly as a transitional instrument for helping economies enter world markets.

 

  • Private development and management of EPZs should be encouraged and, when public development is required, special arrangements ought to be put in place to ensure full cost recovery (development costs, including land rents, and operating costs) and efficient management.

For the World Bank, EPZs are therefore a last resort in the effort to improve allocative efficiency in previously highly regulated and protected economies. Their role should be transitory in the establishment of fully liberalised trade systems in order to avoid the reinforcement of welfare reducing distortions, the constitution of a dual economic structure harmful to short-term and long-term growth, and the creation of economic rents that are similarly harmful. In addition, everything should be done to minimise heavy public investments resulting in a decrease of the potential yet limited benefits of an EPZ.

 

Please click on the titles below to read more this article:

 

2. The heterodox view

 

3. EPZs in Africa

 

4. Domestic core