Table of Contents

  • This study is the first to look at the trade effects of the current global slowdown on small states. Small states’ exports seem to be affected at least as much as other developing countries’ exports. Given the reliance of small states on trade, this means that the effects on their economies may be more sizeable than for other developing countries. We find that those countries exporting minerals and fuels, and ‘luxury’ goods and services, such as beef and tourism, are likely to be more affected.

  • The global financial system is currently experiencing a prolonged and deepening period of crisis. This global financial crisis began as a money market phenomenon rooted in the US housing market and has now spread to the real economy, both in the USA and abroad. The global credit crunch has compounded an already slowing global economy, marked by falling commodity prices and slowing demand for oil. The crisis has not spared developing countries, as shown inter alia by a recent study coordinated by the Overseas Development Institute (te Velde et al., 2009b).

  • In order to assess the implications of the current crisis for small countries’ trade, it is important to understand in what ways developing countries’ trade may be affected by the crisis. An equally important starting point is to examine the characteristics of small states and in what ways these determine the extent to which the global financial crisis displays its effects via the channel of trade. Sections 2 and 3 address these issues and derive the expected trade implications of the crisis on small states.

  • In order to see how these trade channels may affect small states, let us briefly describe the characteristics of their international trade. Their small market size and remote location tend to put small states, and small island states in particular, at a disadvantage in international trade. Due to the small domestic market, most of the firms are small and medium-sized enterprises (SMEs) with limited opportunities for economies of scale and investment in research and development.

  • The global financial crisis is developing in the context of a challenging international trading environment for small states. The review of the 2000 Commonwealth/World Bank Joint Task Force Report produced in 2006 suggests that over the past few years the prospects for small states have deteriorated further due to (future) preference erosion and the emergence of large developing country competitors (Briguglio et al., 2006). Difficul ties in competing in this international environment are confirmed by the sluggish rates of small states’ export growth relative to the rest of the world (Figure 8). This is more so for goods than for services, which in fact is the sector where the review suggests small states should reposition themselves in the international trading system (Qureshi and te Velde, 2008).

  • Trade is only one of the channels through which the crisis transmits its effects to developing countries. Given the degree of openness of small states, it is likely to be the most relevant channel in several cases. However, to put the discussion in context, it is worth briefly examining the other direct channels and the way they may impact on small states. Te Velde et al. (2009b) identify three areas other than trade where global shocks induced by the crisis may hit developing countries’ economies: private capital flows, remittances and aid. We adapt the discussion in te Velde et al. (2009b) in what follows.

  • A major finding of this study is that small states are likely to see their exports fall fairly substantially, and that for some of them the reduction may be critical. These countries need to adopt both short-term and long-term policies to mitigate and (eventually) counteract the effects of the crisis and increase their resilience to possible future shocks, which are not rare, as this crisis has once again shown. We review these policy implications in turn.

  • For developing countries, trade is a key transmission mechanism of the current global financial crisis. The effects of the crisis on trade are likely to play out through falling demand (due to falling incomes), increased trade protectionism, mainly taking nontraditional forms, and drying up of finance, including trade finance. The adverse effects on trade are possibly even more important for small states, which are heavily dependent on trade, given their need to specialise in a handful of productive activities. This study is the first to look specifically at the trade effects of the current global slowdown on small states. It has shown that small states’ exports seem to be affected at least as much as other countries’ exports. Given their reliance on trade, this means that the effects on their economies may be more significant than the impact on the economies of other developing countries.