We live in a second-best world.
As the U.S. imposed tariffs on steel and aluminum imports, economists united in condemning the measures—a rare display of unity in the profession. I think as economists we all felt a bit of relief, something along the lines of “Finally an easy one! An issue where we stand on solid ground.” Both economic theory and empirical studies unambiguously prove that free trade is better than protectionism, as Stanford economist John Cochrane explains in his lucid blog post. A first-best world would be a free-trade world.
Sadly, we live in a second-best world, where companies have to contend with a wide range of protectionist obstacles: tariffs, localization requirements, import and export licenses and quotas, administrative barriers, domestic subsidies and more. Governments influence trade flows through financing (state banks, export-import agencies), imposing conditions on foreign aid (“tied aid” which must be spent on goods and services of the donor country), and manipulating exchange rates. It’s a messy world out there.
It’s been getting worse: protectionism has been on the rise for several years. As the 2009 Global Recession struck, G20 countries committed to refrain from protectionism; they knew it would make everyone worse off. Yet they could not help themselves: the World Trade Organization’s periodic Report on G20 Trade Measures shows trade restrictions and trade remedy actions consistently outpaced trade facilitation measures.
The rise in protectionist sentiment in advanced economies has attracted a lot of attention. But it is part of a broader fundamental change in the global economy. In 1995, advanced economies accounted for about 60% of global GDP, and emerging markets only 40%. Those shares have now reversed: emerging markets today make up more than half of the global economy. Global trade helped them lift hundreds of millions out of poverty and create a middle class; the process supported stronger economic growth across the globe.
Emerging markets now play a greater role in shaping the rules of the game. While some have adopted important liberalizations (Mexico, India), protectionist measures remain pervasive. China, the new economic giant, deploys a deliberate strategy to control access to its own market, increase its global reach (notably with the Belt and Road initiative), and nurture progress in sectors and technologies deemed of strategic importance.
Advanced economies have failed to co-opt emerging markets by giving them greater weight in international institutions like the IMF—making it harder to build a consensus for freer trade. Add the protracted impact of the global recession, and against this background a protectionist drift by advanced economies was perhaps inevitable.
Most business leaders understand the benefits of free trade; but they are pragmatic, and if the protectionist trend looks unstoppable for now, I doubt they will expend too much energy against it. How will companies adapt, and what role will technology play? Here are a few thoughts:
Additive manufacturing, or “3D printing”, will allow companies to operate efficiently at smaller scale, gaining flexibility in how they localize production; this could push large manufacturers to adopt a more distributed global production model;
In large markets with a strong business environment, companies will make greater efforts to build local supply chains, nurturing domestic partners;
Companies will invest more in logistics solutions, and adopt Digital Thread and Digital Twin models to improve efficiency and simulate disruptions, making supply chains more cost-efficient and able to react faster to shocks;
With the diffusion of new technologies, talent will be the most important scarce resource: countries with strong education and training programs, and an immigration policy that attracts talent, will have a competitive edge—it is the only road to sustained creation of high-quality jobs.
Protectionism is harmful and self-defeating. Full-fledged trade wars would damage global growth. But companies move faster than governments. They will adapt to this persistent protectionist drift, leveraging new technologies for greater efficiency and flexibility. Their moves will reshape global supply chains and redraw the global map of economic opportunities. My guess is this will happen faster than any major trade policy changes.
[this article first appeared on Forbes.com]