Protectionism – a threat or a solution?

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The Western middle class is allegedly among the losers of globalization

The world economy had a lackluster outturn in 2016, but global forecasters such as the International Monetary Fund and the Organization for Economic Co-operation and Development expect economic activity to pick up pace in 2017 and 2018, especially in emerging markets and developing economies. Will this be enough to solve the ”elephant conundrum” and give globalization a renewed boost? Or will political and policy uncertainty derail the recovery train and further shift the resumption of sustainable, job-creating growth?

Few mammals have had so much success in economics like the one depicted by Branko Milanovic in his 2014 book on global inequality. His distinctively shaped chart ranks the world’s population, from the poorest decile to the richest 1%, in 1988 and again in 2008. It looks like an elephant raising its trunk: The era of globalization from the fall of the Berlin Wall to the fall of Lehman Brothers produced big income gains at the middle (in China and other emerging economies) and very top (the plutocrats of Davos and Wall Street) of the income ladder, but abysmal results for the people in between. These are seemingly the white middle class, who are poorer than the top 15% but richer than everyone else, feel left behind and squeezed and are expressing their anger and discontent by voting for the likes of Nigel Farage, Donald Trump and Marine Le Pen. These politicians are in turn advancing a diagnosis that sees globalization in the clothes of a devious and dangerous wolf and proposing a set of remedies that aim at taming the forces of open global markets.

This phenomenon – which for lack of better terms goes by the name of populism – is sending shockwaves across the global economy. The German city of Baden-Baden, hitherto better known for its Belle époque charme, may be associated in the future with a defining moment in international political economy. At the end of the mid-March meeting of finance ministers from the 20 leading world powers, for the first time in the G20 history no consensus was reached to explicitly renew the long-standing joint pledge to promote open trade and reject protectionism. The mildly-worded ministerial statement that countries “are working to strengthen the contribution of trade to their economies” is a forceful reminder that, with the change in tenant at the White House and Brexit in Westminster, the tone has changed for global economic and financial policy in the years ahead. It is difficult, if not impossible at this stage, to expect any progress on the reform and deepening of multilateral trade systems, including the World Trade Organization, to say nothing of the convergence in climate change and commerce talks and negotiations.

This news comes at an inappropriate time. Far from being a simple slowdown, what growth global trade has been experiencing since January 2015 is a real plateau, with trade volumes registering an outright pause which is magnified by the fall in prices, especially for commodities and other raw materials. It is not only policies that are becoming protectionist, it is the very fragmentation of production in global networks that is exhausting its potential – there is only a limited number of parts and components that can compose an iPhone or a Toyota sedan and a limited number of times that they can cross borders – as proven by the increasing number of product categories where trade is contracting at the global level.

Against this backdrop, governments are increasingly tempted to engage in zero-sum commercial policies that seek to steal market share from foreign rivals. They do so not only by providing new subsidies and actively managing their currencies (even where monetary policy is de jure autonomous and independent from politicians); they also change the political discourse, from resistance to “all forms” of protectionism to the selective adoption of carrots and sticks in defense of “fair” trade.

What does this all mean for emerging market and developing economies where financial conditions have generally tightened in recent years, growth prospects are particularly vulnerable to protectionism and by high debt poses an additional risk? If Trump follows through on his promises and, inter alia, officially labels China a currency manipulator or imposes higher import tariffs, the short-run consequences – including a trade war – could be serious.

The paradox was not lost of Xi Jinping, head of a notionally Socialist state, praising the virtues of free trade and global capitalism in Davos and of Chinese ministers doing the same at the G20. Nor was the irony of them blaming with a straight face the erection of trade and investment barriers in the West, when the Middle Kingdom is still the holy land of tariffs, non-tariff barriers, market reserves, subsidies, and double standards on competition and intellectual property protection. Fellow BRICS countries are in a similar situation, as beneficiaries of globalization while still reluctant to get rid of remaining protections, excused on the grounds that their economies are deserving of some undefined “special and differential treatment.”

It may then be counterintuitive to argue that now is the appropriate time to rethink the trade strategy of the BRICS. Granted, since the global crisis began their commercial interests have been harmed by the imposition of a foreign trade distortion, to say nothing of snail-like progress in securing better market access for their most competitive producers – for example for Brazilian agribusiness in the EU. But it will be self-defeating delusion to take the follies of Trumpism as an excuse not to place greater attention on the unilateral actions taken by governments that limit imports and that artificially inflate exports. Unfortunately, while the BRICS ought to have a strong interest in discouraging and unwinding protectionism, they do not seem sufficiently committed to show global leadership on protectionism by exercising restraint both individually and collectively.

A beacon of hope can still materialize in the longer term, if a turn toward protectionism by the United States proves to be a blessing in disguise for China. Rather than reacting to a changing policy stance under a new administration in Washington with the usual near-term mix of fiscal stimulus and aggressive monetary policy, it could shift toward outward-looking policy platforms and structural reforms, as well as the adoption of measures that diminish geopolitical tensions. A realistic scenario? Certainly a risky one, in the year that will see the renewal of the Standing Committee of the Communist Party and the beginning of the second (and a priori last) mandate for Xi. But also one with potentially huge political rewards, such as the leveling of the morality ground between a surging China and a declining America. The Mar-a-Lago meeting between Trump and Xi will tell us more.