Free trade or bust

Though the US presidential election still has some way to go, it’s hard to imagine that a more ridiculous idea will be floated than Donald Trump’s recent proposal to replace the US income tax with import tariffs. The idea would almost certainly never make it through the US Congress even if, as is looking increasingly likely, Trump wins the presidency.

Like many harebrained ideas, Trump’s is based on a partial and misremembered version of history, in which the United States of America grew to industrial prominence thanks to its protectionism. It is certainly true that of all the major industrialisations of the past two centuries, America’s was the least dependent on foreign trade, and for a long time the federal budget was financed almost entirely by tariff revenue. Even in the nineteenth century, though, tariffs were never exorbitantly high, and their revenue did not have to finance the large military and social security system that the income tax now does.

The world and the United States, to put it mildly, have changed drastically since then. The United States is no longer a large agrarian economy looking to reach the technological frontier; it is at that frontier. Modern manufacturing is infinitely more complex, and the idea that any one country could competitively produce everything it wants to consume is a mirage.

A milder form of this delusion is still influential among those who remember the shortages of the early days of the COVID-19 pandemic and the severing of energy trade between Russia and Europe, and who call for an inward turn to reduce the vulnerability of national supply chains. The fear is not entirely unfounded: there is a limited range of goods which a country would not want to be without for too long. There may be a limited number of cases where stockpiling them to avoid that risk is also not feasible, and support for a residual domestic manufacturing capacity is justifiable. A report from Australia’s independent Productivity Commission suggested, for example, that certain chemicals used in the manufacture of medicine might be considered both vulnerable and critical.

Overwhelmingly, though, markets responded remarkably quickly and efficiently to the enormous strain of lockdowns and the Russia–Ukraine war. The overegged predictions of industrial collapse in Europe — often peddled by lobbyists who wanted to avoid the imposition of sanctions — were disproven because the vast majority of firms were agile enough to secure substitutes for Russian gas, to switch to alternative technologies or to import gas-intensive inputs from abroad.

It was precisely because of Europe’s openness to the global economy that a more serious slowdown was averted. Major European firms were able to leverage their international networks, importing energy-intensive inputs from other installations elsewhere in the world.

This is not to suggest that these adjustments were costless, only that it is false to consider that complex international supply chains are necessarily a vulnerability, rather than a form of insurance. Particularly as the effects of climate change intensify, the danger of trying to produce everything you consume within your own borders will become increasingly clear.

Of course, insurance via geographical diversification is only a viable strategy if there are rules to provide certainty to firms that their inputs can easily flow across national borders. Since the Second World War, that institutional framework has been supplied by the General Agreement of Tariffs and Trade (GATT) and its successor, the World Trade Organization (WTO). Though its rhythm of regular ‘rounds’ of liberalisation agreements has stalled since the failure of the Doha Round, which was launched in 2001, it has made significant progress on more limited fronts, including a trade facilitation agreement in 2014.

The WTO is the closest thing the global economy has to a traffic cop. Its rules are not always respected to the letter, but historically even the biggest and most powerful players have respected its jurisdiction. Having this kind of institution in place makes global supply chains possible by ensuring that even when one source of imports is suddenly closed off, there are minimal frictions for firms in procuring new supplies elsewhere. The rules of the game, though, are becoming outdated. The digital economy, and newer frontiers like artificial intelligence, are largely ungoverned by global disciplines.

As John Denton argues in the latest edition of the East Asia Forum Quarterly on ‘Remaking Supply Chains’, launched this week, the WTO is essential to keeping international supply chains efficient and resilient, but also in dire need of reform and renovation. ‘To secure supply chain resilience and efficiency’, Denton writes, ‘governments must promote policy coherence and harmonised digital rules, increasing the urgency for robust WTO action and reform. As a start, an agreement containing disciplines that will address digital trade barriers and facilitate digital trade must be reached and implemented at the WTO.’

With protectionist winds blowing on both sides of US politics, though, it will be difficult to secure the global political consent for new binding global rules. But given the stakes, and the new political focus on fragility in global supply chains, it’s an agenda that is worthy of serious diplomatic efforts by governments that understand the necessity of keeping global trade flowing. Regional coalitions, such as the Regional Comprehensive Economic Partnership (RCEP) agreement in East Asia, or other coalitions should be mobilised to give it the priority it rightly deserves.