Trade Challenges

Continuing with a look at bigger picture issues, this week I want to examine the relatively new challenges the trading system is facing. To start that off, I learned a new term the other day thanks to Kimberly Clausing, a professor at UCLA School of Law and nonresident fellow at the Peterson Institute for International Economics global collective action problems. This is a concise way of describing problems of the global commons—things that affect many, if not all, countries, and are not capable of unilateral solution, even though action must inevitably be taken by individual nation-states. The most obvious is climate, where decarbonization actions inevitably intersect with trade rules, but that is not the only one. Access to medicine and health care is another, as we know from the eternal debate at the World Trade Organization over the vaccine waiver. The Biden administration has also put others on the table—worker rights; human rights, including forced labor; and inclusivity.

These problems are much more difficult than traditional trade problems because addressing them will require major changes in human behavior and cultural norms. Lower, or higher, tariffs won’t do the job, but they are also not irrelevant to the effort. In the Indo-Pacific Economic Framework (IPEF) negotiations, for example, the administration is asking countries to tackle some of these even though they are politically difficult and expensive. The other parties quite reasonably ask what the United States is offering to make it easier for them. More market access is the obvious answer, but so far the administration has declined to put that on the table. That makes trade in these cases part of the problem rather than part of the solution. The other unanswered question is whether it is asking too much of the trading system to address global collective action problems, that it will buckle under the weight of dealing with intractable issues.

Another major challenge is the search for resilience in the wake of Covid-19 and in the midst of growing political uncertainty. Companies have experienced supply chain disruptions due to the pandemic, climate disasters, or political actions, and have learned they need to build a non-economic variable—resilience—into their supply chain planning. That has resulted in a massive corporate risk reassessment as companies try to figure out how to avoid dependencies on single-source suppliers that make them vulnerable to production interruptions. Each company will devise its own plan, but the result will take time and be expensive. Identifying and certifying new suppliers is a lengthy process, and redundancy is expensive. This is not good news for inflation, but it is unavoidable.

The third challenge is the conflation of security with trade. It is hard to have a trade policy conversation these days without it turning to China and national security. That implicates not only export controls but also investment reviews—inbound and outbound—and import restrictions. The challenge there lies in deciding what is important. Few believe in autarky—that we should produce everything ourselves—so the trick is sorting out what matters and what does not. While some things are obvious, the debate tends to circle around the difference between essential to national security and essential to economic competitiveness. For example, the demise of our auto industry would be an economic disaster, but would it also be a national security crisis? That is a matter of definitions, and if we can’t agree on one, we face prolonged battles over demands for protection.

Finally, we face the challenge of populism—in the United States, obviously, but also elsewhere. Populist rhetoric generally involves demands for protection from imports and restrictions on immigration, both key trade issues, although the threat goes well beyond trade.

What are those challenges doing to the trading system and what do we do about them? Despite predictions, globalization is not going away—trade as a percentage of gross domestic product is rising to peak levels after a setback in 2020—but it is changing form. We are heading towards fragmentation of the trading system and trade “clustering,” which means growing trade among friends and allies and declining trade among non-like-minded parties. A good example of fragmentation is occurring in the digital trade space, as the European Union and China aggressively pursue sharply different regulatory approaches while the United States is “just watching.” The result is that the EU and Chinese approaches are becoming the default alternatives that U.S. firms are already accommodating in the absence of our own policy or multilateral agreement. Unfortunately, the administration just made a multilateral outcome less likely when it pulled back its support for free flow of information and bans on data localization at the World Trade Organization (WTO) and in the IPEF talks, undermining the former and minimizing the latter.

According to the WTO, fragmentation could cost the world as much as five percent of its gross domestic product. That is not good news. What to do about it will, in the best tradition of television cliffhangers, be addressed in a future column.

William Reinsch holds the Scholl Chair in International Business at the Center for Strategic and International Studies in Washington, D.C.