Special topic: Why reversing globalization may not be a good idea Global Economic Outlook, Q3 2017
After the 2008 global financial crisis, global leaders pledged to avoid protectionist measures in order to speed up economic recovery and boost growth. However, protectionism has been rising since. Is a retreat from globalization possible? If not, what is the way forward?
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Throughout history, countries have used a range of protectionist measures to limit imports or promote exports. While many economic arguments favor free trade and trade liberalization, protectionism is still widely practiced by almost all countries for any or all of the following reasons: to protect their strategic and infant industries, deter competition that is perceived as unfair, safeguard jobs in certain industries or for specific workers, protect the environment, and political reasons. What has changed over the years is that industrialized nations have gradually moved toward using different deterrents to trade, such as non-tariff barriers, instead of resorting to more direct protectionist methods, such as imposing tariffs.
After the 2008 global financial crisis, G201 leaders signed a pledge in November 2008 to avoid protectionist measures in order to speed up economic recovery and boost growth through increased trade. Ironically, protectionism has witnessed a worrisome rise since then. Several countries, including the G20 countries, were reported as increasing trade-restrictive measures.2 Slow global growth post the 2008 financial crisis, together with this rising protectionism, has impacted global trade volume, which has been declining since 2011 and was in negative territory for two years up to Q4 2016.3 In addition, there are rising anti-globalization sentiment and support for populist parties in some Western industrial nations, even as mainstream policy makers of Western industrial nations are co-opting policies to restrict free movements in goods, services, and resources—factors that have been held responsible for rising income inequality and marginalization of labor. The year 2016 witnessed the traditional champions of open government and free trade—the United States and the United Kingdom—appeasing populists, while China staunchly defended globalization.4
The unpredictable direction of the global economy and the lack of clarity around governments’ (especially the US and UK governments’) actions on monetary, fiscal, and trade policies have increased downside risks to trade growth. In addition, there are fears that the vulnerability of emerging nations to volatile capital flows, which are a result of policy uncertainties in the West, may impact the former’s domestic currency, inflation, and dollar-denominated debt—leading to higher interest rates, tighter fiscal policies, and stronger barriers to trade.
The year 2016 witnessed the traditional champions of open government and free trade—the United States and the United Kingdom—appeasing populists, while China staunchly defended globalization.
Slowing trade and increasing protectionism: Just a coincidence?
With world trade growing at 1.3 percent in 2016—the slowest trade growth since the global financial crisis—the slowdown in global trade is now in its sixth year.5 Weak international trade growth in the last few years largely reflects continuing weakness in the global economy. Trade in emerging economies began to decline from 2011 due to slowing economic growth in China and a fall in commodity prices. During this time, trade in developed economies stalled as economic activity slowed in North America and Europe. The global trade volume turned positive for the first time in Q4 2016, after contracting for eight consecutive quarters (figure 1).
Weak trade growth also reflects a change in the structural relationships between economic activity and trade. This period of slow growth coincided with an increase in protectionist trade measures around the world. The total number of discriminatory (protectionist) measures implemented by the G20 increased over the past five years (when reporting lags are taken into account), indicating that overall the G20 nations are resorting to more protectionism over time (figure 2).6 The BRICS countries recorded the maximum number of protectionist measures, accounting for around 30 percent of the total measures implemented since 2009. However, the share of the G7 nations and Australia together also has grown markedly (figure 3). Between 2008 and October 2016, a total of 1,671 trade-restrictive measures were recorded for G20 economies (figure 4). Since October, only 408 (about 24 percent of the total) have been discontinued, leaving a new total of 1,263 (figure 4). The World Trade Organization (WTO) has recorded a moderate rise in G20 trade restrictions since October 2016.7
Over 50 percent of the trade-restrictive measures by G20 economies were in the form of initiation of trade remedy investigations, the majority of which were anti-dumping investigations. Several other distortive measures were also imposed, such as government support for sectors such as infrastructure, agriculture, and export-specific activities.
A halt in the globalization trajectory
Globalization has a long history, dating back to the trade routes developed in Asia and Egypt, which gradually integrated economies spread across continents. As the global marketplace expanded, the process evolved, resulting in rapid trade expansion, technology growth, and financial liberalization.
However, it was not until the second half of the 20th century that globalization picked up pace; outward-oriented policies made economic performance more dynamic and brought greater prosperity, improving living standards for countries that were able to integrate with the global marketplace. The global per capita GDP increased almost fivefold over the past three-and-a-half decades (figure 5).8 Along with nations becoming more prosperous, businesses and employment also became more global and integrated, facilitated by modern electronic communication and technology.
The negatives of globalization
However, a lit candle also casts a shadow. Amid prosperity and opportunities, globalization has also created a widening gap between the world’s haves and have-nots. Rising income inequality has created profound changes in the workforce and society, leading to asymmetric access to knowledge and skills, and shrinking welfare safety nets have resulted in economic insecurity and social deprivation among those left behind in this whole globalization gala. In addition, globalization has interconnected global risks arising from volatile capital movements and social, economic, and environmental degradation created by poverty and inequality, leaving low-income nations vulnerable to shocks.
Consequently, people belonging to the less secure strata of society—those who feel they are losing their jobs to immigrants or foreign competitors, have been unemployed for a long time, are at the low end of the wage spectrum or are witnessing income stagnation, and are living on shrinking social benefits—are now raising their voice against the changes brought about by globalization. The anxiety about immigration and trade is now translating into rising support for populism in several nations, including in the West, leading to policy uncertainty. Even mainstream politicians are directing their policies toward more restrictive immigration and imports. The rising clamor for protectionism around the world, together with slowing growth in trade, is impacting global business sentiment, investments, and, thereby, growth.
The questions that everyone is asking are, how big a threat are these sentiments to globalization and its impact on growth, and are we already seeing a reversal of the globalization process?
To answer the first question, we go back in time to when a major trade war broke out in the early 1930s, often argued to be the period when the world witnessed the largest reversal of globalization.9 Although global trade dropped by two-thirds between 1929 and 1933 (primarily because of a fall in prices), it didn’t dry up completely. In addition, established trading partners increased trading with each other after the crash to compensate for the lack of trade with those with whom they had no prior trade relationship. While the past is not prologue, today the trade volume is too large and interconnectedness too complex, which means protectionism by any measure may not result in a substantial fall in global trade, or the fall might have no sustainable impact.
Rising income inequality has created profound changes in the workforce and society, leading to asymmetric access to knowledge and skills, and shrinking welfare safety nets have resulted in economic insecurity and social deprivation among those left behind in this whole globalization gala.
To answer the second question, we assess the impact of recent events on globalization by looking at the DHL Global Connectedness Index, which tracks international flows of trade, capital, information, and people. Undoubtedly, merchandise trade and investment were hit hard during the 2008 global financial crisis (figure 6). They quickly recovered, but remained stagnant in the following years. Trade fell in 2015, but it reflects the price effect, driven by plunging commodity prices and the rising value of the US dollar. The latest data are not available at the time of writing this article, but rising asset prices and economic performances across the globe in 2016 indicate that globalization might have stayed flat.
Reversing globalization isn’t the solution . . .
Advancements in transport, technology, and communications and an increasing pool of talent and skills post 1980 led to rapid economic integration through trade and financial flows. Greater integration, increased competition, efficient use of resources, and improved productivity benefited all economic entities: Nations benefited as economic growth accelerated; businesses profited from the access to cheap raw material, increased labor supply, and markets to sell finished products; consumers gained because of the availability of the wide variety and lower price of goods; and many workers got exposure to new jobs and skills. While it is true that globalization opportunities have not come without costs, that doesn’t seem to be a sufficient reason to erect trade barriers and reverse the entire process.
. . . Because the world isn’t as flat as it is perceived to be
While the world is believed to have become “flat” post 1980 due to rapid globalization, the truth is that globalization is far less prevalent than is commonly perceived:
- Global foreign direct investment (FDI) inflows account for just about 10 percent of the world’s gross fixed capital formation, and total international migration stock accounts for less than 3.5 percent of the world’s population (figure 7).
- The share of global exports is less than a third of the world GDP (figure 7).
- Only 0.1 percent of the world’s firms are multinationals, collectively generating 10.0 percent of the world GDP and more than 50 percent of the world’s trade.10
- While the United States is perceived to be highly globalized, its share of trade relative to other nations is among the lowest, indicating that its international business contribution is small relative to domestic activity (figures 8a and 8b).
- While it is true that emerging nations have widely practiced protectionist policies to safeguard local industries and jobs, and deter competition, several advanced nations too have pursued restrictive policies for years. For instance, among the top 10 G20 countries that implemented the highest number of discriminatory measures between November 2008 and the end of June 2017, five were advanced nations: the United States (top rank), Germany (5th), the United Kingdom (7th), Italy (8th), and France (9th) (figure 9).11 It is worth noting, though, that these statistics refer to the counts of protectionist policy interventions and do not reflect the impact on their trade or welfare.
. . . Because it might hurt economic entities more than benefitting them
An exaggerated perception of how much globalization impacts an economy often results in an overstatement of the adverse effects of globalization. Biased views based on such perceptions lead to increased support for public policies that restrict movement of goods and services, capital, and labor. However, a shift toward protectionism, which is lately being promoted by various policymakers across the globe, may not bode well for all nations, businesses, and consumers.
There are instances in the past when a few nations pursuing protectionism suffered an economic slowdown and inefficiencies. In the 1970s and 1980s, when globalization was gradually picking up in the rest of the world, several countries in Latin America and Africa pursued inward-oriented policies to protect strategic industries and jobs from competition. Subsequently, their economies stagnated or declined, poverty increased, and high inflation became the norm. As these regions changed their policies and liberalized their economy post 1990, their incomes gradually rose.12
Policy changes favoring localization are likely to impact several multinational corporates that have prioritized shifting their operations beyond their own countries to seek new growth opportunities and benefit from the advantages of scale, access to resources, proximity to the market, and arbitrage opportunities. For instance, several US technology, manufacturing, and life science and medical technology companies that have expanded in regions such as BRICS over the past several decades are likely to face operational and supply chain disruptions. It is estimated that if a quarter of US multinationals shift jobs home at American wages and pay higher taxes on the revenue earned beyond US borders, their profits will likely drop 12.0 percent. This excludes the impact of rising costs due to shifting operations to the United States.13
That said, the impact of protectionism may not be uniform across sectors. For example, since the crisis, the metals, machinery, and chemical sectors have been affected the most (7 out of the top 10 most affected sectors), with their commercial interests hit more than 750 times. The other sectors that were affected the most by G20 protectionism were the transport equipment and agricultural product sectors. Together, these sectors account for more than a quarter of global trade.14 These are also sectors that employ low-skilled labor and have strong external linkages. Often, disruptions result in cost cutting via layoffs or rising product prices for which consumers have to bear the costs.
An exaggerated perception of how much globalization impacts an economy often results in an overstatement of the adverse effects of globalization.
Turning the tide toward awareness and targeted policies will be the key
The US presidential election, the 2016 UK referendum on the membership of the European Union, and Italy’s referendum for structural and constitutional reforms signal rising economic and cultural anxiety among those with stagnant incomes, less education, and low job opportunities. A part of the problem is that the benefits of globalization go largely unrecognized, primarily because policymakers have failed to highlight them, while adverse effects have been overstated. For example, globalization has been blamed for trends that are largely due to technological innovation and automation. Roughly 80 percent of manufacturing jobs have been lost due to innovation, automation, and new technologies.15
Instead of appeasing populism, policymakers have to address the real cost of globalization and promote inclusion. Targeted domestic policies, such as improving education, funding more job training and social programs, and providing better social safety nets may help in addressing the anxiety of displaced workers and dislocated communities, and enable them to get back on their feet.
Better coordination between international and domestic policies is essential, and will likely warrant a uniform assistance program for labor upskilling, adjustments in capacity building in terms of capital investment and labor reforms, and the reduction of red tape. The B20 Germany task force has several recommendations for the G20 countries to ensure that the benefits of globalization are more inclusive:
- “Strengthen an open and inclusive trading system . . . underpinned by transparency and robust adjustment assistance programs, resistance to protectionism in all forms, and a strong, nondiscriminatory rules-based global trading system.”
- “Make use of digital trade potential . . . by accelerating capacity building, encouraging implementation of interoperable and nondiscriminatory e-commerce-related policies, and calling for a WTO negotiation mandate on digital trade.”
- “Foster investment facilitation . . . [by establishing] a reliable legal environment, [enhancing] sustainable investment facilitation, and [identifying] the benefits and drawbacks of a multilateral investment framework.”16
Today, no person, business, or nation is an island, but all are part of a massive, complicated interconnected system, thanks to globalization. The phenomenon that started several hundreds of years ago has resulted in greater interdependence and integration among nations. With freer movement of resources, increased trade and technology transfer, spread of knowledge, and cultural exchange, nations have seen unparalleled economic growth. Going backward and undoing globalization may impose more costs than reap benefits and thus may not be a prudent way forward.