The Impact of Rising Trade Restrictions
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Rising trade restrictions between countries can have significant economic and geopolitical implications, leading to a range of key issues that affect various stakeholders. The International Monetary Fund (IMF) has an interesting article out this month in Foreign Affairs in which they argue that the world is moving in the wrong direction by increasing the number of trade barriers.
According to the latest International Monetary Fund projections, annual global GDP growth in 2028 will be only three percent—the IMF’s lowest five-year-ahead forecast in the past three decades, which spells trouble for poverty reduction and for creating jobs among burgeoning populations of young people in developing countries. - International Monetary Fund
Since the Global Financial Crisis in 2008, growth in world trade has more or less leveled out, what some have described as “slobalization”. While the growth in trade has been slowing, the nature of trade is also morphing. In light of the Covid pandemic and the Russia-Ukraine war, countries are reevaluating which trading partners can be counted on in difficult times. This “friendshoring” movement will reduce supply chain risks, but also impact the cost of goods and services, with developing countries much more likely to feel the brunt of reduced trade and global growth.
Countries perceive trade restrictions as working in their best interests, but this is a short-term view. I’ve written elsewhere that India would do well to rethink its trade restrictions, including taxes on imported sub-components for the assembly of mobile phones. This is just one example where lessening trade restrictions would eventually lead to longer-term economic growth, with millions of Indians benefiting from a broad and efficient manufacturing economy.
Countries should be thinking about the following issues before they erect even more trade barriers:
Economic Impact: Trade restrictions, such as tariffs, quotas, and import/export bans, can hinder the flow of goods and services across borders. This can lead to reduced economic growth and lower consumer welfare. Industries that rely heavily on international trade might face challenges in accessing foreign markets or sourcing necessary inputs, which can disrupt supply chains and lead to higher production costs.
Price Increases: Tariffs and other trade barriers often result in higher prices for imported goods, as the cost of complying with these barriers is passed onto consumers. This can lead to inflationary pressures, particularly if the affected goods are essential or inputs for other industries. For Western countries, moving supply chains to “friendly” countries will almost surely have the impact of rising prices from both labor and materials.
Reduced Competition: Trade restrictions can limit the level of competition in domestic markets, as they protect domestic industries from foreign competitors. While this might offer short-term advantages to domestic producers, it can lead to complacency, decreased innovation, and reduced efficiency in the long run.
Global Value Chains Disruption: Modern production processes often involve components and materials sourced from different countries. Trade restrictions can disrupt global value chains, causing delays in production and increased costs as companies search for alternative suppliers. In an example like rare earth metals, there are relatively few countries that have these materials. Countries, and companies that need these materials for production will have to find a way to deal with these countries, even if they are deemed “unfriendly”.
Retaliation and Trade Wars: When one country imposes trade restrictions, its trading partners might retaliate with their own restrictions. This tit-for-tat escalation can result in a trade war, where both sides suffer economic losses, reduced trade volumes, and increased uncertainty.
Impact on Developing Countries: Developing countries often rely heavily on exports to drive economic growth. Trade restrictions can limit their access to global markets, reducing their ability to generate income, create jobs, and improve living standards.
Global Economic Uncertainty: Rising trade tensions and protectionist policies can create uncertainty in global markets. Businesses might delay investment decisions due to the unpredictability of trade relations, leading to reduced economic activity. Already, many companies including Apple are looking at a China Plus One manufacturing strategy, given the geopolitical risks of dealing with China.
Inefficiency and Resource Misallocation: Trade restrictions can lead to inefficient resource allocation as countries are forced to produce goods domestically that could be produced more efficiently elsewhere. This can result in a waste of resources and reduced overall economic output. It may also result in the misallocation of human resources, where domestic resources could be involved in higher-value activities if low value activities where outsourced to other nations.
Neglect of Multilateral Agreements: Increasing trade restrictions can undermine multilateral agreements like the World Trade Organization (WTO), which aim to promote global trade cooperation, reduce barriers, and resolve trade disputes. A disregard for these agreements can weaken the international trade framework.
Geopolitical Tensions: Trade restrictions can exacerbate geopolitical tensions between countries. Economic conflicts can spill over into political and security issues, making it more challenging to resolve international disputes.
According to the IMF, over the long term, trade fragmentation—that is, increasing restrictions on the trade in goods and services across countries—could reduce global GDP by up to seven percent, or $7.4 trillion in today’s dollars, the equivalent of the combined GDPs of France and Germany and more than three times the size of the entire sub-Saharan African economy.
Rising trade restrictions for goods and services between countries can create a range of negative consequences, affecting economic growth, consumer welfare, global cooperation, and geopolitical stability. It's important for countries to carefully consider the potential drawbacks of protectionist policies and to seek avenues for constructive dialogue and negotiation to address trade-related issues.
Questions:
What do you see as the primary negative consequences of increasing trade restrictions?
Do you think there are positive benefits that outweigh the negative consequences outlined above?
How do you think companies should balance Foreign Direct Investment (FDI) against national interests?
Let us know your thoughts in the comment section.
