The limits of growth: Part I
By the end of the Second World War in 1945, the United States had abandoned its isolationist trade policy and led a decades long effort to bring about a major expansion of world trade. In this halcyon era trade flourished, governed by widely supported rules. National economies expanded and hundreds of millions of people were lifted out of poverty.
All of that is now at risk as nations scramble to subsidize green industry, lure manufacturing jobs from friend and foe alike while restricting the flow of both goods and capital. Belief in the widespread benefits of rule-based trade is now being replaced by zero-sum attitudes, meaning that gains by some are offset by the loses of others. Total world economic growth is slowing.
To appreciate the pernicious nature of what is happening, look at what the U.S. has done recently by passing two major trade laws supposedly aimed at bolstering “strategic industries” in the name of national security, job creation and decarbonization.
The Chips Act provides $52 billion of incentives for the semiconductor industry to increase the U.S. share of world chip manufacturing. The Inflation Reduction Act will spend about $400 billion to boost clean energy and reduce dependence on China by various supply chains such as that for batteries for electric vehicles. Not only are these initiatives protectionist, they will also likely prove inflationary.
The UN says that over 100 countries (accounting for over 90 per cent of the world’s GDP) have adopted industrial strategies. And spending on subsidies has expanded as well from 0.6 per cent of GDP to 2.0 per cent in 2020. Much of this increase is caused by tit-for-tat responses to similar moves by trading partners.
For example, the tax credit of more than $7,000 for Americans purchasing electronic vehicles requires both the batteries and the auto itself meet U.S.based production requirements. If the other eight largest economies match these kinds of subsidies (at about 2 per cent of GDP), this will amount to over $1 trillion! Multiply all of this across a number of industries and large parts of the world economy will become less efficient.
There are other government actions that impact trade, including requirements for review of foreign investment. Canada has been doing such reviews for several decades.
In the U.S., the Committee on Foreign Investment is charged with identifying and blocking deals that could “jeopardize national security.” The European Community has set up something similar. While the number of deals blocked in all market economies is low, the possibility of an adverse determination has a major chilling influence on corporate investment decisions.
The U.S. is also working on developing restrictions to prevent domestic industries from enhancing the technological capabilities of foreign competitors and the E.U. is considering doing something similar.
Unsurprisingly, there are government experts in most advanced economies thinking of ways to protect their industries and minimize the detrimental effect of US actions.
All of these barriers to international trade and investment serve to reduce efficiency and circumvent competition. The focus on security and nationalism and the resulting duplication of investments can only mean higher costs for consumers and more bills for taxpayers, not to mention lower levels of national prosperity for all.
Foreign direct investment has already fallen from 5.3 per cent of global GDP in 2007 to 2.3 per cent in 2020. And while subsidies and other programs do increase domestic investment, at the global level they generate an enormous increase in costs. The Economist magazine estimates that investments in semi-conductors, clean energy and batteries will total between 3.2 to 4.8 per cent of global GDP.
The desire to reduce the risks of depending on supplies produced by aggressive nations such as China and Russia are understandable, but this “friend-shoring” will have huge costs. The abandonment of rules-based widespread trade in favour of zero- sum policies will not make the world safer for democracies. It will, however, make the world poorer.