What’s so bad about protectionism?

A recent report by the World Economic Forum’s Global Agenda Council on Trade explores global value chains and how they could change and adapt in response to increased competition, the “unbundling” of production, downward cost pressures and technological innovation. What are the implications for global trade policy?

In a series of three blog posts, Peter Draper, vice-chair of the Global Agenda Council on Trade, examines some of the key trends.

Two contradictory trends are at work in the global economy. Corporate globalization has led to multinational supply networks that promote convergence and integration. These global value chains have become the world economy’s backbone. But working against this is an economic crisis pushing economies towards protectionism and the consequent disintegration of these networks. This could adversely affect vulnerable, trade-dependent states.

The World Trade Organization (WTO) has played an important role in stemming the tide of protectionism. Yet WTO members have still not concluded the Doha Development Round, even though most governments realize that raising barriers to trade ultimately harms domestic industries. It is very important for countries to have open and predictable trade and investment regimes, including efficient logistics.

Old policy approaches – trade remedies applied to save jobs, for example – may backfire, disrupting supply chains and costing domestic jobs. This approach is inherently unilateral. Some may think that promoting import replacement or restricting exports for industrial policy reasons is a good idea, but this will only inhibit trade in intermediates and inward investment into value chain niches.

However, an open trade regime is not enough on its own to benefit from insertion into global value chains. Countries need to invest in horizontal policy measures, notably education, infrastructure and technology transfer to enhance access to global value chains and the long-term benefits they offer.

Domestic governance and institutional reform are also essential. Multinational corporations pay close attention to these “softer” issues when taking long-term decisions about where to locate key aspects of their global value chains.

Naturally, fundamental geographical changes to global value chains are afoot. In the next decade, the underlying cost structures driving their location could change dramatically. At least five drivers are evident:

1. Energy and associated transportation costs are likely to continue rising as the cost of fossil fuels increases and policy measures targeted at carbon emissions intensify. These cost pressures promote reductions in the “length” of value chains.
2. As new players from emerging markets secure access to resources for input into production processes, competition will increase and prices are likely to rise. Export restrictions designed to secure supplies of industrial inputs, if not regulated through the World Trade Organization, should also intensify upward pressure on prices.
3. China is at the centre of global value chains in manufacturing, particularly in labour-intensive sectors. But as China shifts its growth model away from reliance on exports towards domestic consumption, wage costs could rise and the currency continue its appreciation. Other domestic costs, such as land, are also rising. However, while the “China cost” increases, Chinese productivity growth is huge. Some caution is appropriate if predicting sharp changes.
4. Information technology costs are likely to be driven lower through intense competition. This opens up opportunities for countries wishing to grab a slice of the value chains action.
5. Southern markets will continue to grow in relative importance while Europe is likely to remain structurally repressed for the foreseeable future. This is likely to drive value chain reorientation and relocation in unpredictable ways.

These geographical shifts will likely have major implications that will play out differently in different contexts: developed countries are concerned about retaining jobs; developing countries are either looking to retain their existing value chain niches or others are looking to plug into them.

Image: Thai workers work at a sedan line production at Honda Automobile in Rojana Industrial Park, Sukree Sukplang / REUTERS

Author: Peter Draper is vice-chair of the Global Agenda Council on Trade at the World Economic Forum. Peter Draper on Twitter: @PeterDraper5