Bilateral trade deals cannot create an environment conducive to trade expansion in a world where much of trade consists of global value chains that stretch across several countries
US President Donald Trump has imposed unilateral tariff increases on some of the US’s major trading partners and there are threats of more increases to come. Retaliatory tariffs have also been announced. World Trade Organization (WTO) director general Roberto Azevedo recently said: “Whether or not you call it a trade war, certainly the first shots have been fired." He went on to say that this is the time for any one concerned about the world trading system to speak up.
A little bit of history
Trump is not the first US president to doubt the effectiveness of the WTO in protecting US interests. The US and other industrialized countries have long felt that with the changing contours of global trade and economic integration, the only way trade can be seen as fair is if it comes with deeper integration on issues such as consumer safety standards, labour standards, intellectual property standards, etc. Developing countries have strongly opposed these “behind the borders" measures.
Since the consensus rule on which the WTO works made it impossible for the industrialized countries to make progress in this area within the WTO, they turned to plurilateral arrangements, such as the Trans-Pacific Partnership (TPP) with East Asia and the Transatlantic Trade and Investment Partnership (TTIP) with Europe.
Multilateralism was replaced by plurilateralism, but with the WTO dispute settlement mechanism still available to settle disputes within the new arrangements. The US effectively used its leadership capacity to mobilize a group of “likeminded countries", covering 60% or so of world trade, to subscribe to higher standards, presenting larger developing economies, especially China, with a fait accompli. They could apply to join the new grouping with the new rules, or stay outside with correspondingly less market access.
Trump has abandoned this effort, which was a signature achievement of the Barack Obama administration. He has pulled out of TPP and is threatening to pull out of the North American Free Trade Agreement (Nafta). He has an instinctive preference for bilateral deals, presumably because he feels the muscle of the US can be used to bring other partners to heel.
Can bilateralism succeed?
The problem is that bilateral trade deals cannot create an environment conducive to trade expansion in a world where much of trade consists of global value chains that stretch across several countries. Each export or import includes many components imported from elsewhere. For trade based on global value chains to flourish, what is needed is a common set of rules for all countries participating in the value chain. This is best achieved by a multilateral agreement or, as a second best, a plurilateral agreement that is sufficiently inclusive.
Some of the protectionist sentiment in industrialized countries is driven by mistaken notions. The most common of these is that trade imbalances reflect unfair trade policies followed by others. In fact, they are the consequence of excess aggregate demand, which spills over into the balance of payments, and the solution lies in macro economic policy, not trade policy. There are unfair trade policies which need to be curbed, but mere existence of a trade deficit does not prove unfair trade policies.
A second misconception is that unemployment in some sectors justifies protectionist action. In fact, much of the unemployment in individual sectors in the US is the result of structural and technological changes which have altered competitiveness, generating more employment in sectors where the US is highly competitive (e.g. the high-tech sectors) while reducing it in others where it is no longer competitive. The loss of employment in individual sectors is a genuine problem, but the solution lies in migration, reskilling and regional restructuring, not restricting trade. Trade restrictions will only lower incomes and demands elsewhere in the world, which, in turn, will lower the demand for high-tech exports from the US, and, to that extent, reduce some of the new employment being created in the US economy.
There is also a more general apprehension that new technologies such as Artificial Intelligence, will lead to the elimination of a large percentage of jobs that currently exist. The prospect of job losses as a result of technology change cannot be ruled out, but again the optimal response is not protection. All this is simple economics 101 and is being mentioned in the US policy debate but apparently to no effect. If the US politics pushes the administration to act against the country’s own long-term interest, there is not much that the rest of the world can do, except wait and hope that better sense, or better politicians, will prevail sooner rather than later.
An alternative explanation
The most optimistic view of the current situation is that we are seeing a tactical “good cop-bad cop" routine. Trump is the bad cop, acting like an unpredictable bully, willing to use the muscle of the US to hurt opponents through punitive tariffs, even if those actions will hurt the US in the longer run. Meanwhile, the “good cop" on his team (possibly US trade representative Robert Lighthizer) is supposed to negotiate solutions which do not destabilize trade, but just tweak the rules a little bit in the US favour.
What might those solutions be? The simplest is the resuscitation of the TPP by tweaking what has been agreed, which would enable Trump to claim he has won a much better deal than his predecessor did. He has enough credibility among the relevant voters to pull it off. Such tactics would rightly be resented by other TPP members, but they may be willing to be arm-twisted to bring the TPP back to life. This is especially so since recent developments in the region have greatly enhanced their concerns about Chinese intentions.
Another possibility is for plurilateral agreements, within the WTO, so as to address one of the concerns which the US has often expressed—that its intellectual property is being “stolen". Japan and Europe have a shared interest in this area and it is quite conceivable that some kind of plurilateral agreement could be evolved which would provide greater protection.
Finally, the US has often complained of exchange rate manipulation as a form of unfair trade. Exchange rate manipulation is recognized as a problem in the articles of both the International Monetary Fund (IMF) and the WTO, but the arrangements to handle it inspire little confidence. The IMF is specifically mandated to identify cases of currency manipulation, but it has not evolved a criteria that would provide a transparent basis for concluding that there is manipulation. In any case, it has no punitive powers to discourage such behaviour.
The WTO can legitimize trade retaliation against a country that is found to be engaging in currency manipulation. However, the finding of currency manipulation has to be determined by the IMF. There is obviously room here for clarifying procedures and streamlining them to facilitate “legitimate multilaterally sanctioned action" against unfair trade.
Implications for India
Can India respond to Azevedo’s call that countries that care about the system should speak up in its defence? One possibility is that we should use the G20 Summit, to be held in Argentina in November, to have a full discussion on the multilateral trading system at the Summit level.
The communique of the Hamburg Summit in 2017, which was attended by Trump, talked of “fighting protectionism including all unfair trade practices...( and recognizing)...the role of legitimate trade defence instruments in this regard". It also mentioned the “crucial role of the rules-based international trading system". These sentiments were repeated in the G7 communique issued in Quebec on 9 June, but Trump, having earlier agreed to the communique, resiled from it when he heard the prime minister of Canada, Justin Trudeau, say in his press conference that Canada would be forced to retaliate against the recent US tariffs on imports of aluminium and steel. The G20 summit provides an opportunity for reaffirming these principles, with Trump on board.
The G20 could also initiate work to give a new thrust to identifying a core package of reforms that would reassure the industrialized countries that their concerns are not being ignored, while also responding to some of the concerns raised by developing countries. Perhaps an eminent persons group, set up by the summit, which reports back to the G20 Summit in Tokyo in 2019, might produce some concrete ideas of a grand bargain which could be taken up in the WTO.
The G20 at the summit level was extremely effective after the financial crisis in 2008 when it delivered results which were not forthcoming from the G20 finance ministers meet. If the world is indeed on the brink of trade wars, it is time for the G20 Summit to get into action again.
Reaching an agreement on trade will be more difficult than in the IMF and the World Bank. These institutions require only a decision of the boards, based on weighted voting. The US vote share allows it to veto anything it doesn’t want, but once the US is on board, anything the G20 collectively agrees on will sail through. This is not true of the WTO, where decisions are by consensus. However, a consensus among the G20, which account for 80% of world trade, would create a strong basis for action.
This is also the right time to reconsider the consensus rule and let decisions in the WTO be taken on the basis of a weighted majority vote, with the weights being the share of trade in goods and services. These shares can be recomputed every five years. A high enough qualifying majority, say 85%, should be good enough.
Finally, in a world where dark clouds are gathering over multilateral trade, India would do well to accelerate its integration into regional groups such as the Regional Comprehensive Economic Partnership and the India-European Union Free Trade Agreement which we have been negotiating for far too long.
Montek Singh Ahluwalia was the deputy chairman of the erstwhile Planning Commission. Comments are welcome at firstname.lastname@example.org.
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