The State of International Trade

Stephen DeAngelis

October 5, 2009

One of the business sectors in which my company, Enterra Solutions, is engaged is port and harbor security. Despite the current recession and the significant impact it has had on shipping, maritime trade remains an essential element of global economic growth [“Trade Protection,” by Milan Vego, Armed Forces Journal, November 2008].

“Uninterrupted maritime trade is one of the most critical requirements for national and global prosperity. About 80 percent of the world’s trade is conducted by sea. About 4,000 ports and 46,000 merchant ships are engaged in the world’s maritime trade. More than 80 percent of the world’s trade is conducted by the sea. Ninety percent of the general cargo is carried in containers. About 30 megaports in Europe and North America are key hubs for the world’s trade. Seventy-five percent of the world’s maritime trade and half of the oil trade pass through a handful of international straits and artificial canals. All maritime countries — and the U.S. is no exception — depend to a large extent on the continuous flow of seaborne trade for the everyday functioning of their economies.”

Maritime trade can be interrupted by terrorists or pirates, which is why a lot of attention is given to those subjects. For more on the current state of piracy see my post entitled Efforts to Confront Piracy Continue. But disruptions in maritime trade are not the biggest challenges facing international trade — that distinction probably goes to protectionism. The recession ushered in a new wave of protectionist sentiment [“The New Protectionism,” by Carol Matlack, BusinessWeek, 22 June 2009].

“Developing countries are complaining that multibillion-dollar bailouts and stimulus packages give companies from the industrialized world an unfair edge over rivals from nations that can’t afford to be so generous. Smaller countries are now scrambling to defend themselves, and trade barriers are popping up worldwide. Ecuador, for instance, has hiked tariffs on more than 600 categories of imports. Malaysia is limiting the number of ports that can accept inbound goods. And on May 26, Argentina and 15 other countries asked the World Trade Organization to examine whether stimulus and bailouts are industrial subsidies, which under WTO rules could give trading partners the right to retaliate. Such expenditures ‘might distort trade and investment patterns for years to come,’ says Alberto Dumont, Argentina’s WTO representative. … Protectionism is bad news for the global economy. Worldwide trade volume is forecast to contract at least 6% this year, and both WTO chief Pascal Lamy and World Bank President Robert B. Zoellick, a former U.S. Trade Representative, have warned that protectionism could spiral out of control. It’s certainly on the rise: A WTO study this spring identified more than 100 trade-restricting measures taken by 30 countries over the preceding six months. ‘The danger in this environment is that you get tit-for-tat retaliations, and it serves nobody’s interest,’ Zoellick told reporters.”

America’s hands certainly aren’t clean in this area. “Buy American” requirements in Washington’s $787 billion stimulus package added fuel to the dispute. The logic of protectionism is certainly easy to understand. People want to protect their jobs and the jobs of those around them. When jobs start disappearing, anger and angst rise — and politicians are often recipients of that rising anger. On the other hand, “Buy American” can also hurt some of the very companies the policy was aimed at protecting [“How ‘Buy American’ Can Hurt U.S. Firms,” by Peter Fritsch and Corey Boles, Wall Street Journal, 16 September 2009]. The problem is particularly keen for companies operating near the U.S.-Canadian border.

“On paper, Tom Pokorsky would seem to be a clear beneficiary of the government’s $787 billion economic-stimulus package. Mr. Pokorsky runs Aquarius Technologies Inc., a company in Port Washington, Wis., that makes equipment to treat sewage. The stimulus plan earmarks some $6 billion for municipal wastewater projects that are right in his company’s sweet spot. But the bill’s Buy American provisions — meant to give U.S. companies a leg up on foreign competition — are causing Aquarius and other U.S. companies a lot of grief with both suppliers and clients in Canada. Now that grief has boiled over into a major diplomatic row with the largest U.S. trading partner. Canadian communities angered by perceived American chauvinism have started a Buy Canadian campaign to exclude U.S. bidders from municipal contracts. ‘If that sticks, well, there goes 25% of my business,’ said Mr. Pokorsky. ‘To me, Ontario may as well be Indiana.'”

I suspect there are a lot of companies that could express similar sentiments about international customers. The reason is that today’s supply chains can rarely be found within a single country’s borders. The article explains the complicated international supply chain by continuing Aquarius’ story.

“Trojan Technologies Inc. of Ontario, North America’s dominant maker of ultraviolet disinfection equipment for treating sewage, is a key supplier to Aquarius and other companies. Because of the Buy American provisions, Trojan has had to shift production to a plant in Valencia, Calif., a move that has resulted in delays and additional costs being passed on to customers, said Trojan executive Christian Williamson. Trojan is a subsidiary of Danaher Corp., a U.S. conglomerate based in Washington. While some companies have the flexibility to shift production to the U.S., others don’t. General Electric Co. assembles complex wastewater-treatment systems in Canada with parts from Europe. U.S. government rules state that projects receiving stimulus funds can use foreign parts so long as they are assembled in the U.S. The analogy used by the EPA: A Toyota made in America is fine, but a Ford made in Canada isn’t. Bob Weese, a spokesman for GE Canada, said the group’s wastewater-treatment business was having a tough time bidding for contracts with U.S. municipal governments because of the procurement rules. ‘The supply chains are so integrated, it is crazy to try to impose a Buy American provision,’ he said. ‘Some components cross the border four or five times’ before they are completed.”

The Economist believes that these international supply chains are not as robust as they may seem [“The fragile web of foreign trade,”30 May 2009]. The article focuses on trade relations between America and China.

“It is increasingly hard to tell if some companies are American or Chinese, says Jonathan Woetzel, a China specialist at McKinsey. Consider Cheung Yan, who was until recently China’s richest person. With her husband, she set up a firm in California to gather American waste paper and ship it to China to be recycled. Later, she set up paper factories in China to do the recycling. Some of the waste paper is turned into boxes to hold Chinese-made electronic goods that are then shipped to America. Is their business Chinese or American? And does it matter? The recession has severely disrupted trade between America and more or less everywhere else. China’s exports to the United States, which had more than trebled between 2002 and 2008, collapsed by more than half between September 2008 and February 2009. The slump in American consumer spending may be causing as much pain for some Chinese exporters as it is for American businesses. But hard times are forcing American firms to look harder for savings, and many are finding these in China. Ever more industries are finding that their supply chains can run through China, says Jimmy Hexter, another McKinseyite and co-author, with Mr Woetzel, of ‘Operation China’. Wal-Mart’s chief procurement officer lives in Shenzhen. For cheap retailers, not buying goods from China would be suicidal. But as Chinese firms grow more sophisticated, they are selling fancier stuff. China’s exports to America of machinery and electrical goods, for example, grew at twice the pace of its textiles exports between 1993 and 2008. For American firms setting up in China, the chief attraction these days is not its cheap labour but its increasingly affluent consumers. In a recent survey of American firms in China by the American Chamber of Commerce there, 63% said they were there to sell to locals, whereas only 9% said they were there to sell things back to America. Procter & Gamble is so well established that many Chinese think its products (such as green-tea-flavoured Crest toothpaste) are local brands. GM is doing well in China, unlike at home. American firms are jostling to help China build smart infrastructure and tackle pollution. American business is as deeply entangled with other parts of the world, too. Supply chains criss-cross oceans, letting firms buy whatever they want from whoever makes it most efficiently.”

Protectionism is all about saving jobs; but, disrupt supply chains and jobs can also be lost. In addition, protectionist measures hurt consumers. The recession, however, has had other impacts on global trade besides the rise in protectionist measures. Record-setting oil prices had already had an impact on global supply chains when the recession hit. This double-edged crisis caused many countries to look closer to home for both suppliers and customers. I’ve written before, and still believe, that we will see more regionalism within globalization’s larger framework. This regionalization is reflected in the growing number of regional and bilateral trade agreements that are being signed — especially in Asia [“The noodle bowl,” The Economist, 5 September 2009 print issue].

“Amid the general gloom, activity on one sort of trade—bilateral free-trade agreements (FTAs)—continues at a feverish pace in Asia. This month, another deal was signed, this time between India and South Korea. The agreement is the first between two of Asia’s four biggest economies (India, China, Japan and South Korea). But the stream of FTAs, typically between one large economy and a smaller partner, has become a flood in the past decade. From just six in 1991, their number had increased to 42 by 1999. But almost three times as many have been signed since, bringing the number of such agreements in Asia to 166 by June this year, according to the Asian Development Bank (ADB). Still more—62 at last count—are at various stages of negotiation, including one between Japan and India. China and Taiwan are in talks about a deal, which shows just how deeply FTA fever has taken hold of Asia (trade deals are even used as a way to bridge the gulf between the two Chinas). And apart from bilateral agreements, several countries, including China and Japan, now have signed trade deals with the Association of South-East Asian Nations (ASEAN), a regional body.”

The magazine doesn’t believe that FTAs will accomplish all that their proponents believe they will and, in addition, notes that “bilateral deals come laden with complicated rules about where products originate—rules which impose substantial costs of labelling and certification on firms.” The magazine also believes that FTAs undermine the chances of the Doha trade agreement coming into effect [“Doing Doha down,” 5 September 2009 print issue].

“As the Doha round of world trade talks languishes, Asia’s trading nations say that they cannot afford to sit on their hands and wait for Doha to revive. Better, they argue, to loosen up trade with simpler deals between a couple of countries or, if you are truly ambitious, a handful. … The sorts of deals that are now being signed in Asia, just when multilateral trade desperately needs supporting, are likely to do less for their countries’ economies than for the egos of the politicians who sponsor them. Taken as a trend, they amount to a dangerous erosion of the system of multilateral trade on which global prosperity depends. … Bilateral agreements, thus, do not, on the whole, serve as stepping stones to a comprehensive global deal. On the contrary, they both distract governments from the multilateral process and offer cover for politicians’ failure to advance it. Moreover, the fear of losing favourable treatment in a bilateral agreement can deter governments from talking tough in multilateral negotiations. … If they truly want Doha to succeed, the bilateralists need first to acknowledge that their own deals are poisoning its chances.”

Michael Gerson writes that “there was a time when international trade was the subject of poetry. In “Locksley Hall,” Alfred Tennyson ‘[s]aw the heavens filled with commerce, argosies of magic sails/Pilots of the purple twilight, dropping down with costly bales.'” [“A Humane Trade Reform,” Washington Post, 24 July 2009]. Today, Gerson notes, international trade is more often the subject of resentment than respect. He discusses many of the protectionist measures mentioned earlier in this post and concludes:

“All this is politically understandable — and economically insane. With the world experiencing the largest drop in trade volumes since World War II, actions that restrict global trade will delay global recovery. Protectionism is economically self-destructive: Won’t American companies eventually want to compete for contracts in India and China? Protectionism is diplomatically self-defeating: Do we really want to pick trade fights with our closest friends, such as Canada and Mexico? Protectionism is outdated: The distinction between foreign and domestic companies is blurred when many use transnational supply chains. And protectionism is unjust: The world’s poorest countries are often the most dependent on exports.”

Gerson would like to see a more “human trade reform” enacted that favors developing nations — one that helps them break poverty’s grip and fosters the emergence of sustainable middle classes. The global economy’s future rests on being able to create new consumers in developing countries. He writes:

“Current law is supposed to allow developing nations to export duty-free into U.S. markets. In practice, however, restrictions and limits are placed on imported clothing, textiles, footwear and agricultural products — which are exactly the kind of labor-intensive products that many poor nations produce best. So American tariffs effectively single out the poorest nations for the highest international taxes. On average, these countries pay more than three times the tariff rates of our richest trading partners. One example: According to the Center for Global Development, Cambodia and Bangladesh pay about the same total tariffs to America as do France and Britain — even though those European countries export about 15 times more to the United States. And in 2006, America collected about $850 million in tariffs from Cambodia and Bangladesh, mainly on imported apparel — which is about seven times more than we provided in foreign assistance to those impoverished countries. How to change the system? Kimberly Ann Elliott, a senior fellow at the center, recommends that Congress provide 100 percent duty-free, quota-free access to American markets for 70 of the most vulnerable countries on Earth — ending the discrimination against products produced by the world’s poor. There are good humanitarian reasons for this reform, which would help nations suffering from a global recession they did nothing to cause. There are national security justifications: America has a direct interest in promoting economic growth and stability in parts of the world otherwise prone to terrorism, criminal gangs and epidemic diseases. And there is a domestic economic argument. The very products produced by the poor abroad — clothing, shoes, food — are necessities for the poor at home. Our current tariff system is a regressive tax on these goods. The cost of this reform to American manufacturers would be minimal — even under Elliott’s proposal, less than 2 percent of American imports would come from the countries granted duty-free, quota-free access. But the effect in those nations could be large. Even if international trade is no longer cause for poetry, it is cause for hope.”

David Rockefeller, the former chairman and chief executive of Chase Manhattan Bank, reminds us that trade wars can lead to shrinking international trade and that can be disastrous [“Present at the Trade Wars,” New York Times, 21 September 2009]. He writes:

“I lived through the stock market crash of 1929 and the Great Depression that followed it, and I saw that there was no direct cause and effect relationship. Rather, there were specific governmental actions and equally important failures to act, often driven by political expediency, that brought on the Depression and determined its severity and longevity. One critical mistake was America’s retreat from international trade. This not only helped to turn the 1929 stock market decline into a depression, it also chipped away at trust between nations, paving the way for World War II. In late 1929, intense protectionist pressure from farm, labor and business groups prodded the Republican-dominated Congress to pass the disastrous Smoot-Hawley Tariff Act, which increased rates on imported goods to historically high levels. President Herbert Hoover signed it into law in June 1930, and in doing so raised the prices of more than 20,000 items produced abroad. The results were devastating. Our trading partners retaliated by raising their own tariffs on American goods. From 1929 to 1933, imports from Europe into the United States declined by almost two-thirds and our exports were more than halved. From 1929 to 1934, overall world trade declined by some 66 percent. The tariffs took a toll on the domestic economy as well. When trading partners reciprocated with tariffs of their own, American importers found their goods priced too high to sell, while exporters experienced depressed demand. In both cases, American workers lost jobs. The unemployment rate rose from around 9 percent in 1930 (a bit lower than it is today) to close to 16 percent a year later and a staggering 25 percent in 1933, when Franklin D. Roosevelt took office. We could be at a similar crossroad today. The high level of economic anxiety is, quite understandably, fueling protectionist sentiment and economic nationalism both here and abroad. Quite a few Americans believe that defeating new trade agreements and gutting existing ones would protect American jobs and stabilize our economy. In reality, those actions would be damaging and counterproductive, and repeat the mistakes of the 1930s.”

I realize that international trade can be an emotional issue; especially with U.S. unemployment rates pushing double digits. Gerson and Rockefeller, however, are arguing for the victory of reason over emotions. I believe that most Americans understand that their future prosperity is tied directly to the future prosperity of the global economy. We need to encourage our politicians to use a long-view when passing laws that could impact international trade.