Farewell to the Age of Free Trade

Despite predictions of inevitable growth, global trade is in retreat. The future of the world economy depends on its revival
Illustration by 731

Since the end of World War II and the birth of the modern global economy, business leaders have come to accept an iron law: International trade always expands faster than economic growth. Between the late 1940s and 2013, that assumption held true. Trade grew roughly twice as fast as the world economy annually, as fresh markets opened up, governments signed free-trade pacts, new industries and consumers emerged, and technological advances made international trade cheaper and faster.

Now this iron law may be crumbling. Over the past two years, international trade has grown so slowly that it has fallen behind the growth of the world economy, which itself is hardly humming. Major potential trade deals, such as the proposed Transatlantic Trade and Investment Partnership between Europe and North America, are at risk of falling through. At an early December meeting in Bali, representatives of the 159 members of the World Trade Organization agreed to move forward with basic trade facilitation measures but failed to reach any consensus on what should be on the table for the next WTO round, instead just deferring action on substantial items.

Despite such worrying trends, many economists and trade specialists seem unfazed. In its latest research report, HSBC predicted that global trade will continue expanding by about 8 percent annually for the next two decades, outstripping the world’s economic expansion.

Such optimism is misplaced. Expectations that emerging markets could boom for decades haven’t come true. Advances in technology over the past five years have facilitated the rise of state capitalism and made it easier for companies to stay in their borders. And unlike at just about any time in the past six decades, the political leadership of almost every major economy is weak, making it easier for protectionism to flourish. The era of free trade as the world has known it is dangerously close to coming to an end.

The belief that trade flows would inevitably increase was based on two assumptions: Emerging markets still had huge space to expand, and new technologies would make businesses more interconnected. These ideas still power reports such as HSBC’s forecast. But they appear to be wrong. Today’s technological advances don’t necessarily lead to economic integration. The latest breakthrough in manufacturing, 3D printing, makes it easier for companies to keep their design and initial production work in-house and cut out suppliers—which reduces trade, because it removes incentives to outsource later rounds of manufacturing overseas. The coming breakthrough in many science-based industries—such as synthetic biology, in which living forms are created from strands of DNA—will similarly create pressure for companies to keep operations in-house. Already, many corporations are coming home: Cross-border investment inflows fell by 18 percent in 2012 and probably will drop again in 2013.

Far from creating a long tail, globalization and the Internet have instead made economies of scale more important to companies’ survival. That has prompted consolidation in industries from telecommunications to oil to mining, allowing many of these industries to become dominated by giant state-owned companies from countries such as China, Russia, and Brazil. These state-owned enterprises are hardly forces for free trade: They often crush entrepreneurs in their own societies, and they often push for protectionist barriers, not against them.

As for the big emerging markets, they aren’t proving as resilient as expected, despite their huge consumer classes. China’s economy has slowed only marginally, but every other major emerging economy, from India to Brazil, has seen its growth drop precipitously the past two years. (When all the figures were finally in and calculated this summer, it turned out that Brazil’s economy grew by only 0.9 percent in 2012, far less than Brazilian leaders and economists had forecast.)

Many of these, such as India, have based their hopes for growth on services, not the export-oriented manufacturing that enriched Japan and the Asian tiger economies—and before them Britain, the U.S., and other countries. As economists Amartya Sen and Jean Drèze note, services not only employ fewer people than manufacturing, but they also face far more trade barriers by developed nations than manufactured exports.

These challenges might be surmountable if a stronger international consensus in favor of free trade existed. Over the past 60 years, at least one major economy was able to take the lead in advancing the global trade agenda. Today, however, every prominent trading economy is too consumed by problems at home. Weakened by the shaky rollout of health-care reform, President Obama faces a hostile Congress that has little inclination to support either the administration’s proposed free-trade agreement with Asia, called the Trans-Pacific Partnership (TPP), or a U.S.-European trade pact. China’s top leaders are still trying to consolidate power and address domestic challenges such as land reform. Britain is consumed with austerity, Japan is embarking on contentious economic reforms, and Germany is constrained by its history and Berlin’s consensual politics. Reports of U.S. spying on top European leaders have caused politicians across the European Union—already skeptical of a trans-Atlantic trade zone because of concerns that many European industries would be swamped—to call for trade negotiations with the U.S. to be cut off. As of early December, negotiations have resumed, but the prospects for a deal remain highly uncertain.

The absence of political leadership has benefited populist forces and companies willing to flout trade rules. The Center for Economic Policy Research, a U.K.-based economic think tank, recently published a comprehensive analysis of trade-related legislation and other measures implemented by the Group of 20 countries over the past five years. Last year, G-20 countries passed 23 percent more protectionist measures than they had in 2009, while midsize trading nations—those slightly smaller than the G-20 economies—also have seen increases in protectionist measures. Major trading economies have turned to regional trade agreements, particularly in Asia, yet it remains unclear whether these deals foster global trade or simply discriminate against countries that are not signatories.

Getting the global trade agenda back on track won’t be easy. Although it’s debatable whether regional agreements promote multilateral trade, the White House needs to get the TPP finalized by the time the president heads to Asia next spring, so he can show America’s partners that the U.S. still has some credibility on trade. In addition, the U.S. should offer European allies concessions on surveillance issues, if that’s what it takes to get the Transatlantic Trade and Investment Partnership off life support. And leaders of the major economies should make clear that Roberto Azevêdo, the director-general of the WTO, has their backing in pushing to restart talks on a new global trade round, even after the failed negotiations on the round in 2009 and 2011.

An era of shrinking trade would be disastrous. The past 200 years show that trade makes the world economy more dynamic. It brings people from different countries together and links economies to each other, fostering interdependence. Leaps in scientific progress usually occur during times of growing trade and migration, because these types of exchanges create intellectual ferment. And although conflict between states can still occur, enmeshing nations in webs of trade does create incentives for countries not to fight wars against their trading partners. Restoring faith in free trade isn’t just an act of economic self-interest. It’s essential to building a more prosperous and peaceful world.

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