The Crisis is an Opportunity to Push Multilateral Trade Liberalisation

The global crisis may not see the re-enactment of the Great Depression's race to protectionism. The crisis, however, is a great opportunity for strengthening the WTO through further multilateral liberalisation. Global leaders should also consider fighting recessionary pressures via export insurance and other measures to offset the collapse of trade credit.

The financial crisis is spreading worldwide. What began as the 'subprime crisis' in the U.S. has induced recessions in Europe, the U.S. and Japan and growth slowdowns in emerging countries such as China, Brazil, India, and Russia. The scope of challenges facing these economies has widened from monetary and financial issues to problems in the real economy - notably reduced consumer spending and private investment outlays. Japan's problems also extend to stagnating exports. All this is spilling over into the labor market.

A weak employment market tends to induce protectionist actions as government seeks to shield the domestic market from foreign competition. The most famous example came in 1930, when the U.S. Congress passed the Smoot-Hawley Tariff Act. This curtailed U.S. imports, infuriated trade partners, and eventually aggravated the Great Depression. Furthermore, the reduction in U.S. imports sent shock-waves throughout the global economy and triggered retaliatory tariff increases by almost all trading partners. World trade suffered a major contraction and European countries, which had taken on large amounts of debt, were especially hard hit.

Pledges to avoid a 1930s style protectionist reaction

The current economic recession reminds us of the nightmare recession and protectionism of the 1930s - an episode of history that must have been in the minds of leaders at the November 15th G20 Summit when they pledged to:

  • Refrain from raising new barriers to trade and investment; imposing new export restrictions, or implementing WTO-inconsistent measures to stimulate exports; and
  • Reach an agreement on modalities for Doha negotiations.
These are steps on the right direction.

In recent years, the slow progress in multilateral negotiations led countries to grant market access improvements through regional or free trade agreements (RTAs and FTAs). FTAs and RTAs may be effective in removing trade barriers among trading partners, but are they robust enough to provide a barrier against protectionist backsliding when the crisis-driven unemployment rates start to rise?

Even if FTAs and RTAs can prevent their members from lapsing into protectionism, they do nothing to prevent protectionism by non-member countries - only the WTO can do that. In an environment where almost all policymakers in the world economy are strongly tempted by protectionist forces, reinvigorating the multilateral trading system with its global rules is crucial to halting the spread of protectionism.

East Asia's role in supporting multilateralism

East Asia must play a critical role in ensuring the preservation of the open trade system that has served her so well. Today, the region accounts for more than one-fifth of world trade in goods and services, and its role in the global production and distribution network continues to deepen. Countries like China, Japan, and South Korea have every interest in living up to the expectations that come with East Asia's global importance in world trade. In this sense, we have observed timely signals from the APEC Nov. 19-22, 2008, ministerial summit where APEC members reaffirmed the G20 pledges concerning the Doha Round negotiations.

The crisis as an opportunity to shift back to multilateralism

The present crisis in the world economy can be used as a driving force to reach an agreement in the multilateral negotiations of the WTO. It is time for the emphasis to switch from regional to multilateral trade liberalisation. The upcoming WTO ministerial meeting in Geneva must successfully complete the modalities of the Doha Agenda - a step that should put the wheels in motion for finalizing the Doha Round in 2009.

Take steps to fix trade credit problems

Beyond trade liberalisation, governments should address the issue of failing trade credit - a failure that is now much more harmful to trade flows than the protectionist measures we've seen to date. More than 90% of trade transactions involve some form of credit, insurance or guarantee. As credit and insurance markets are functioning poorly in this crisis, trade has been harmed. Just as governments have tried to kick start lending domestically, they should step in to get trade financing back on track. Expansion of export insurance, for example, would be a decisive step in the right direction.

The financial crisis has already curtailed the capacity for issuing export insurance in East Asian countries. This should not be seen as a regional or developing country specific problem, but rather as a worrisome trend that will affect world trade. The contraction of trade insurance capacity could potentially become an important channel of transmission of the financial crisis into the real economy and it must be avoided. In this sense, one should commend and perhaps build on the Japanese initiative to expand reinsurance cooperation among Asian-Pacific export credit agencies.

However, there is a fine line between export subsidies and government assistance with trade financing. This is why world leaders need to deal with this problem on a global rather than regional scale. Avoiding the dangers of a 'subsidies war' will require the leadership of world leaders.

*This article originally appeared in the e-book What world leaders must do to halt the spread of protectionism. Edited by Richard Baldwin and Simon J. Everett., 2008.

December 25, 2008 VoxEU e-book

December 25, 2008