Protectionism During Recessions: Is This Time Different?

Continuing our collaboration with newsletters from sections of the American Political Science Association, we present a selection from the current issue of the Political Economist, which focuses on the politics of trade policy during hard times. Below you will find a fantastic contribution by political scientist Soo Yeon Kim of the National University of Singapore that compares trade policy during the Great Recession to that in previous economic downturns. Section members can log in to APSA Connect to download the rest of the issue, where they will find full citations and further contributions by Chad Bown, Edward Mansfield and Helen Milner, and Douglas Irwin.

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Recessions are a time of economic uncertainty and retrenchment.  In the absence of a clear path to recovery and the cooperation of other states, countries turn inward and their governments pursue policies to ameliorate the effects of the economic downturn. One set of policy instruments mobilized during recessions is trade protectionism, or the raising of trade barriers that provide a defense against competition from foreign goods and that secure advantageous market access for domestic firms. This brief essay examines the link between protectionism and recessions, with particular attention to the current global recession and the role of international institutions, governments, and firms. One of the notable features of this particular recession is that that dreaded specter of protectionism did not materialize, and in this sense, the current global recession is different in its impact on trade policy and global trade more broadly. This essay also considers how future IPE scholarship, especially in the examination of policy substitutes and of firm-level preferences and behavior, may further advance our understanding of trade policy during economic downturns. 

Why Should We Expect Protectionism during Recessions?

An easy, first-cut answer to this question is that we have been here before. The historical record provides ample evidence supporting the link between recessions and the rise of protectionism, especially when the international economy lacks strong leadership. The major recessions of the last century and a half, including not only the Great Depression era but also the earlier Great Depression of 1873-1896 and the major recessions of the 1970s and 1980s are also key points of comparison. Governments appealed to protectionism to shield domestic economies from international competition, mobilizing policies that ranged from high tariffs to quantitative restrictions. The Great Depression is especially well-known for the retreat from free trade, marked by the infamous Smoot-Hawley Act in the United States and the reign of discriminatory trading blocs held together by tariffs, quantitative restrictions, and exchange controls in Europe.

The causal process that generates this recognizable historical pattern is one in which the onset of recession is marked by severe price deflation, unemployment, and general economic contraction. Governments turn to protectionism during recessions because of political pressure to do so from powerful domestic industries, which see profits fall and competition from imports intensify as overall demand takes a nosedive. Protectionism through the raising of tariffs, for example, increases the price of imported goods relative to those that are domestically produced. Protectionism saves domestic firms, which are at least assured of stability of access to the internal market in the short term. Protectionism thus offers domestic firms a shield against fluctuating prices and international competition. At the same time, it is worth repeating the message of Gourevitch’s enduring insight for “hard times”: protectionism is the product of politics. Protectionism is not a foregone conclusion during recessions, and whether a states becomes (more) protectionist depends on the political power of affected societal groups.

The real danger of protectionism does not lie in one country’s actions, but in the responses of its trading partners and the system-wide ramifications. Trade barriers by themselves may have only a modest impact on trade flows. However, other countries, especially those affected directly and significantly by protectionist measures of trading partners, may retaliate with trade barriers of their own. If countries were to take this route, retaliation against trade barriers would be met with counter-retaliation, and such trade conflicts would escalate to outright trade wars. Such is the well-known scenario that played out during the Great Depression of the 1930s, when “beggar-thy-neighbor” policies prevailed and the international economy experienced the infamous downward spiraling of trade. The implications are even more serious for the present global trading system under the World Trade Organization (WTO), as current WTO commitments are held together by an extremely complex and interwoven set of agreements. If countries were to retreat from the WTO system by withdrawing their concessions, we would face the threat of an “unraveling” of world trade if other members were to respond in kind.

How Do We Know it’s Protectionism?

There is a surprising level of controversy regarding the appropriate identification of “protectionism.”  A relatively purist, discrimination-based definition of protectionism emphasizes the change in the terms of trade, thus classifying any trade policy measure that is likely to have deleterious, discriminatory effects on partners’ trade as “protectionism.” Such is the approach of the Global Trade Alert (GTA) project, which collects real-time data on trade measures that are classified as “red” to indicate certain trade discrimination, “amber” for those measures that may affect trade in a discriminatory manner, and “green” where the measures are generally liberalizing. Based on their classification, the GTA scholars argue that there was a spike in protectionism during 2009, and though some measures are no longer in force, the overall levels of protectionist state measures remain higher than in the last quarter of 2008. Moreover, in spite of the pledge by the G-20 countries to institute no new trade measures that may affect trade, GTA finds that the G-20 countries are the major perpetrators of protectionist actions during this economic crisis, comprising almost 80% of all protectionist state measures by the end of 2011.

The alternative to the discrimination-based approach is a more law-based definition that emphasizes WTO-consistency. The majority opinion appears to favor this second definition: if a particular trade measure is legally allowable, it does not actually constitute “protectionism.” This conceptualization also reconciles a trade policy as “protectionism” with its role as a political safety valve, a legitimate action of government to defend a national economy that has been injured by economic conditions. Along this line of argument, protectionism is the “dog that did not bark” during this recession. Scores of reports from the WTO, the Organization for Economic Cooperation and Development (OECD), and the United Nations Conference on Trade and Development (UNCTAD), as well as academic studies, have declared that in spite of the steep collapse in trade in 2008, trade levels have recovered and by and large countries have not resorted to trade protectionism that would violate WTO-bound commitments. To be sure, trade defense measures have been heavily utilized during this crisis. However, as Bown points out, the availability of such temporary trade barriers (TTBs) provides stability for our trading system as it allows governments to provide economic relief to their domestic constituencies without abrogating their legal obligations. This is also Milner and Rosendorff’s argument in action: escape clauses are optimal for the stability and durability of international institutions, and this argument seems especially compelling during times of economic downturn.

An important observation to offer with respect to the current global recession is that the face of protectionism also appears to be changing, turning more toward non-traditional, behind-the-border forms of state measures that make the label even more difficult to place. They include direct governmental assistance to troubled firms, such as those observed in the “Buy America” provision and France’s bailout of its two major automakers. These measures do not explicitly violate the law-based definition of protectionism, but mainly because of the absence of regulations that govern them. This type of behind-the-border protectionism often smacks of mercantilism, a favorite arsenal of government intervention into the economy of olden years. More important, they reveal the governance gaps in the current trade regime. As we continue to operate on a set of rules established over two decades ago during the Uruguay Round and as the Doha Round negotiations remain deadlocked, even the WTO-based definition of protectionism needs updating to reflect the conditions of the current international economy.

The Great Recession of 2008: Who Resisted Protectionism?

There is widespread agreement regarding the critical role of international institutions as “firewalls” against protectionism during this recession. Economic and non-economic international institutions have served as conveyors of information and mechanisms of commitment and socialization. Their informational function enhances the transparency and accountability of states’ trade policies, and they mitigate uncertainty when it is running high. Specialized international institutions devoted to trade, such as the WTO and preferential trade agreements (PTAs), also lock in commitments to liberal trade through legal obligations that make defections costly, thus creating accountability in the actions of its members. Equally important, international institutions are also arenas of socialization that help propagate important norms such as the commitment to the liberal trading system and cooperative economic behavior. In this connection, the degree to which a particular country was embedded in the global network of economic and non-economic international institutions has been found to be strongly correlated with fewer instances of protectionist trade measures.

Information provided to date by international institutions, with the exception of the GTA project, largely agree that states have not resorted to large-scale protectionism during this recession, in spite of the fact that the “great trade collapse” at the beginning of the current crisis was steeper and more sudden than that of its Great Depression predecessor. The WTO Secretariat, in addition to its regular individual reports on members’ trade policies under the Trade Policy Review Mechanism (TPRM), has issued more than a dozen reports on member states’ trade policies during the crisis. At the request of the G-20 countries, which pledged not to adopt protectionist trade measures at the onset of the crisis in 2008, the WTO, the OECD, and UNCTAD have produced joint reports on the trade and investment measures of the world’s largest trading states. They, too, find that G-20 countries had largely adhered to their commitment not to raise trade and investment barriers. In the World Bank’s Temporary Trade Barriers (TTB) project, an important and unique data collection that includes information on pre-crisis and crisis trade policy behavior, Bown finds that temporary trade barriers such as safeguards, countervailing and antidumping duties saw only a slight increase of usage by developed countries, in the neighborhood of 4%. In contrast, emerging market economies were the heavy users of TTBs, whose usage rose by almost 40% between 2008 and 2009.

As scholarly insights accumulate on the current recession and its impact on protectionism (or lack thereof), two questions emerge for further research.  First, to what extent have governments employed policy substitutes that have the same effect as trade protectionism? International institutions may appear to have been successful in preventing protectionism, but governments may well have looked elsewhere to defend national economies. This question can be seen in the broader context of the “open economy trilemma,” in which governments may achieve only two of three macroeconomic policy objectives: stable exchange rates, stable prices, and open trade. Irwin argues that governments that abandoned the gold standard during the Great Depression were less protectionist, and their economies also suffered less from the recession. Existing scholarship also indicates that governments are likely to employ policy substitutes, opting for monetary autonomy when facing trade policy constraints, for example, due to membership in a preferential trade agreement.  Moreover, at the time of writing, the International Monetary Fund (IMF) has announced that it has dropped its objections to capital controls, albeit cautiously and only under certain conditions, thus potentially providing another policy alternative for governments to achieve economic stability during this crisis. Future research may further extend the application to policy substitutes that are deployed during economic downturns.

Finally, why did firms not push for more protection? Protectionist policies are not adopted by governments in a political vacuum. In order to adopt trade defense measures such as anti-dumping duties, governments first conduct investigations to assess the extent of injury. Such investigations are initiated when firms apply for them through the domestic political process. If indeed governments did not appeal extensively or unusually to protectionist trade policies, the explanation to a significant degree lies in firm behavior. A distinguished body of research exists in this area that is due for a revisit in the age of extensive international supply chains, from Schattschneider’s classic examination of the domestic pressures that led to the Smoot-Hawley Act to Helen Milner’s study of export-dependent firms that resisted protectionism during the crisis of the 1920s and the 1970s. Milner rightly pointed out that “firms are central,” and over the years the export-dependent, multinational firm has evolved in tandem with the increasing complexity of the international supply chain. Today’s firm is not only heavily export-dependent but equally import-dependent in its reliance on intermediate inputs, whether through intra-firm trade or from foreign firms. The extensive international supply chain thus often puts exporting and importing firms on the same side of the political debate, especially when they are members of large multinational firms. Moreover, the study of firm-level behavior must extend beyond the developed world to consider firms in emerging market economies, which have been the heavy users of trade defense measures during the current recession. How the internationalization of production, driven by investment and trade in intermediate goods, restrained multinational firms from pushing for more protection remains an important question for further research.

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[Note: The introductory section of the post that precedes the article was updated a few hours after the originally posting to provide more information on the section newsletter.  The content of the article itself was not changed in any way.]

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