Wednesday, March 18, 2009

Protectionism on the rise?

Real Time Economics draws attention to a World Bank report which claims that 17 of the G-20 countries have erected new trade restrictions over the past few months. It finds that developed countries have relied exclusively on subsidies, imposing 12 such measures, while nearly half of the 35 measures adopted by developing countries were tariffs. Subsidies to prop up the auto sector amount to $48 billion, with high-income countries accounting for $43 billion of that, including $17.4 billion in the U.S. alone.

Barry Eichengreen and Douglas Irwin draw on the experience of the Great Depression to argue that the only way for countries to avoid the spectre of protectionism is to co-ordinate their fiscal and monetary policies.

They write that monetary stimulus generally benefitted the initaiting country but had a negative impact on its trade partners, "The positive impact on its neighbours of the faster growth induced by the shift to 'cheap money' was dominated by the negative impact of the tendency for its currency to depreciate when it cut interest rates. Thus, stimulus in one country increased the pressure for its neighbours to respond in protectionist fashion."

As Paul Krugman said earlier, the problem with fiscal policies are that its positive policy externalities and attempts by countries to capture it locally, would lead to protectionist policies. The "Buy American" provision in the Obama administration's fiscal stimulus plan is only the most recent example. Eichengreen and Irwin write,

"Fiscal stimulus in one country benefits its neighbours as well. The direct impact through faster growth and more import demand is positive, while the indirect impact via upward pressure on world interest rates that crowd out investment at home and abroad is negligible under current conditions. When a country applies fiscal stimulus, other countries are able to export more to it, so they have no reason to respond in a protectionist fashion. The problem, to the contrary, is that the country applying the stimulus worries that benefits will spill out to its free-riding neighbours. Fiscal stimulus is not costless – it means incurring public debt that will have to be serviced by the children and grandchildren of the citizens of the country initiating the policy. Insofar as more spending includes more spending on imports, there is the temptation for that country to resort to 'Buy America' provisions and their foreign equivalents."

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