Global warnings: Perils of a new age of protectionism

    4 March 2017

    Globalisation has apparently been going too fast. It is blamed for benefiting managers and owners of capital — and emerging-market economies — at the expense of the working masses in developed economies.

    Globalisation of trade has in fact been a powerfully beneficial force over the past 25 years. People have always sought to develop trade across frontiers: think of the Silk Roads. But in recent years the pace and scope of trade have accelerated.

    Tariff-free or low-tariff flows of goods across frontiers took time to negotiate. The freedom to transfer money and invest abroad without exchange controls did not come automatically. And the fact that people can easily and safely travel anywhere has evolved with improved air travel coupled with more relaxed border controls. The growth of the web has sustained all this. International business has flourished. ‘Designed in California but made in China’ is an easy concept to understand.

    Inevitably, manufacturing has moved to places where labour is cheaper. This has kept industrial wages in the mature economies lower. Immigration has added to this pressure; though the actual effect on wages is not great, it is seen by most people as a significant factor. Another pressure comes from automation and robotics — now evident in virtually all manufacturing and even in many service processes.

    These forces have helped businesses to expand globally. Their bosses’ pay has increased, sometimes enormously; but the mass of workers and their families in the mature economies have not enjoyed corresponding increases. The fact that it is possible to maintain the same standard of living for less monetary outlay as a result of technological advances such as online shopping that saves journeys, and more reliable, energy-efficient cars and appliances, passes unnoticed. The overall feeling is that business leaders have enjoyed envy-provoking increases while the others have been left behind.

    This resentment is one of the principal factors behind the Brexit and Trump victories. These voting opportunities (and there are others to come) were the obvious way to fight back. As a result we are now confronted by powerful and worrying counterforces. President Trump’s voice is the loudest, and when he withdrew the US from the Trans Pacific Partnership and called for his fellow citizens to ‘Buy American and hire American’, and for Ford to manufacture in Michigan not Mexico, he signalled a reversion to protectionism. The exit of the UK from the EU is a trend in the same direction. Free trade within the single market is to be abandoned as the price for regaining the ability to close our borders to immigration.
    It is a move to protection.

    Most political leaders can see the advantages of free trade; it creates a more prosperous world and diminishes the risk of wars between trading nations.
    But politicians have to remain popular, while social media fuels disgruntlement. Rational long-term policies become more difficult to advocate. We’re now at the point where the struggle between global free trade and protectionism is getting serious. This presents business leaders who have to make investment decisions with real difficulty. Should they proceed on the basis that globalisation will come out on top, or should they anticipate the growth of protectionism and tariffs?

    No one knows the answer for sure, and the result is that many investment decisions will be put on hold. Corporate action will be defensive: anticipating withdrawal from the single market, UK-based businesses are likely to establish subsidiaries in the EU and transfer some activities there; but this will have immediate effects on UK jobs and the tax base.

    As for prospects for the private investor, US stocks have been posting record highs, but which sectors will really benefit from Trump’s policies will become clear only gradually; and a greater uncertainty is what happens to interest rates. A rising cost of capital is bad for equity values. This, in turn, depends on whether inflation emerges again. So, for equity prices the message is: watch out.

    Likewise in the UK, the market may look sound for the moment, but the outlook is foggier. Protectionism will bring price inflation which could lead to higher interest rates. If these trends develop, so will downward pressure on equity prices. Companies whose profits are linked directly or indirectly to cross-border trade will be the most affected.

    Protectionism is, for the time being, in populist vogue — but collective memory tells us it is also bad for business, investment, and living standards too. Beware.