With
President Donald Trump’s new trade tariffs, the United States has been
transformed from the global multilateral trading system’s leading
champion and defender to its nemesis. But it would be very difficult for
an erratic politician suddenly to overturn long-established structures
and mechanisms, were it not for a more fundamental economic shift.
The
first formal manifestation of today’s trade tensions occurred in the
steel sector – an “old economy” industry par excellence, one that is
plagued, especially in China, by enormous excess capacity.
Excess
capacity is a recurrent phenomenon in the steel sector, and has always
produced friction. Back in 2002, President George W. Bush’s
administration imposed steep tariffs on steel imports, but relented when
a World Trade Organisation dispute-resolution panel ruled against the
US. Although Trump administration trade hawks remember this ruling as a
loss, most economists agree that it was ultimately good for the US
economy, which does not gain from taxing a major input for many other
industries.
In any case, today’s tariffs differ from Bush’s in a
crucial way: they specifically target China. Under section 301 of the US
Trade Act of 1974 – which empowers the president to act if US industry
has been damaged by a foreign government’s unjustified actions – Trump
has imposed steep tariffs on some $50bn worth of Chinese imports. And
China has already hit back, introducing steep tariffs on imports of 128
US-made products.
So why is Trump risking a trade war? His
administration’s main complaint is that China requires foreign companies
to reveal their intellectual property (IP) as a condition of access to
the domestic market. And it is true that this requirement can do serious
damage to US tech companies – as long as those companies are dominant
in their industries.
For a major player in social networks or search
engines, for example, the cost of entering a new market is essentially
zero. Since the existing software can easily serve many more millions of
users, they just need to translate their interface into the local
language, meaning that entering a new market mostly means more profits.
But if such companies are forced to reveal their IP, their business
models are destroyed, as local players can then compete effectively in
that market – and potentially in others.
This is not the case for
companies operating in competitive industries. For them, producing and
selling more abroad costs much more, limiting the marginal profits that
can be reaped. In other words, in the more competitive “old” economy,
the gains of opening new markets are much smaller. That is why lobbying
by potential exporters for better access to markets with high tariffs
has usually been muted – hence the lack of resistance to India’s
protectionism.
This is changing in the new “winner-take-all” tech
economy: with IP-owning winners missing out on massive profits when a
big market like China is protected or closed, trade conflicts become
more acute. Meanwhile, trade policy becomes focused primarily on
re-distributing rents, with employment and consumer interests viewed as
secondary. (Under competitive conditions, policymakers place a higher
priority on maximising trade’s potential to boost productivity and
create high-quality employment.)
Monopoly rents translate into high
market valuations. And, indeed, the new economy giants have a much
higher stock-market value than their “old economy” equivalents. The
three largest US tech companies are worth over 50 times more than the
three largest US steel producers.
The looming trade war promises to
be asymmetric. The US – home to all the dominant tech firms – will
struggle to find allies against China. After all, in Europe and Japan,
IP-owning companies operate mostly in more competitive industries,
meaning that China’s demand for that IP will have less of an impact.
Making
European support even harder to come by, some European governments are
eager to secure their share of rents from US firms. This is the ultimate
aim of European efforts to raise taxes on the profits of digital
multinationals, though such a tax is unlikely to do the job.
Proponents
of that tax argue that profits should be taxed where they are earned,
with the implicit argument being that they are earned where the
consumers are. But this is an arbitrary criterion. US firms can
legitimately claim that their “European” profits are just a return on
their IP, which can formally be localised anywhere, preferably in a
low-tax jurisdiction. A European tax on these companies is thus unlikely
to yield substantial revenues.
In the old competitive economy, trade
wars might be easy to win for a country with a large trade deficit. But
in the emerging winner-take-all economy, a trade war launched with the
goal of forcing the rest of the world to open up, thereby allowing the
aggressor’s own winning firms to earn higher rents, is an altogether
different proposition.
So the US government is essentially arranging
its diplomatic guns behind its Internet giants, while Europe and China
are baying for their monopoly profits. This is more destructive than a
zero-sum game: it will do serious damage to the global trading system,
leaving everyone worse off. – Project Syndicate
* Daniel Gros is Director of the Center for European Policy Studies.
The first formal manifestation of today’s trade tensions occurred in the steel sector.