Need of economic power in an era of trade war

October 24, 2019 11:32 AM

It would be amiss for the new government to not understand, particularly in this fast-changing world, that economic power has become one of the most important factors that make a nation powerful.

economic power, military power, economic policy, economic reform, gdp, gva, economy of indiaIn today’s march towards protectionism, particularly in the US, fear about trade weakening economic power plays a primary role.
  • Dr Partha Chatterjee 

In this year’s election campaign, one issue that took the center-stage was that of national power. It got intertwined with the question of national security, and not surprisingly, the discussions primarily focused on military power. However, it would be amiss for the new government to not understand, particularly in this fast-changing world, that economic power has become one of the most important factors that make a nation powerful. What is economic power? Traditionally, one view has been that economic power is synonymous with having enough productive resources and capacity within one country so that the government has the freedom to pursue any policy it wants, irrespective of any external pressure.

In India, this view had been particularly popular at one point in time and led to our policy of striving for self- sufficiency. This view, however, is grossly inadequate for at least two reasons. One, we live in a far more interdependent world than ever before, notwithstanding the recent trade wars initiated by the US President.  And two, the assumption that the international system is primarily an interaction between states, or even, governments, is rather simplistic in today’s world. 

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Today, there is no questioning the economic resurgence of Asia, along with a few other emerging economies like Brazil and South Africa. While historically that has been the case, even in the early 1700s, China and India combined had a share of about 45% of world GDP,  yet, by1950, their combined share fell below 5%. What happened? Among other things, a huge technological change – Industrial Revolution in Europe caused an imbalance in capabilities and a shift in economic power. Today once again, technological shifts are driving change.

Increased connectivity, lower transportation costs, and information technology has led to production chains and business processes being divided and distributed across the globe. This has led to countries in Asia, with a larger share of the population, make better use of their comparative advantages. 

A strong sign of economic power is possibly the number of recognizable MNCs from that country. Global trade was at one point dominated by brands such as Nestle, Unilever, GlaxoSmithKline, Shell, BP, etc. from Europe or General Motors, IBM, Coca-Cola, McDonalds, Citibank, and so on from America. Then came the first wave of Asian MNCs from Japan in the 1960s and 1970s. Sony, Honda, Mitsubishi, Toyota, and others became household names across the world. This was followed by Hyundais, Samsungs, and LGs from Korea. More recently Huawei,  Xiaomi, Lenovo, ZTE from China and HCL, TCS, Infosys, Tata Motors from India have emerged as companies with a strong global presence.

Many of these MNCs have revenues that rival the GDPs of some countries. They wield enormous power not just in terms of global trade but also in terms of shaping global public opinion and regulatory standards. This is significant. Conflicts arising between MNCs and government are becoming more common. Right now a hot button issue, for example, is data localization. Clearly the views of the firms and the governments are at variance. This difference in views comes from the fact that the objectives of the entities involved, firms and governments, are starkly different in contrast to the case of government-government relations. 

Then there is the other issue of internationalization of firms – importing laws and regulations. These firms not only provide goods and services across borders, but they often apply standards, rules, and regulations of one country or region on another. Take the case of ‘Right to be Forgotten’, which the European court has endorsed. Should it be applied within the boundaries of European nations? Is that even feasible? If not, then will it not impede upon laws and regulations of other countries? Does it diminish sovereign power?

Similarly, what if someone like Google or Facebook started implementing Yemeni anti-blasphemy standards and restricted data accordingly? In thinking about increasing economic power, we need to think about what enables firms and what allows them to expand beyond the boundaries of one country. How do we regulate such trans-border entities and issues? What kind of negotiations should governments have with other governments? What kind of treaties should nations sign? So far, thinking through these issues and policymaking has been piecemeal. 

This brings me to the role of international trade in an era of trade wars. First, we have to understand that trade is as old an economic activity as civilizations are. Trade and power became intimately related through mercantilist ideas and practises in Europe, from around the 16th century onwards. Trade was seen as a weapon to extract resources from one country to another in what was a zero-sum game. This was discredited by the early 1700s when realisation dawned that trade can benefit both parties and increase total welfare.

Yet, the lure of mercantilism remains and surfaces often. In today’s march towards protectionism, particularly in the US, fear about trade weakening economic power plays a primary role. Yet, it is not only that. There is another important factor – that economics has become global, but politics, at least in the sense of choosing a government, remains local. This mismatch is a matter of great concern. Not only products are sourced globally and production processes are fragmented, but even services have also become globally distributed and hiring is often done through a global search. This has caused severe anxiety and stress among those who fear losing out. 

Does this mean the US as an economic power in decline? The US remains the biggest economy and that is not going to change anytime soon. It still attracts global talent and remains a powerhouse of ideas. In recent years it has grown at a phenomenal rate for a developed economy of that size. In fact, trade openness in the US has been increasing right from the 1970s; it is by no means a new phenomenon. This has not just increased prosperity in the country, it has also helped ensure low prices and price stability, thereby benefitting average Americans.

So, why the anxiety? That has to do with the relative position and the closing gap between US and other countries, particularly China. This is at the root of anxiety, particularly for the people who have secured a reasonable economic status and a comfortable life for themselves. They are the ones who would want ways to protect that. This desire has led them to believe that building barriers is the way to go. The discontent is highest among the group which feels their relative position is sliding from a position of privilege. They feel that this privilege is eroding, within local surroundings, but more so in the global context where they might feel, the emerging middle class in countries like China and India is catching up, or even exceeding their living standards. 

So, should the new government react by increasing tariffs and take the protectionism route following the US? Will that benefit India? The answer is no. In fact, the only way India can benefit in this environment, particularly take advantage of the escalating US-China trade war is by remaining open and commit to being open. Only then will the international investors and multinationals will have the confidence to invest in India and bring their business to India. This is much needed given the slowing growth rate and high unemployment in India. There are several other ways globalisation helps economic growth.

Trade liberalisation, on average, increases the growth rate of countries. If we look at countries that have experienced sustained high growth rates and pushed themselves from low income to at least high middle-income group, they have all benefitted from cross-border transactions. Even at a state level in India, as the 2018 Economic Survey points out, there is a strong correlation between the prosperity of the state and inter-state and international trade. So, it is in India’s interest that it shuns the path of protectionism and fights for a world where the movement of goods and services, as well as people and ideas, is relatively free. 

The author is Professor and Head of the Economics Department at Shiv Nadar University. Views expressed are the author’s personal. 

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