The Great Recession, as the Governor of the Bank of Canada calls it, was deep, synchronous and global. Canadian GDP dropped by 3.3 percent, US GDP by close to 4 percent, that of the Euro area by 5 percent and that of Japan by more than 8 percent. While emerging economies did not suffer a recession, growth slowed markedly. China, for example, saw its recorded growth slide to the 1-2 percent range over the last half of 2008 and the first quarter of 2009, down from earlier levels approaching 10 percent. Korea and India similarly fell back. Inevitably, sharp rises in unemployment followed closely on the heels of falling production.
The impact on international trade has been severe. The World Trade Organization (WTO) estimates that the volume of world trade fell by around 12 percent in 2009, back to its 2006 levels. All G20 countries experienced serious reductions in trade. In Canada, for example, monthly exports dropped by some $10 billion between the peak in July 2008 and the trough in January 2009. China’s monthly exports fell dramatically from $140 billion to around $60 billion. The WTO report also shows that trade began to recover, particularly among developing countries, during the last quarter of 2009 and into 2010.
During a recession, it is normal to expect a sharp rise in import restrictions as demand shrinks and unemployment mounts, a surge in trade disputes to challenge or defend import restrictions, and a slowdown in trade negotiations as rising unemployment melts away public support for trade liberalization. None of these has been much in evidence, and there has even been some good news for Canada: the agreement with the United States for a limited expansion of access to government procurement markets.
In the first year of the recession, from October 2008 to September 2009, there was a modest increase in import restrictions applied by G20 members on a narrow range of products. In September 2009, the WTO predicted that, based on historical patterns, the number of import restraining measures would rise. In its March 2010 report, the WTO finds that the recourse to new trade restrictions by G20 members has tapered off. Contrary to expectations, an escalation in protectionism has not occurred.
There has also not been a surge in trade disputes. Between October 2008 and March 2010, 24 dispute cases were registered with the WTO. Many had nothing to do with the recession; for example, the Canadian and Norwegian challenge of the European Union ban on the import of seal products and the disputes concerning health-related trade restrictions. Most follow the pattern since the WTO dispute settlement procedures were established 15 years ago: a focus on the uses and abuses of anti-dumping duties in good times and hard times. In the 21 previous months, dating back to January 2007, the number of disputes notified to the WTO was 24, exactly the same as in the later period.
The pace of trade negotiations has similarly been little touched by the recession. The most recent effort to breathe life into the Doha Round of multilateral trade negotiations failed in the summer of 2008, well before governments saw the warning signs of the coming recession. Bilateral trade negotiations, however, have continued apace. Developing countries may remain reluctant to liberalize through WTO negotiations, but they have been eager to liberalize through bilateral and regional negotiations. Experience suggests that in such negotiations they have greater voice, can tailor results more closely to what is politically sustainable and can work with partners that offer more immediate benefits. In a perfect world, multilateral negotiations remain preferable, but this second-best solution should be seen for what it is: real liberalization. Over the course of 2009, 10 new bilateral and regional agreements were notified to the WTO, including three by Canada: the free trade agreements with the European Free Trade Association, Colombia and Peru. In the Throne Speech, the government signalled its intention to continue a fast pace of such bilateral free trade negotiations.
The decline in the importance of WTO-sponsored multilateral negotiations does not mean a decline in the relevance of the WTO. Its role as the anchor of the global trade regime and the arbiter of its rules remains critical. The time has come for governments to accept that the health and importance of the trade regime are not tied to success in the Doha Round. The regime is functioning as it should, underpinning the steady march toward more open, predictable, rules-based trading conditions. Despite the recession, for example, the WTO reports that some G20 members removed trade restrictions in 2009. For Canada, the most significant was the agreement with the United States on government procurement. The agreement provides for an exemption for Canada from the Buy America provisions in the US stimulus package for a range of iron and steel products and a reciprocal opening of the procurement markets of the Canadian provinces and 37 US states. While the agreement does not cover all procurement, it is a significant step forward in recognizing the imperatives of an integrated market even in a recession. (See the box below on the Canada-US Agreement on Government Procurement.)
Two major factors explain the disconnect between the depth of the recession and the mildness of the protectionist response. One is that trade liberalization and rules-based trade have become the default position for global trade policy. Throughout the postwar period until the early 1990s, the proponents of trade liberalization had to make the counterintuitive argument that opening domestic markets to imports, as the price of expanded export markets, would generate significant gains in output and employment. The enormous increase in wealth-generating international trade resulting from more than 60 years of trade liberalization and rule development has turned the argument on its head. Protectionists now have to make the case that rolling back the complex network of international trade rules and reducing trade flows would generate economic growth. Moreover, the tool box available to governments to respond to protectionist pressures has been substantially emptied. Even the most powerful tools remaining, the application of antidumping and countervailing duties and measures to stem import surges, are subject to rigorous disciplines and frequently to dispute settlement. The result is to stay the hands of governments tempted to give in to protectionist impulses generated by the private sector.
The pledges taken by the G20 to keep markets open at their three summits in October 2008 in Washington, April 2009 in London and September 2009 in Pittsburgh, by refraining from protectionist measures, reflect this default position. Such pledges are not, of course, legally binding, but they create internal defences within governments to fend off protectionist pressures. While there have been some departures from the pledge by most G20 members, including Canada, the overall record has been largely positive, demonstrating that coordinated diplomatic jawboning sometimes works. The WTO reports that new trade-restrictive measures taken by G20 members affected a total of only 0.41 percent of world trade. The number of new antidumping measures — the most common trade-restrictive measure — was actually 21 percent lower in 2009 than in 2008. The overwhelming policy response to the recession has been the use of fiscal stimulus measures rather than trade restrictions.
It is noteworthy that a companion pledge to resuscitate the Doha Round has been without effect. Indeed, at their G8 and G20 meetings in Huntsville and Toronto, global leaders would do well to accept that the Doha Round is now moribund, and that pledges to revive it will lack credibility and amount to a waste of scarce political capital. They have more important fish to fry.
A second factor is the increasing dominance of transnational value chains as the paradigm of production and trade. There has been a quantum leap in the disaggregation and geographic dispersion of production. More and more international trade is occurring within firms, among related parties or within integrated networks. Many more goods traded internationally today are parts and components. Production is being geared to a much wider market, the range of goods and services that are exchanged internationally has widened considerably, and capital and technology move between nations to promote not only import-substituting but also export-oriented production. In the words of the University of Manchester’s Peter Dicken, the global economy has been transformed into “a highly complex, kaleidoscopic structure involving the fragmentation of many production processes, and their geographical relocation on a global scale in ways which slice through national boundaries.”
A corollary of the new patterns of trade and production is that traditional national trade statistics have become increasingly misleading. China’s rapid rise as a trading nation is in part explained by its role as the final assembler of consumer goods, importing parts and components from more advanced value-chain participants in other parts of Asia, who in turn rely on US and European design, engineering, marketing, financing, advertising and other expertise. Chinese firms add only about 5 percent value in assembling a California-designed and -engineered Apple iPod from components manufactured elsewhere in Asia and software designed in the United States.
All G20 countries experienced serious reductions in trade. In Canada, for example, monthly exports dropped by some $10 billion between the peak in July 2008 and the trough in January 2009. China’s monthly exports fell dramatically from $140 billion to around $60 billion. The WTO report also shows that trade began to recover, particularly among developing countries, during the last quarter of 2009 and into 2010.
To count, as Statistics Canada does, a shipment of iPods as an import from China is highly misleading. From golf clubs and computers to shoes and toys, assigning any geographic identity to products flowing through these value chains is a holdover from the past that is now confounding analysis of international trade flows. Some of the best minds at national statistical agencies are working to find solutions to this conundrum.
Related to this phenomenon is the increasing irrelevance of claims about shares of world trade or national markets. Worries that Canada’s shares of world trade and the US market, for example, are slipping, have no basis in economics. In a world of global production and the increasing engagement of countries like China, India and Brazil — a welcome development — the relative shares of traditional traders are likely to shift. Additionally, since shares are usually calculated in value terms and denominated in US dollars, short-term changes may well tell us more about changing currency values than trading activity. The overall decline in world trade is a problem, but it is short-term and should improve as economic conditions do. The important statistic to watch is whether we return to full economic potential with economic recovery. Whether that is fuelled by domestic or foreign consumption is of secondary importance. Over the postwar years, we have seen growth driven by sometimes one, sometimes the other and sometimes both.
These new trade and production patterns are also challenging traditional thinking about trade policy measures. Trade restrictions of any kind can severely damage the efficient operation of global value chains; for example, the application of an antidumping measure applied to imports converted into parts for engines manufactured in another country and installed in automobiles assembled in a third country.
The duty may protect domestic producers, but it raises costs not only for the engine parts manufacturer, but for all firms in the value chain. In global value-chain trade, the spread of the negative impact of the duty throughout the whole chain creates a powerful inducement to eliminate participation by firms in countries where trade remedy actions are frequent. In a value-chain world, even in the depth of a recession, firms facing shrinking markets, which in the past might have sought their salvation in trade restrictions, now understand that such measures can have damaging and long-lasting effects.
The Canadian government, to its credit, has recognized that access to competitively priced imports is essential for business. Both the 2009 and 2010 budgets provide for the reduction and elimination of import tariffs on essential inputs and capital goods. These cuts accompany major reductions in corporate taxes and a significant liberalization of Canadian restrictions on foreign investment intended to accelerate Canada’s integration into the global economy.
The onslaught of recession reawakened the national anxiety that Canada is too dependent on the US and needs to diversify exports to new markets, particularly in Asia. To be sure, Canadian firms’ exports to US customers fell dramatically in the recession. Although the share of exports to the United States has declined from a high of some 85 percent at the turn of the century to less than 75 percent these days, the US market outweighs Canada’s next-largest market, Japan, by a factor of 15. As Bank of Canada Governor Mark Carney has pointed out, sustained Canadian recovery depends upon US recovery, and all signs suggest that US recovery will be less robust than in previous recessions. The rapidly expanding markets of China, India and other Asian countries are highly attractive, but is there any reason to believe that a reduction in the share of Canadian exports destined for the US would have mitigated the recession in Canada?
If it is true that a more balanced mix of export destinations would have taken up the slack, then it follows that while the US appetite for imports was declining, Asian imports were increasing. What happened? Between October 2008 and January 2009, global US imports did fall by about 40 percent. Europe did no better. But imports in the three growth markets of India, China and Korea, which escaped the worst of the recession, did even worse, dropping to around half their level from the 2008 peaks, as did the trade of Association of Southeast Asian Nations members, and that of the major economies in Latin America. Japan’s recession is among the deepest in the G20, and its imports fell by about 40 percent. Arguably, had Canadian exports been less concentrated in the United States and more oriented to Asia, Europe and Latin America, the recession would have hit harder than it did.
At the policy level, the debate about trade diversification is all very interesting but hardly germane. The export concentration on US customers results from the decision of Canadian firms that the United States is their most profitable market. While prime-minister and premier-led trade missions to new markets produce good photo ops, governments should not try to second-guess the private sector on where to do business. In any case, Canadian business has been quietly expanding its markets in Asia. Much of the shift in Canadian exports from the United States has been toward Asia. As shown in a recent study by the Department of Foreign Affairs and International Trade, New Horizons for Canada, Canadian companies are over-performing in China and other Asian markets and underperforming in more mature markets, including the United States. The principal reason is that the demand in these markets for competitively priced Canadian goods is rising. But no one should be deluded. For the foreseeable future, the United States will remain Canada’s principal market by a huge margin. Canadian firms are deeply integrated into US-anchored value chains. As US trade with the Pacific Rim countries recovers and grows, Canadian firms will be among the beneficiaries.
It is too early to write this recession and its impacts on international trade into the history books. As Bank of Canada Governor Carney puts it, “The thaw has begun, but it is uneven and stimulus-led, especially in industrialized countries.” The WTO points out that “although global economic prospects appear to have improved in recent months, and composite leading indicators from the OECD point to recovery and expansion among the world’s major economies (G7 plus Brazil, China, India, and Russia), many factors could weigh on the sustainability of trade growth in 2010 including macroeconomic and trade policies.” There are ample reasons to be wary of the strength of the recovery and siren calls for protectionism. Canada and all the G20 countries need to keep the faith at their meetings in Huntsville and Toronto this June.