Brian Caplen blog 2016

Populist politicians burnish their credentials with arguments about fairness in trade. Maybe they are missing the bigger picture.

For some years now western economies have been in a malaise. Large swathes of manufacturing have moved to lower cost Asia resulting in a fall in blue collar wages in the US and Europe. Amidst the resulting wave of discontent, populist politicians have come to power promising improvements but have so far delivered very little.

Their big error is to focus on better terms of trade as a cure-all for domestic economic problems instead of on productivity. The departing US President Donald Trump fought a rather fruitless trade war with China. In the UK, Prime Minister Boris Johnson’s Brexiteer government sees the big prize from leaving the EU as the freedom for Britain to strike new trade deals.

To achieve this turnaround requires greater state involvement than has been considered appropriate by most western governments in recent years

Many economists counter that future prosperity depends on raising productivity at home rather than seeking new trading arrangements overseas. Phil Mullan, in his new book Beyond Confrontation: Globalists, Nationalists and their Discontents, argues that both mercantilists who blame foreign countries for job losses at home and globalists who see boosting trade as the way to restore wealth, fail to address the root of the problem which is low productivity. Western economies need to go through a period of creative destruction (of the kind advocated by the early 20th century economist Joseph Schumpeter) in order to produce the goods and services that others want to buy.

But to achieve this turnaround requires greater state involvement than has been considered appropriate by most western governments in recent years. In a post-Covid-19 world in which the state has already grown inexorably larger, however, and the pressures for economic renewal are relentless, there may be less opposition to such an approach. The pandemic may be seen historically as the end point of a long period in which the private sector was reluctant to invest and most state actors sat on their hands. Enter the brave new world of more active government.

The challenge in all this will be channelling state investment in the right way, drawing upon examples of where it has worked well (as in many Asian countries) and learning from examples of where it has failed. The overriding principle has to be that the state can set goals and provide resources but entrepreneurs need to be in charge of the day-to-day management. Companies need to be held jointly by the private sector and the state and listed wherever possible to provide market discipline. South Korea’s chaebol economy provides some lessons on how to do things right.

Ironically, retreating behind trade barriers would be a surefire way to make such a strategy fail. It’s the openness to competition together with the profit motive that give the incentives for success. The prize for getting it right is huge: economic growth and rising living standards. Furthermore, if the post-Covid-19 state could fix productivity – with a new generation of companies producing the latest goods at competitive prices – trade would take care of itself.

Brian Caplen is the editor of The Banker. Follow him on Twitter @BrianCaplen

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