Welcome protectionism

The United States and China are engaged in a trade war. The US has increased import duties on a number of goods such as washing machines that were being imported in large quantities from China. China has signaled that it will retaliate by increasing import duties on certain goods imported from the US such as Boeing airplanes and soya bean. The world economy has turned a full circle. We embraced free trade as a solution for all our economic woes in the nineties. Now we are embracing exactly the opposite—protectionism—as a solution for our present economic woes. This turnaround is rooted in the absence of new technological innovations in the West.

There are two basic components of the global economy (1) Intellectual Property Rights (IPRs) on advanced technologies; and (2) Free trade in goods and services. Developed countries have proprietary rights on most advanced technologies today. Their multinational corporations are earning huge amounts from the exports of the patented products like the Windows software exported by Microsoft. US’ MNC Monsanto has given the technology for producing genetically modified seeds to certain Indian seed producers and is earning royalties on the same.

Thus, the West has a comparative advantage in technologies. On the hand, the East or the developing countries have a comparative advantage in the production of goods and services. They have lower wages and can produce goods like clothing and software at a lesser price than the West. The expansion of free trade in the nineties was rooted in this give-and-take between the West and the East. The West exported advanced technologies to the East and earned income, while the East exported goods and services and earned income. It was a win-win arrangement for both the sides.

However, globalisation has encouraged the West to transfer their advanced technologies to the East. For example, American and French companies are excited about transferring the technology of making advanced nuclear power reactors or manufacturing F-16 or Rafale fighter jet planes in India. In the process, they earn from the advanced technologies but only for a limited time.

In course of time, Indian companies would develop their own technologies for producing genetically modified seeds, nuclear power reactors and F-16 fighter planes. China is already producing these products. The West has lost its special technological advantage in large numbers of products as its MNCs have transferred the advanced technologies to the East. Technologies are like the water in the sea. They find their level across all the oceans soon.

Free trade has further added to the woes of the West. The daily wage of an unskilled worker in India is about Rs 300 against Rs 5,000 in the West. It is profitable for Western MNCs to produce in India and export the manufactured goods to their home economy. Wal-Mart is reported to procuring about 80 per cent of its goods from China. Production of garments, toys and footwear has practically come to an end in the US.

This has happened because China and India have got the winning combination of advanced technologies and cheap labour. This is giving them a comparative advantage in a global marketplace. Wages of American people are under pressure for this reason. There is a backlash among the American people against globalisation that is reflected in the protectionist thinking of President Trump.

Developed countries were protected against such competition previously. Advanced technologies were closely guarded. For example, India virtually begged for cryogenic engines for its space missions and super computers for its meteorological applications in the nineties. These were denied then. Such restrictions are now passé. Instead Western companies are engaged in a fierce competition as to who exports most advanced nuclear technologies first to India. West is transferring technologies for short term gains and empowering the East in the long term.

Restrictions on exports of technologies had previously insulated the West from competition from China and India. The export of advanced technologies was not being undertaken while imports of goods from China and India were subject to higher import taxes. Thus, it was possible for Western MNCs to pay higher wages to their workers behind this protective shield which has since been dismantled, thanks to globaliaation.

The solution for the West in this situation will come from adopting a protectionist stance. Western countries will be forced to impose high tariffs on imported goods. Such taxes, when imposed on garments, for example, will lead to high cost of garments in the US and it will become possible for US companies to pay higher wages to the extent of import taxes. Import taxes will also put brakes in the penchant for exporting advanced technologies.

Presently American companies are transferring advanced technologies, in part, because they want to import the goods produced. Higher import duties will lead to lesser imports and correspondingly lesser incentive for the export of advanced technologies. It is for these reasons that Trump has adopted a protectionist stance. The present model of globalisation provides free play to the MNCs to roam and earn profits from across the world but there is no solace for workers of the developed countries.

Where did the model go wrong? My reckoning is that there was misplaced trust in continuous development of new technologies. New technologies like the laptop personal computer and the internet were being developed in the Western countries in the nineties. They were earning huge amounts of monies from their exports. They thought such development of new technologies would continue forever.

Thus, the US left no stone unturned in having the TRIPS agreement included in the WTO. The underlying idea was that gains from exports of advanced technologies will be huge and more than compensate for loss of employment due to cheap imports. The gains were indeed huge—but only as long as new technologies were being developed. The model failed because new technologies failed to appear and the expected benefits from export of new technologies failed to materialise.

The West could no longer pay huge salaries to its workers in the absence of new technologies. On the other hand, jobs continued to move to the East because of less wages. The coming times will see more protectionism. The trade war between the US and China is likely to escalate because protectionism alone will provide relief to the American people. We too must embrace protectionism as soon as possible.

By: Dr Bharat Jhunjhunwala
Author was formerly Professor of Economics at IIM Bengaluru