Disintegrative Trade?

The world has become saturated with IT. Immediately the mind goes to information technology, but wait; there’s another big IT out there: integrative trade. That was a term we coined here at EDC many years ago to describe the increasing worldwide entwinement of exports, imports and cross-border investment, flowing in as free-flowing a manner as possible. It’s a win-win arrangement that is hard to sell, but that has long since been proven to work. Now it is being questioned, and faces its most serious threat in decades. Is it all at risk of unraveling?

Trace the world’s economic path over the last seven years, and the system sure doesn’t look like a success. Why does it work? First, it lowers costs in the economy. Open up trade, and the tariffs and duties that consumers had to pay on final goods are gone. Costs to business of key inputs are also lower, enabling them to be more profitable and to pass on lower costs to customers. Second, it leads to more efficient investments. Countries are never good at producing everything; each has a comparative advantage in certain goods and services. Freer trade enables investment to flow to those things a particular country does best in a way that lowers costs for everyone. Third, it forges closer economic and political ties between nations. More open trade opens up awareness of countries’ capabilities, leading to greater trade activity. On the political front, increased commercial presence naturally creates greater interest and interaction between countries. Fourth, this activity leads (and indeed has led) to much greater diversification of economic activity, to greater economic inclusion, and to much greater global GDP than would have been the case otherwise.

But like any system, there are drawbacks. First, freer trade creates a huge incentive to cheat. Non-tariff barriers and other means of ‘tilting the table’ are a constant threat to today’s trade architecture, and simply put, smaller firms and even larger ones may not have the resources or patience to engage in a costly and lengthy dispute-settlement process. Second, freer trade and investment flows can fuel a fear of Perot’s ‘giant sucking sound’, that is, the loss of jobs to another country. Job losses can’t be prevented, but what’s important is net jobs – which in fact have increased. Third, freer trade is always vulnerable to downturns in the economy. In harder times, it’s easiest to blame outsiders, even when it’s clearly not their fault. Finally, freer trade embraces capitalism – which, as we have seen in recent years, works well most of the time, but is still vulnerable to market failure. Closer integration of markets, absent appropriate safeguards, increases the possibility of systemic failure – the dreaded ‘domino effect’ of greater closeness.

There are probably few better illustrations of integrative trade in operation than the Canada-US economic relationship. Lots is already well-known about our close export-import ties. Less known is our integrated investment relationship. Canada is the second-largest destination for US investments abroad, with assets totaling $C388 billion in 2015. Sales within Canada by US affiliates located here totaled $612 billion in 2014 (the last full year of data), more than half of all foreign affiliate sales in Canada. And it’s far from a one-way relationship: Canadian direct investment assets in the US totaled C$450 billion in 2015, ranking third behind the UK and Japan. We racked up an equally impressive C$298 billion of sales from Canadian affiliates in the US in 2014. On both sides of the border, these numbers support jobs running into the hundreds of thousands – which quickly runs into millions of jobs when two-way trade is added in.

Disrupting this is a huge risk. It’s easy to impose tariffs or border taxes, but ultimately, consumers will be in an uproar over their higher credit card bills. It’s much harder to reinvest to accommodate major policy changes – that takes years. If there are any benefits, regular folks have to wait a long time to see them. That’s a critical fact that suggests that today’s frightening pronouncements are those of a deal-doer that wants to get more out of the current architecture, not to wreck it and start all over.

The bottom line?

Canada-US sales and investment integration is perhaps one of the world’s best examples of a harmonious, efficient, entwined trade arrangement. Will it last? The obvious fruits of this setup are its loudest and strongest advocates.

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