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Can Free Trade Survive a Trade War

September 16, 2019
Nicholas Saliba, George W. Bush Institute-SMU Economic Growth Initiative Consultant
The U.S vs. China trade war threatens to reverse years of progress toward free trade across the Pacific.

The escalation of the trade war between the U.S. and China has roiled the stock market and injected uncertainty into long-established multinational supply chains - and is beginning to show up as higher retail prices for U.S. consumers. Terms like “tariff” and “trade deficit,” previously the domain of highly-trained economists, have entered our daily lexicon.

New observers of trade policy have tuned in at a time when the U.S. is leveraging protectionism, and the threat of it, to change the behavior of its foreign partners, namely China. However, this bilateral “carrot and stick” approach actually runs counter to decades of negotiation, spearheaded by America, to reduce tariffs and open borders. 

Since the end of World War II,  Washington has led the design of free trade zones across the world; beginning with the Marshall Plan and extending to new deals like the proposed U.S-Mexico-Canada Agreement (USMCA). Government leaders have believed that free trade deters war and creates prosperity, thereby expanding the international market for U.S. goods and services. Implicit in this policy is the notion that the U.S. can compete and succeed in the global marketplace, provided its partners adhere to the rules of fair trade.     

This brings us to China. Since joining the World Trade Organization (WTO) in 2001, China has become the U.S.’s top trading partner – and the source of over one-fifth of U.S. imports. Over the past two decades, both parties have benefited from this relationship. Thanks to Chinese imports, items like clothes and computers have become more affordable for Americans. At the same time, China’s economy has grown to be five times as large as it was two decades ago. 

However, the push toward market liberalization in China, a condition attached to the country’s acceptance into the WTO, appears to be fading. China still imposes a variety of regulatory barriers to market access. The Chinese government favors state-owned enterprises over private companies in many sectors, fails to provide adequate intellectual property and other legal protections for foreign businesses, forces technology transfers and licensing restrictions on international firms, and tightly manages the value of its currency to ensure exports are competitively priced for foreign buyers. 

In an attempt to change China’s behavior, the U.S. has chosen confrontation through the form of tariffs over formal negotiation— a self-defeating and ineffective approach. For one, tariffs are ultimately paid by consumers, and higher prices chip away at U.S. economic growth. Secondly, tariffs imposed by the U.S. are usually met with counter-tariffs, which shrink markets for U.S. exports and harm job creation. 

What is more, tariffs are the hypocritical antithesis to the doctrine of free trade the U.S. has worked so hard over the decades to foster. 

So far, China has shown little willingness to change. In fact, as U.S.-China relations have chilled, China has spearheaded the development of a new trade deal called the Regional Comprehensive Economic Partnership (RCEP). RCEP includes India and key U.S. partners like Australia, New Zealand, Japan, and South Korea, among others, and notably excludes North America. The absence of the U.S. from this forum gives China a historic opportunity to shape the rules of trade to its liking. 

When it comes to disciplining the Chinese government and maintaining our position as the leader of the globalization movement, the U.S. should turn to its allies and existing multilateral agreements instead of tariffs. 

One way to tilt the scales back in our favor would be to rejoin the Trans-Pacific Partnership (TPP) and use the combined leverage of a multinational agreement to bring China into the fold. After all, the U.S. and its partners spent years negotiating the TPP to ensure that intellectual property and foreign investment would be protected. Coincidentally, China currently falls short on these protections. 

Aside from creating a new agreement, the U.S. could appeal to the existing rules of fair trade already in place through the World Trade Organization. China has a surprisingly good record of complying with WTO rulings and responding to WTO complaints with market opening. Perhaps this is because China must answer not only to the U.S. but also to the vast majority of its trading partners when challenged at the WTO. So far, the U.S. has underutilized the WTO’s avenues for negotiation, instead opting for unilateral confrontation that has yet to achieve positive results. 

Free trade works, especially in the trans-Pacific arena. Over the years, globalization has sparked wealth creation and the emergence of the middle class in previously rural, agricultural economies like Japan, South Korea, and even China itself. The U.S. has been at the forefront of designing and protecting globalization, and it would be a mistake for us to allow a squabble with China to drag us away from our principles. 

To learn more about the benefits of free trade and economic integration, visit our global competitiveness website.