The US and China are in the midst of a trade war. The countries basically try to agree on how open their economies should be to each other. If the negotiations deteriorate, the countries will close off their domestic markets with tariffs and non-tariff measures. However, in the long run when disputes (finally) get settled, these markets may open again. How should the intervening time be used?
During a long ongoing trade war the domestic economy becomes more sheltered. This will result in less competition for domestic companies. Depending on the structure of the economy this may lead to both booms and busts in different industries. After that, many remaining companies will just serve the domestic market. This risks deteriorating productivity and innovation as domestic companies will no longer (implicitly) learn from foreign competition.
In this situation policymakers should look at the different experiences of South Korea and Brazil. While the first chose a path of export-led reform, the latter opened up too fast.1 As Korea stormed the markets when opening up, the markets stormed Brazil when it did. During a prolonged trade war, policymakers should focus on keeping domestic producers healthy and productive for when the market opens again. Policy options are 1) more trade with other countries, and 2) attracting foreign companies to produce domestically 2.
- “Trade Liberalization and Growth: Recent Experiences in Latin America”, Agosin M.R., Ffrench-Davis R., Journal of Interamerican Studies and World Affairs, Volume 37, Number 3, Autumn 1995. [return]
- Compare Japanese car manufacturers moving to the US to get round import restrictions in 1980s. [return]