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Trade and geopolitics

“A smaller planet”: Friendshoring’s poorer and less secure world

Published 31 October 2023

Limiting trade to trusted partners is the instinctive response for many to global uncertainty. But without taking into account whether some 'trusted allies' can be trusted or are even allies, friendshoring would wreck supply chains, limit imports, and raise prices. All policymakers need to do instead is to make sure businesses have the widest possible range of replacement markets — and not just ‘trusted’ ones.

“Our planet is not a very big one compared with the other celestial bodies, and I see no particular reason why we should endeavour to make inside our planet a smaller planet called the British Empire,” Winston Churchill wrote in a letter in 1902, arguing why England’s trade should not favor its colonies and dominions, as trusted as they were.

Then just 27 years old, with less than two years in the House of Commons, Churchill was writing to a constituent to temper his reputation as a supporter not so much of free trade but of the principles of free trade. Soon after, Churchill left the Conservative Party for the Liberals on the issue.

Limiting trade to trusted partners and ‘friendshoring’ supply chains is the instinctive response for many to global uncertainty stemming from former President Trump’s trade wars, trade coercion from China, and other major disruptions like the pandemic, Russia’s invasion of Ukraine, and a World Trade Organization that needs reform.

A world made up solely of trusted partners would be poorer and, counterintuitively perhaps, less secure and its nations less sovereign.

The Biden administration advocates friendshoring of some manufacturing and minerals critical to high-tech manufacturing, pursuing this goal with unilateral extraterritorial sanctions aimed at China on semiconductors and mineral supplies. This is sold as security policy, but it is protectionist industrial policy of a crudeness not seen for nearly a century: Smoot-Hawley for the internet Age.

That Smoot-Hawley Tariff Act of 1930 was a milestone in the history of US protectionism and is viewed as having accelerated and worsened the Great Depression. Limiting supply chains to friendly countries is the compromise now pushed by Treasury Secretary Janet Yellen to onshore manufacturing. Promoting onshoring, friendshoring, and their ilk in the Biden administration’s “Made in America” policies concentrate risks and encourage other countries to do the same. Restricting trading relationships and production networks to trusted allies will wreck supply chains, limit imports, rapidly slow globalization, and raise prices — and that’s not even taking into account whether some “trusted allies” can be trusted or are even allies.

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The hidden costs of friend-shoring

Friendshored supply chains fail to recognize that the United States and the Group of Seven are no longer the sole source of innovation and technology (or markets and dynamism). In the search for productivity growth and green tech to avoid catastrophic climate change, cutting out China and other major sources of new technologies does not achieve resilience or security.

US leadership in friendshoring empowers the protectionists and security hawks everywhere, risks contagion, and could be forced on countries via sanctions.

Advocating for the heavy hand of the state to sculpt a new protectionist trade policy inhibits business from selling to the highest bidder or buying from the cheapest source. If the world is becoming more uncertain — and it is — then exporters are capable of finding new markets on their own without state guidance, or they can self-insure if they want to sell to China or the United States but don’t fancy the risk of import bans. Politicians cannot decide in advance which firms in which countries are most likely to import, say, Australian barley, if Beijing imposes a ban. All they can do is make sure exporters have the widest possible range of replacement markets, and they can only do that by remaining open to all global markets — not just the ‘trusted’ ones.

So, who would qualify as friends for friendshoring or trusted trade partners, and how small might the world become?

The United States and its advanced economy partners might welcome other political and security allies like Australia and India that are in the Quadrilateral Security Dialogue; South Korea, the Philippines, and Singapore in East Asia; and perhaps also Vietnam that just had its relationship with the United States upgraded to a comprehensive strategic partnership. Or will the United States divide the world into democracies and autocracies as Biden has advocated? Indonesia and India are emerging-market democracies. Perhaps Vietnam, a fast-growing economy but not a democracy, can be trusted while it is not too large and its geopolitical ambitions remain modest. Or perhaps it’s how countries act and the extent to which they uphold international rules that matter.

By that criterion, the United States may not be a trusted partner for many countries. The United States is no stranger to using economic leverage on trusted partners. And the United States is a major source of global trade uncertainty. In trade, it’s hard to find anyone to really trust — which is why we have the WTO, never mind its current shambles.

India’s size and growth appear an attractive prospect to balance China. But it’s an illiberal democracy that has funded Russian aggression in Ukraine, putting it offside with the G7. India’s economy is one-fifth the size of China’s, it is yet to embrace openness, and is notorious for its recalcitrant behavior in international economic forums.

To be blunt, the concept of trusted trade and friendshoring is a weapon wielded at China. The concern about Chinese behavior is warranted: it has tried to use its economic power to extract political concessions from a large and growing number of countries. But these efforts have almost entirely failed. In most cases, Chinese actions backfired, economically, politically, or both.

Almost all countries in East Asia have China as their largest trading partner, as does much of Europe and the rest of the world. Successfully diversifying trade from China will likely mean losing Chinese markets to rival businesses. The costs of diversifying, de-risking, or decoupling from China — if they indeed mean different things — differ for every nation and will be a coordination problem beyond the ability and incentives of those neighbouring China in Asia, and perhaps even those farther away in Europe.

In the aftermath of World War II, many countries found themselves asking whether they could trade with countries they did not trust. In Asia, chief among them was Japan, then still a recent enemy. Rather than give in to the temptation to trade only with trusted partners, Australia, for example, signed a 1957 treaty with Japan that normalized trade relations and helped drive Australia’s postwar economic boom. Trust was a consequence of trade, not its cause.

What, then, should small and middle powers do in an era of trade upheaval?

Diagnosing the problem correctly is a start. The world faces a more uncertain international environment partly because, as strategic competition heats up, the major powers are willing to skirt established rules and use economic leverage, with little thought for the ramifications for small and middle powers. The fact that global trading rules are outdated has not helped.

Recognizing the source of global economic resilience is equally important. The economic weapons that China fired at Australia, for example by banning coal and a dozen Australian commodity exports to punish Canberra for being seen to be out in front of American containment efforts, were blunted by the multilateral trading system, which, despite its weaknesses, allowed Australian exporters to find alternative markets.

The economic response is obvious. The political and diplomatic answer is also clear.

Whatever the source of the trade disruption, even when politically motivated, the answer is further openness to trade. That is uncontroversial and basic economics. Modelling by the Australian Productivity Commission in 2017 demonstrated that in the face of a trade war between China and the United States as well as the global contagion of protectionism, the economic damage would not only be minimized by staying open, but Australia would gain more if it opened up further with other countries in Asia, a process that has been promoted through the Regional Comprehensive Economic Partnership and other free trade agreements. Australia is not alone in navigating a more uncertain world.

The prosperity and security of small and middle powers — and their ability to limit the impact of geoeconomic weaponry used by the Great Powers — depend on a multilateral trading system that keeps options open, avoiding a smaller planet.

Political and diplomatic energy should focus on convincing the United States that its prosperity and influence are enduringly embedded in functional multilateral institutions and a global economy in which small and middle powers friendly to it, like those in Asia, can freely pursue prosperity through economic exchange with both China and the West.

Updating the rules and wrapping China in more of them will keep US allies in Asia open to the world and prevent them from sliding into economic sclerosis and political and strategic irrelevance.

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Shiro Armstrong is the Director of the East Asian Bureau of Economic Research at the Australian National University, an economist, and Associate Professor at the Crawford School of Public Policy.

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