Is A NEW World Trade Order Being Born?
By: James Hester
Tags: Blockchain, Beltandroad, Ethereum, Mattereum, China

By Ian Welsh

This article originally appeared in Issue 61 of Diplomatic World as part of an ongoing series of curated content on technology’s impact on the world. As both Ian and Mattereum had foreseen the importance of these trends prior to China’s recent pronouncements on blockchain technology, the piece is excerpted from an unpublished report delivered to Mattereum in 2018.

When we look at trade statistics we tend to think of trade as being between countries. While this is accurate in certain senses, the organizations who actually trade, and the organizations who shift goods between countries without trading, are mostly not countries. They are, in fact, corporations. Most of these corporations are private, though some are government owned.

This fact, and the influence of private actors on governments, sometimes obscures the fact that the most important actors in the trade and logistics field are governments. It is governments who determine the terrain of trade; what can be traded or shipped, with who, and how. Governments make the rules, and other actors must respond to those rules. Private actors act within a rule system set, and enforced, by governments.

Currently, the three governments most capable of exerting influence on global trade are the United States, the European Union, and China, with other states such as India, Japan, and Russia possessing these capabilities to a slightly lesser extent. The World Trade Organization (WTO) exists substantially because the US and Europe made it happen. The IMF, World Bank, and the SWIFT system which enables payments are either creatures of government or subject to government control.

The rules around trade, made after the collapse of the great European Empires (each of which was its own free trade zone), were made by the US, with European consultation, after World War II. As time went by other countries gained influence in the system, but it is still substantially a system created by the North Atlantic powers.

This is something the Chinese are very aware of. When Westerners and others who benefit from the current system proclaim it to be an international system of law and suggest that China should support it, the Chinese note that it is a system that was made almost entirely without their input. It isn’t their system. It isn’t the system that would have been created if, when it was created, China had been a greater global influence, instead of recovering from occupation and civil war.

If negotiations were started today, from scratch, China would have almost co-equal say with the United States. China has co-equal GDP in purchasing parity power, and slightly more trade than the US.

Bearing in mind that, for most of the last two thousand years, China and India were the largest economies in the world, and that China is returning to that place, to ask China to agree to trade rules and arrangements made when it was at the absolute nadir of its strength and international influence, seems, to China, obviously and blatantly unfair.

None of this is to say that private actors don’t matter; they decide what is done within the rules set up by nation states. But as with a coach on a football team, they make their decision within rules they did not create. And, increasingly, the rules are being made by China. This is most clear in the Belt and Road Initiative (BRI).

Meanwhile, in America, there is a push to change the rules as well. This is obvious with President Trump’s tariffs, his renegotiation of NAFTA, and his refusal to sign the Trans Pacific Partnership (TPP). But it didn’t entirely start with Trump. The TPP was an agreement which left out China, the greatest Pacific trade power, because it was designed to create a trade area competitive with China.

So both America and China are seeking to change the world trade order, and the old order is cracking.

The core ideological commitment of the current trade order is a belief that trade always creates a larger pie. This is based on the law of comparative advantage: if countries do what they’re relatively better at, more goods and services are produced than if they don’t specialize. Since this is the case, we should always strive to create more trade.

This trade order moved a lot of productive capacity away from the United States and Britain, among others. This was planned, and expected. Furthermore, this might not have been much of an issue. America was still wealthy, Americans bought their imports with dollars, and so on.

However a combination of domestic policies, such as reduced progressive taxation and de-industrialization, hit some regions and classes of Americans harder than others. This led to significant inequality in America, and areas of significant poverty. Entire demographic groups found that their futures were less likely to be prosperous than their parents were. Faced with a future that looked worse than the past, many Americans no longer believed (or believe) that the economy is working for them. And since they could see that industries which had provided good jobs had moved overseas, even if they believed it was inevitable, they blamed this on free trade. In Britain, this same demographic was largely responsible for voting to end British membership in the EU. They voted, in effect, to leave a large trade bloc.

So we now have a situation where there are a large number of people, large enough to elect governments and win referenda in core economies, who no longer believe in the current world trade order. They don’t think free trade is good for them. Even if Trump is not re-elected in 2020, or if Britain stays in the EU, those people will not go away.

Ironically, the theorists of the modern trade order understood the problem. They knew that some people would lose from free trade, even if the pie was made bigger, and said they should be compensated. But that never happened. And unless something sort of large-scale social assistance programme like a basic income is passed, it seems unlikely to occur. The effects we’re seeing of a diminishing popular belief in the old trade order could be interpreted as a consequence of this. In effect, those who feel they have lost from the current trade order now hold a veto over it. Business cannot make supply chain plans which can be disrupted every few years by an election or referendum.

The current US administration seems to be in agreement with China on one particular aspect of trade policy. Trump prefers unilateral or near unilateral deals. He doesn’t want to make trade deals with large numbers of other countries. Why? China probably understands. Yang Jiechi, then Foreign minister for China, said in 2010, ‘China is a big country and other countries are small countries, and that’s just a fact.’

America is a big country, and that’s just a fact. When America negotiates with smaller countries, one on one, or one on two as with the NAFTA renegotiations, it gets what it wants because it is capable of exerting greater influence. What Trump wanted, as it turns out, was a clause which said that Mexico and Canada couldn’t make trade deals with non-free economies without the approval of the other members. ‘Non-free’ in this context was widely understood to be referring to China. So, Trump wants trade deals which clearly benefit the United States, does not believe that all trade deals are good, and wants to make deals where he is dealing with one or a very few countries over which he believes the US can exert greater influence. He is backed by a part of the American population deeply suspicious of free trade.

China, meanwhile, has been working on the Belt and Road Initiative. BRI is not just concerned with ports, roads, and railways, although it is actively pursuing deals which allow goods to flow into and through countries. For example, the northern belt portion promises ‘one declaration, one inspection, one cargo release’ for cargo shipping all the way from China, though multiple countries, to the European Union.

This is a trade area in all but name. The initial negotiations have been multilateral, but the sheer number of nations involved in the Belt & Road Initiative suggests that it has the possibility of becoming a rival to the WTO; a true multilateral trade area. When the EU, all the nations between China and the EU, the nations near China, and many African and even South American countries are added in, this will be a formidable trade area.

Such a trade area doesn’t exist yet, but when you consider the aspirations of BRI, it is clear that it could exist. Should it happen — and there are good reasons to believe it will — the trade area created by the Belt & Road Initiative will likely lack the full depth of what the WTO offers. However, it will still be a vast trade area, and all the appurtenances can be added in time. Given the failure of the Doha round of the WTO, it would seem a sensible course of action for China to create its own system. In multilateral negotiations with all WTO members, there is little chance of China molding the WTO to its preferred image.

Since the current world trade system is seen by many domestic voters in the US (and Europe) as having hurt them, the world finds itself in a position where the current influential trading powers are no longer entirely committed to the trade system they created, while the rising powers, such as China, do not see why they should support a system which was not set up to serve their interests but, rather, was set up by powers which they feel have not given them due regard within living memory.

America has started forcing other nations to choose. Mexico and Canada were easier to convince to align with American positions, largely because of proximity and because they are so dependent on American trade. There was little doubt in the outcome. China has tried to position itself to avoid forced choices of this variety. However, if the US continues down this route, treating China as an adversary, China will have little choice but to respond in kind. The world will split into two trade systems. Likely there will be two major payments systems as well. In some respects, this will resemble the old Cold War world, except that China is a mixed market system.

There will be a choice between two systems, with a slight chance of there being a third system functioning as a neutral bloc. If such a neutral bloc is established, it will most likely be led by Europe (although Japan may also seek neutrality). Both are firmly in the American bloc currently. But with many European states concerned over such American shifts in policy as the re-imposition of sanctions on Iran, and with Japan’s vast business interests linked to China, it is not impossible that they could view deepening trade ties with China, the rising power, as preferable.

There is certainly no guarantee that events will play out in this way. But consider this: if you were a company making long-term plans, would you trust that a trade war could not happen? Would you be comfortable with a supply chain substantially based in China (if your company was American) or based in America (if Chinese)?

That, I would suggest, is what decision makers should consider. What is the risk of such an arrangement, and how much damage could it do to your company if it came to be? Alternatively, is there a way to take advantage of this? Change always provides opportunity.

It seems like there will be technical interoperability between payment systems and in that sense the risk is not great, but in a two-system world supply chains look very different than they do today. Those with production located in the other bloc may find themselves in financial, and even personal, danger if either bloc decides to use legal sanctions.

Certainly, it is not impossible that a new trade order with two principal zones will not come to pass, and that the old order could re-establish itself over time. But how much risk is entailed in assuming that it will, and not taking steps now to prepare for navigating it gracefully?