The merger of two major North American railroads will create a rail network that reaches both coasts and runs through the middle of the continent.
The long-sought combination of Canadian Pacific and Kansas City Southern promises to make a seamless, faster supply network that will benefit Canada, Mexico and the United States.
The integrated North American auto supply chain already shows the benefits of trade policies that benefit all parties. Now, this new rail network will further integrate the continental supply chain that should result in efficiencies and cost savings across all areas of cross-border trade.
Read more of RSM’s insights on trade, the economy and the middle market.
Despite rising political frictions between Mexico and the United States because of immigration, the $31 billion merger represents an evolution of trade, financial and economic relationships that will be tested during a period of global populism. Rising nationalism, emerging industrial policy and increasingly restrictive trade policies will almost certainly shape the evolution of regional economic integration.
The merger signals the private sector’s interest in fostering growth beyond the use of tariffs. If anything, the trade tensions of recent years, and their impact on the American agricultural sector, are a case in point.
Trade and tariffs: A case study
In July 2018, the United States imposed Section 232 tariffs on steel and aluminum imports from major trading partners and, separately, Section 301 tariffs on a broad range of imports from China.
In response, six trading partners—Canada, China, the European Union, India, Mexico and Turkey—imposed retaliatory tariffs on a range of U.S. exports, including agricultural and food products.
A report from the U.S. Department of Agriculture in January 2022 estimated that the effect of those retaliatory tariffs was a reduction of more than $27 billion from the middle of 2018 to the end of 2019 in U.S. agricultural exports, with the largest decline in export losses occurring for exports to China.
China’s response to U.S. tariffs in 2018-19 was to look elsewhere for sources of agricultural products, shifting market share from the U.S. to Brazil and elsewhere.
As reported by Reuters, China’s response to U.S. tariffs in 2018-19 was to look elsewhere for sources of agricultural products, shifting market share from the U.S. to Brazil and elsewhere.
The Reuters report said that in the September to August market year of 2022, 62% of U.S. soybean exports were sent to China. But during the 2018-19 trade war. only 28% of U.S. soybean shipments went to China.
Brazil is now the world’s largest soybean producer and exporter, according to a report from the USDA. The report notes that the United States and Brazil jointly supplied nearly 90% of soybean exports to the world in market year 2021-22, with soybean production in Brazil expected to reach a record high in 2023-24.
Furthermore, soybeans stand out as a crucial crop in the expansion of Brazil’s farm sector and the country’s ascent as a top global supplier of agricultural products. A depreciating Brazilian currency and the country’s expanding export capabilities will work to increase Brazil’s competitiveness, which will have implications for U.S. markets.
In our view, the USDA soybean report highlights the unintended consequences of restricting trade. While U.S. agriculture was able to produce higher yields per acre than Brazil, costs per bushel were dropping in Brazil due to ongoing infrastructure initiatives that are lowering shipping costs. And though China ultimately agreed to purchase additional soybeans from the U.S., exports to China have yet to fully recover.
The USDA report also notes the global economic and market circumstances that took place from 2018–22 that affected competitiveness including the, the COVID-19 pandemic, climate events, supply chain disruptions, high input costs, persistent inflation, and the start of Russia’s war against Ukraine.
The 2018 experiment in tariffs should give warning that while “going it alone” makes a great sound bite, the cost of mercantilist policies could outweigh the imagined benefits.
Global trade and industrial policy
When does industrial policy, which is government policy to protect or develop domestic industry, infringe on free trade and cause damage to a trading partner?
When does industrial policy infringe on free trade and cause damage to a trading partner?
Should the World Trade Organization find it acceptable when a government subsidy inflicts damage on the economy of another country?
We can think of recent cases of dumping that led to the ruin of U.S. industries. The overcapacity of government-supported steel industries in Asia that resulted in steel dumping that finished off the U.S. steel industry. And there was China’s dumping of solar panels that gave critics of U.S. intervention a new buzzword (Solyndra).
But if the friend-shoring of recent years is found to result from subsidies or preferential treatment of Mexico and Canada, and it works to inflict damage on the economies of our Asian trading partners, should the World Trade Organization allow retaliatory tariffs on U.S. produced goods?
Industrial policy was once the province of emerging economies, interested in developing their economy while protecting their industries from being overwhelmed by trade with larger developed nations.
But as posited by an analysis from the Peterson Institute for International Economics, today’s industrial policy among developed economies is aimed at:
- Diversification in the name of supply chain resilience.
- Fear over the weaponization of exports by trading partners.
- Maintenance of technological supremacy.
- Desire to offer future policymakers more control over economic activity in response to expected shocks.
The objective of modern industrial policy now appears aimed at returning parts of a supply chain for industries ranging from semiconductors to personal protective equipment that have since been offshored.
While some economists remain skeptical about the ability of governments to implement industrial policy effectively or to its benefits, we can point to recent government intervention as necessary and successful responses to market failures, particularly with regard to national security and safety.
In terms of benefits, the space race from Sputnik’s launch in 1957 until we landed a man on the moon in 1969 was a solely a product of the government’s response to the geopolitical competition of Cold War. Nevertheless, landing on the moon brought technology and science to the forefront of U.S. consciousness and kickstarted the digital age.
And as we’ve recently reported, recent funding for the development of the semiconductor industry in response to China’s threatening behavior toward Taiwan, the world’s leader in semi-conductor production and innovation, has resulted in a surge in manufacturing construction. And the more recent announcement of 31 innovation hubs placed in vulnerable communities will ensure the dispersion of activity and wealth beyond the coastal centers.
Government funding of the space race, the research and development of vaccines before and during the pandemic, and the re-establishment of the semiconductor industry and tech hubs were in response to market-based decisions (the cost-effectiveness to rely on Taiwan’s production) and market externalities (the normal clustering of industries).
Funding of basic research at universities years before the pandemic was the foundation for the private industry to develop vaccines.
In the 1950s, we could no longer wait for private industry to keep up with the then Soviet Union’s technological capabilities. Funding of basic research at universities years before the pandemic was the foundation for the private industry to develop and produce the vaccines that saved countless lives. The cost of waiting for the private sector to re-establish U.S. ability to manufacture high-level semiconductors was clearly too much both in financial and national security terms.
If the benefits to a country of an industrial policy outweigh the cost, but some of the costs of the industrial policy are being passed onto trading partners through terms-of-trade movements, is the industrial policy acceptable?
The paper points to the U.S. response to the shortage of personal protection equipment during the pandemic, and its emergency policy of forcing 3M production plants in China to supply our domestic needs. This episode raises a number of questions about future information sharing, stockpiling, and international policy cooperation that are relevant for WTO members, given the possibility of further international (economic) externalities distorting trade.
The author concludes that governments seem intent on using industrial policy to tackle the world’s most pressing market failures and externalities and to at least tweak the footprint of global supply chains.
We can point to the response of Canada and Mexico to Trump-era tariffs as indicative of the possible facture of relationships with our friends. And because industrial policy is likely to affect global trade until this latest cold war is resolved, the WTO might adopt a policy of weighing the use of industrial policy as being necessary or frivolous.
