Current issues related to economy, (responsible) investment, pension and income: every week an APG expert gives a clear answer to the question of the week. This time: chief economist Thijs Knaap on the implications for global trade of the Inflation Reduction Act: the law passed by the US Congress in the summer of 2022 to curb inflation. “When multilateralism breaks down, it's actually always bad for investment and trade.”
As part of the Inflation Reduction Act, $391 billion is set aside for spending on energy security and climate change. Of that amount, $270 billion is earmarked for subsidies and tax breaks, including for electric cars and renewable energy. This is on the condition that key components come from the US and assembly is also done there. This goes against the grain of the EU, among others. Because by spending billions to protect American industries, America is violating international trade treaties and creating an uneven playing field that disadvantages companies that do not produce in the U.S. This one-sided way of operating by the U.S. fits a pattern that has been emerging for some time, says Knaap.
“After World War II, we built an effective legal system for world trade. In it, the World Trade Organization - the WTO - and, to a lesser extent, the International Monetary Fund (IMF) and the World Bank can use arbitration in disputes between countries, where large countries have to play by the same rules as small countries. This has worked well and provided globalization since the 1940s-50s. However, Americans have become less and less compliant with this system, and this development has been going on for a long time.”
There is now a belief among Americans that this model is no longer suitable for the next century, Knaap says.
“This is particularly because China has always played by the rules, but in doing so has been able to grow into a dangerous adversary very quickly - using American technology and American capital. The U.S. wants to stop that advance, and they cannot do that other than by torpedoing the entire system. That already happened under President Trump, who declared all kinds of trade measures against China that were illegal under WTO rules. But Biden is continuing that policy and, in addition, has added new ‘Buy American’ measures. In the past, arbitration would then take place between Europe and the U.S., with a judge reviewing measures for compliance with the trade agreement. But America is increasingly unwilling to abide by the judgment of non-U.S. judges. This movement toward greater sovereignty, by the way, is not limited to the US. Brexit is another example, and it has also become almost impossible to conclude new trade treaties with the Netherlands.
Money taken away
This is a breakdown of the multilateral system between countries, and according to Knaap, this is not without risk.
“If the EU starts protecting its industries as well, the global economy as a whole becomes less efficient. In that case, overcapacity will arise and that is never useful from an economic perspective. It is also a setback for APG as an investor. As an investor, you want some kind of legal guarantee that money cannot simply be taken from you. You used to have more resources for that. Now you depend on whether a local court wants to comply with an international treaty. That makes investing in that country less secure, limiting the global opportunities for us to invest pension money.”
Advocates of free trade
The idea that Europe will “repay the U.S. in equal measure” and thus world trade will increasingly fall into a downward spiral of protectionism is not entirely inconceivable, according to Knaap.
"France in particular likes to conduct industrial policy (government support and stimulation of national industries, ed.) and are not particularly fond of free trade. The British were always the leader of the free trade bloc, but now that the U.K. is no longer a member of the EU, the Netherlands and perhaps the Scandinavian countries should take that role. The voice of free trade advocates has therefore become less influential, so it is quite possible that Europe will take countermeasures.”
At the same time, according to Knaap, there is certainly still room for new agreements between Europe and the U.S.
“China and the U.S. don’t actually talk; both sides just publish trade measures. In that respect, the US and Europe have a better marriage, which leaves more room to accommodate each other. There is also a deal to be made, because the Americans need us in certain areas - for example, they want us to stop supplying chips to China. But then you end up with bilateral treaties between large countries or blocs. Multilateralism slowly but surely breaks down this way and you end up in a world in which large geopolitical blocs thwart each other or make deals. This is actually always bad for investment and trade, because you never know who will be in charge somewhere next year and what rules will apply then.”