From Deglobalisation To Protectionism

Lord Sumption On Brexit

I was intrigued by a recent interview in Unherd with polyglot commercial lawyer, former supreme court judge and eminent medieval historian, Jonathan (Lord) Sumption. I love the way that Lord Sumption observes contemporary issues from the perspective of history. It got me thinking.

Lord Sumption reminds us that it was William Pitt the Younger who said that the frontier of England runs along the Rhine. He wasn’t reasserting the claim of the English kings to the throne of France, which was the main contention of the Hundred Years’ War (about which Lord Sumption has just published the fifth and final volume of his magisterial history); rather he was emphasising a principle of English and then British foreign policy which endured for five centuries. Namely: that our national security depends, not just on defending the Channel but the geopolitics of the European mainland. (“The Continent”, as the English are wont to say – as in the famous 1957 Times headline: “Fog in Channel – Continent Cut Off”).

The main thrust of British foreign policy since Cardinal Thomas Wolsey (1473-1530, Henry VIII’s Lord High Chancellor of England) until Boris Johnson was to maintain the “balance of power” in (Western) Europe, such that no one single state became predominant. That was why we challenged Louis XIV’s incursions into Germany (culminating in victory at the Battle of Blenheim, 1704); battled Napoleon’s empire (culminating in victory at Waterloo in 1815 and the Congress of Vienna in which Britain emerged as the leading global power); and prosecuted two victorious wars against first the German Empire (concluding in 1918 and followed by the Treaty of Versailles) and then the Third Reich (which surrendered in May 1945).

By withdrawing from the European Union, says Lord Sumption, the UK has ceased to be the brake on Euro-federalism – the agenda set by France and Germany to bind Europe into single polity by means of monetary, fiscal and ultimately political union. Even though many European states such as Hungary do not like it. Britain, since accession to the EEC (as it then was) in 1973 had resisted the more extreme ambitions of the French in particular quite successfully. Now, there is nothing to stop the Macrons of Europe accelerating towards something akin to a federal state. Outside the EU, there is little that the UK can do to stop this.

As for rejoining the EU, Lord Sumption points out that we could only rejoin (if ever that were clearly the will of the nation, which is not the case now) on much inferior terms to those that we enjoyed before we left. In fact, we would have to sign up to the Schengen arrangements, the Euro and so much more. That might be a tough sell. I suspect that Sir Keir Starmer understands that.

On the other hand, Starmer has already indicated that it would be in Britain’s best interest to follow EU regulation rather than to diverge from it in a way that might be prejudicial to trade. Over time, Lord Sumption surmises, it will become the general view that we might as well be inside with some influence than outside with none. No doubt the (currently) young will clamour for the return of freedom of movement. I personally find my restriction to spending just 90 consecutive days in EU countries a perverse reversal of the freedoms I took for granted from my teens to the advent of Boris.

Last month, a Franco-German initiative was unveiled which envisages four levels of membership of the EU. Some Rejoiners are attracted by the notion that Britain might in the future become an Associate Member of the EU as a stepping stone to full membership once again. That would entail rejoining the single market and submitting to EU regulatory rules as governed by the European Court of Justice (ECJ) – but without a commitment to “ever closer union”.

If some kind of associate membership had been offered after the 2016 Brexit referendum, Brexit would probably not have happened as it did. Angela Merkel’s attitude, like others’, was that either you are in, or you are out. Even though Turkey was already a member of the customs union, though not in the single market.

The UK is already a member of the European Political Community and will host the fourth summit of this 47-member grouping in the spring of next year. To be fair to Johnson, his unwavering support for Ukraine surprised some Europeans and demonstrated that Britain is still a European power, if a peripheral one.

The EU Is Becoming More Protectionist

Post-Brexit, there are fewer voices in Brussels making the case for free trade which has been the prevailing British position since Sir Robert Peel (1788-1850) repealed the corn laws in 1845. Margarethe Vestager, the Danish competition commissioner, who is a free trader, has been losing the argument with Thierry Breton, the French commissioner for the EU’s internal market. Monsieur Breton has managed to persuade the European Commission to consider imposing tariffs on imports of cheap Chinese electric cars – something which many commentators now regard as inevitable if Europe is to transition to electric transport without decimating its hugely important automobile sector.

Further, there has recently been a decisive shift in power at the top table of the EU. Under Helmut Kohl, Gerhard Schröder and Angela Merkel, the main thrust of European policy came from Berlin, with countervailing influences from Paris and London. Now, Paris seems to call the shots and London is hors de combat. This is because the German government of Olaf Schulz is preoccupied with energy security and the recession that has beset the German economy. President Macron and the wider French political establishment favour the use of subsidies to build national champions and, where necessary, imposing tariffs.

Chinese manufacturers like BYD and Geely are already selling EVs in Europe at higher prices than they charge in China. Hence the EU cannot invoke its existing anti-dumping legislation against the Chinese. (Dumping is selling a product in a foreign market at less than its cost of production so as to build up market share). Three years ago, the Chinese share of the European EV market was zero; this year it is likely to be about eight percent and industry analysts think that share could double over the next two years.

At this year’s biennial Munich motor show in late August, twice as many Chinese carmakers exhibited than in 2021. They occupied about two thirds of the floor space. Other Chinese EV manufacturers exhibiting included Li Auto and XPENG. And it’s not just the Chinese. Vietnam’s VinFast Auto became the world’s third largest EV manufacturer by market capitalisation after it launched on NASDAQ in August – since when its shares have bombed.

When we think of Germany, we Brits think of sleek, status-symbol cars. And yet the formidable German automobile industry has arrived very late to the EV party. We recall that between 2009 and 2015 Volkswagen was fitting devices to diesel cars to cheat on emissions tests. This scandal was only exposed when the US Environmental Protection Agency (EPA) issued a notice of violation in September 2015. Meanwhile, the Chinese were investing across the entire EV supply chain: lithium, rare-Earth metals, and even software. China now accounts for about three quarters of lithium-ion battery production.

The German auto giants will simply not have a range of EV models available to compete with the Chinese manufacturers for some time to come. The EU and the UK have imposed a deadline of 2035 on the sale of new petrol and diesel cars without ensuring that there will be a sufficient supply of EVs, nor even an adequate EV charging infrastructure.

If the EU does impose tariffs on Chinese-made EVs then China will retaliate. Mercedes generates almost 40 percent of its revenues in China. And Germany exports huge volumes of high-end machine tools to China. Germany’s colossal chemicals industry is already warning of mass redundancies in the face of soaring energy costs. German manufacturers have already lost the Russian export market, given the current sanctions regime. To lose China as well would be a bitter blow. President Xi’s Made in China 2025 programme already envisages a shift away from German imports.

The case advanced by people like Monsieur Breton is that China has provided massive state subsidies to its automotive industry. But so have the Europeans; and, even more so, the Americans. In recent years Brussels has effectively abandoned the previously rigid state aid rules so as to facilitate massive subsidy programmes for green energy and “strategic equipment”. In fact, €650 of EU subsidies have been lavished on their grateful recipients, 80 percent of whom are French or German, since March 2022. Similarly, the UK government has written colossal cheques to the Indian conglomerate Tata to keep its Port Talbot steel works open and to build an EV Battery plant in Bridgwater, Somerset.

As for the USA, the Inflation Reduction Act makes huge subsidies available to purchase EVs and heat pumps and the rest – but only if manufactured in the USA. When the Biden administration slapped a ban on the export of certain high-performance semiconductors to China, that was justified on grounds of national security. Such chips can be used to build more lethal weapons. But it was also because the Americans fear falling behind the Chinese in EV technology.

The EU is falling behind both the USA and China in a number of essential 21^st century technologies. The Chinese make more efficient and cheaper solar panels and heat pumps than the Europeans. Such kit will be required in the race to achieve net zero carbon emissions by 2050.

There is a natural tendency to try to address any competitive disadvantage with protectionist measures such as restrictive regulations and tariffs. That tendency could be accelerated by the elections for the European Parliament which are scheduled for June next year.

The Impact Of Protectionism

According to a study published by the World Trade Organisation (WTO) last year, a lurch towards protectionism would result in a significant decline in output for the world economy. “Protectionism” entails not just tariffs but also sanctions, export bans, embargoes and other “trade frictions”. The IMF says that trade restrictions have “exploded” over the last five years.

The volume of world trade is already falling. In July, world trade volumes were down by 3.2 percent on the year before, having risen somewhat after the pandemic. This was probably due to a slowing global economy in response to rising interest rates. But part of it may be the trend towards greater economic resilience – the pursuit of food and energy security, about which I have written in these pages. During the pandemic, it became horribly clear that the UK for one has become dangerously dependent on the kindness of strangers when there is widescale supply chain disruption.

The classic reasoning for why international trade boosts prosperity is that it enables nations to specialise in industries in which they enjoy a comparative advantage. David Ricardo (1772-1823), in his Principles of Political Economy (1817) gave the example of Portugal trading with England, whereby the English buy Portuguese wine and the Portuguese buy English cloth. (Ricardo was of Portuguese-Jewish heritage – and was also a master investor, by the way, who made a fortune trading Bank of England debt). Both nations can specialise – it’s win-win.

For anyone out there who aspires to autarky (extreme economic self-deficiency) – just consider the totalitarian hellhole that is North Korea today. And compare North Korea to its neighbour, South Korea. Where would you rather live? Mind you, that doesn’t mean that the clever South Koreans are out-and-out free traders. They too have protected and nursed their core industries, as the Korean-British economist Ha-Jung Chang has narrated in seminal books such as 23 Things They Don’t Tell You About Capitalism.

In the Great Depression which followed the Wall Street stock market crash of October 1929, the reflex of the ruling elites across the developed world was to impose tariffs. Thus, the Smoot-Hawley Act of 1930 raised already high tariffs on many goods imported into the United States by a further 20 percent. Many European countries reciprocated. Most economists agree that this made the depression worse and more protracted. Moreover, the severity of the depression in Europe contributed to the rise of fascism – with appalling consequences, as we know.

Actually, Smoot-Hawley was the last time Congress set individual tariff rates. Thereafter, the power to set tariffs was transferred to the United States Trade Representative, a Cabinet-level official with the rank of ambassador, who is directly responsible to the president. But it is ultimately the president who decides. The Trump tariffs of 2028 were mainly aimed at China but also affected some of America’s friends. Virtually all the Trump-era tariffs remain in place under the Biden administration. The US currently imposes a tariff of 27.5 percent on Chinese car imports and a tariff of 25 percent on single malt Scotch whisky.

China is far and away the largest producer of steel and electric cars in the world. It is the number one trading partner of more countries than any other, including the USA. True, of late, its vulnerabilities have become apparent: high levels of youth unemployment which could undermine social cohesion; a property bubble fuelled by vast quantities of debt; and it is overly reliant on imports of foodstuffs. Now that the Chinese credit bubble is bursting, while the west is experiencing inflation, China is combatting deflation.

And if China is the largest emitter of CO2 and other greenhouse gasses, it is also acutely vulnerable to shortages of fresh water and food in a world which is two or more degrees hotter than it is now. An economically and socially dysfunctional China might turn out to be even more dangerous than the dynamic China we have known hitherto.

As the Chinese economy slows further, and under-demand collides with over-supply, so China will be impelled to export its deflation by unloading its excess production on the rest of the world at knock-down prices. That will provoke further retaliation from the USA, the EU and others such as Japan.

Going forward, there will not necessarily be a trade war as such to match the increasing geopolitical tensions of the third decade of the 21^st Century. Rather, the world will coalesce into mutually protective trade blocs and great power systems. American protectionism will impact the EU as well as China and the EU will respond. The USA, the EU and China are the three zones where huge economies of scale have been attained in mass consumer markets. Although the USA and the EU are aligned politically and are military allies through NATO, these two will come into increasing competition for strategic commodities.

That is why resource-rich regions such as Africa come into sharper focus. Since 2020, military coups have unseated pro-Western governments in Burkina Faso, Sudan, Guinea, Mali, Niger, Gabon, and Chad, replacing them with regimes which tilt towards Russia and China. France, once the hegemon across the Sahel, has been in swift retreat. This month, French forces began to withdraw from Niger, the world’s largest producer of uranium, having retreated from Mali and Burkina Faso last year.

Where does this leave us in the UK? The Trans-Pacific Partnership (or whatever it is called these days) is all very well in terms of reducing trade tariffs; but it does not offer much by way of increasing trans-border investment let alone cultural exchange. (Will British musicians be able to hold concerts in Tokyo without visas or permits? I very much doubt it). Moreover, a UK-USA trade deal looks more elusive than ever. But the real point is that Britain’s withdrawal from Europe has not only changed the dynamic of the UK economy but of Europe’s trade policy too.

Britain’s frontier no longer runs along the Rhine, as Pitt declared, but along the English Channel. (And yet we cannot even police that little neck of water against people arriving in dinghies). The EU’s “rules of origin” regime could seriously stymie the UK automotive sector. By the time Boris Johnson’s Withdrawal Agreement comes up for review in 2025, it seems probable that the aspiration of the incoming Labour government will be to become an Associate Member of the EU – or something like that.

Inexorable Trends

In summary, there are four trends which are driving the return of protectionism.

First, there is geopolitical disentanglement into two mutually antagonistic alliances – what I have called The Great Bifurcation.

Second, there is deglobalisation or, if you prefer, the imperative to secure greater national resilience to exogenous shocks, particularly in so far as energy and food security are concerned. (I’ve got a lot more to say on those themes).

Third, the net zero agenda (most fervently pursued in proto-Lutheran Old Europe) – that is the transition to renewable energy and the electrification of transport – has triggered a new chapter of competition in the tussle for strategic minerals, which will continue to soar in price.

Fourth, there is the rapid accumulation of government debt which began before the pandemic but was accelerated by it. This is depressing upside growth potential, particularly in Europe. (Again, I’ve got much more to say about this topic in these pages). Even the most prosperous European countries are likely to be eclipsed in GDP per capita terms by more dynamic East Asian economies over the next decade or two. As I have argued here before, a nation cannot prosper if its expenditure on welfare stroke healthcare stroke retirement pensions is growing faster than its economy overall. It will be a milestone when living standards in, for example, Vietnam, exceed those of her former colonial master, France.

It is inevitable that the three great powers – the USA, China and now India – plus the EU, which is the biggest single market in the world by population and by GDP, will adopt protectionist policies against one another, just as in the 1930s. The protectionist impulse will be especially keen in Europe where living standards are falling. The UK might continue to enjoy a zero tariff trade deal with the EU – but expect the post-Brexit trading arrangements to move centre stage.

***

AI update: BARD (Google) has just informed me that the legendary Northern Irish athlete, Mary Peters, died of cancer in Belfast on 21 May 1999, aged 45. And yet I am just now reading a review of her recent book “My Story”, the cover of which depicts a fit-looking, smiling octogenarian.

Weird.

Listed companies cited in this article which merit analysis:

• BYD (HKG:1211)
• Geely Automobile Holdings Ltd. (HKG:0175)
• Li Auto (HKG:2015)
• XPENG (NYSE:EXPEV)
• VinFast Auto (NASDAQ:VFS)
• Volkswagen AG (ETR:VOW3)
• Mercedes Benz Group AG (ETR:MGB)