Daniel Davies on protectionism
Source Eubulides
Date 06/03/20/19:18

Defining protectionism down

Economic "protectionism" is back in the news, with the conventional
wisdom saying that it's bad. Trouble is, this isn't really what
"protectionism" means.

Daniel Davies
March 20, 2006

Economic "protectionism" is back in the news with a vengeance, with
France objecting to takeovers in the steel sector, Spain putting
together national champion utilities and the USA crying blue murder
over Dubai Ports World's proposed acquisition of P&O. James Surowiecki
had an article in the Saturday Guardian painstakingly setting out the
conventional wisdom on this subject (ie that it's very bad). Trouble
is, this isn't really what "protectionism" means.

Basically and historically, "protectionism" (and "mercantilism" and
related terms) always used to refer to tariff policy, with respect to
goods markets and trade between buyers and sellers. The use of the
terms to refer to policies about capital markets and ownership of
companies is a new one; I spotted it beginning to arise in the FT and
Economist around the beginning of the 1990s and have been writing Mr
Angry letters on the subject ever since. Because capital markets
"protectionism" is much less bad than the goods market type and might
not even be bad at all.

It's easy to explain why tariffs are bad. They're a tax on a
particular economic activity - trade. Because of this, they cause
people to do things that they wouldn't otherwise do in order to avoid
the tariff, or not to do things they otherwise would do because the
cost of the tariff means it isn't worth their while. There is a
deadweight loss associated with this, and empirically it turns out
that this deadweight cost is substantial. That's why tariffs are bad,
and why we have a WTO dedicated to removing them.

On the other hand, ownership of a company isn't an economic activity
at all (because "ownership" isn't an activity, it's something you can
do while sleeping, in a coma or even dead). So it is much harder to
see how any deadweight loss can be created by placing taxes or other
kinds of barriers on overseas investment in domestic companies. The
very fact that James Surowiecki in his article has to appeal to "the
discipline of the takeover market on inefficient managements" ought to
raise eyebrows here. If there is one thing we do know about the
discipline of the stock market, it's that it's a very weak force for
good indeed, if it's a force for good at all. And the empirical
evidence bears this out as well; while the gains from goods markets
liberalisation are big and definitely there, the gains from capital
account liberalisation are small and frustratingly difficult to
detect, no matter what econometric techniques you bring to bear.

Set against this, there are on occasion quite legitimate reasons why
one might want to put curbs on the foreign ownership of domestic
industries. Most particularly, you might want to be absolutely sure
that you can govern them via domestic national laws. There is a lot of
ill-founded paranoia about "multinationals", but it is true that a
company with multinational operations has a lot more wriggle room when
it comes to regulations it doesn't like. Furthermore, you can keep a
lot more control over the tax base, and over things like shipping
records and accounts which are usually stored in head office. Even the
Thatcher governments recognised this, which is why the government used
to have a "golden share" in a lot of privatisation companies. There
are, quite feasibly, a lot of uncommon but not impossible situations
in which a democratic government might want to pass a law about the
operations of a company, and not want to find itself being taken to a
WTO tribunal for doing so.

And this is what the root of the problem is, I think. The rise of
cross-border ownership of companies has gone hand in hand with the
rise of a lot of bogus WTO cases trumped up by multi-national
companies which don't like the way in which they are being regulated
in one of their countries of operation, and have managed to convince
someone that it is a restraint of international trade. At about the
time that the new usage of the word "protectionism" was being
popularised, the international civil service was trying to negotiate
something called the Multilateral Agreement on Investment (MAI). If it
had been passed, this would have more or less guaranteed to foreign
investors in any country that they would be able to carry out business
in the same way in which they did in their own country. The fact that
this would lead to a lowest-common-denominator effect pretty quickly
was, of course, not an unintended consequence - this was the grand
high era of neoliberalism, after all. However, more or less for this
reason, the MAI was incredibly unpopular (particularly in the USA,
where there are all sorts of local regulations and industry sweetheart
deals which everyone wanted to preserve) and it died the death of a
thousand committees.

Ever since the death of the MAI, global civil servants at places like
the EU and the WTO have been trying to resurrect it. They've been
doing this, as far as I can see, by attempting to blur the distinction
between goods market and capital market protection. I've mentioned
that the WTO is chock full of bogus cases where regulations on a local
subsidiary of a large company have been portrayed as a restraint of
trade, but the EU is if anything worse; the office of Charlie McCreevy
and the Single Market Directorate Generale of the EU have a really
nasty habit of claiming that the "right of establishment" of the
Treaty of Rome gives them the power to force through any cross-border
merger in Europe in the face of government opposition. So the
linguistic confusion between "protectionism" in the sense of tariffs
and "protectionism" in the sense of local ownership restrictions is
not really all that innocent.

Of course, there is not really all that much to be said for local
ownership restrictions in most cases. If someone wants to buy shares
in a company, the fact that he comes from overseas is usually not a
very good reason to stop him. But on the other hand, nor is it
"protectionism". Even Adam Smith had very different opinions on free
trade in goods markets, versus international investment. The case for
capital market openness is very much weaker than the case for goods
market openness and we should all resist the attempt to define down

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