Improving Economic Resilience Through Trade

09/15/2020

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The National Board of Trade Sweden

This report compares possible EU trade policy strategies for greater economic resilience. Are shorter supply chains and reshoring likely to improve resilience or is economic integration with the rest of the world a better answer? The objective is to contribute to the discussion about trade and resilience in the wake of the COVID-19 pandemic. We hope that the result will serve as fact-based input to the EU trade policy review. We use two related concepts that together represent resilience in a broader ‘security of supply’ sense. Resilience focusses on the ability of firms to resume operations quickly after a disruption occurs, whereas robustness has to do with the ability to maintain operations during a crisis.

Resilience

Theoretical considerations and empirical evidence support the view that an integration approach to resilience is better than a reshoring approach. A trade policy that allows cost-effective sourcing from different parts of the world provides EU firms with greater flexibility during disruptions. When aggregated to the entire EU economy, firm-level flexibility with respect to sourcing thus supports the open strategic autonomy objective. By contrast, a reshoring approach provides fewer opportunities for firms to adjust. A reshoring approach would also reduce employment and increase poverty in developing countries, undermining sustainability development goals. It would also hurt EU efforts to reform the World Trade Organisation (WTO).

Robustness

Whether a reshoring or an integration approach is more robust depends on the geographic origin of the disruption. At the same time, the overall risk that supplies will be interrupted altogether is reduced under an integration approach, since it allows more diversified supply lines. For the COVID-19 pandemic, moreover, there is no evidence of correlation between the level of fragmentation of production in a sector – a traditional measure of value chain integration – and negative economic impacts in that sector. On balance therefore, an integration approach is preferable also from a robustness perspective.

Sectoral evidence

A spike in demand for medical supplies and personal protective equipment led to severe shortages during the initial phase of the COVID19 crisis. During spring, however, global supply expanded quickly and by summer, initial shortages had been removed through the help of imports from countries that had already passed through the acute phase of the crisis. For pharmaceuticals and vaccines more than 80 percent of EU imports already originate in other European countries, making a reshoring strategy superfluous. In Europe, agricultural food chains have so far remained robust during the COVID-19 crisis.

Policy recommendations

The EU should avoid reintroducing barriers that were temporarily removed during the COVID-19 crisis.

Multilateral or plurilateral agreements improve supply-chain flexibility for EU firms. Multilateral solutions also mean that we don’t put all our eggs in the same geographic basket. This, in turn, contributes to the open strategic autonomy objective. Consequently, multilateral or plurilateral solutions are our preferred policy option.

If multilateral or plurilateral efforts fail, one option is to liberalize imports of intermediate goods unilaterally. That would increase flexibility with respect to sourcing for EU firms. Canada has done this and studies have shown that import liberalisation of intermediate goods improves firm productivity. During a time when the US and China are reluctant to embrace open trade policies such an initiative would strengthen Europe’s position as the hub of global trade.

Another option if multilateralism fails is to diversify our network of regional trade agreements (RTAs) and to make them more interregional. The long-term objective would be to multilateralize commitments in EU RTAs. The EU-MERCOSUR agreement, for instance, connects Europe with a region that is not part of the two other supply chain hubs – AsiaPacific and North America. Efforts to link up the EU with the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP) could serve a similar strategic purpose. When the US, China and India all struggle to embrace multilateral liberalisation, an attractive option for the EU is to build multilateral building blocks from RTAs. Just like the GATT started out with just 23 countries, a multilateralism for the 21st century could be built ‘inside out’ from a solid base of like-minded countries. Because of its economic size and commitment to multilateralism, the EU has a particular responsibility to lead such a development.

For goods that EU member states cannot accept even a short interruption of supplies, the only way to guarantee full robustness is through stockpiling. Assuming a common understanding by member states, the EU could agree on a division of labour with respect to stockpiling of essential goods. Such an agreement would require EU legislation that restricts member states from confiscating essential goods during a crisis. It would also have to consider the individual needs of member states and national stockpile preparations during times of crises, conflict or war.

To download the full report, please click here.

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