Distance makes the heart grow fonder

Last week, I blogged about the rising cost of transportation and whether it would unravel global supply chains, a key component of global economic integration. My answer: rising oil costs matter, but probably not enough to do real damage in the 1 -3 year outlook. In my mind, the real question is whether another decade of rising oil prices dampens new investment in delocalized production chains.

Now we have this fascinating analysis from C. Meissner and D. Novy via VoxEU, which argues that higher shipping costs are unlikely to affect international trade. Using a gravity model, the authors contend that transportation costs actually fell faster in the first era of globalization than the current one (defined as 1945 - present), and that in our era, falling transportation costs have only accounted for about a third of the increase in trade.

Drawing on other research, they further argue that the tariff equivalent of international trade (i.e. the total additional cost to producing something abroad and moving it across domestic borders to markets) is about 74%, only a third of which is transportation-related. This is a reassuring analysis, which implies that countries should still be able to trade in the face of higher transportation costs. The authors also note that protectionist measures in the interwar period effectively strangled international trade and conclude that "unless there is a backlash in the form of rising protectionism, world trade has the potential to keep growing strongly over the coming decades."

Given our present global situation, this raises two questions. First, how worried should we be about a strong upswing in protectionism? I'm not suggesting that we are near a point politically or economically where we could plausibly see a new Smoot-Hawley Tariff. But protectionism is always a worry, given public scepticism about globalization and sluggish economic performance. According to the always insightful Dan Drezner and his Protectionism Advisory System, our current warning level is: Edge of the Cliff (level 2 of 5).

Second, if trade continues to expand, should be worried about the kind of trade we end up with? With the Doha Round on the ropes, the future of multilateral trade is murky. However, as I've said repeatedly, further economic regionalism seems almost certain. It will be interesting to observe what effect preferential trade agreements have not just on channeling trade flows, but the overall volume of trade as well.