Unwinding From the Flat World

Trade Representative Katherine Tai addresses the Geneva Graduate Institute on the role of the World Trade Organization (WTO) in the global economy and U.S. policy priorities ahead of the 12th Ministerial Conference in Geneva, Switzerland, on Oct. 14, 2021. Denis Balibouse/Reuters

Commentary

Trade has been a usual tool in “war,” but it has never been a very powerful weapon. From Trump’s trade sanctions on China to Western’s sanctions on Russia, most were ineffective, if not useless. As long as products purchased from China or Russia are not from a monopoly (one single seller) or their supplied products are not to a monopsony (one single buyer), others have an incentive to be uncooperative, and there always exist third parties breaching the sanction creating a loophole. Accordingly, a trade war’s impact on trade might be much less than most commonly believed.

The U.S. is huge in terms of imports. From Wikipedia’s imports ranking based on 2022 data, U.S. imports amount to about the same as that of the lowest 200 countries altogether—from Romania ranked 36th to the last country at 233rd. Another comparison is that the European Union, with 27 countries, imported a total of only about 80 percent of that of the U.S. in 2022. Thus, U.S. imports are somehow representative of the world’s imports. The U.S. import policy governs the direction of global trade flow. What, then, are the implications of the recent trade dynamics?

US Imports from Asia, 12-month Moving Sum. Courtesy of Law Ka-chung

The accompanying chart shows the U.S. imports from Asia. Clearly, China is still the largest import partner. The outstanding amount has been flat for years, suggesting either the U.S. or China cannot decouple from each other easily. Since the amount is nominal, a flat nominal trend means a real downtrend, given inflation has been generally positive. The downtrend from late 2022 to mid-2023 is obvious, where China experienced a series of serious debt defaults. Notice that the U.S. imports from most other countries in this period remained basically flat.

However, the total imports from Asia declining in this period suggests the trade outflow from China did not meaningfully spill over to other Asia countries. One main reason is that the U.S. has been cutting total imports under high inflation. Another is that the U.S. has been bringing back quite a bit of outsourced production to nearer regions like South America, especially Mexico. Data support the latter: Compared to a few years ago, the monthly imports from Mexico to the U.S. increased from US$30 billion to US$40 billion, with the surge seen mainly in early 2022.

There might be a strong economic reason behind such a phenomenon: The production costs do not differ substantially across quite some of these developing countries, but geographically, the difference is huge. There is a popular gravity model applied to trade, such as the one in physics. In physics, the gravitational force between two bodies is proportional to their masses and inversely to the square of their distance. In Economics, trade flow between two countries is proportional to their GDPs and inversely to their distance (“square” being absorbed in regression constant).

As shipping costs and risks generally increased after COVID-19, “the world is flat” becomes a past tense. As the only huge buy-side Asian country—China—is getting much poorer now, the production and, hence, exports from the region can hardly be maintained as high as in the past, even though they may be distributed to other countries.