The Perils of Protectionism: History Shows That Open Markets Are Crucial in Times of Crisis. Leaders Need to Step Away from Purely Domestic Concerns, and Ensure They're Not Threatening the World's Economy Further by Imposing Dangerous Protectionist Measures

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In attempting to secure their own economies, it's imperative that world leaders resist the temptation of protectionism. There is hope: we have a rule-based world trading system in the World Trade Organization (WTO), and a United States Administration that is ready to re-adopt a Keynesian policy to counter the business cycles, alongside other governments. But this crisis situation is worse than anything in post-war history, and it is befitting to remind ourselves how bad things did get.

Learning from history

From the collapse of 1929, it took the United States a whole decade, indeed to 1939, to get back to where it was in terms of its Gross Domestic Product (GDP). At the worst point in its history, four years after the first Wall Street crisis broke, the country's economy had shrunk by as much as 29%. Under pressure to protect farmers and industries, the United States Congress produced the Tariff Act of 1930, commonly known as the Smoot-Hawley tariff.

This legislation prompted foreign retaliation, which plunged the world deeper into the Great Depression. Smoot-Hawley now is shorthand for the beggar-thy-neighbour policies of the 1930s. Overall, world trade declined by some 66% between 1929 and 1934 (see Chart 1).

Western Europe went through an equally devastating crisis, although recovery started earlier: in 1932 for the United Kingdom and 1933 for Germany. Of course, this recovery was not sustained; the German war-economy finally crumbled in 1944 and it lost two-thirds of its GDP over the following two years.

Now is the time to resist protectionism

Fighting protectionism does not address the causes of the crisis--for that we need to change the culture of lax risk-management in a booming financial sector. But rejecting protectionism will help to limit transmission of the crisis to other parts of the globe, notably the developing and emerging economies.

Such transmission is happening in any case, but we need to limit its contagion. Trade is the engine of global growth and it is sputtering--the Organization for Economic Cooperation and Development's (OECD) recent forecast speaks of a decline in world trade of 13%. The recent Spring Meeting of the International Monetary Fund and World Bank yielded its bleakest global growth and trade prognosis since the creation of the Bretton Woods system back in 1944.

The ITC Trade Map uses high-frequency data to gauge the impact. The United States trade data reveal a steep import contraction: whereas imports had historically been increasing by some US$40 billion a month, they were contracting by $58 billion in February 2009 (see Chart 2).

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The monthly export data for African and Asian emerging and developing countries, hugely relying on OECD locomotive growth, paint a bleak picture. …