Loud cheers in Bali. While meeting under the soothing shade of palm trees on the island, trade negotiators finally reached a deal — the World Trade Organization’s first in its 18-year history.

Yet, the Bali agreement may not be all that. The 160 representatives only managed to agree on improving customs procedures, leaving more substantive things for another time.

Still, by some estimates, the deal may generate a cool US$1 trillion in global trade. Hopes are also high that the ice is finally broken and that many more cheers might follow.

About time. The global trading system is in dire need of a shot in the arm.

Stalling trade

After growing at twice the pace of global GDP for decades, trade has stalled of late. That’s a worry, not least in Asia where exports have laid the path towards prosperity.

Globally, trade has rebounded from the dark days of 2009, but it is still below its all-time peak reached the year before. In Asia, exports as a share of GDP have fallen even more sharply, with a more muted recovery to boot. Our first point, therefore, is that the stall in the global trade to GDP ratio reflects in large part a drop in Asia.

Let’s take a closer look at this. Exports as a share of GDP have actually gone up in the past couple of years compared to the mid-2000s in the West and a number of Asian markets. But, in Malaysia, the Philippines, Indonesia, Japan and China shipments have dipped. In Japan, this may reflect in part the disruptions from the devastating tsunami, and could thus be seen as a temporary aberration.

But China is a little more curious. The country, after all, has been the main driver of globalization over the past 15 years, with its accession to the WTO in 2001 further accelerating its integration into global supply chains.

So what’s going on? Well, it’s not because Chinese exports have collapsed. Rather, GDP simply grew faster, depressing the ratio of shipments to GDP. Without trade to drive its economy, China switched to investment. Unfortunately, for the rest of the world, China’s investment isn’t very import intensive (it is only for some goods, like iron ore or certain construction machinery), explaining in part why global GDP went up but trade growth slowed.

When comparing the growth of exports from emerging Asia and the region’s output growth, overall, there has been a close association of the two series over time.

But a divergence is under way currently. Since about 2010, exports have lagged growth in industrial production. This is consistent with our previous finding that Asia (especially China) has turned inward, with growth driven more by investment than exports.

Subdued shipments

But let’s press a little further. Can we argue that the fall of exports in Asian GDP is simply due to soaring demand locally, or does it also reflect subdued shipments to the West?

The latter seems to be at work as well. Import volumes and industrial production growth in advanced economies have close association over the past two decades. Of late, however, output has held up far better than imports. Why?

Three factors come to mind. First, there may have been a shift in the composition of demand in the West away from consumer goods that are highly import intensive to, say, drilling rigs for shale gas exploration, for which less overseas components are (possibly) needed.

Presumably, over time, the composition of demand in the crisis economies should normalize, which would help re-align import and output growth.

Second, growing protectionism may have dented exports, not just to the West, but globally. By some estimates, some 2,700 trade restrictions were implemented since 2009. But this probably even understates the damage that lack of further trade liberalization has done to the global trading system. As we mentioned before, the Bali deal was the first agreement struck by the WTO in nearly two decades. True, bilateral and regional deals have since proliferated, but these often divert shipments from non-members to signatories, rather than create additional trade. Therefore, it is encouraging to see a new global agreement being reached, with a series of plurilateral proposals, like the Trans-pacific partnership (TPP) and Transatlantic trade and investment partnership (TTIP), also under negotiation.

That leaves us with a third factor. There has been a subtle shift in competitiveness in recent years, with the financial crisis boosting many firms in Europe and the US. Labour costs, for example, have remained steady, if not declined, in the West, but have soared in the East. Far-reaching restructuring, such as among US car firms, has also evened the playing field. No wonder, then, that the association between import and output growth has fallen.

Main drivers

But it is important not to push this argument too far. This is a cyclical issue and shouldn’t be confused with broader structural trends in the global economy. Trade pessimists who argue that the era of rapid globalization is now behind us miss a critical point. Among the main drivers of global trade over the past two decades was the integration of poorer regions into the world trading system. This process is far from over. 

One way to approach this is to look at the convergence of per capita income across the world. If this is roughly equal, an important driver of trade, relative labor costs, becomes far less compelling (though there can still be trade for other reasons). Looking at per capita income for Chinese richer and poorer provinces, a few things stand out. One, while richer areas in China have seen income levels rise sharply over the past fifteen years, China’s poorer regions have lagged behind.

Their development today is roughly at the level of richer provinces in the early 2000s. This suggests that there is plenty of catch-up left, with wage cost differentials leaving a lot of scope for further, rapid trade growth. But even in China’s richer areas, generally located near the coast and thus more easily integrated into the global trade system, incomes are currently just over 20 percent of those in the US. Meanwhile, India is waiting in the wings, with per capita income today roughly where it was in China’s richer provinces in the early 1990s.

Structurally, in short, there is no reason to become overly pessimistic about global trade growth. One of its main drivers of recent decades — income differentials across the world — should remain intact for a long time to come. This doesn’t mean Asian exports will bounce back imminently, and there are good reasons to believe that the cyclical improvement in competitiveness of Western firms will partly work against this for a while.

But, with liberalization moving back onto the agenda, trade should continue to prosper over the coming years. And that is, quite rightly, a reason to cheer.

Frederic Neumann and Joseph Incalcaterra are economists from HSBC. The opinions expressed are their own.