When the world economy is in turmoil, the multilateral trading system can contribute to stability. Some would argue that this can even contribute to international peace. History is littered with examples of trade disputes escalating into armed conflict.
It’s a claim that should not be exaggerated, but there is truth in it. If we understand why, we have a clearer picture of what the system actually does.
Why was the system set up? Essentially, it was for two reasons. One was the big-picture need to avoid a repeat of the destructive trade tensions before World War II. The other was countries’ pragmatic desire for their producers to trade more easily.
The result was the General Agreement on Tariffs and Trade (GATT), created in 1948, immediately after the war. Its success led to further reforms, and the World Trade Organization (WTO) emerged in 1995. An ever- increasing number of countries have agreed on trade rules that are now almost global. They are committed to the legally binding limits on their trade barriers and subsidies that they have also negotiated.
Sticking to these is self-interest because countries want their trading partners also to play by the rules and stay within their commitments — and just in case pressure from domestic interests is too great, the information on raised trade barriers is shared globally through regular monitoring. By and large, peer pressure works.
Two of the most fundamental principles of the trading system are at work here: helping trade to flow smoothly, and providing countries with a constructive and fair outlet for dealing with disputes over trade issues.
Before: when protectionism backfired. The early 1930s saw a devastating trade war. In the Great Depression, fear that imports would throw more people out of work led governments to raise their trade barriers, thus setting off a vicious cycle of retaliation. This simply worsened unemployment. The world economy spiralled downwards, eventually contributing to the outbreak of World War II. Protectionism can easily plunge us into a situation where no one wins and everyone loses.
After: restraint and confidence. Post-war, under the GATT/WTO system trade surged. More importantly, it has been much more stable, even during economic crises. Agreed rules and confidence-building are key.
Confidence helps to avoid the no-win trade wars witnessed in the 1930s. When governments believe that others will keep their trade barriers within agreed limits, they will do the same. They will be in a much better frame of mind to cooperate with each other.
The WTO trading system plays a vital role in creating and reinforcing that confidence. Particularly important are negotiations that lead to agreement by consensus and a focus on abiding by the rules.