China Is Not Ten Feet Tall
How Alarmism Undermines American Strategy
U.S. President Donald Trump’s hostility to globalization is ruining the United States’ attractiveness as a place to do business. Sometimes, after all, it takes just one bad landlord to destroy a whole neighborhood’s desirability. This year, net inward investment into the United States by multinational corporations—both foreign and American—has fallen almost to zero, an early indicator of the damage being done by the Trump administration’s trade conflicts and its arbitrary bullying of companies and governments. This shift of corporate investment away from the United States will decrease long-term U.S. income growth, reduce the number of well-paid jobs available, and reinforce the ongoing shift of global commerce away from United States. That shift will subject the entire world economy to greater instability.
A few months ago, I wrote in Foreign Affairs that the Trump administration’s policies could lead to the emergence of a post-American world economy. Today, events are moving in that direction. Most obvious, Trump’s trade war is escalating. It is displacing Americans from jobs in export industries and reducing U.S. purchasing power. But these direct harms are limited; the global economy can adapt to Trump’s tariffs. As I wrote, “The United States is more dispensable to the rules-based trading regime than it is in other economic spheres. . . .Trade can be limited, but never completely squelched.” What’s more, congressional Republicans’ spending binge and their deep tax cuts will offset most of the damage to aggregate U.S. growth and employment, at least for this year and next (although those actions will bring bills to pay later). As a result, standard economic indicators, such as the value of the dollar, the U.S. stock market, and interest rates on U.S. government debt, which are all currently fairly stable, do not reveal much about whether the world economy is moving into a post-American era. Major powers have accelerated trade deals among one another without the United States, including the Comprehensive and Progressive Agreement for Trans-Pacific Partnership, the successor to the Trans-Pacific Partnership, from which Trump withdrew the United States last year, and the recently signed EU-Japanese free trade deal, but a new U.S. administration could easily reverse that trend by jumping back into trade negotiations, as those decisions are under direct government control.
Yet the post-American economic world, one where all investment is more uncertain and politicized—because the U.S. government acts toward businesses as any self-enriching autocracy would—is on its way. That is apparent in business decisions about large, long-term investments, such as the building of major production facilities; foreign takeovers of, and mergers with, U.S. companies; and investment in research facilities and workers. These are reliable indicators of how markets really see Trump’s policies affecting the future. Unlike speculative flows of capital or indicators of sentiment, these kinds of corporate investment decisions must be taken with ten-, 20-, or 30-year time horizons in mind, and once undertaken, they are difficult to reverse. As a result, if the relative attractiveness of investing in the United States compared with other countries—in terms of freedom from government interference, of dependable access to global markets for both inputs and sales, and of brands and hiring being helped, not hurt, by association with the United States—declines, so should direct investment in the United States.
The numbers are clear. To compare like for like, look at flows of foreign direct investment (FDI) into the United States in the first quarter of 2018, the latest for which data are available from the U.S. Bureau of Economic Analysis, and in the same quarter of 2017 and 2016. In the first quarter of 2016, the total net inflow was $146.5 billion. For the same quarter in 2017, it was $89.7 billion. In 2018, it was down to $51.3 billion. This decline was not driven by changes in Chinese investment, which flows both ways and so contributes little to changes in the net figure. (In the first quarter of 2016, the United States saw a small net inflow of $4.5 billion from China, and in the same period in 2018, it saw a small net outflow to China of $300 million.) The falloff is a result of a general decline in the United States’ attractiveness as a place to make long-term business commitments. The overall trend in FDI shows the same picture. A four-quarter moving average of net FDI inflows to the United States shows that this year, it has fallen back to its postcrisis lows of 2012.
The decline is all the more worrying since many factors should have been pushing direct investment in the United States up this year. The massive fiscal stimulus passed by Congress should have increased FDI in three ways: by boosting spending, which increases U.S. growth prospects; by making the tax code more favorable to production in the United States; and by cutting the corporate tax rate. Even if one discounts the direct incentive effects for business investment in the legislation, the corporate tax changes certainly encouraged investment. This stimulus, along with pressure to bring some activities and intellectual property back to the United States from abroad, should have pumped up U.S. investment inflows, at least temporarily. What’s more, Chinese and other companies worried about future access to the U.S. market might have decided to get as many deals done as possible before Congress shortly passes the Foreign Investment Risk Review Modernization Act, which will toughen inward investment rules, just as they have stockpiled soybeans and other imports from the United States that are now subject to tariffs. This also should have raised the total inward FDI in 2018. Yet despite all the positive pressure, FDI fell markedly.
Protection stifles innovation and results in worse products for consumers in the protected domestic industry
Domestic investment by U.S. companies, although strong, is also coming in lower so far this year than the pro-business tax changes and strong economic growth led economists to forecast. Some argue that uncertainty, partly caused by Trump’s trade wars, has limited investment. But in a broader sense, the investment shortfall indicates that U.S. multinational corporations are making the same assessment as their foreign counterparts, only a little later. That is, they are deciding that investments in the United States are growing less attractive relative to those in the rest of the world. If investment outside the United States by U.S. multinationals increases over the rest of this year, despite lower U.S. tax rates and higher U.S. economic growth relative to the rest of the world and the formal and informal disincentives the Trump administration is putting on outward investment, that will reveal a lot about the emerging post-American world economy.
Consider how the tariffs on vehicles and auto parts under consideration by the Trump administration would feed into future investment decisions by some of the world’s largest multinationals: auto companies and their suppliers. If the United States imposes the threatened 25 percent tariffs and U.S. trading partners retaliate proportionately (as is likely), the move would have a major immediate effect on the U.S. economy. The tariffs would directly cost as many as 625,000 workers their jobs. But that would not be the end of it: shuttering factories also damages the wider communities of which they are a part, hurting other businesses that rely on autoworkers. And companies that have relationships with automakers would see their sales tumble. This effect would be substantial, but it would represent just the initial, temporary shock. Tariffs would also have a far more persistent effect on the U.S. economy by changing companies’investment decisions. Vehicle manufacturing is a highly cyclical industry: in 2005, 17 million U.S.-made autos were sold;in 2009, the figure was down to ten million; and by 2015, itwas back up to 17 million. Employment in the auto industry rises and falls in tandem with sales. Having access to diversified global markets both for parts and for sales (U.S. plants exported roughly two million cars in 2017) is essential to make investments in plants pay off over the long term.
Otherwise, the United States will discover, just as developing countries already have—and as the United Kingdom is now realizing, as auto manufacturers announce plans to withdraw production from the country if Brexit goes through—that when a country loses access to global markets, global automakers stop investing in its economy. If U.S.-made cars are competitive only behind tariff barriers, and cost far more than they should because of those tariffs, there is no point in planning to make more of them in the United States to meet rising global demand. The economies of scale that make vast manufacturing enterprises work will decline. As antimarket governments have repeatedly shown, and as was the case with the U.S. auto industry in the 1960s and early 1970s, protection stifles innovation and results in worse products for consumers in the protected domestic industry. Going down that road will, in turn, hurt overall research and development in the United States, of which investment from automakers (including foreign ones) makes up a large part, and the United States’ reputation as a place to do business.
Flows of direct investment, especially of net FDI, into the United States are therefore worth watching as an early indicator of how far the global economy has moved toward a post-American era. The signs suggest that Trump’s approach to globalization is getting the world there faster than many realize.