In J.K. Rowling’s novel “Harry Potter and the Sorcerer's Stone” Professor Albus Dumbledore opines that humans have a knack for choosing precisely those things that are bad for them. The same could be said for United States and European Union leaders’ affection for interventionist industrial policies.
EU and US: increasingly protectionist, pro-subsidy, and anti-trade
There is never a right way to do a wrong thing, and this is particularly true when it comes to governments picking business winners and losers, drowning politically favored companies in taxpayers’ money and claiming they are turbo-charging progress. The US’ Inflation Reduction Act (IRA) – doling out $369 billion to subsidize electric vehicles, turbines, and battery projects - and the EU Recovery and Resilience Facility (RRF) – an instrument for providing grants and loans to support reforms and investments in the EU Member States totaling over €700 billion – are the latest examples of this self-destructive tendency.
Both the European and American political appetite for dirigiste industrial policies is rooted in a wrong-headed desire to beat China at its own self-destructive game, buying into the notion that the government has reliable foresight in which technologies and materials to invest in. History has shown that state aid invariably becomes a vehicle to support uncompetitive companies and pour money into politically favored initiatives, rather than support innovation and cutting-edge technologies. Do America and Europe really want to let China shape their economic strategies?
Excessive interventionism is bad for business, consumers, and the economy, as it gives bureaucrats the authority to redirect resources to projects and businesses based on political considerations, rather than economic ones. This creates a lack of competition, which often leads to higher prices, fewer choices, and poorer product quality.
Exacerbating trade conflicts
Even beyond the high economic importance of keeping global markets competitive, decision makers must remember that subsidies and tariffs distort markets and often lead to conflict in international trade relations. This is an especially critical point during a time when international instability is on the rise, whether it’s the Russian war on Ukraine or the worrisome prospect of China invading Taiwan. Ensuring strong relations with our allies, both economically and military, is crucial. Unfortunately, the US and EU have indulged in a number of internecine trade wars over recent decades, covering everything from aircraft and aluminum to steel and poultry. The results have led to needless trade tensions with international partners and comparative advantage losses in a variety of industries and sectors.
Similarly, we see an increase in Environmental, Social, and Governance (ESG)-linked criteria used as a barrier to trade. A perfect example of this is the EU’s Carbon Border Adjustment Mechanism (CBAM) which is a tariff on carbon intensive products, such as cement and some electricity, imported into the European Union. This was enacted as part of the European Green Deal and takes effect in 2026, with reporting starting this year.
In the US, supporters of the IRA made lofty claims about its benefits to the environment. One congresswoman said the act, “represents the most significant investment to combat climate change in U.S. history.” Analysis and time have shown these claims to be illusory. The Hoover Institution found that the protectionist policies baked into the IRA would do virtually nothing to curb global warming, stating, “At best…the Inflation Reduction Act would cause the world’s temperature in 2100 to be 0.028 degrees Fahrenheit cooler; at worst, only 0.0009 degrees Fahrenheit cooler.” The electric vehicle element of the IRA is another congressional conceit, and has prompted much outcry from the US’ European counterparts. The “buy American” mandates embedded into it have caused so much European pushback that Secretary Janet Yellen has delayed final rules on the incentives until March, looking for ways to appease vocal opponents.
Time to change the focus
Instead of heading down the precarious path of government-led industrial policy, America and Europe should focus on expansionist policies which remove red tape and facilitate trade. An emphasis on entrepreneurship and innovation, rather than propping up ailing companies, would give businesses a fair shot at competing in the global marketplace, shoring up the most efficient supply chains, and tapping into individual country’s comparative advantages.
By way of an example, the proposed EU Critical Raw Materials Act - which should be published in March - is projected to make it easier and faster for companies to attain the necessary licenses and permits to mine the resources required by businesses and society. Waiting 10 to 15 years before the first spade is even allowed to break ground, as is currently the case, is unacceptable.
Likewise strengthening and completing the EU Single Market would work wonders for Europe. The Single Market is Europe’s greatest asset, and should be expanded to include finance/banking, services and standards. Estimates suggest a more integrated and better functioning Single Market would add an additional €183 to €269 billion annually for manufactured goods, and an additional €338 billion annually for services. In total this represents a rise in EU GDP of approximately 12%.
In the US, uncertainty surrounding Congress’ ability to pass legislation abounds, now that the Republican control of the House of Representatives can serve as a foil to President Biden’s agenda. This could lead to some improvement in US-EU trade relations, as the pro-market voices in Congress apply necessary pushback against their protectionist colleagues.
The magic power of free trade
The wave of government aid swelling on both sides of the Atlantic will inevitably stoke animosity and drive an unnecessary wedge between transatlantic allies during a time of increasing global instability and economic uncertainty. It’s time to turn the tide.
Despite rising internal and external nationalistic pressure, leaders on both sides of the Atlantic should remember that in a time of increasing hostilities from bad actors, like China and Russia, retaliatory protectionism toward our allies will do nothing but ensure mutual decline. Like Professor Dumbledore, our leaders possess the power to combat dark, damaging forces. The choice is theirs. They can either choose closed borders, tariffs, and quotas, further harming the US and European economies over the long term, or they can open the door to prosperity and mutual benefit by securing global supply chains. Citizens deserve reliable and affordable access to the materials and markets they need to thrive, whether it’s baby formula, mineral fuels for aerospace products, or a foaming tankard of butterbeer.
Glen Hodgson is CEO of Free Trade Europa, a free-market think tank committed to trade, liberalization, and the rule of law across Europe. Brooke Medina is Vice President of Communications at the John Locke Foundation, a free-market state-based think tank in Raleigh, North Carolina.