Page 12 - July-August 2018 GSE Report Flip Book

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beyond the question of whether this is a trade skirmish or a trade war to develop real strategies for the “Trump trade moment,” should it arrive. (Project Syndicate, El-Erian, 07/09/18)
BIS warns of the “perfect storm” for the global economy
In an August 25th speech at the Kansas City Fed’s Economic Policy Symposium, Agustin Carstens, the general manager of the Bank of International Settlements, warned that the tariff
war is creating a growing danger to globalization itself. Reversing globalization “could increase prices, raise unemployment and crimp growth,” said Carstens, the former head of Mexico’s central bank. “[Protectionism also threatens] to unsettle financial markets and put a drag on firms’ capital spending, as investors take fright and financial conditions tighten. These real and financial risks could amplify each other, creating a perfect storm and exacting an even higher price.”
In “Global Market Structures and the High Price of Protectionism,” BIS estimated that the cost of revoking NAFTA would result in a loss to GDP of $37 billion in Canada, $22 billion in Mexico, and $40 billion in the U.S., with non-tariff trade barriers accounting for the lion’s share of the losses.
Carstens highlighted the potential catalysts that could unleash the “perfect storm.” He highlighted the key risk resulting from the interaction of real and financial risks, namely: the trillions in outstanding dollar-denominated debt—whereby a dollar-shortage threatening to cripple international trade—and the growing risk of currency wars. He said:
Consider that non-US banks provide the bulk of dollar-denominated letters of credit, which in turn account for more than 80% of this source of trade finance. The Great Financial Crisis highlighted the fragility of this setup, since non-US banks depend on wholesale markets to obtain dollars. Ten years on, we should not forget how the dramatic fall in trade finance in late 2008 played a key part in globalising the crisis. Any dollar shortage among non-US banks could cripple international trade.
On top of that, trade skirmishes can easily escalate into currency wars, although I hope that they will not. As we saw earlier with Mexico, imposing tariffs on imports tends to weaken the target country’s currency. The depreciation could then be construed as a currency “manipulation” that seemingly justifies further protectionist measures. If currency wars break out, countries may put financial markets off-limits to foreign investors or, on
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