Mercantilism in the 21st century: an introspection

This article was originally published on Econfinity, on September 17, 2020. Thank you to the authors, Manjari Balu, assisted by Medha Ahuja, for their kind authorisation to re-publish.

In this short essay, the author attempts to cast light on the idea of contemporary Mercantilism. Revisiting the theory and its major criticisms during this pandemic would add pertinent value in understanding in the milieu of the modern political era. The archaic economic system has to be understood in the right sense to identify the implications of trade and economy. As countries are redesigning their trade policies, China and the US have stood out as the major influencers of international trade policies. While an economic system might garner political support it might fail the economy, in the long run, is the key lesson from the Mercantilist school of thought. 

India, fighting the economic slowdown amidst the pandemic, is adopting a ‘self-reliant’ strategy under the label of Atma Nirbhar Bharat. An export-driven strategy is sought to shape up the post-pandemic geopolitical order with special emphasis on economic sovereignty. The international trade theories have advanced to accommodate the interests of the nation-states under the sway of the mercantilist trade theory. Although criticized to be divorced from reality and characterized as economically absurd by many including Adam Smith, traces of mercantilist principles are apparent in the new world order. The theory in its entirety from an economic standpoint is defeated but the modern-day economic policies carry the political weights.

Popularized during the 16th century in Europe, Mercantilism is an economic system that is built on acknowledging the power of nation-states. Early mercantilists believed a nation’s wealth is determined by the accumulation of gold and silver and requires a favourable balance of trade i.e. exports more than imports. Traditionally, the theory supports property rights to be controlled by few with monarchs at the helm of power venturing to achieve the nation’s economic objectives. Moreover, the imperialistic skin of the system results in a highly subsidized export policy with tariffs imposed on imports. In contrast to the contemporary international trade theories, mercantilism believed trade inevitably follows a zero-sum game ─ when two countries trade, one country loses as the counterpart gains. Rebuffing the free trade format, the quintessential aim of the State was to achieve a current account surplus, therefore treading towards ‘Political Nationalism’.

Basic tenets of the Mercantilist thought are widely considered to be outdated since most of the powerful countries follow a comparative advantage model. Although hard to define, the theory broadly emphasized economy functionaries to support the military. The goal of the nation-state was to accumulate wealth in order to fund the army and achieve certain nationalistic values. Alienating the idea of trade dependency, the European system during their course of trading championed economic independence. In the mid 19th century, ‘Corn Laws’─ tariffs imposed on imports in favour of local domestic producers in Britain were repealed.  Under Adam Smith’s ideological attack, mercantilism tried to accommodate the economic transition of removing duties without changing the fundamental philosophy. 

Paradoxically, mercantilism through the 19th century pursued inane economic and trade principles in American colonies. However, to advance a better trade theory with more political and economic freedom─ Smith in his Glasgow lecture explicitly contested the mercantilist system of trade.  Withdrawing the indefinite power to only merchants and bankers, Adam Smith noted free trade benefits both parties. He laid special emphasis on the specialization of skills to attain economies of scale, therefore, reducing cost and ultimately benefit from a trade agreement.  

Referring to the collusive relationship between government and business entities, Smith believed such a strategic monopoly would be deleterious. To benefit the entire population a free market must be adopted, otherwise called the laissez-faire system. 

Post Smith, economists generally believe that free trade is a positive-sum— If both parties did not benefit from a deal, the loser could simply walk away.  

Modern day mercantilism 

After the development of advanced theories in international trade, contemporary mercantilism that satisfies political interest through economic means needs critical evaluation. Robert Atkinson in his well-articulated paper argues, China’s innovation mercantilism has prioritized long term producers welfare by establishing a system of Autarky. Mercantilism in the 21st century shares the political vision and slightly modifies the economic means in controlling property rights. 

Boosting trade surplus by accumulating foreign exchange reserves, thus establishing an export-driven strategy was China’s model. Focusing on China-owned firms and not established, the growth story has imbibed a template to achieve absolute advantage especially in the area of innovation.  Piling up the US dollars, China was labelled to be manipulating currency amidst the trade war with the Trump administration. The Chinese visionary seems to be impressed by mercantilist principles as a shield to protect the party’s political interest.  Sophisticated economic policies and growth trajectory is unable to mask China’s disharmony with the World Trade Organization (WTO). The recent trade restriction placed by China on Australia’s beef and barley export is one of the tantrums by Xi’s government. Although it is easy to identify the mercantilist characteristics in China’s way of operation does not mean the rest of the world is stripped from a similar agenda. Trump has time and again argued that the US “loses” money due to importing goods from outside. He further contextualizes the statement by stating that money spent outside is making foreign competitors rich at the cost of American business owners. Since 2018, heavy tariffs have been imposed marking the beginning of China-US trade war. Both the countries threatened to increase tariffs on each other’s imports. Trump called for China to open its domestic market to US companies. In return, China required them to transfer their technology to Chinese companies. Unable to afford to be a command economy, China might relook at the economic strategy but at least under Xi’s leadership, there is no sign of abandoning the roots of mercantilism.

Trump’s agenda has been clearly flagging the colours of mercantilism in the most populist format. He insisted on renegotiating the North American Free Trade Agreement (NAFTA), expanding restrictions to immigration. 

Mercantilism fundamentally opposes immigration because it takes jobs away from domestic workers- the rule of trade applies for labourers too. Naturally, countries with abundant economic opportunities exercise the immigration rules based on the zero-sum logic. 

Mapping India’s version

India aspiring to be the regional power is no exception in resonating the ideas of mercantilist policies. Although it is not a pure form, the nationalistic agenda weaved in economic policies can place India as a benevolent player. Walking out of Regional Comprehensive Economic Partnership (RCEP) reflects India’s priority to protect domestic political interests over a long run free trade spirit. India’s mounting foreign exchange reserves also indicate a pattern that is similar to that China’s before 2018. 

The onset of the pandemic induced surge in foreign exchange reserves, but there was an increasing trend even before the Covid-19 crisis. While imports fell by 40.6 per cent in the last four months, the foreign exchange reserve increased to $ 535.25 billion. The lockdown had an upending impact and appropriated an export-driven strategy under the banner of atma nirbhar bharat. Banning of 59 Chinese apps after tension in the border and indirectly tightening the Foreign Direct Investment (FDI) from China reiterate India’s renovation of mercantilist thought. The assertion of protectionist policy would depend on the economic power the sovereign nation has in the global economy. A country that plays a trivial role in the global economy might not be able to strategize or at least reap political benefits mercantilism.

The foundation for today’s nationalism and protectionism is laid by mercantilists, given the current global dynamics and trade wars, India needs to relook its trade policy afresh. Extensive input from businesses and other stakeholders, alongside systematic coordination with various domestic regulators, may help India firm up its negotiating position and update its trade policy to version 2.0 which will account for the contemporary economic realities as well. Another implicit feature of mercantilism is the government’s connection with business entities exercising monopoly. The control of the capital in a few hands would restrict an equitable society to develop. There is no absolute monopoly but  Reliance group has managed to bring in investments amounting to INR 1,52,000 crores after successfully running the jio model for four years. The major four conglomerates Tata, Ambani, Birla and Adani of India managed to elevate the share prices in the past six years. The market capitalization of the Reliance group climbed up by INR 4.86 lakh crore. 

The present context might not relate to the State controlling the capital or property rights but the essence of mercantilist ideas is obvious in lobbying for companies that remain close to the government. Inward looking trade policy with an export-based structure that is beneficial to a handful of people under the banner of national interest is yet another version of Mercantilism.

To sum up, it would be inappropriate to study the core economic system in an objective framework.  Accounting for the political and social changes, trade policies in recent times hold the undertone of mercantilism. Specifically, developing countries usually ape the policies of strong economies taking up the defence position. In a reactionary spree, India is no exception to rekindle nationalistic ideas that have been used in China’s model of growth. The real effect of the domestic policies and vision for trade has to be evaluated keeping the repercussions on the economy in mind.

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