The idea — increasingly popular among policymakers, particularly in the West — that international trade and investment should predominantly take place between close geopolitical friends is supposedly a solution to a darkening geopolitical environment, but the economic implications could be as disastrous as the rhetoric is slick.
Since we cannot trust all of our trading partners to have our best interests at heart, the argument goes, we should do our best to concentrate our trade and investment where they are unlikely to be threatened by geopolitical manoeuvring. Superficially, there might seem to be something to this idea: China has tried to leverage its weight in international trade to extract political concessions from countries as far afield as Australia and Lithuania. Surely it would be better for countries to concentrate their interests in places where the geopolitical risk of doing business is minimised?
The first problem this idea runs into is a practical one. How does a country diversify its trading partners? Trade and investment may be recorded by statistical agencies as taking place between two countries, but in practice, these transactions take place between businesses. Even if it made geopolitical sense for a country to have a more diversified set of trading partners, the means by which governments can influence these decisions are limited to old-fashioned state-subsidised industrial policy and protectionism: neither of which are at all likely to make economies better off. Even if governments could persuade businesses to change where they do business, why would governments be any better at identifying and mitigating risk than entrepreneurs who at least have skin in the game?
More broadly, the newfound enthusiasm for ‘friendshoring’ is a result of drastically overestimating the extent to which geopolitical risk itself — rather than panicked political reaction — threatens national economies. Almost a year on from the Russian invasion of Ukraine, the hopes that economic coercion could be brought to bear to force the Russian army back behind its borders have largely faded. Russia will still pay a steep price for its unprovoked aggression, due to unprecedented sanctions, but the bill will come due only in the medium term. And most importantly of all, the notion of onshoring or friendshoring production runs counter to the most basic principle of economics — comparative advantage. The likely result will be increased costs, higher inflation and very little additional security.