Global Imbalances, Tariffs, and Industrial Policy

Global imbalances denote the distribution of countries' current account balances, identically equal to the difference between two forward-looking aggregate variables: national saving and domestic investment. Industrial and trade policies have traditionally not been considered important drivers of aggregate saving or investment, and therefore of current account balances. The former because most industrial policies are small in scope; the latter because permanent tariffs have no intertemporal effect in the textbook model, with an offsetting appreciation of the real exchange rate. The rapidly growing use of both industrial and trade policies in recent years calls for a reassessment. This paper presents a framework to think about the role of both policies. For industrial policy, we make the important distinction between the traditional sector-specific policies via subsidies or other targeted instruments ("micro industrial policy") and broader policies ("macro industrial policy") that aim to promote industrial developments and competitiveness through the deployment of more aggregate instruments such as financial repression, foreign reserve accumulation, or capital controls. A key finding is that micro industrial policy tends to increase external balances if it fails to raise aggregate productivity. By contrast, macro industrial policy can, under some conditions, boost the current account, forcing other countries to adjust. Yet, these policies often come at the cost of suppressed domestic consumption and possibly domestic welfare. Our analysis confirms that tariffs are a weak tool to improve current account balances. Finally, traditional macroeconomic drivers—such as fiscal policy, demographics or credit cycles—remain critical drivers of global imbalances, especially for the United States and China.