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Green Trade Wars

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The world economy is in tatters. On the one hand, a tiny black swan in the form of a virus is creating a social and economic havoc and provoking a correction of financial exuberance that to some extent was long overdue. On the other hand, a political climate of trade wars (be it Trump´s policies or Brexit discussions) represents a real menace to the globalised economy that has served the planet so well in the last decades.

In both areas there is both reasons for growing concern but also of increased hopes. On the COVID front, the forceful actions of governments and central banks will alleviate the tensions and help reduce the long-term consequences of the pandemic. Second, the morphing of trade wars into trade agreements at the last-minute show that politicians understand that a poor agreement is always better than a good war. These elements may not represent an existential threat to the world economy as we know it.

But there is another menace is the horizon that we may be underestimating: trade wars coming not from populism, but from the much needed and long overdue fight against climate change.

What we know so far? We know there is an ample public support in Europe, a mixed bag in the US and a much more reduced awareness elsewhere. We know that big corporations, especially in the area of finance, are considering the issues of ESG as strategic going forward. The outcome of the recent climate change conference in Madrid (Chile COP 25) is cause for hope: whilst governments were unable or unwilling to reach an agreement, civil society at large displayed a level of compromise not seen before. Particularly striking is the embracement of financial firms, be it global banks or asset managers, to the ESG values, and in particular to the fight against climate change, even in jurisdictions where governments are departing from global consensus.

What are the chances of a global political agreement on climate change? Very slim, I am afraid. The most probable outcome may well be a patchy solution with different levels of ambition and a staggered adoption by countries of more stringent policies as social demand and technological change quick in. In this context, Europe will lead the race towards a sustainable economy, with the US not so far away, and emerging economies like China and India most probably lagging behind.

This landscape will transform the rules on which trade has been based. Given that respecting ESG principles entail costs, the producers of goods and services based in leading jurisdictions in the fight against climate change fight will become less competitive, and those based in countries lagging behind the fight against climate change will become formidable competitors. But that situation will be unacceptable.

The sole way to restore fair competition will be using carbon taxes in the form of tariffs imposed on imported goods that are commensurate to the different carbon print of their sector and country of origin. This is not a new idea: it has been proposed by relevant authorities (see, for instance, Adair Turner´s recent article on the subject). But It´s hard to visualize how this can happen in a smooth fashion.

On the contrary, countries will surely disagree on the carbon print of good and services being traded, with importing jurisdictions overestimating them and exporters underestimating them. Obviously, the EU and the UK (post Brexit), that are emerging as global leaders in the fight against climate change, will have a deal within reach. But what about trade between the EU and China, India or Indonesia? Even Japan and the EU may also struggle to find a balance on fair carbon tariffs. I wouldn´t bet on agreements being found and global trade continuing.

If we were to include services, the complexity of any deal would escalate. Think about tourism, a carbon intensive sector even though the carbon print is generated by foreigners. How would the EU adjust for it in climate trade deals?

The end-result may well be a world with isolated economic blocks around diverging ESG ambitions. Welcome to the Brave New World of Green Trade Wars fought around fight against climate change. Just in case you thought the coronavirus wasn´t enough.

José María Roldán, Chairman and CEO of the Spanish Banking Association