By Martin Wolf

The Marshall Plan is rightly regarded as among the most successful pieces of economic diplomacy in history. Yet it was not the money that mattered most. It was rather that it allowed war-battered Western Europe to move away from mutually impoverishing bilateralism in trade.

It did so by removing the dollar shortage that drove the emphasis on bilateral clearing. Institutionally, it did so by creating the European payments union within the Organization for European Economic Co-operation. This led to convertibility on the current account and so to the world of liberal multilateral trade that we all now take for granted.

The economic nationalists who are influential in the administration of Donald Trump would presumably condemn this achievement by their predecessors. They prefer bilateral balancing to multilateral balancing in trade, bilateralism to multilateralism in policy and the exercise of unilateral US power to institutionally entrenched co-operation.

We must be grateful that the catastrophes of the 1930s had then discredited the holders of similarly narrow nationalist and protectionist visions. It is horrifying to imagine what would have happened if these people had held sway. They would have been desperately wrong then. They are wrong now. They must lose. Our fate depends on it.

In 1945, Howard Ellis, a professor at Berkeley, published an important essay on the perils of the bilateralism then so rife in trade. In this, he concluded that “bilateralism is, in many respects, the most objectionable form of restraint placed on international trade”.

Why might this be so? Consider what our national economies would look like if every company was required to balance its sales and purchases with every other one. This would be insanely costly - indeed insane. It is to allow a vastly more complex division of labour that we have money, and so the possibility of balancing the value of incomes against expenditure across the economy as a whole. Trade allows the same thing to happen across borders, thereby delivering improvements in prosperity, as Richard Baldwin argues in
The Great Convergence. The move from bilateral to multilateral balancing nearly 70 years ago was a starting point for the explosion in trade that has driven global growth. (See charts.)

In a multilateral economy, bilateral balances do not matter. Of course, overall budget constraints still do. But the fact that I run a consistent deficit with my nearest supermarket should be of no concern to me (or it), so long as I do not exhaust my overall resources.

It was for much the same reason that the global framework of trade diplomacy has been both multilateral and non-discriminatory. It also sought to marry trade liberalisation to currency convertibility, initially on the current account. Yet in constructing this global regime, it was also understood that an important political difference exists between commerce within countries and across borders: the latter involves distrusted foreigners. So the best way in practice of regulating commitments to trade was through reciprocity. The combination of non-discrimination with reciprocity was duly made the foundation of the postwar global trade regime.

This is all very well, say today’s nationalists, but trade does not balance. Some countries run vast surpluses and other vast deficits. The former are predatory and the latter ruinous. This, they argue, must stop. Bilateralism, they insist, is also the way to do this because bilateral imbalances are now so huge.

This is grossly misguided. First, there is no way to ensure bilaterally balanced trade other than by constant - and constantly varying - interference in the decisions of private businesses and individuals. Indeed, it must lead to a planned economy. It is ridiculous for this idea to be propounded by an administration notionally dedicated to economic liberalisation. Second, this would be a game of “whack a mole”: every time the US sought to cut its deficit with country A, it would rise with countries B or C, as imports were diverted. Third, the outcome would be unmanageably complex and uncertain trading rules: if all members of the World Trade Organization regulated trade with others bilaterally, more than 13,000 such agreements would exist. That would be mad. This approach would tear up all existing agreements, creating trade policy chaos.

As Stephen Roach notes, current account deficits and surpluses are macroeconomic phenomena - a point that escapes Mr Trump’s protectionist advisers. The balances are the difference between a country’s aggregate income and spending, or its saving and investment. The Chinese and Germans spend less than their incomes and Americans more. The latter, he argues, must be more prudent, not blame foreigners.

Mr Roach is largely right but not wholly so. If a very large economy, such as the US, were to raise its desired domestic savings substantially, when global real interest rates are so low and demand so weak, it could deliver a global recession. I have argued that unsustainable US spending drove global demand, before the financial crisis of 2007-08. In this context, the excess savings of China, Germany and some others are a global concern, because we lack ways of absorbing them into productive and sustainable investments elsewhere.

Thus, overall imbalances are a legitimate issue for public policy, as John Maynard Keynes argued. But these cannot be dealt with through bilateral deals. That way lies policy failure and poisonous ill will. They need to be dealt with multilaterally, because they are a multilateral phenomenon. It would also be far more productive to address them via macroeconomic policy and the capital account than via trade. The bilateralism now touted by the Trump administration is a delusion. It will not work. But it will do huge damage. It must be buried.