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Aug 9th 2014
THERE is no better symbol of the benefits of globalisation than the container
ship. More than 9 billion tonnes of goods and materials were transported by sea
in 2012, with trade helping to lift global growth rates. An ever-expanding web
of links connects rich and poor; developing countries now account for around
60% of seaborne trade. But ships also show the rotten side of trade:
protectionism. In 2006 China enacted a Long and Medium-Term Plan to enlarge
its shipping industry by 2015. It has been successful (see left-hand chart).
New research shows its attempts to tilt markets may be having a bigger impact
than previously thought.
Protectionism in shipping is centuries old. In a 1905 study* Royal Meeker, an
American economist, explained how a system of subsidies developed under
Elizabeth I. Rewards were based on tonnage of ship, and included bounties
paid to fishing boats heading for the North Sea in search of herring. Adam
Smith provided an early economic analysis in The Wealth of Nations ,
lamenting: It has, I am afraid, been too common for vessels to fit out for the
sole purpose of catching, not the fish, but the bounty. The handouts distorted
the shipbuilding industry, resulting in an oversize fishing fleet and a
misallocation of resources.
Far from avoiding the distortion Smith spotted, governments have been keen to
nurture it. The early logic was military. A strong merchant fleet meant lots of
boats that could be commandeered during times of war. One way to bolster
shipping has been to grant lucrative contracts for postal delivery: Britain s
Cunard lines benefited hugely from such a deal in the 1830s. Another method,
used by both America and Japan in the early 1900s, was easy finance, in the
form of cut-price government loans.
Modern shipping subsidies are used to build economic heft rather than military
might. Governments like shipping due to the knock-on effects of a booming yard.
Modern ships are huge (up to 400m long) and include up to 30,000 parts.
Assembling them is labour-intensive, and so is making the parts that outside
suppliers provide to the shipyards. A recent report by America s Maritime
Administration estimated that more than 107,000 people work in the country s
heavily protected shipyards. Adding in the companies supporting the yards, and
the shops and services that support these workers, the total ran to 400,000, an
employment multiplier of 4. So, the idea is, by helping shipping a government
indirectly supports workers in many other industries.
Yet economists views on subsidies have hardened over time. China s policy
provides subsidies both for the construction of ships themselves and for the
building or expansion of shipyards. These interferences can distort trade,
resulting in inefficient production. In deciding whether a subsidy flouts trade
rules the World Trade Organisation (WTO) uses a price gap approach. The idea
is simple: if a country is producing and selling something at a big discount to
what others are charging, there is probably something fishy going on.
Price gaps provide a quick warning system, but are a poor way to judge the full
extent of subsidies, according to a 2013 book by Usha and George Haley, of West
Virginia University and the University of New Haven. It is a static approach,
ignoring how demand for each shipyard s differentiated products varies over
time. It also fails to account for variations in efficiency. Whereas Chinese
workers may be relatively cheap, large South Korean or Japanese shipyards
exploit economies of scale that smaller Chinese yards cannot. The balance of
all these factors, in addition to subsidies, should influence a shipyard s
costs and prices.
From the crow s nest
Recognising this, a 2014 working paper by Myrto Kalouptsidi of Princeton
University provides a new way to spot subsidies and measure their impact. Using
detailed quarterly data on factors like a shipyard s age, size, capacity and
staffing levels Ms Kalouptsidi estimates cost functions the relationship
between a yard s output and its cost of production for 192 yards across China,
Japan, South Korea and Europe. By analysing data between 2001 and 2012, she can
isolate the impact of China s 2006 policy.
The results are striking. A simple price-gap approach shows that Chinese ships
cost 7.3% less than rivals . Controlling for quality differences Chinese ships
are seen as lower quality and so should be around 3.5% cheaper, even in the
absence of subsidies gives a 4% gap, hardly justification for WTO rage. But Ms
Kalouptsidi s estimates show this is just part of the story. Government help
artificially lowered Chinese firms costs by between 15-20%. The aid will have
included explicit subsidies and hidden benefits, such as tolerating losses at
state-owned yards. China s market share jumped as the policy was introduced
(see right-hand chart).
As in Smith s day, this has shifted resources. By comparing the costs and
productivity of the shipyards in her sample, Ms Kalouptsidi forecasts how the
market might have developed in the absence of China s subsidies. Her analysis
points to a big resource reallocation: absent the meddling, Japan s market
share would have been around 30 percentage points higher. Since many South
Korean or Japanese yards are more efficient than China s, it means that the
true cost of ship production may well have risen. Bloated by subsidy, China s
yards have turned out a surfeit of vessels, often poorly matched to customers
demands.
All this suggests the WTO and other trade-watchers may need to refine their
tools to help identify the full extent of subsidies. Other markets are ripe for
this kind of analysis. The global glut of solar panels owes much to
protectionism, according to the Hayleys book. Steel markets are badly
distorted by subsidies to producers, says the WTO. Subsidised solar panels
being exported aboard subsidised ships made from subsidised steel show just how
far those that seek free trade have to go.
Sources:
"History of Shipping Subsidies, Publications of the American Economic
Association", Royal Meeker, 3rd Series, Vol. 6, No. 3 (Aug 1905), pp. 1-229
"Detection and Impact of Industrial Subsidies: The Case of World Shipbuilding",
by Myrto Kalouptsidi, May 2014
"The Wealth of Nations", by Adam Smith (1776)
"Subsidies to Chinese Industry: State Capitalism, Business Strategy and Trade
Policy", by Haley and Haley (2013)
From the print edition: Finance and economics