Don’t worry about green subsidies as your path to prosperity

A trade war over clean technologies is brewing. The United States and the European Union, concerned that Chinese subsidies are threatening their green industries, have warned they will impose import restrictions in response. China, in turn, has filed a complaint with the World Trade Organization over discriminatory rules against its products under US President Joe Biden’s landmark climate legislation, the Inflation Reduction Act (IRA).

During a recent trip to China, U.S. Treasury Secretary Janet Yellen warned China directly that the United States would not stand by passively in the face of the Chinese government’s “large-scale support” for industries such as solar power, electric vehicles and batteries. Reminding her audience that the U.S. steel industry was previously decimated by Chinese subsidies, she made clear that the Biden administration is determined to prevent the green industry from suffering the same fate.

China has developed its ecological industry at breakneck speed. Currently, it produces almost 80% of the world’s photovoltaic modules, 60% of wind turbines and 60% of electric vehicles and batteries. In 2023 alone, solar power capacity increased by more than the total installed capacity in the US. These investments resulted from a variety of government policies at the national, provincial, and municipal levels, which enabled Chinese companies to rapidly acquire knowledge and expertise to dominate their markets.

However, there is a big difference between solar cells, electric vehicles and batteries on the one hand, and older industries such as steel and gas-powered cars. Green technologies are crucial in the fight against climate change, making them a global public good. The only way we can decarbonize the planet without undermining economic growth and reducing poverty is to shift to renewable energy sources and green technologies as quickly as possible.

The case for subsidizing green industries, as China has done, is impeccable. Beyond the usual argument that new technologies provide know-how and other positive externalities, the immeasurable costs of climate change and the enormous potential benefits of accelerating the ecological transition must also be taken into account. Moreover, because knowledge flows across national borders, Chinese subsidies benefit not only global consumers but also other companies in the global supply chain.

Another strong argument comes from second-best reasoning. If the world were organized by a social planner, there would be a global carbon tax; but of course there is no such thing. Although many regional, national and local carbon pricing schemes exist, only a small proportion of global emissions are priced close to the true social cost of carbon emissions.

In these circumstances, a green industrial policy has a double benefit – both by stimulating the necessary technological learning and by replacing carbon prices. Western commentators who utter scary words like “overcapacity”, “subsidy wars” and “China trade shock 2.0” have put the matter in exactly the opposite order. An overabundance of renewables and green products is exactly what the climate doctor ordered.

China’s green industrial policy has contributed to some of the most important victories to date in the fight against climate change. As Chinese manufacturers expanded production capacity and took advantage of economies of scale, the costs of renewable energy fell sharply. Over the decade, solar prices have fallen by 80%, by 73% for offshore wind, 57% for onshore wind and 80% for electric batteries. These gains confirm the creeping optimism in climate circles that we may be able to keep global warming within reasonable limits. Government incentives, private investment and learning curves have proven to be a very effective combination indeed.

Thanks to the IRA, America already has its own version of China’s green industrial policy. The bill provides hundreds of billions of dollars in grants to facilitate the transition to renewable energy sources and green industries. While some tax incentives do favor domestic producers over imports (or are only available under stringent sourcing requirements), these disadvantages must be seen in the context of the policy trade-offs necessary to ensure passage of the regulations. These may be small prices to pay for what many analysts consider a “game changer” in climate policy.

Countries, of course, have other interests beyond climate. They may have legitimate concerns about the consequences of other countries’ environmental policies for jobs and innovation potential at home. If they decide that these costs outweigh the benefits for the climate and consumers, they should be free to impose countervailing duties on imports, as trade rules already allow. It would be better for the whole world if they didn’t react this way, but no one can or should stop them.

In fact, before globalization and tightening trade rules gained momentum in the 1990s, it was not uncommon for countries to negotiate informal agreements with exporters to ease the surge in imports and keep exporters reasonably happy. Think of the Multi-Fiber Clothing Agreement of the 1970s and the voluntary restrictions on car and steel exports of the 1980s. Although economists condemned these programs as protectionist, they did little harm to the global economy. Essentially, they acted as safety valves: by allowing the pressure to escape, they helped keep the peace in trade.

Governments should not condemn green industrial policy as a breach of norms or a dangerous breach of international rules. Moral, environmental and economic arguments favor those who subsidize their green industries over those who want to tax the production of others. – Project syndicate

Dani Rodrik, professor of international political economy at Harvard Kennedy School, is president of the International Economic Association and author of Straight Talk on Trade: Ideas for a Sane World Economy (Princeton University Press, 2017).