SMU SOE Seminar (Mar 15, 2017): Unequal Gains, Prolonged Pain: Protectionist Overshooting and the Trump-Brexit Era

We examine the influence of labor market frictions on democratic political responses to global shocks and highlight a dynamic feedback mechanism by which sharp policy reactions can slow future labor market adjustments. Our dynamic political economy model demonstrates the potential for protectionist overshooting, a phenomenon where an unanticipated permanent terms of trade or technology shock generates a sharp spike in trade barriers that gradually diminish over time. The more unequal the initial distribution of gains and losses from the shock among the population, the greater the magnitude of protectionist overshooting will be and thus the longer the induced policy distortion will persist: unequal gains, prolonged pain. Using the model as a guide, we then examine several key data markers for the U.S. and U.K. labor markets, which are consistent with the recent populist support for both Brexit and Trump, and suggest the potential for further protectionism.

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