'Buy American' cuts both ways
Some fear growing global trade protection measures could make a deep recession even worse.
NEW YORK (CNNMoney.com) -- Some fear that the protectionist trend spreading across the globe could escalate into a growth killing global trade war.
The "buy American" provision that Congress slipped into the stimulus bill last month is just one of several protectionist measures governments are calling for during this unprecedented economic crunch.
The buy American provision requires contractors who get U.S. stimulus money to buy U.S.-made steel, iron and other manufactured goods.
Granted, the provision is considerably weaker than initially proposed. It exempts companies from 20 developed nations, such as Canada, Japan and members of the European Union. It also allows contractors to buy foreign materials if buying equivalent U.S. goods would increase project costs by at least 25%.
Still, it applies to China, Brazil, India and Russia, among others, and it is part of a growing herd of protectionist measures. Governments, spending billions to prop up their economies, are under voter pressure to devote national money to help national industries.
But whether nursing domestic industry is good, bad, or simply hasn't gone far enough to matter is up for debate.
Supporters in the United States say protecting domestic industries, no matter what other nations do in retaliation, is vital if we are to maintain our manufacturing capability and the high paying jobs that go with it.
"The manufacturing base here is totally inadequate to support first-world living standards," said Alan Tonelson, a research fellow at the U.S. Business and Industry Council, which represents small- and mid-size manufacturers.
A lack of manufacturing "is how we got here in the first place," said Tonelson, referring to the recession.
"The country isn't going to import its way out, spend its way out or borrow its way out," he added."It's got to produce its way out."
Although some U.S. trading partners reacted strongly against the original buy American rule - especially Canada and Brazil, the latter of which threatened a lawsuit - Tonelson sees little downside to more government support.
Many of our trading partners, he said, already have their own protectionist measures in place, whether they are explicit or hidden in the form of government bureaucracies that favor their own firms.
"[U.S. manufacturers] are already shut out of many procurement contracts," Tonelson said. "How much more harm could these provisions do?"
Although the buy American clause was watered down, Tonelson sees it as a springboard for further protections.
He named renewable energy as one sector deserving more government support. That support would go above and beyond the 30% tax break the stimulus plan offered to manufacturers of things like wind turbines and solar cells, and might require direct cash payments from the government.
"We've got this important precedent that's been set," he said. "We're going to try to beat this as far as we can."
It's precisely that line of thinking that's got the free traders so worried.
Buy American, in its watered down form, isn't seen as particularly restrictive. But there's a fear it could grow. To free traders - including former Presidents George Bush and Bill Clinton - that means perpetuating inefficient industries at home, driving the cost of goods up and the quality down, and hampering a global economic recovery.
A host of other countries have enacted or are pushing for various forms of government protection for their domestic industries.
For the last year or so England's Prime Minister Gordon Brown has touted a "British jobs for British workers" campaign as the country attempts its own form of stimulus - a campaign that drew fire for being illegal and maybe even racist.
China recently expanded a tax break to cover exporters, a move many saw as protectionist. Turkey, Indonesia, India and Russia are just a few of the countries that have raised tariffs or placed other restrictions on imports. All this comes on top of the auto bailout in the United States, Europe and maybe soon Japan.
"That's already getting big, and we're just at the start," said Jeffrey Schott, a senior fellow with the Peterson Institute for International Economics.
The steel industry is sometimes held up as an example of why protectionism doesn't work. Facing stiff foreign competition in the early 1980s, the U.S. steel business fought for - and won - protective tariffs on imported products from their overseas competitors.
Yet many went out of business anyway, relying on protectionism instead of making the painful yet necessary reforms that may have kept them in business.
Schott certainly wants domestic manufacturing jobs; he just doesn't think trade protections are the way to get them.
"Politicians are getting pressed, they are concerned about money going abroad, but that's the short view," he said. "If you impose restrictions, you're just going to raise the cost of goods being produced. The sustainability of the recovery will be put in jeopardy."
There is another danger, too. Firms that gain government protection may be forced by the government to cater more to the domestic market.
This is already happening in banking, according to Paul Donovan, global economist at the Swiss bank UBS.
Donovan said the British government is requiring banks it bailed out to restrict lending abroad and free up money for the home front.
"It's making it more difficult to be truly global," said Donovan.
In a global economy, having banks looking inward is just as dangerous as governments looking inward.
"You had a series of national responses to a global crisis," he said, "We need consistent, global regulation, not inconsistent national regulation."
The most extreme example of protectionism gone awry is the Smoot-Hawley Act of 1930. In an attempt to protect domestic manufacturers, the law put a tariff on a broad range of imports coming into America. Many now say it played a key role in turning a recession into a depression as other nations retaliated with their own tariffs and global trade ground to a halt.
No one says we're anywhere near that.
Some say even the measures we've seen so far, buy American among them, are merely politically motivated blips, installed to placate the voting public but then quietly eased by the trade negotiators.
"Obama's trade policy makes clear that the administration will pursue open trade," said Sean West, a U.S. policy and trade strategist at Eurasia Group, a political consultancy. "Despite minor distortionary acts, fears of real U.S. protectionism leading to a trade war are overblown." 
