Will digital services remain in the vanguard of the global trade recovery?

This article is brought to you thanks to the collaboration of The European Sting with the World Economic Forum.

Author: Johannes Fritz, Chief Executive Officer, St.Gallen Endowment for Prosperity through Trade & Simon Evenett, Founder, St.Gallen Endowment for Prosperity through Trade

• As rising shipping costs crimp trade in goods, trade’s contribution to the pandemic economic recovery is ever more reliant on digitally delivered services.
• Yet digital service providers are contending with a regulatory onslaught that generates risk premia and is holding back growth.
• Whether via binding trade obligations or widely-accepted best practices, maximizing the contribution of digital services to the recovery depends on curbing policy uncertainty.

This month started with welcome news from the World Trade Organization (WTO). Despite many service sectors being clobbered during the pandemic, year-on-year growth in trade in services was 25% in the third quarter of 2021. Reduced face-to-face contact didn’t stop trade in services growing almost as quickly as trade in goods that quarter (24% compared to 25%), the latter being held back by persistent supply chain woes. With the rate of growth of goods trade falling sharply in the third quarter of 2021, trade growth is increasingly dependent on expanding cross-border services trade.

Air transport services still lag well behind pre-pandemic peaks, but other services, notably digitally delivered services, have more than taken up the slack. At first glance, trade growth rates of 24% seem very healthy. So why worry? Apart from the obvious point that the growth may reflect in part a bounce back from pandemic lows, the question arises as to whether growth at that pace can be sustained. What could possibly go wrong? Badly designed and executed public policy.

Last year may have been a bumper year for services trade. It was also a year of legislative and regulatory overdrive in the very regulatory areas that underpin the cross-border delivery of digital services.

This is not just a matter of governments favouring local service providers, which happens and is naïve to discount in an age of growing geopolitical rivalry. But often as damaging is the policy uncertainty generated by the onslaught of new or poorly designed regulation where the private sector is left guessing what form implementation will take. Shareholders expect corporate executives to factor in uncertain threats and the result are risk premia that chill expansion plans.

Data flows and international digital commerce

The cost of policy uncertainty is especially high when it comes to cross-border data flows. Without legal cross-border data flows, organizing international trade goes back to phones and fax machines. If worries about data protection compliance can threaten global goods supply chains, they can become a prohibitive burden for digitally contracted or delivered goods and services.

Suppliers need addresses, contact details and possibly more sensitive information to fulfil orders, from customers at home and abroad. Concluding a cross-border transaction online without sending data abroad is now practically impossible and certainly inefficient. Faced with regulatory uncertainty from volatile data governance rules, firms may be paralysed in their expansion or withdraw from export markets altogether.

Pushing where it hurts

Regulatory activity in data governance was off the charts in 2021, according to the Digital Policy Alert (DPA). The DPA observed 361 data governance policy or regulatory changes, making it by far the most active policy area it tracks. The runner-up, competition regulation and enforcement, only shows a third of the activity (129 proposed or implemented changes last year).

Virtually every major economy covered by the Digital Policy Alert has issued at least one law, regulation or guideline on data protection in 2021. Big emerging markets, including China and Brazil, adopted or began enforcing comprehensive data protection laws last year and are now issuing a steady stream of implementing regulation. In the absence of a comprehensive federal US data protection law, no less than 40 US state legislatures considered or adopted consumer privacy laws in 2021.

Regulatory developments in the EU exemplify the kind of uncertainty businesses reliant on digital delivery are facing. The invalidation of the EU-US data transfer arrangement by the Court of Justice of the European Union (CJEU) in the Schrems decisions led to over a year of interim solutions with unclear merit.

The European Commission attempted to provide legal cover for international data transfer through Standard Contractual Clauses (SCCs) and an exception for “appropriate safeguards” for qualified trading partners in the General Data Protection Regulation GDPR (Art. 46). Although the judicial decisions only referred to data transfers to the US, they unleashed a global wave of uncertainty.

Leading the way, South Korea and the UK entered into adequacy negotiations to allow free data flows and restore lost certainty. It remains to be seen whether the European Commission’s official stamp of approval through SCCs, Art. 46 GDPR or the adequacy decisions can withstand CJEU scrutiny if challenged. In December 2021, the Austrian data protection agency may have lit the fuse with its ruling that the use of Google Analytics by an Austrian website constitutes an illegal data transfer. The ruling explicitly opines that its principles apply to other US service providers. This saga goes on and on.

Compliance nightmare holds back global recovery

It is challenging for even the largest multinationals to remain current on data protection requirements. Tracking regulatory innovation is one thing, reconfiguring websites and applications to comply in time is an entirely different affair. Without international alignment on minimum requirements or safe harbours, the resources required to comply with a flurry of data protection regulation may be all but prohibitive for small and medium-sized enterprises (SMEs) or aspiring exporters from developing countries, stifling competition and inclusion over the long run.

What is the World Economic Forum doing about digital trade?

What is the World Economic Forum doing about digital trade?

The Fourth Industrial Revolution – driven by rapid technological change and digitalization – has already had a profound impact on global trade, economic growth and social progress. Cross-border e-commerce has generated trillions of dollars in economic activity continues to accelerate and the ability of data to move across borders underpins new business models, boosting global GDP by 10% in the last decade alone.

Embracing Digital Trade

The application of emerging technologies in trade looks to increase efficiency and inclusivity in global trade by enabling more small and medium enterprises (SMEs) to repeat its benefits and by closing the economic gap between developed and developing countries.

However, digital trade barriers including outdated regulations and fragmented governance of emerging technologies could potentially hamper these gains. We are leading the charge to apply 4IR technologies to make international trade more inclusive and efficient, ranging from enabling e-commerce and digital payments to designing norms and trade policies around emerging technologies (‘TradeTech’).

The major concern here is that regulatory uncertainty itself is becoming a barrier to entry – a retrograde step in an era where promoting inclusivity is at a premium. The current free-for-all could be managed so much better, nationally, regionally and multilaterally.

Trade negotiators worldwide recognize the importance of data flow regulation, yet the issue remains the bottleneck in the multilateral effort at the WTO. By the end of last year, the 86 WTO members had converged on negotiation text on many aspects of a digital transaction – with the notable exceptions of cross-border data flows and data localization. Whether through binding trade obligations or widely-accepted best practices, maximizing the contribution of digitally-delivered services to the global economic recovery depends on curbing unwarranted policy uncertainty. What seems like a technical issue for experts soon becomes a roadblock to the faster recovery of living standards around the world.