The free traders of the world are panicking that the New World Order they've built will be swept away by a rising tide of protectionism not unlike that of the 1930s. Not to worry says Paul Krugman. Under the current circumstances of global slump, a little protectionism might not be such a bad thing.
The problem is that a fiscal stimulus applied to any one country will tend to help countries that export to it, without those countries having to take on that burden of government debt themselves. So the tendency will be for everyone to under-do the fiscal stimulus to their own economy and try to benefit from that of their trading partners.
International coordination would ease the problem, but if the mood at Davos is any indication, prospects for that are not looking good:
[A] collective sour mood has developed, as the ugly reality reveals itself: the economic crisis is going to take quite a bit of time to resolve itself. Countries with overlevered, dud banks and overextended consumers are nearly certain to suffer a permanent hit to their standard of living. The highest profile incidents at Davos were either outbursts or harsh criticisms of the financial order once aggressively promoted by the US. But as telling were journalists' comments about widespread anger (not just gloom), which does not bode well for cooperation.
With that being the case, Krugman points out that a little protectionism could actually be helpful. It would encourage each country to apply the proper amount of stimulus because each country would then enjoy the benefits of its own stimulus:
Now ask, how would this change if each country adopted protectionist measures that "contained" the effects of fiscal expansion within its domestic economy? Then everyone would adopt a more expansionary policy — and the world would get closer to full employment than it would have otherwise. Yes, trade would be more distorted, which is a cost; but the distortion caused by a severely underemployed world economy would be reduced.
It's not the best answer to the current global crisis, he's careful to point out - the best would be coordinated international policy - but it would make the world as a whole better off under current liquidity trap conditions.
Oh, and it will undo 70 years of trade negotiations and it might take decades to get back to the current state of free trade, if ever.