The Economic Mechanism Behind the Populist Backlash to Globalization

The increase in populism that import competition causes has its roots in import competition’s adverse effects on local labor markets

Globalization has fueled the rise of populism in industrialized countries. Specifically, increasing trade with low-wage countries has increased support for populist parties and candidates in the U.S. (Autor et al. 2020) and in Europe (Malgouyres 2014, Caselli et al. 2019, Barone and Kreuter 2019). One might suspect that these political consequences of trade integration relate to the labor market effects of international trade (Autor et al. 2013, Dauth et al. 2014). However, trade may affect voting behavior by other means as well. Obviously, quantifying the relevance of the different channels through which trade affects populist support is important when it comes to policy conclusions. A policy geared at mitigating the populist backlash to globalization must target the underlying economic mechanisms, if it does not want to follow the populist approach of winding down international cooperation entirely.

In a new paper about to appear in the Economic Journal and co-funded by INET, Dippel, et al. (2021) analyze the economic channels through which trade with low-wage countries spurs populism. Using a novel method that identifies both international trade’s impact on voting and the underlying mechanisms, the paper shows that the increase in populist support caused by import competition stems from import competition’s adverse effects on local labor markets. For the case of Germany, the paper shows that the populist backlash to globalization would be even stronger if international trade affected labor markets only. The reason is that trade affects voting by other channels, too. Those other channels turn out to be politically moderating in the aggregate, and partly offset the populist backlash from the labor market consequences of increasing international trade. This has a striking implication: international trade would actually decrease populist support if its negative labor market consequences could be avoided. It follows that policies geared at mitigating the populist backlash to globalization must focus on the labor markets, first and foremost.

Right-Wing Populism in Germany and Its Roots in the Far-Right

In international comparison, Germany is a latecomer to the populist surge. Germany’s principal right-wing populist party, the “Alternative for Germany” (AfD), was founded only in 2013, and only after developing a distinct anti-immigration agenda did it manage to gain seats in the federal parliament and all the state parliaments. However, the research in Dippel et al. (2021) reveals a strong correlation between voting support of the AfD and voting support of more extremist right-wing parties in years before.

In a first step, the paper shows that for the 408 German counties (Kreise) regional exposure to import competition from China and Eastern Europe increased the vote share of far-right nationalist parties over the period 1990-2009. In a second step, the paper shows that this effect can be explained by labor market adjustments to international trade. In the last step in the argument, the paper shows that the initial effect on far-right party support translates into increasing support for the right-populist AfD in more recent elections.

The German case is interesting because overall the German economy benefitted greatly from international trade integration. Germany’s export-heavy industries managed to increase their sales to new foreign markets. Consequently, the rise of China and the fall of the Iron Curtain led to substantial overall job growth, as Dauth et al. (2013) show. But this generally positive development conceals pronounced regional differences. Depending on their industrial structures, counties that benefitted from new export opportunities experienced significant upturns in the local labor markets. In those, the electoral support of nationalist parties decreased. By contrast, counties struck by intense import competition saw their local labor markets decline. This was mirrored in increasing support for nationalist parties.

Delving deeper into the overall effect of international trade on populist support, Dippel et al. (2021) perform an individual-level analysis to investigate who changed their voting behavior in reaction to import competition. It turns out that the effect is centered on low-skilled workers in the manufacturing sector. Higher skilled individuals or workers in the service sector do not change their political affiliations in reaction to the trade shock. That is to say that the individuals who increase their support for nationalist parties are those most negatively affected by the labor market consequences of increasing international trade.

A formal mediation analysis confirms this conjecture. A county’s exposure to import competition from Eastern Europe and China increases unemployment in the local labor markets, and decreases overall employment, particularly in manufacturing. This intermediate effect of trade on labor markets causes the overall effect of trade on voting.

Labor Market Adjustments Translate Trade Exposure into Populist Support

Initially, far-right extremist parties benefitted from import competition in Germany. More recently, the populist AfD managed to tap into the voting potential generated by the labor market adjustments to international trade. The paper shows that every percentage point of vote share gained from import competition by far-right parties in the federal election of 2009 translates into 2 additional percentage points of support for the AfD in the 2017 federal election.

It is important to recognize, though, that labor market adjustments to trade are a central, but not the only channel through which import competition affects populist support. Disentangling these channels, the analysis shows that import competition increases the voting potential for populist parties via its labor market effects but simultaneously, international trade decreases populist support by other channels, such as increasing consumption variety or furthering international exchange more generally.

Accordingly, it turns out that the labor market turmoil caused by international trade would lead to an even stronger increase in populist support if it were the only channel through which trade affected voting. If an average county’s import exposure increases by one standard deviation, i.e. net imports increase by 1,346 Euro per worker, total employment falls by around 3.2 percent. This loss of employment caused by import competition alone increases the vote share of far-right nationalist parties by 0.13 percentage points. Accounting for additional labor market consequences like unemployment, sectoral shifts, and wage effects, all labor market adjustments to increasing trade together increase the far-right vote share by 0.21 percentage points.

But the overall effect of import competition on far-right party support is less. Considering all potential mechanisms, including those that are unrelated to labor market adjustments, a one standard deviation increase in import competition increases the vote share of far-right parties by only 0.12 percentage points. That is to say that the voting potential generated by labor market adjustments to trade is higher than the one actually realized by populist parties at the ballot box. Without its negative effects on labor markets, increasing trade would decrease populist support.

Labor Market Policies That Could Tackle Populism

The paper’s policy implications are straightforward: to mitigate the populist backlash, policy must concentrate on labor markets, first and foremost. It is very telling that the populist response to increasing international trade became much stronger after the German government introduced substantial labor market reforms in the years 2003-2005. These reforms involved lower employment protection, decreasing unemployment benefits, and establishing a new low-wage sector. The aim was to increase labor market flexibility at the expense of social protection. This amplified the voting response to international trade in opposite ways. As suggested by Rodrik (2018) and Fetzer (2019), the welfare cuts have contributed to the rise of populism – but only in the regions heavily affected by import competition. At the same time, job growth and job upgrading intensified in regions that benefitted from export opportunities (Dustmann et al., 2014). Thus, the negative impact of increasing exports on populist support has been more pronounced after the reforms as well.

Increasing job insecurity made people more susceptible to populist rhetoric. This effect dominates in regions lagging behind. At the same time, increasing labor market mobility has decreased the attractiveness of the far-right agenda in regions where people benefit from new job opportunities generated by globalization.

Labor market policy can do a lot to reduce populist support, either by providing more job security, or by fostering upward mobility. The challenge is to bring both elements together. Of course, avoiding unemployment is important, as is unemployment assistance and active policies to re-integrate unemployed people into the labor market. By itself, decreasing unemployment does reduce populist support. However, it is low-skilled employees whose voting behavior is most responsive to economic shocks. The ongoing structural changes mean that they not only lose relative income compared to high-skilled individuals, but their chances of bridging the skill divide diminish. Labor market policies must thus invest more heavily in on-the-job training measures to empower low-skilled individuals’ upward mobility. The goal is to enable low-skilled individuals to participate in the job-upgrading that comes with globalization and technological change. Policy may provide incentives and training infrastructure but eventually, employers must be urged to continuously invest in the qualifications of their workers.

Regional Inequalities Go Beyond Labor Markets

The populist backlash to globalization coming through labor market inequalities between high- and low-skilled individuals is mirrored in regional inequalities. Indeed, the regional heterogeneities in the impact of globalization and structural change are remarkable, and often overlooked when looking at aggregate figures only (Autor et al. 2013).

Germany is a case in point. Despite the economy’s overall positive development over the last 15 years, regions benefit unequally from this development. Comparable to the U.S. rust belt, traditional manufacturing regions absorbed major losses. This arose not only from the regional industry structure, but from the selective out-migration of young, skilled, and consumption-oriented professionals as well. As a consequence, more than the local labor markets stagnate. Social life deteriorates in peripheral regions, and chances to recover decline.

Those regional inequalities in development perspectives translate into political polarization in space. Populist parties score low in booming regions but establish strongholds in left-behind regions. In Germany, this becomes most obvious when comparing East Germany, i.e., the former German Democratic Republic (GDR), to the former West Germany. The right-wing populist party AfD gained 12.6 percent of the votes in the 2017 federal election, which made it the third-largest party. In Saxony, a former East-German state, the AfD gained 27 percent of the vote, which made it the largest party there. Whether in East or West Germany, the AfD gains significantly more support in peripheral regions than in the urban centers.

The reasons for these discrepancies are not only economic but spill over into cultural issues. Indeed, it is a success of populist campaigning to create a credible narrative that links economic hardships and anxieties about the future to fears of alienation and a feeling of being betrayed by detached “elites.”. Voters are more susceptible to this campaigning if their home region deteriorates economically.

Concerns in Germany are that the regional strength of the AfD may undermine the long-standing consensus among the established parties not to cooperate with nationalist forces. Concerns were fueled by a political adventure in Thuringia, another East German state. After the 2019 state election, won by the socialist Left (Die Linke) Party with 31 percent of the votes, the regional leader of the market-liberal party FDP (5%) was elected prime minister with the votes of his four fellow MPs, those of the conservative party CDU (22%) – and the AfD (23%). The AfD surprisingly supported the FDP candidate instead of its own. However, the newly elected prime minister had to resign after three days, amidst heavy pressure from all the party headquarters in Berlin to end this farce. But the AfD had proven it was a regional political force to reckon with.

Currently, the AfD is polling around 10 percent for the upcoming federal election in Germany in September 2021. There is no way the party could come into power, as long as the established parties’ consensus holds. Still, it will be interesting to see whether regional heterogeneities in AfD support have increased. To counter the regional polarization, labor market policies alone will not be sufficient. They must be accompanied by regional policies that go beyond just subsidizing jobs, but create new development perspectives for regions left behind. The challenge is to invest in development trajectories for peripheral regions on the basis of their comparative locational advantages. This may not allow the periphery to catch up with the urban centers, but it would allow left-behind regions to also benefit from the growth potential provided by globalization.


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The Effect of Trade on Workers and Voters

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