Trade tensions can affect everything, from innovation to currencies. The 2025 World Competitiveness Ranking (WCR) report was a stark reminder of that.
Countries initiate tariffs to shield domestic industries and protect local jobs, yet the very act of protection often weakens the competitive edge it aims to preserve.
When the US imposed steel tariffs in 2018, the immediate effect was as intended: US steel producers saw higher prices and expanded production. But within two years, a more complex picture emerged: a weakening of the US’s overall manufacturing competitiveness relative to economies that maintained access to global steel markets at lower prices.
Protectionism, therefore, creates a pyramid of consequences, with benefits concentrated on the apex (protected industries) and costs dispersing across a wider base (downstream industries and consumers). The dynamics of this arrangement inevitably produce net losses in terms of national competitiveness, particularly in advanced economies where supply chains are deeply integrated.
Take the US (ranked first in direct investment flows inwards), China (ranked third in export concentration by partner economy), Japan (ranked first within the economic complexity index), and Thailand (ranked 15th in high-tech exports as a percentage of GDP).
These highly integrated global economies all experienced net competitiveness losses during the 2018-2020 trade war between the US and China. Most show a similar downward path in the 2025 WCR, highlighting how business sentiment can dramatically shift as a result of tariff announcements.
Faced with sudden cost pressures from tariffs, industries don’t merely absorb or pass on the additional costs: they innovate around them. Japan’s (35th, 2025 WCR) response to the heavy trade restrictions of the 1980s saw manufacturers pioneering new miniaturization techniques that ultimately enabled them to dominate emerging markets in portable electronics.
The pressure of trade barriers forced technological leapfrogging that might have taken decades under normal competitive conditions.
Similarly, China’s (16th, 2025 WCR) response to recent technology export controls has been to increase domestic R&D spending dramatically, with a particular emphasis on semiconductor self-sufficiency. While initially painful, this forced decoupling is accelerating China’s technological ascension in ways that gradual, market-driven evolution might not have achieved.
The 2018 trade war has compressed what might have been a decade-long development timeline into an urgent five-year sprint and helped reshape China’s policy towards strengthening its consumer base.
This pattern suggests that trade wars don’t merely redistribute existing competitive advantages; they encourage the creation of entirely new ones through what economist Joseph Schumpeter termed “creative destruction”. The pressure of artificial constraints forces innovation that otherwise lacks urgency under comfortable trading regimes.
President Trump’s insistence on “getting a fair deal for America” by coercing higher tariffs on its trading partners in the hope of reshoring jobs back to the US may lead to the adverse and unwanted effect (for the US) of encouraging his competitors to innovate faster and better. Something that would considerably harm his main voting base: the US middle class.
In the United Kingdom (29th 2025 WCR), “extreme pressure” will be put on the domestic car manufacturing industry with Trump’s 25% tariffs on US car imports – but this also presents a unique opportunity ripe for the taking to accelerate its transition to Electric Vehicles (EVs). Shifting focus and investments to a more niche but growing market, and capitalizing on its existing competitive advantage in the production of zero- or low-emission vehicles, could provide the UK with a similar opportunity to experience technological acceleration and get ahead of competitors, including the US.
“The EU is demonstrating an even more advanced version of this regional resilience.”
Rather than simply shifting production between countries, trade tensions have previously accelerated the development of regional manufacturing ecosystems. Consider the evolution of North American manufacturing under NAFTA and its successor agreements.
Since the introduction of NAFTA in 1994, Mexico’s (55th, 2025 WCR) role has significantly evolved from simple low-cost assembly to sophisticated co-production, with design functions in the US, raw materials from Canada, and production technologies optimized across all three economies. This dynamic is certainly one of the reasons the Trump administration left out the 25% tariff on the automotive industry for Canada and Mexico: doing so would have killed its domestic production through higher costs and loss of competitiveness.
The EU is demonstrating an even more advanced version of this regional resilience. Despite significant external tariff pressures, intra-EU trade has intensified and seen a stronger recovery from COVID, Brexit, and recent geopolitical tensions than extra-EU trade, playing a key role in post-pandemic economic growth stimulation. Specialization has deepened within the economic bloc, too: German manufacturing now relies more heavily on Polish components, while French agricultural products incorporate more Spanish and Italian inputs.
This regionalization creates competitive advantages that isolated national economies cannot match. It is a pattern being replicated in Southeast Asia, where the Regional Comprehensive Economic Partnership (RCEP) – a free trade agreement encompassing 15 Asia-Pacific countries – is accelerating intra-regional integration in direct response to global trade tensions. Rather than offering 15 independent responses to trade barriers, the region is developing coordinated approaches that strengthen its bargaining and purchasing power.
We might therefore say that “true” competitive units in modern trade wars are not individual countries but rather integrated economic regions. Economies that position themselves as vital nodes within such regional networks often achieve better outcomes than those pursuing purely nationalist trade strategies, regardless of size or development stage.
Take President Trump’s recent threat of reimposing 50% tariffs on European goods, which has sparked fear of a return to aggressive unilateralism. The European Union, having already strengthened its internal supply chains in response to past shocks, is now preparing a coordinated response to this potential resurgence of transatlantic tensions. Uncertainty reinforces the urgency of deepening intra-regional integration and strategic autonomy. As Europe prepares contingency plans and emphasizes collective resilience, it becomes increasingly clear that the future of global trade will be shaped less by bilateral confrontations and more by the robustness of regional alliances capable of withstanding external pressure.
This currency dimension creates particularly complex outcomes for third-party countries not directly involved in the trade conflict.
Trade wars inevitably spill over into currency markets, often creating ripple effects that prove more damaging and longer-lasting than the tariffs themselves. The competitive implications of these currency movements vary dramatically across economic structures, creating winners and losers in patterns that tariff schedules alone cannot predict.
When trade tensions escalate, investment typically flows toward safe-haven currencies like the Swiss Franc or the Japanese Yen, strengthening these currencies relative to emerging market alternatives. This currency effect can dwarf the direct impact of tariffs. For example, when the US-China trade war intensified in 2019, the Chinese Yuan depreciated approximately 6% against the Dollar between April and September; a price effect that largely offset the impact of tariffs on Chinese exports.
This currency dimension creates particularly complex outcomes for third-party countries not directly involved in the trade conflict. Brazil (58th, 2025 WCR) experienced this dynamic acutely during recent trade tensions. As a major agricultural exporter competing with both US and Chinese producers, South America’s largest country initially benefited from diverted demand.
However, as currency markets reacted to trade tensions, the Brazilian Real depreciated significantly against the dollar, eroding the purchasing power of Brazilian consumers and increasing the cost of imported inputs for Brazilian manufacturers. In contrast, countries like Switzerland that experience high currency appreciation during trade wars need strong central banks with sound monetary policy adjustments to avoid undermining the competitiveness of domestic exports.
The competitive impacts of trade wars are increasingly determined in currency markets rather than solely through tariff schedules and demonstrate that monetary policy can serve as an effective counterbalance to the impacts of trade wars on third parties.
Countries with sophisticated monetary policy capabilities and flexible currency regimes often navigate trade conflicts more successfully than those with rigid exchange rate systems, regardless of how direct their involvement in the trade dispute is. A few examples from the World Competitiveness Ranking include Bulgaria (57th), Kuwait (36th), and Romania (49th), which all dropped between five and 12 positions in the International Trade sub-factor, partly due to the increased difficulty in adapting their currency’s peg to external market shocks.
While manufacturing traditionally dominates trade war discussions, given the heavy focus put on physical goods, the ricochet effect on the services sector is often underestimated. Tariffs and quotas can indirectly disrupt services, from logistics and finance to IT and consulting, causing major competitiveness shifts.
When Hong Kong’s (third, 2025 WCR) status as a financial hub faced growing uncertainty amid US-China tensions in 2018, Singapore (second, 2025 WCR) saw an opportunity to position itself as an alternative Asian financial center. Without engaging directly in tariff conflicts, Singapore enhanced regulatory frameworks for wealth management and digital finance, attracting substantial capital flows diverted by trade uncertainties.
This strategic positioning has yielded a strong expansion of Singapore’s financial services sector, now experiencing its fifth year of continued growth, compounding a total of 10% since 2020 and representing up to $4tn in assets. This growth was predominantly achieved through targeted liberalization of services in response to broader global restrictions that weakened competitors.
Similar patterns can be seen in the digital services industry. Take India (41st, 2025 WCR), for example, which experienced rapid growth in its IT services sector during recent trade conflicts as multinational corporations sought to diversify their supply chains. The restricted movement of hardware and manufactured components from China resulted in a global increase in demand for remotely delivered software solutions, an area where India’s competitive advantages remained largely tariff-immune.
Protectionism of physical goods, therefore, enhances competitiveness opportunities in intangible service sectors, particularly for economies that position themselves to capture shifts in digital and financial flows.
In recent years, the countries that have been most successful in navigating trade tensions have often been those that recognized this goods-services relationship and positioned their service sectors to capitalize on physical trade disruptions. Whereas India leads the way globally with ICT service exports representing 48% of their total service exports, countries like South Africa (up 10 positions in 2025, IT services reaching just under 10% of their total service exports) are similarly positioning themselves to gain comparable competitiveness advantages.
Countries whose economies depend heavily on trade such as Hong Kong (368% of GDP), Luxembourg (357% of GDP) or the UAE (313% of GDP) can further improve their institutional capital by quickening bureaucratic processes and making their institutions more agile.
Perhaps the most overlooked impact of trade wars is “institutional capital”, or the quality and effectiveness of decision-making processes within set governance structures. On a national level, these determine how effectively countries respond to trade disruptions and are an essential part of mitigating the adverse effects of trade wars.
Countries whose economies depend heavily on trade such as Hong Kong (368% of GDP), Luxembourg (357% of GDP) or the UAE (313% of GDP) can further improve their institutional capital by quickening bureaucratic processes and making their institutions more agile. This can help them gain a comparative advantage over other economies during periods of escalating geopolitical tensions.
New Zealand is a great example. Despite its relatively small market size and geographical isolation, the island nation has managed to maintain remarkable economic resilience amid global trade tensions. This resilience stems not from a particular industry per se, but from the adaptability of its institutions and their capacity to react efficiently to changing market dynamics.
In 2024, as protectionist trends increased in global agricultural markets, New Zealand’s government successfully addressed 14 non-tariff barriers, facilitating the expansion of local agricultural exports and positively impacting nearly $190m dollars’ worth of trade. Through effective public-private coordination mechanisms, New Zealand rapidly identified alternative markets and adapted product specifications to meet new requirements, including those of the Agreement on Climate Change, Trade and Sustainability (ACCTS), which enabled sustainable, tariff-free trade.
Conversely, the UK’s post-Brexit experience demonstrates the competitive costs of institutional fragmentation. Despite potential agility as an independent trade actor, the UK’s internal policy coordination challenges have complicated its response to global trade tensions, with different government departments often pursuing conflicting adjustment strategies.
These contrasting examples suggest that a nation’s competitive response to trade wars depends less on its initial economic structure and more on its institutional capacity to formulate coherent, adaptive strategies under mounting pressure. Countries with high institutional capital often achieve competitive gains during trade disruptions, regardless of their size or development stage.
The true winners of trade wars are rarely those who fire the first shot, but rather those who most intelligently navigate the chaotic currents that follow. Watch this space.
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