A Self-Inflicted Wound

In September 2025, economist and Munk School faculty member, Jonathan Ostry, presented Trade Restrictions, Trade Policy Uncertainty and Foreign Direct Investment at the G20 Global Financial Stability Conference in Seoul, Korea, with opening remarks by Hyoung Il Lee, the 1st Vice Minister of Economy and Finance, and over 300 leading academics, policymakers, and experts in attendance. In an era when governments are increasingly viewing foreign direct investments (FDI) as critical to being economically competitive, Ostry’s research highlights how trade policy design can impact overall economic objectives.

During the conference, which centered around the emerging new world trade order, Professor Ostry presented a compelling analysis of the links between trade policy and Foreign Direct Investment (FDI). Trade restrictions (TR) and trade policy uncertainty (TU) have both surged since the turn of the year, but their distinct economic effects are challenging to uncover. While there is much evidence supporting the notion that TR reduces trade, the effects of trade restrictions and uncertainty on FDI are less well understood. Unpacking these linkages was one of the themes of the G20 conference and of Ostry’s remarks.

Most countries view FDI favourably, owing to its benefits for economic growth and jobs. The impact of TR on FDI is ambiguous in theory: higher restrictions can encourage inward FDI if foreign investors want to ‘jump the tariff,’ or they can discourage FDI by raising costs of production. Ultimately, empirical analysis is needed to shed light on what happens in practice.

Ostry’s research, which is based on a unique global dataset of trade restrictions and trade policy uncertainty, shows that when trade restrictions are raised against other nations, inward FDI flows experience a marked decline, peaking about two years after the shock. This finding is consistent with the notion that TR makes it harder for investors to reap efficiency gains, including through participation in global value chains.

Ostry asserts that as bad as this is, the impact of trade policy uncertainty is much larger. His research shows that when TR and TU shocks are scaled to be comparable in magnitude, a TU shock engenders a decline in FDI that is more than twice as large as the TR shock and peaks about two years after uncertainty rises. Ostry’s research rationalizes the larger impact of TU relative to TR shocks by underscoring that uncertainty affects the entire informational backdrop for business investment decisions, whereas trade restrictions may only impact select firms hit by tariffs. He concludes that when trade policy uncertainty increases, investors are apt to sit on the sidelines, scaling back or delaying investments until the smoke clears and there is clarity about what tomorrow’s trade policy will be. Indeed, not only does TU have a very large direct effect on FDI, it also amplifies the impact of TR on FDI: in high uncertainty environments, tariffs on trading partners will dampen inward FDI by more when the host country’s trade policy is volatile and non-transparent. Ostry finds that the damage to FDI appears to be strongest when host and source countries are close trading partners ex ante than when their relationship is more distant.

Ostry’s analysis delivers a clear message. Trade policy has much broader effects than those we are familiar with. TR is damaging not only to trade and growth but also imperils capital flows—most notably FDI. His findings also show that trade policy uncertainty is even more damaging. If a country wishes to restrict cross-border trade while encouraging FDI, TU is a self-inflicted wound. Ostry’s analysis demonstrates that if trade restrictions are nonetheless desired because they are seen as instruments to grow domestic manufacturing or buttress national security, a stable and transparent policy is far preferable to a volatile regime.