Tuesday, May 23, 2017

Trump, Democrats, and Trade

Donald Trump won the presidential election in 2016 based on a number of promises as to what he would do as soon as he gained power.  Most of his enumerated actions frightened his antagonists on the left, but one actually aroused some interest on the part of his Democratic rivals.  Trump claimed that the US had been taken advantage of in the arena of international trade and this had cost the nation wealth and jobs over the years.  This is an assumption that had arisen in Democratic circles numerous times.  Could changing the rules of trade provide greater wealth and generate jobs at home?  Could Trump and the Democrats actually collaborate in a specific area?

First, some background is required.  The term “free trade” is thrown around suggesting that trade proceeds with little or no tariff imposed on imported goods.  The implication is that all countries are trading from the same basis and thus the system is fair in that all countries compete on a level playing field.  Unfortunately, free trade has never been fair, and it was never intended to be fair.  The first era of globalization was inaugurated by Britain, usually by sending warships to impose trade conditions on weaker nations.  The most egregious example was probably the “Opium War” with China.  Britain had contracted an immense taste for the teas of China and had generated a huge trade imbalance.  For trade to work properly, China had to balance the deficit by purchasing British products.  The only product the British had that would sell in China was opium made in British-controlled India.  Since China had made opium illegal, Britain declared war on China and forced it to accept whatever Britain chose to sell.  And that is how free trade came to China.

The first age of globalization was also the age of colonialism.  The plan was to take over a country or region and force the inhabitants to sell the occupying country natural resources and low-value goods so that the occupying country could then add value to those goods and resell them to their captive market at a profit.  The terms fair and free are entirely inappropriate for this type of arrangement.

The major proponents of free trade are the US and the British.  Neither of them practiced free trade until they believed they were strong enough to dominate some or all markets.  It took the US until the twentieth century before it felt capable of competing.  If one examines the paths to wealth taken by countries such as Japan and South Korea, one discovers that they also restricted trade until they were ready to compete.  The goal of international trade in the second period of globalization, the current one, is to be a winner.  The dominant countries, with the US being the prime example, have set up rules and regulations and agencies that promote them such as the International Monetary Fund (IMF), World Bank, and the World Trade Organization (WTO), with the goal of encouraging developing countries to adhere to policies that provide an advantage to the wealthier nations.

Given this background, viewing the traditional line espoused by economists on international trade with a bit of skepticism seems appropriate.

It is fair to ask what exactly has globalization and free trade done for the world.  Is the world a better place for it?  Branko Milanovic uses income as a measure of benefit and tries to answer that question in his book Global Inequality: A New Approach for the Age of Globalization.  In it he produced a graph that gained considerable notoriety as “the elephant curve.” 

This chart plots the percentage gain in real income (2005 international dollars) over the period 1988 to 2008 across the world.  The horizontal axis is the percentile of the global income distribution.  One can conclude that the incomes of low to moderate income people have increased over this period by what appears to be a significant amount.  There is a dip in income growth to approximately zero at 80%, followed by a steep rise at higher income levels. Globalization has helped the low income people of the world and it has benefited the wealthy of the world.  Who are those left behind as indicated by Milanovic’s point B?

“They are almost all from the rich economies of the OECD (Organization for Economic Cooperation and Development).  If we disregard those among them who are from the relatively recent OECD members (several Eastern European countries, Chili, and Mexico), about three-quarters of the people in this group are citizens of the ‘old-rich’ countries of Western Europe, North America, Oceania….and Japan….People at point B generally belong to the lower halves of their countries’ income distributions.”

“In short: the great winners have been the Asian poor and middle classes; the great losers, the lower middle classes of the rich world.”

Milannovic’s conclusions are about what one might expect if one lives in one of the “old-rich” countries and has observed how fellow citizens have fared under globalization.  Some might even applaud these developments as a way of distributing wealth from rich countries to poor countries.  Milanovic provides another way of looking at the data that produces a critical insight.  The previous chart evaluated relative changes in income; the next converts those gains into absolute changes by providing a monetary value.

If globalization distributed income gain uniformly then every group would gain 5%.  In fact, most of the gain goes to those already wealthy: 19% to the top 1%, 44% to the top 5%, and 60% to the top 10%.  As a means of distributing income, globalization is extremely inefficient.  It seems best able to provide income to the already wealthy in both rich and poor countries.

One conclusion that can be drawn from this data is that whatever ill effects trade has had on the distribution of wealth, they are not unique to the US.  Consequently, if the US should pursue some new trade strategy that might be deemed beneficial domestically, all wealthy countries could follow the same path.  The international consequences would be enormous.

Douglas A. Irwin wrote a piece for Foreign Affairs, The False Promise of Protectionism, that assesses the policies that Trump has claimed he plans to implement.  Irwin is clearly dubious about Trump’s understanding of trade.

“In his inaugural address, U.S. President Donald Trump pledged that economic nationalism would be the hallmark of his trade policy. ‘We must protect our borders from the ravages of other countries making our products, stealing our companies, and destroying our jobs,’ he said. Within days, he withdrew the United States from the Trans-Pacific Partnership (TPP), announced that he would renegotiate the North American Free Trade Agreement (NAFTA), and threatened to impose a special tax on U.S. companies that move their factories abroad. “

“Although Trump’s professed goal is to ‘get a better deal’ on trade, his brand of economic nationalism is just one step away from old-fashioned protectionism. The president claimed that ‘protection will lead to great prosperity and strength.’ Yet the opposite is true. An ‘America first’ trade policy would do nothing to create new manufacturing jobs or narrow the trade deficit, the gap between imports and exports. Instead, it risks triggering a global trade war that would prove damaging to all countries.”

Irwin derides Trump’s approach as being “just one step away from old-fashioned protectionism,” but old fashioned protectionism has been beneficial to developing countries, particularly the US.  And the US is not the only country that feels a bit uncomfortable about traditional trade agendas.

“According to the WTO, the import restrictions imposed by G-20 countries since 2008 now cover a disturbingly high 6.5 percent of their merchandise imports. The rate at which new measures are being imposed exceeds the rate at which old measures are being removed, resulting in the steady accumulation of trade barriers. In January, citing “protectionist pressures,” the World Bank reduced its forecast for global economic growth in 2017.”

Irwin argues that protectionist moves “would do nothing to create new manufacturing jobs.”  He bases this claim on two justifications.  The first addresses the role of automation and improved manufacturing procedures in eliminating jobs.

“But the reality is that factors other than foreign trade are to blame for the country’s current economic woes. The share of Americans who work in manufacturing has fallen steadily since the early 1950s, mainly due to automation and productivity growth. The labor-force participation rate among working-age males has been declining since 1960. The stagnation in real earnings of men also dates back to the early 1960s. These trends started well before the era of deregulation and free trade in the 1980s and 1990s, let alone the “China shock” of the first decade of this century.”

No one would argue that over time the number of people required to produce a given quantity of an object will decrease due to various efficiencies.  However, trade contributes to job loss in a much more profound way.  Economists, in their ideal situation, would like production from a more efficient country to replace the less-efficient domestic industry.  In many cases this is what has happened.  Forgotten in arguments of economic efficiency is the fact that ceding manufacturing in a product line to another country also cedes to that country the associated technology, and future extensions of that technology.  We began making simple things in Asia because labor was cheap.  We now make complex things in Asia because that is where the required technology resides.

Yet not all industries are equal in a more strategic sense.  The Japanese and Europeans are correct in maintaining support for inefficient agricultural enterprises.  What country would be foolish enough to depend entirely on the good will of trading partners to feed its people?  Food sufficiency is not an issue for the US.  What about defense sufficiency?  Should we depend on others to produce our war making capability just for economic reasons?

Irwin also argues, counter to what some believe, that past experience has shown that trade restrictions have been ineffective.

“Why can’t trade protection be used to revitalize basic industries that have suffered? After all, some claim, in the 1980s the Reagan administration imposed many import barriers, which seemed to help domestic industries cope with increased foreign competition. Confronted with a large and growing trade deficit, the United States pressured Japan to agree to reduce its automobile exports, forced foreign suppliers to limit their steel exports, and negotiated a new arrangement that restricted imports of textiles and apparel. Because the economy recovered and employment grew, Robert Lighthizer, a trade negotiator in the Reagan administration whom Trump has tapped to be the U.S. trade representative, has asserted that Reagan-era import restrictions ‘worked’.”

But that judgment runs counter to the evidence.  In a 1982 report, the U.S. International Trade Commission found that most industries receiving trade relief were undergoing long-term declines that import restrictions could not reverse. Such measures did little to help companies, it stated, ‘either because so much of the firm’s injury was caused by non-import-related factors, or because the decline of imports following relief was small.' Four years later, when the Congressional Budget Office studied the question, it concluded, ‘Trade restraints have failed to achieve their primary objective of increasing the international competitiveness of the relevant industries’.”

Irwin then proceeds to point out all the bad things that followed from this attempt to manipulate the market.

“One should look back at the Reagan-era protectionism not with nostalgia but with regret, because it proved to be a costly failure. The restrictions on automobile imports raised the average price of a Japanese car by 16 percent in the early 1980s, socking it to consumers and handing billions of dollars to Japanese exporters. The limitations on steel imports punished steel-using industries, and those on textile and apparel imports raised prices for low-income consumers. When it comes to using protection to help revitalize domestic industries, the United States has been there, done that. It didn’t work”

It is not difficult to argue that the strategic interests of as large a country as the US demand the existence of viable auto and steel industries.  The domestic automobile producers eventually caught up to the Japanese in quality.  Just because an industry messes up and becomes economically inefficient, is not a reason to let it and the jobs and technologies it provides die.

Too many economic decisions are left in the hands of ideologues with a religious belief in the wisdom of markets.  Markets are there to be utilized and, if necessary, to be manipulated.  Every other country acts in its self interest, why shouldn’t we?  There is also the belief that markets are smarter than human planners.  We, as a nation, cannot have a strategic business plan because the markets will always be smarter than any planners.  That canard has been disproved many times. 

Irwin also resorts to the assumption that trade restrictions will hurt the poorest among us the most.  This is in spite of the elephant curve showing that trade and globalization have hurt the lower income people in our nation most.  Stagnating or falling incomes coupled with rising costs for housing, education, and healthcare are not balanced by the ability to buy cheap tee shirts.  

The point of this has been not to argue that Trump or the Democrats have a good plan for how to move forward, but rather to merely suggest that the current system of trade is not so perfect that it cannot be manipulated to ease some of the pain that is felt throughout the nation.  That pain is real and deserving of more attention than it has been getting. 

Trade may turn out to be an ineffective instrument to do what must be done.  If so, an explicit job creation plan must be implemented—and those who accumulated so much wealth from globalization will have to help pay for it.

The interested reader might find the following articles informative:

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