Tag: exports

Why We Trade

Imagine life in isolation, waking every morning before sunrise to make your own clothes, build and repair your meager shelter, hunt and harvest your own food, concoct rudimentary salves for what physically ails you, and attend to the upkeep of your brutish existence engaging in other difficult and tedious tasks. Forget leisure or luxuries; all of your time would be consumed trying to produce basic necessities merely to subsist.

Fortunately, that’s no longer the way most of humanity organizes its economic activities. We don’t attempt to make everything we need or want to consume, but instead specialize in a few, or a couple, or just one value-added endeavor – one profession. This specialization is possible because we accept and embrace the concept of cooperation in the form of exchange. We realize that by specializing, we can focus our efforts on what we do best, and produce more value than would be possible if we had to attend to the production of all of our needs and wants. Because we can exchange our output (monetized in the forms of wages and salaries) for the output of others, we don’t even have to know the first thing about hammering a nail, mixing mortar, making thread, yarn, and cloth, threading a needle, whittling an arrow to kill a deer, or any of the details of the incredibly complex processes and supply chains that generate the products and services we consume daily.  Fortunately (but sadly, too), most of us never give it a second thought.  

If two people focusing their efforts on the tasks they do best and exchanging their daily surpluses enables both to consume more or better quality output, then it should readily follow that four people or eight or eighty or eight million participating in this cooperative economic relationship can lead to much higher volumes of output (wealth) and much greater consumption and savings (higher living standards).  This is the purpose of exchange. It enables us to specialize.  And when there are more participants in the market (more with whom to exchange) there is greater scope for more refined levels of specialization. That means greater opportunities to match individuals’ precise skills and faculties (or to cultivate then match those precise skills and faculties) with increasingly specialized tasks and professions created in response to the increasingly refined demands of societies as they produce even greater wealth and higher living standards. 

We’ve come a long way from exchanging cloth and wine.  No longer are people’s choices restricted to being sober and clothed or naked and drunk. Today, we can almost have it all. Whereas once there were witchdoctors serving as generalist medical practitioners, today (in Washington, DC, I am told) there is burgeoning demand for the services of psychiatrists who specialize in treating the emotional and psychological adjustment costs associated with being an expat spouse of a foreign diplomat from Western Europe.  It’s become that specialized. Imagine hearing: “Sorry, my specialty is in talking spouses of diplomats through their neuroses brought on by resettling in Washington from places like Stockholm, Amsterdam, Paris, or London.  Since you’re from Warsaw, let me recommend a different specialist who focuses on treating Polish ex-pats with similar conditions.”

The purpose of exchange is to enable each of us to focus our productive efforts on what we do best.  By specializing in an occupation — instead of allocating small portions of our time to the impossible task of producing each of the necessities and luxuries we wish to consume — and exchanging the monetized output we produce most efficiently for the goods and services we produce less efficiently, we are able to produce and consume more output than would be the case in the absence of specialization and trade. The larger the size of the market, the greater is the scope for specialization, exchange, and economic growth.

Free trade is the extension of free markets across political borders.  Enlarging markets in this manner – to integrate more buyers, sellers, investors and workers – enables more refined specialization and economies of scales, which lead to greater wealth and higher living standards. When goods, services, capital, and labor flow freely across borders, Americans can take full advantage of the opportunities of the international marketplace.

The purpose of trade is to enable us to specialize; the purpose of specialization is to enable us to produce more; the purpose of producing more is to enable us to consume more.  More and better consumption is the purpose of trade. Thus, the benefits of trade come from imports, which deliver more competition, greater variety, lower prices, better quality, and innovation. The real benefits of trade are measured by the value of imports that can be purchased with a unit of exports — the so-called terms of trade. When we transact at the local supermarket, we seek to maximize the value we obtain by getting the most for our dollars.

But when it comes to trading across borders or when our individual transactions are aggregated at the national level, we seem to forget these basic principles and assume the goal of exchange is to achieve a trade surplus. We forget that trade barriers at home raise the costs and reduce the amount of imports that can be purchased with a unit of exports.  U.S. trade barriers hurt U.S. citizens, as consumers, taxpayers, workers, producers, and investors. Americans would be better off if we simply undertook our own reforms – on tariffs, regulations, and other artificial impediments to commerce – without regard for what other government’s do. Yet we don’t.

Although tariffs and other trade barriers have been reduced considerably since the end of the Second World War, U.S. policy continues to accommodate egregious amounts of protectionism.  We have “Buy American” rules that restrict most government procurement spending to U.S. suppliers, ensuring that taxpayers get the smallest bang for their buck; heavily protected services industries, such as air transportation and shipping, that drive up the cost of everything; apparently interminable farm subsidies; quotas and high tariffs on imported sugar; high tariffs on basic consumer products, such as clothing and footwear; energy export restrictions; the market-distorting cronyism of the Export-Import bank; antidumping duties that strangle downstream industries and tax consumers; regulatory protectionism masquerading as public health and safety precautions; protectionist rules of origin and local content requirements that limit trade’s benefits; restrictions on foreign investment, and so on.

It is sad, but true, that Congress seems to have forgotten why we trade.

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Trade Is Not a Trade-Off: The Stronger Case for Free Trade

Too many advocates of trade liberalization don’t really understand the case for free trade. Consider this sympathetic interview by Steve Inskeep of NPR with U.S. Trade Representative Michael Froman, the chief negotiator of the Trans-Pacific Partnership:

INSKEEP: Froman argues the TPP, the Trans-Pacific Partnership, will give U.S. industries more access to foreign markets. Granted, there’s a trade-off. Other nations get more access to the U.S. for their products. Froman contends that, at least, happens slowly as tariffs or import taxes drop.

FROMAN: The tariff on imported trucks from Japan, as an example, won’t go away for 30 years. On apparel and textiles, we worked very closely with the textile manufacturers in the U.S. to come up with an outcome that they could be comfortable with, so that we’ll let in clothes coming that are made Vietnam or made in Malaysia, but they’ve got to use U.S. fabric.

Inskeep refers to the lowering of U.S. tariffs as “a trade-off,” and Froman accepts that characterization. Both operate from the premise that Americans want other countries to reduce their barriers to our exports, and that the “trade-off” for that benefit is that we must reduce our own trade barriers.

That’s backwards. The benefit of trade is that we get access to goods and services that we might not get otherwise, or we get to pay lower prices for the goods we want. More broadly, we want free – or at least freer – trade in order to remove the impediments that prevent people from finding the best ways to satisfy their wants. Free trade allows us to benefit from the division of labor, specialization, comparative advantage, and economies of scale.

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The Benefit of Free Trade Is Not Exports, It’s Lower Prices on Things We Want

In the news this morning, Sen. Orrin Hatch (R–UT), author of the Trade Promotion Authority bill, makes the usual case for trade agreements and TPA:

We need to get this bill passed. We need to pass it for the American workers who want good, high-paying jobs. We need to pass it for our farmers, ranchers, manufacturers, and entrepreneurs who need access to foreign markets in order to compete. We need to pass it to maintain our standing in the world.

It’s certainly good that the chairman of the Senate Finance Committee supports freer trade. But I fear he’s as confused as most Washingtonians about the actual case for free trade.

This whole “exports and jobs” framework is misguided. Thirty years ago in the Cato Journal, the economist Ronald Krieger explained the difference between the economist’s and the non-economist’s views of trade. The economist believes that “The purpose of economic activity is to enhance the wellbeing of individual consumers and households.” And, therefore, “Imports are the benefit for which exports are the cost.” Imports are the things we want—clothing, televisions, cars, software, ideas—and exports are what we have to trade in order to get them.

And thus, Krieger continues, point by point:

Cheap foreign goods are thus an unambiguous benefit to the importing country.

The objective of foreign trade is therefore to get goods on advantageous terms.

That is why we want free—or at least freer—trade: to remove the impediments that prevent people from finding the best ways to satisfy their wants. Free trade allows us to benefit from the division of labor, specialization, comparative advantage, and economies of scale.

I write about this in The Libertarian Mind (buy it now!):

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The Dollar, Oil Prices and Exports: Lessons of Recent History

Business news pages are suddenly full of hand-wringing about how the rising dollar threatens to slash U.S. exports and economic growth.  “The strong dollar is the biggest threat to economic recovery,” warns one reporter.  Others quote White House chief economist Jason Furman saying “the strong dollar is undoubtedly a headwind” for the U.S. economy.

It’s not that simple.

dollar and exports

The graph above compares real U.S. exports with the trade-weighted exchange rate.  The dollar was rising much faster in 1995-2000, when both exports and the economy were growing at an impressive pace.  Exports eventually fell with recession, as always.  But it is much harder to blame the recession on exchange rates than on interest rates – the Fed pushed the fed funds rate 4.7 percentage points above core inflation.   

From 2001 to 2007, the dollar fell and exports rose.  That pattern might appear to justify recent lobbying for a lower dollar were it not for the familiar connection between oil prices and the dollar.  As the dollar fell, the price of West Texas crude soared from $19 a barrel in December 2001 to over $133 in June-July 2008.  Every postwar recession except 1960 was preceded by a spike in oil prices, and the Great Recession turned out to be no exception.

The dollar weakened at the start of this recovery, but related inflation cut average real wages by 1.5% in 2011 and 0.6% in 2012.   As the dollar firmed up, by contrast, real wages rose by 0.7 % in 2013 and 0.8% in 2014.

The recent rise in the dollar has merely brought it back to about where it was in 1998 or 2006, which were not bad years.  The latest exchange rate gyrations are dominated by self-inflicted wounds to the euro and yen, but U.S. exports to the EU are only 1.3% of GDP, and exports to Japan are 0.4% of GDP.

U.S. multinationals have complained about “translation losses” – the fact that profits of subsidiaries in Europe or Japan will be less valuable when translated into dollars.  But that is equally true for earnings of European and Japanese firms too (and for their stock prices when translated into dollars). And multinationals often leave foreign earnings abroad, due to the uniquely foolish U.S. tax if offshore earnings are brought home.  

The weakened euro and yen will raise the cost of living and cost of production for citizens of the afflicted countries (including the price of oil and other commodities).  It is true that such expertly planned impoverishment of such large economies can scarcely benefit the global economy. If other countries want to make their money less trustworthy and less desirable, however, there is not much we can do about that.  

Washington Post Half-Heartedly Seeks Clarity About Export-Import Bank Jobs Claims

It was good of the Washington Post Editorial Board to raise questions yesterday about the veracity of the “jobs-created-by-Export-Import-Bank-policies” claims proffered by the Bank’s supporters. I just wonder whether the editorial pulled its punches where a reporter on assignment or a more inquisitive journalist would have delivered an unabashed blow to the credibility of the Bank’s primary reauthorization argument: that its termination will lead to a reduction in U.S. exports and jobs.

Kudos to the Post for raising an eyebrow at the Bank’s claims of “jobs created” or “jobs supported” by Ex-Im financing:  

[W]hen it comes to jobs, well, just how rigorous are [Ex-Im’s] estimates, really? Congress ordered a study of that very question when it last reauthorized Ex-Im in 2012. In May 2013, the Government Accountability Office (GAO) produced its verdict: Meh.”

“GAO noted that Ex-Im must speak vaguely of “jobs supported,” rather than concretely of jobs created, since its methodology cannot really distinguish between new employment and retained employment. To get a number for “jobs supported,” which includes both a given firm and that firm’s suppliers, Ex-Im multiplies the dollar amount of exports it finances in each industry by a “jobs ratio” (calculated by the Bureau of Labor Statistics).

Using that approach, Ex-Im estimates an average of 6,390 jobs are “supported” by every billion dollars of exports financed. The Post is right to note the GAO’s conclusion:

These figures do not differentiate between full-time and part-time work and, crucially, provide no information about what might have happened to employment at the firms in question, or others, if the resources marshaled by Ex-Im had flowed elsewhere in the economy.

Damning Trade with Faint Praise

A Washington Post editorial today pushes back against the argument that a Trans-Pacific Partnership agreement would exacerbate income inequality. Amen, I suppose. But in making its case, the editorial burns the village to save it by conceding as fact certain destructive myths that undergird broad skepticism about trade and unify its opponents.

“All else being equal,” the editorial reads, “firms move where labor is cheapest.”  Presumably, by “all else being equal,” the editorial board means: if the quality of the factors of production were the same; if skill sets were identical; if workers were endowed with the same capital; if all production locations had equal access to ports and rail; if the proximity of large markets and other nodes in the supply chain were the same; if institutions supporting the rule of law were comparably rigorous or lax; if the risks of asset expropriation were the same; if regulations and taxes were identical; and so on, the final determinant in the production location decision would be the cost of labor. Fair enough. That untestable premise may be correct.

But back in reality, none of those conditions is equal. And what do we see? We see investment flowing (sometimes in the form of “firms mov[ing],” but more often in the form of firms supplementing domestic activities) to rich countries, not poor. In this recent study, I reported statistics from the Bureau of Economic Analysis revealing that:

Nearly three quarters of the $5.2 trillion stock of U.S.-owned direct investment abroad is concentrated in Europe, Canada, Japan, Australia, and Singapore. Contrary to persistent rumors, only 1.3 percent of the value of U.S.-outward FDI [foreign direct investment] was in China at the end of 2011.

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Ed Glaeser Makes Lamentably Rare Case for the Freedom to Trade

Support for free trade, especially from politicians, often rests on tired mercantalist arguments about the benefits of exports and jobs. That can backfire, as we’ve seen recently with trade figures showing that the U.S. trade deficit with Korea has widened since the Korea-U.S. Free Trade Agreement came into force. That’s why I’ve argued that relying on rhetoric about all the exports and jobs that free(r) trade will create is a dangerous game: where, might trade skeptics ask, are all those exports you promised us, and why should we support trade liberalization if the results we were promised don’t materialize? So I was thrilled today to see a small post on Bloomberg.com from Harvard economics professor Ed Glaeser calling for the president to make a strong push for a U.S.-EU trade agreement, because of the benefits it would bring U.S. companies and consumers:

He should use his address to make the U.S. a leading voice once again for economic freedom: the freedom of consumers to buy European goods and the freedom of producers to sell their goods on the other side of the Atlantic.

It is gratifying to see a principled case for free trade, resting on a foundation of freedom, in the media. Here’s hoping President Obama read Professor Glaeser’s article, and heeds his advice.

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