How and why economists get overexcited about free trade: Part two

The posting rate on this blog is sufficient that the initial post has already disappeared into the blog ether. But the story so far is that I posted a link to an article that Dani Rodrik had praised to the skies. It argued that economists make all manner of short cuts when arguing about free trade.

The first commenter demanded to know what ‘exactly’ I was saying. The next said that this was ‘ridiculous. I’m not entirely sure what they meant, and I think it’s clear – certainly in the first case – that they didn’t know what I meant. Did I know myself?

I engaged in some interesting debate with Damien Eldridge as we each tried to figure each other out. Damien’s concluded by suggesting that he wasn’t saying there were no credible arguments against free trade, but “simply that there is usually more danger of the arguments against free trade being over-stated rather than under-stated.”

This is all fair enough.  But Damien’s conclusion left me unsatisfied and I’ve mulled over it a bit.

It’s certainly true that in popular discourse the problem is not that people are not subtle enough in their understanding of the arguments for free trade. Rather the reverse. They’re trenchant in their belief that all this airy fairy stuff about free trade is just economists being out of touch with reality – with their head in the clouds and in their models with all those abstractions – rather than understanding what goes on in the real world. When they start talking about how economists think the world is a level playing field and that the fact that other countries tilt the playing field and that therefore we should, you know they don’t know the first thing about what economists are arguing.

Also, I think Damien and I would be keener on the ‘swings and roundabouts’ justification of free trade than Rodrik or Driskill seem to be. I don’t think policy makers should be required to compensate people for every bad thing that happens when many negatives in a reform program for one group end up being balanced by good things.

o what is the debate about? I don’t think it’s about set pieces – for and against free trade. Often the issues are more subtle than that. Where Dani Rodrik’s and Driskill’s angst about this comes from, what moves them to speak as they do I can’t say, but I can speak about my own experience in debating these issues. And perhaps that will give some insights as to why the arguments they put seem to me to be of some importance.

I might preface this by recounting a story from two nights ago when I was rung by a call centre working for some social science research project. After going through all the red tape on privacy, and what was and was not going to happen with the answers to the questions and all the rest of it I was asked whether I agree with the statement ‘People are equal no matter what their race’. I really did try to help out with my views on the subject. It’s obvious they’re different. If you look at the US trials for the mens 100 metres sprint it’s clear they’re not equal. They’re all black. Aborigines occupy 2% of the population and nearly 8% of AFL players. Pacific Islanders seem to occupy a similar position in rugby.

But is that what the question meant?  Trying to be helpful, I presumed that it wasn’t and said that people were equal no matter what their race.

Then I was asked if I’d have ‘grave concerns, mild concerns, or no concerns’ if they married a

  1. Christian
  2. Jew
  3. Muslim

I said I’d have no concerns but, with rising frustration said I might have mild concerns about one of my children marrying a Muslim. It’s a stupid answer, but so are all the alternatives. (ie it’s a stupid question asked that baldly.)  If my kids married a Muslim that would be a bigger fact for me than if they were marrying a Jew or a Christian or an atheist. That’s for various reasons not least my own cultural distance from Muslims. It shows no disrespect to Muslims, no hostility towards them that it’s a bigger fact – a harder distance to bridge for my kids perhaps, and for me. Who knows?

But the truth is I’d have mild ‘concerns’ about them marrying anyone! It’s not easy to marry the right person. These questions were not grounded in a context. So they made no sense to me. And my answers were equally stupid.

And it’s not so different with free trade.

Damien says that the case against free trade gets an easier time of it in the press than the case for it – especially since ‘the case against free trade’ is generally predicated on economic nonsense. I couldn’t agree more. I do my duty in this regard a lot of the time. I held a kind of seminar on Ricardo early in my tenure on this blog.

But why do I have to keep saying this?

So here’s what I think is going on. The whole issue about whether or not one supports free trade is a kind of signalling device in economics. It reminds me of where you had to wear your jeans at high school (in my day too high was definitely uncool. Why? Dont even ask – that’s not cool either. It shows if you ‘get it’).

And a range of comfortable habits have grown up around that. Firstly if someone is saying something that strikes you as puzzling, they just don’t understand the basics. In an earlier debate I put the argument – based on a piece of basic economics that goes back to John Stuart Mill that there was an ‘optimal tariff argument’ for leaving tariffs at relatively low levels for cars rather than cutting them to zero. Harry Clarke said it was ‘outrageous’ based on what he later admitted was a misunderstanding of what I’d said.

DD cast me as a defender of the car industry (being someone who has occasionally taken some money from them for work on their behalf.) He repeats the dose every now and again. In fact I’ve confronted the car industry with it’s own inadequacies and with the truth of the economic arguments against their own preferences a great deal more than is regarded as appropriately self interested behaviour for a consultant.

So the whole terrain of debate around free trade seems very disturbed. It’s disturbed by the same kind of ‘political correctness’ that would make it easy to argue that my answers to the social survey telephone call were racist, or ‘anti-Muslim’.

Typical maladies include

  • raising the temperature of the debate before you necessarily know what’s going on.
  • misunderstanding what people are saying in one’s haste to locate them on some grid which comes pre-packaged. (Racists/non-racists, protectionists/free traders).
  • having pre-ready moral or intellectual explanations for why the person says something that strikes you as ‘odd’ ‘non-correct line’ or whatever. The person might be wanting to say something quite enlightening, but they never get the chance because ‘we know’ what they’re really getting at.

In the heat of this cauldron, you don’t get to say anything with any nuance, novelty or surprise without raising the suspicions. In the 1980s this led to some serious shortcomings in the policy advice of the IAC.

The car industry was regulation, tariff and quota encrusted but still relatively competitive at manufacturing large cars. Japan had been getting progressively better at making smaller cars. The IAC (institutional ancestor of the PC) wanted to reduce the unholy mess that was the local content plans to a tariff only regime. They were unsuccessful at this because it was too scary for politicians.

Along came General Motors with ‘export facilitation’. It was a strange policy. A new policy. It scared the Bjesus out of the component industry because, wanting to install a world scale engine plant, they proposed that the exports it generated be good for local content – enabling them economise local content into one world scale plant.

Of course this scared the bejesus out of the most uncompetitive firms in the components sector. With export facilitation it would be all over for them. Economically illiterate Malcolm Fraser liked the sound of this – and surprisingly he was right! Especially where there were quotas – as there were until 1987 or 8, this system would have put the clappers through the component suppliers. At the cost of export activity which was either competitive or moderately uncompetitive depending on your point of view – and the level of the dollar at the time.

Now you can argue the merits of my view that in the circumstances this was an excellent piece of political economy. The economics were more promising than the IAC’s proposal for tariff only reform because they provided a level playing field within the industry which research at the time was starting to suggest may be more important than levelling the playing fields between industries.

The politics were appealing. In principle you would expect this because the exports paying for the imports are all in the same industry – so with auto exports displacing auto import replacement you can go harder on reform if your constraint is the rate of decline you impose on the industry. And if you want an illustration of this, GMH had been able to sell this – strong industry restructuring and rationalisation – to a Prime Minister who got to office promising ‘jobs not dogma’ and whose main contribution to lowering tariffs was on the lecture circuit in other countries.

Of course you can argue against this. But the IAC didn’t really do that. It didn’t really look at the economics of export facilitation beyond tossing off repeated lines like “it is not clear that the export activity it supports will be competitive”. Well that’s true – you can’t be certain of anything much. What you could be certain of was that export activity would displace much more uncompetitive import replacement activity. You could be certain that for as long as quotas remained export facilitation would impose a cap on their cost (being the degree of disability of world scale exports).

And remember – and this is the central point – that the IAC’s proposal was NOT free trade.  It was 35% tariff only assistance lasting for a decade and when the draft report looked like falling over 50% tariff assistance for a decade.  (So it was backing all sorts of production at up to 50% disabilities to get its tariff only model over the line, but wasn’t prepared to support exports at say 10% disability (which would displace some of the imports at 50% disabilities).

In all its research of the time the IAC made no reference to the emerging literature on successful development in Asia like this comment from Jagdish Bhagwati in 1973.

Instead of the chaotic selectivity of the incentive policies for ‘import substitution’ which seems to be the main focus of our trade-theoretic analysis, a more important inhibition on growth may in practice be the speed with which import substituting industrialisation is geared toward ‘export promotion’. . . . [T]he key to success is not the absence of detailed, selective and target-oriented export promotion . . . . The distinguishing feature of superior export performance seems to be the pursuit of ‘indiscriminate’ and ‘chaotic’ but energetic policies to promote exports from industries which have been nurtured under protection in the first place.

So it never really considered the policy at all other than to say that there were unattractive things about it (which there were – as there were with it’s own proposals).  Didn’t consider that it was the paradigm kind of duty remission that scholars like Bela Belassa, Anne Kruger Jagdish Bhagwati were arguing was a crucial part of the story of Asian success.  And of course never considered how our own policies of trade negotiation might interact with the prevalence of these kinds of policies in Asia.

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harry clarke
14 years ago

Nicholas, I made no statement that my views were based on a misunderstanding. I said your views were wrong and I stick to that position. You claim that a small tariff on car imports could compensate for a lack of an optimal export tax on resource exports. I said that argument was wrong and it is.

The logic of your position is that levying a tariff on cars will somehow draw resources away from the resource sector, restricting output there and raising prices given that we have some price setting power in these markets. Hence low tariffs on cars can substitute for the lack of an export tax on resources.

What resources will be drawn from the mineral sector into automobile assembly and why just the resource sector? Why not any other exporting sector of the economy or a non-traded goods sector? If firms like BHP-Billiton and Rio Tinto already are exercising monopoly power in the resources sector then an optimal export tax is unnecessary anyway.

Its a wrong argument and I am happy to bury it but you keep raising it. I’d be interested to find a trade economist in Australia who would endorse it.

There may be arguments for protecting the car industry – I cannot think of any -and you certainly have not provided them.

There was no sociological or ‘signalling’ issue to my views at all – you advanced an economic proposition and it can be seen to be fallacious using basic trade theory.

phil@vvb
14 years ago

My experiences with the ardent free traders a decade or so ago convinced me that it’s the argument in favour that are usually overstated.

Certainly, commissioning modelling based on best case scanarios and then using that figure religiously (have we ever got close to what was trumpeted for the Uruguay Round?) doesn’t help the next time the issue comes up.

It also seemed to me – so very much a personal perception – that it was the purity of the policy, rather than what it could do, that drove much of the effort. But I guess they were the economic policy people, so to be expected?

amphibious
amphibious
14 years ago

economists being out of touch with reality – rather than understanding what goes on in the real world.

tautolgoy surely?
Who would feed an economist in the real world?

observa
observa
14 years ago

“So heres what I think is going on.”
We like it when our invisible hand is wielding the market sword but not when someone else’s hand is, while economists are always rabbitting on about how we’re all better off with the big picture.

amphibious
amphibious
14 years ago

Observa – as their Great Milt said, re the Big Picture – in the long run we’re all dead.
First rule of revoltion is shoot all the lawyers – corollary being, don’t waste ammunition on the economists as they’ll starve waiting for the Invisible Hand to feed them.

observa
observa
14 years ago

Speaking of free/fair trade, hows about the Visy-Amcor case? According to the Weekend Oz Dick Pratt’s company Visy is about to settle out of court with the ACCC for some less than invisible hands. Seems Amcor approached Visy to collude on the cardboard box market, they being the Coles and Woolies in that marketplace. Now Dick reckons he’s hard done by as Amcor have agreed to spill their guts about the mutual deal between 2000-2004, in return for immunity from prosecution. Dick’s somewhat outraged about that since his mob only falsely agreed to the Amcor overture in order to stab them in the back and increase Visy’s market share by undercutting the price secretly. Now Amcor have double crossed the double crosser and he’s naturally indignant about that and his loss of reputation in that ordinary folks might think he’s a crook. No Dick, you’re a Pratt! Alongside the article is another where Dick and his wife speak out about the media reporting in 2000 about Dick’s long running affair with his mistress and how it’s none of anyone’s business and it’s hurt his illegitimate child Paula. Relax folks, because the up to $100mill fine and the anticipated class action by Visy’s customers (including the likes of Coca Cola Amatil, Goodman Fielder, Cadbury Schweppes, Lion nathan, Fosters and Nestle Aust to name a few) won’t stop our Dick from continuing his generous support for charity as usual. After all he’s got a reputation to uphold.

That brings me to a simple observation that I never trust a man who’s led around by his dick. Who would you rather invest your money with? An investment run by say Steve Waugh and Glenn McGrath, or one by Dick and Warnie? If you have to think about it you’d probably vote for Slick Willy too.