Mercatus Center Begins “Program on American Economy and Globalization”

At an event on Capitol Hill last week, the Mercatus Center at George Mason University began its new program to address the current worrying shift in American politics away from free trade. The program is timely; rather than embrace the economic consensus about free trade, America’s political class has gravitated toward protectionism. Mercatus’s event aimed to fight back against this trend by addressing some of the biggest myths associated with free trade. 

Myth #1: Trade Is Causing the Decline of the Manufacturing Industry

What decline? Manufacturing has thrived in the past three decades, as output has doubled and wages have remained strong. Trade has actually been crucial to manufacturing’s success: the manufacturing industry in the U.S. has increased from exporting $329 billion worth of goods in 1990 to $1.3 trillion in 2015. Imports are also crucial to the economy; the Chamber of Commerce has estimated that more than 60 percent of imports are used as intermediate inputs by industries such as the manufacturing industry—inputs which reduce production costs and allow businesses to offer a lower final price to consumers. While it is true that the number of manufacturing jobs has declined, this has very little to do with trade. Manufacturing jobs have decreased because the industry has become more productive, not because the jobs are moving elsewhere; a recent study showed that 88 percent of the loss in manufacturing jobs has occurred because of productivity improvements and automation. The trend is not limited to the United States, as manufacturing jobs are shrinking worldwide. Suggestions that manufacturing jobs are moving to China ignore the fact that American manufacturing jobs were declining before China became a manufacturing giant. Manufacturing jobs are declining for the same reason that 81 percent of Americans are not working on farms today. The manufacturing industry is creating more goods with fewer workers, and that is mostly a good thing; it frees up Americans for the kind of innovation which creates new industries and advances our economy.

Myth #2: The United States’ Trade Deficit With China Is a Serious Issue Caused by Free Trade

The trade deficit with China is about as much of a problem as most Americans’ trade deficit is with their cable company. The focus on America’s bilateral trade relationship with China ignores several very important facts. First, the average Chinese citizen is not as wealthy as the average American citizen. Americans create very high-quality, high-priced goods, and it should not be surprising that Americans buy more Chinese inputs than the Chinese buy American final products. Second, it imagines that Americans only trade with China; the United States has a $10 billion trade surplus with the countries it has a trade agreement with. Finally, it assumes that trade deficits are necessarily a bad thing. In fact, another name for a trade deficit is a “capital account surplus.” Foreign owners of American currency must either buy American exports or invest in American industries, and often they choose to do the latter. While this manifests itself as an increase in the trade deficit, its effect is to help American industries expand.

Myth #3: Countries Such as China Engage in “Unfair” Trade Practices

Many have contended that China is manipulating the value of its currency by undervaluing it, thereby making their exports cheaper and more attractive to foreign importers. However, today, most economists see the yuan as being either fairly valued or even overvalued. Even if the yuan was undervalued, retaliatory tariffs are not the answer. Currency undervaluation effectively subsidizes the American importer; the exporting Chinese business still receives the same amount of purchasing power, but American importers receive goods for less money. 

Myth #4: Protectionism Helps the Little Guy

A recent study showed that if borders were closed to trade, the average country would see the poorest 10 percent of the population see their purchasing power decline by 63 percent, while the top 10 percent would see their income decline by 28 percent. In other words, closing borders to trade would levy an extremely regressive tax on the poor, since it is often the poor who buy imported goods. The cost to lower-income workers would likely be even worse than this, as businesses would be left with less money and forced into layoffs. The International Trade Administration reported that exporting to other countries supported 11.5 million jobs in 2015.

And who would benefit from more protectionism? The same sort of politically connected insiders that protectionists often rail against. Protectionist policy inevitably invites crony capitalism, such as in 2009 when the United Steelworkers convinced President Obama to slap a 35 percent tariff on Chinese tire imports. The result was only a few jobs “protected”... at a cost to the U.S. economy of $900,000 per job.

Myth #5: There Is Nothing Good about the Trans-Pacific Partnership (TPP)

The TPP has numerous positives. First, it is a modern trade deal with modern provisions. Much of the economy is becoming digitalized, and the TPP allows for the Internet economy to remain unencumbered by physical borders. This helps to ensure that the benefits of free trade are extended into the new industries of the 21st century. Second, it ensures that the United States is able to maintain productive trade relationships with Asian countries, as they could otherwise gravitate toward greater economic and diplomatic ties with China without the promise of a mutually beneficial relationship with the United States. Third, the TPP is good for small businesses, including protections for intellectual property rights and allowing small businesses to access new markets without needing a large legal team to navigate complex trade and customs regulations. In addition, the TPP cuts approximately 18,000 tariffs on American exports and approximately 6,000 tariffs on goods imported into the United States. For tax cutting conservatives, this ought to be welcome news. 

The TPP is not perfect, however—just as no modern trade agreement is perfect. It does not liberalize trade for all products immediately and in some cases, extends tariffs for absurd lengths. For instance, the TPP locks in 25 percent tariffs on trucks imported into the United States for 30 years. Likewise, the agreement exempts tobacco challenges from the Investor-State Dispute Settlement process, which sets a dangerous precedent for future trade agreements. 

Murphy’s Law of Economic Policy, coined by Alan Binder, a Princeton economist, states that, “Economists have the least influence on policy where they know the most and are most agreed; they have the most influence on policy where they know the least and disagree most vehemently.” The current trend of public opinion on trade seems to be proving this “law” true. It need not be so, and Americans should reject the ill-informed arguments against free trade in favor of the consensus among economists that it is unequivocally a good thing for the American, and global, economy.