2014-08-24

Ricardo Was Wrong, Free Trade Doesn't Work

Free trade doesn't raise all incomes in a country if the capital and labor markets are open. If labor is imported, it will pressure wages to the downside. If capital is exported along with production, there is no benefit to the nation opening itself up to trade. It is in the position of the Soviet Union: it it at an absolute disadvantage and capital and labor are fleeing.

What is important now is that Nobel prize winning economists are admitting that free trade isn't working as expected. This has major policy implications, especially with declining social mood. Given the human dynamics of the debate, trade policy could also change much faster than immigration policy.

China is the biggest loser in a protectionist world; the U.S. the biggest winner, in terms of domestic economic impact.

Even though the U.S. economy might boom, the U.S. dollar may or may not suffer, depending on whether foreigners were still able to obtain dollars. That would require allowing Americans to invest abroad if foreigners cannot obtain enough dollars through trade. A protectionist world might see a lot of barriers to capital as well as goods though. That could easily throw the world monetary system into crisis.

The end of comparative advantage
David Ricardo's Theory of Comparative Advantage has broken down after 200 years, or so I learned at the Lindau forum of Nobel laureates in Bavaria.

The theory published in 1817 has been a guiding principle of free trade, taken as a given by every student of economics in the modern era. It has served us well, but just as Newton's theories ran into limits and were overtaken by Einstein's relativity, comparative advantage no longer explains the world.

Under Ricardo's model, inequality was supposed to narrow within countries as globalisation accelerated exponentially in the Nineties. Instead it is getting wider....

Ricardo described a world where free trade in goods was opening up, but labour markets remained largely closed. This is no longer the case. Globalisation bids up the wages of high-skilled engineers or software analysts towards international levels wherever they live.

6 comments:

  1. This seems like a very odd commentary coming from someone I had thought was an Austrian.

    The purpose of life is not to labor - free trade provides more things to more people for less overall work; what happens to the nominal value of wages / prices is irrelevant.

    Look at the big picture.

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  2. Free trade provides more goods globally, but some people end up poorer: the low skilled workers in developed nations. I care about my fellow countrymen, and not only because they will vote for more socialism in response to the costs of free trade.

    Also, I reject the idea that tariffs are a bad thing. Tariffs are a tax on goods and services, as is the income tax, the sales tax, the capital gains tax, etc. I would rather have high tariffs (high in terms of revenue raising, not trade restricting) and lower domestic capital gains and income taxes.

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  3. It seems like you are drawing your line in the sand here instead of there. Why define your box of acceptable free trade as within a country's borders as compared to within an alliance of countries, a continent, or the entire world? Seems arbitrary. How successful would the USA have been had the Constitution not prevented the states from blocking each other's trade?

    Personally I find it hard to understand why I should care more about countrymen that I've never met over foreigners that I've never met - just because the countrymen and I were born within the same arbitrary lines drawn in the sand I now forever should place them at higher status over those born outside our lines of sand? Again you get back to the question of where these lines are drawn; why pick the country level and not state level, city level, neighborhood level, or household level?

    Optimizing the method of tax collection seems separate from the question of free trade, especially since you could just levy an all-encompassing consumption tax if your purpose was just to avoid the income tax (which I agree should be avoided).

    Socialism is a natural (and painfully detrimental) part of the cycle of communities. It can (and should) be tried to be delayed, but eventually it will always take over. Better question is where to go / how to get rid of it once its here.

    Free trade does not cause poverty, it on net decreases poverty (dramatically) but also can shift poverty around. So what appears to be poverty created in America is really just it being shifted over from even more impoverished Chinese farmers. But on the whole prosperity is increased.

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  4. "Free Trade Doesn't Work" only as long as all global foreign exchange is NOT on a "clean float":

    "As you ponder these thoughts, consider that; all economies today are truly equal in production as the exchange rates are the manufactures of profit!"

    This 15-year-old quote goes deeper than you'd first assume! http://fofoa.blogspot.com/2014/08/six.html

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    Replies
    1. Dirty floats are gasoline on the fire, and also hiding the real cost of free trade to the poor in developed nations. But if there were no dirty floats, the developed world would have started restricting free trade 20 years ago.

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    2. Indeed! But, what was true 20 years ago won't be true 20 years from now. With forex shenanigans one day out of the way, free trade could indeed fulfill Ricardo's promise ;)

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