Friday, February 12, 2010

On free trade

After listening to this weeks EconTalk, which is essentially a lecture on the merits of free trade that I recommend to anyone who still has doubts, I felt compelled to write a response to Russ Roberts on where I see his analysis falling short.

I'm not going to summarize his argument, but rest assured he makes a compelling, albeit tried and tested case, for why trade helps everyone in the long run and that 'self sufficiency is the road to poverty'. In simple thought experiments, as well as practical real world examples, the benefits of trade are virtually indisputable; my qualm comes when we try to extrapolate these findings to a global scale.

The global marketplace is filled with individuals and groups that not only speak different languages, but also have drastically different cultural norms as well as varying degrees of governmental regulation and support. Recognizing that governments are imperfect (as they are made up of imperfect individuals), we have to account for the fact that conflicts will inevitably arise. In a truly interconnected idealized global economy with high degrees of specialization, countries of the world would be mutually dependent on one another to potentially damaging degrees. This dependence wouldn't necessarily be even as some goods are quite frankly more important to immediate survival than others. Markets provide a way to equate goods by differential valuation, but this doesn't change the fact that humans have several absolute necessities such as food, water and shelter which will always take economic priority over iPods and mattresses.

Let me expand on this thought: Japan has emerged over the past decade as the global leader in automobile sales. It makes economic sense to say: if Japan can produce better automobiles for cheaper, Detroit should close down and there would be no need to produce cars in America. We could instead focus on something that we do well, say harvesting corn. However, if for some unforeseen reason Japan stopped exporting cars to the US, a large sector on which our economy depends would come to a stand still causing massive disruption. And without existing factories, no matter how inefficient they may be, the US would have a several year lag time until they would be able to start producing cars on their own. In this respect, I can see an argument for why we would keep subsidizing a failing industry that is crucial to our economy.

The US could tolerate a lag time in automobile production, but in the case of more essential goods like raw building materials (concrete, steel, plastics, etc.), medicine, and food, any trade disruptions would have absolutely devastating consequences for the country who is on the losing end. To overcome this possibility, countries specializing in relatively low priority goods would have to find other ways to make up for their clear lack of economic power that arises from the inherent inequity of goods. How they do so could involve physical defense in the form of weapons, or pacts with other countries neither of which are ideal options for economically disadvantaged countries that with to retain a certain amount of political autonomy.

To put it bluntly: small, poor countries hardly get a fantastic deal out of this situation. They may benefit greatly from free trade in lieu of disruptions, but when conflicts arise the well diversified rich countries can weather the storm leaving nations that are unable to produce their own food to fall into ruin.

In an interconnected world, economic sanctions could be far more devastating than any bomb. This is not an issue amongst a tribe of traders, or even between states and nations where well designed social and political institutions can easily handle conflicts. Yet, as the circle of free trade grows, so to does the potential for conflict and disruption. Why we can't all just get along is more an issue for philosophers and political scientists but it has real ramifications for the economics of globalization when we realize that there is not a serious institution that can be deferred to in order to solve conflicts on a global scale. When distances expand and trading partners become a number rather than a face, there is a much greater potential for fraud and misrepresentation. Designing efficient conduits for information exchange can help alleviate some of these problems, but cultural barriers may still lead to misunderstandings and outright acts of aggression between trading partners.

In reality, I'm still a staunch supporter of open borders and tariff free goods and I see trade friendly policies as being crucial to economic development and technological advancement across the world. However, serious information/transparency problems as well as cultural/linguistic divides invariably emerge between economic actors as interactions are scaled to the global arena.

Though the costs might not outweigh the obvious benefits, at very least we need to recognize that trade occurs in an imperfect political environment. Therefore there are costs which could outweigh the benefits in certain situations, whether real or hypothetical, and lead to protectionist policies being reasonable options. I don't claim to be able to predict those situations, but as a scientist I recognize that all theories must be falsifiable and we all benefit from further investigation and tests to our theories.

*posted on my blog: fingerprints.and.snowflakes

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