Saturday, April 07, 2007

Understanding Economics: Trade

One of the most fundamental and contentious economic issues is trade.

The fundamentals of trade are simple enough. Because people value things differently, two people can both benefit by trading what they have.

A modern economy depends on trade. People who can only live on what they produce themselves are condemned to abject poverty. A modern economy requires specialization, which means that people produce more of something than they need themselves and trade for what they don't have.

The use of money greatly facilitates this process.

All else being equal, restrictions on trade can only serve to restrict economic activity and make society poorer. Barriers to trade are often justified in the name of protecting businesses and jobs. While such restrictions serve the interests of a few, they make society as a whole worse off.

The fallacy of protectionism can be seen by taking it to a logical extreme. If restricting trade in and out of a country is good, shouldn't the same be true of trade in and out of a state? Why not "protect" businesses and jobs from competition from other states? Why not do the same with counties? Why not restrict trade between individuals? Because trade makes both parties better off.

The above discussion comes with the essential qualifier all else being equal. However, all else is not always equal. The above paragraphs explain the economics of trade. But trade also has political consequences, and they are not so straightforward.

One problem is that another country may suddenly cut off some or all trade. All else being equal, this would not be in its economic interest. However, it could be in its political interest. Another country may cut off some essential material during a war. This may sway the outcome of the war and allow the imposition of terms that create financial gain through government power rather than trade. The use or threat of trade sanctions may extract political concessions from a nation. This can benefit a government, whether or not it benefits a nation as a whole.

Trade sanctions aren't much of a threat when the good being traded isn't essential to a nation's economy. In time, a nation can respond to sanctions by developing its own industries. But intermittent sanctions may prevent this from happening, and during a war there may not be enough time. Some goods are essential. Thus restricting trade of such goods can make sense because of the political risks of trade.

Obviously, this argument can be abused to justify sanctions on goods that are not essential. But that doesn't mean that it never applies. One recent example is that during the war with Iraq, America ran low on a particular type of missile. Part of this missile was made in Switzerland, which opposed the war and threatened not to sell it to us.

Sanctions naturally threaten smaller nations more than America, since they have smaller, less diverse economies.

Another political problem with trade affects countries that have abundant natural resources. Some observers have noticed that countries in which oil makes up a substantial portion of the economy almost always have oppressive governments. (The only exception is Norway, which was already prosperous before oil became a substantial part of its economy.)

Most governments that want to spend a lot of money have to allow some economic freedom. Then their countries will be more prosperous and they will have a larger economic output to tax. But selling oil allows some governments to have large revenues without allowing more freedom. They could not take advantage of this wealth themselves without more advanced economies. But such economies in other countries make this possible. In this case, trade can actually make some people less free.

Another problem is the effect of trade on national sovereignty. Trade can better be conducted when government protects against theft and fraud. Different governments have different regulations and tax codes. When nations trade freely, multinational corporations develop. They constitute a powerful lobby for harmonization of such regulations and taxes. But this can only be enforced by a higher level of government. Thus free trade creates pressure for supranational government.

This may not be inevitable, but it is a real concern. A basic principle of government is that the larger and more distant it is, the less responsive and more oppressive it is. Creating supranational government creates a greater likelihood of oppressive taxes and regulations. Thus free trade may have a net result of less freedom. This is why Karl Marx advocated free trade--to tear down the barriers between nations.

The United States Constitution enforced a policy of free trade between the states. This helped to bind the states into one nation. This was likely beneficial, given the Constitution's strict limits on government power. But such limits are hardly an inevitable part of government.

Another problem is not with the principle of free trade, but its practice. The principal means of advocating free trade is through so-called "free trade agreements" between governments. While such agreements are sold as free trade, they actually contain thousands of pages of regulations of trade. They can better be described as government-managed trade.

This is true of the North American Free Trade Agreement (NAFTA), which created supranational courts to enforce it. It is true of the Central American Free Trade Agreement (CAFTA), which is full of such regulations. The World Trade Organization (WTO) is a supranational government organization that has the power to strike down American laws.

The European Union was originally sold as a "free trade agreement", the European Coal and Steel Community. Over time, it was transformed into the European Economic Community and European Union. The EU was regularly justified with appeals to "free trade", but the real goal was always regional government. This story is told in The Great Deception: The Secret History of the European Union by Christopher Booker and Richard North.

Not all of the political consequences of trade are bad. Trade can make war less likely due to economic and cultural ties between nations. It can also pressure countries with more restrictive economic policies to loosen them to compete.

Trade has both economic and political consequences. Analyzing trade proposals requires discretion. They should not be thoughtlessly supported or opposed.


Anonymous said...

Perhaps, Allan, you should also elaborate on the fact that your ideas about "government mandated trade" are taken in large part from Hans Hoppe. In fact, you just about plagiarize right from his book "Democracy: The God That Failed." Hoppe, you might tell your readers, has written on how democracy is an inferior form of government compared to monarchy where the state is more able to perform the services necessary to ensure market function. Can you tell us about that and what you think about it?

Matthew said...

The argument that trade makes natural resource-rich countries less free is misleading. It is government that oppresses their people; blaming trade for government oppression is poor logic. There will always be something government can take from its people and blaming the fact that there is something to take and profit from as an excuse for government's actions is a poor one at that.

Furthermore, supernational government organizations will only take power over a people if those people allow it to. Trade may be one vector for achieving this, however there are many more. In the end it comes down to the personal decisions of a people to let a government rule them or not to. Sovereignty doesn't have to be a transaction cost of trade.