Obamas Efforts To Boost Exports Face Hurdles : NPR

President Obama thinks the key to recovering the millions of American jobs lost during the recession lies in boosting exports to the rest of the world:

The plan sounds great. As we learn in AP and IB Economics, free trade leads to benefits for nations that choose to participate in it. Of course, promoting free trade will harm some industries and workers whose jobs end up being “off-shored” or “out-sourced” to countries with cheaper or more qualified labor; but Obama’s hope is that promoting free trade will result in a net gain of 2 million American jobs.

The goal of doubling US exports in 5 years, however, may be overly ambitious. According to the CIA World Factbook, the US is currently the fourth largest exporter in the world, sending just around $1 trillion worth of goods and services abroad in 2009, behind the EU with $1.9 trillion, China with $1.2 trillion and Germany with $1.18 trillion of exports. Obama’s goal to double US exports would propel the US to the single largest exporting nation in the world, putting it right around where the 27 nations of the European Union are today.

To achieve his goal, Obama proposals include three strategies for boosting demand and supply of US exports.

• On the supply side he suggests continuing recent guarantees for payment by foreign buyers. Essentially such a scheme reduces the risks that often accompany international commerce, reducing the “costs” of exporting firms, which in essence increases the supply of exports from the US.
• On the demand side the US must pressure China to revalue its currency. A stronger RMB (and a weaker dollar) will increase China’s demand for US goods and services.
• Also on the demand side, the US should push through free trade agreements with South Korea, Panama and Columbia, which have encountered obstacles among US lawmakers who fear that more free trade may actually mean a loss of US jobs.

Free trade agreements, export payment guarantees and a weaker US dollar in China will help Obama reach his goal. Chances are, however, that it will ultimately be unattainable. Doubling US exports would propel the US to the top of the list of exporting countries, surpassing even China, today’s current leader, by $700 billion more than the country exported last year. The impact on US GDP would undoubtedly be enormous, adding upwards of  $1 trillion to the US economy.

Creating jobs through trade is controversial, as many Americans still believe trade is partially to blame for the loss of American jobs in recent years.

“The average voter in the U.S. has been pretty on the fence about whether they want more trade coming into the United States,” Slaughter says. “The income pressures that a lot of households have faced in recent years have sort of shifted that balance where more voters now are a lot more wary of globalization than they used to be.”

While his goal is lofty, Obama is on the right track towards growing the US economy and promoting job creation. Trade benefits Americans not just because it will increase demand for our goods and services abroad, but because it will lead to lower prices for many of the things we enjoy consuming at home, ultimately increasing real incomes in America while also creating jobs.

The graph below presents a simple explanation of how the above strategies can result in more jobs in US export industries.

Discussion Questions:

1. How does China manipulate the value of its currency? Why is such manipulation harmful to US exporters?
2. How does a government payment guarantee for exporters actually reduce the costs of doing business for US exporting firms?
3. Do you believe that more free trade agreements with countries like South Korea and Panama will create jobs or destroy jobs in the United States? Explain.

FT.com | The Economists’ Forum | Imbalances and undervalued exchange rates: Rehabilitating Keynes

In our year 2 IB Economics class, we are beginning the part of our International Trade unit on exchange rates and the balance of trade . While the market for a particular currency reflects many of the same characteristics as a product market (i.e. upward sloping supply curve, downward sloping demand curve), the consequences of a change the price of a currency (the exchange rate) is far more powerful than a change in the price of a particular good or service in a product market.

How does the value of a country’s currency affect that country’s balance of trade with other countries? To understand this important concept, we first need to know something about the process by which currencies are exchanged when two countries trade. Let’s look at an example:

When an American consumer wants to buy an iPod that was made in China she will have to pay for it in US dollars, since that’s what she earns her wages in from selling her labor in the resource market. Apple now has the consumer’s $300, which gets split up to cover all the costs the company faced in the manufacture, distribution, marketing and sale of the iPod. Part of that $300 (say $100) will go to the manager of the factory in China where it was made.

The factory manager in Shanghai faces his own costs he must cover. He must pay rent on his factory space, interest on the loans he took out to acquire capital, and wages to the workers assembling iPods on his factory floor. The problem is, these costs are all in Chinese yuan, but he’s holding the US dollars that Apple paid him for his iPod. In order to cover his costs, the Chinese factory owner must take the $100 to a Chinese bank and swap it for RMB. The local bank that changes his money now hands the $100 over to China’s central bank (the PBOC) which prints and exchanges RMB to the bank at whatever the prevailing exchange rate is at the time.

Ultimately, China’s central bank will decide what to do with its holding of US dollars. Most of the dollars are loaned back to the United States through China’s purchase of US Treasury securities (the IOUs the US government sells to finance its deficits). China’s voracious demand for US dollar denominated assets keeps the demand for (and the the value of) dollars high on foreign exchange markets, meaning the RMB remains relatively cheap for Americans and therefore Chinese manufactured goods attractive.

China’s policy of exchange rate manipulation has upset many American politicians over the years, who often blame China for America’s shrinking manufacturing sector. A weak RMB means the cost of producing things like iPods in China is far lower than it would be in the US. By keeping demand for dollars high on the foreign exchange markets through its incessant demand for US treasury securities and other financial and real assets, while simultaneously hoarding vast reserves of US dollars in its central bank, thus keeping supply of dollars on foreign exchange markets low (see graph), China has prevented the RMB from appreciating, fueling the growth of the country’s export-manufacturing sector.

China’s currency manipulations may soon ilicit a response from the United States as president-elect Barack Obama takes office next year. Facing a recession and rising unemployment, combined with the recent appreciation of the US dollar, the pressure is on Obama to take immediate action to restore America’s manufacturing sector. According to the Financial Times blog “the Economists’ Forum”:

If the US economy takes a downturn and the dollar continues to strengthen, a resurgence of protectionist pressures is likely. This time around, these pressures could well take the form of unilateral action against competitive currencies. It is noteworthy that President-elect Obama has actively and repeatedly supported action against “currency manipulation.”

The “competitive currency” perceived to pose the greatest threat to America’s inustrial sector is certainly the Chinese RMB. Currency manipulation is a form of protectionism, which in a time of global economic slowdowns poses a larger threat than ever to both developed and developing nations’ economies alike. For this reason, the World Trade Organization may need to employ carrot and stick methods to create incentives for China to liberalize its currency controls and allow the RMB to strengthan against the dollar and other major currencies:

How would this new rule against undervalued exchange rates be incorporated in the WTO? Through negotiation. The (WTO) should place rules on undervalued exchange rates…. The US and EU have been the principal demandeurs for action by China in the past. But it is important to remember that until very recently, a number of developing countries—Brazil, Mexico, Korea, Turkey and South Africa—were affected by the competitive pressure from the undervalued (RMB). Indeed, some months ago, the Indian Prime Minister urged China to follow a more market-based exchange rate policy. For obvious reasons, more emerging market countries have not voiced their concerns, but it is possible that a coalition of affected countries could unite on this issue.

Clearly, Chinese concerns have to be addressed for any new rules to be crafted and commonly agreed… First, China’s major trading partners could pledge granting China the status of a “market economy” in the WTO contingent on it eliminating currency undervaluation and moving to a market-based system. This status would have significant value for China by shielding it against unilateral trade actions such as anti-dumping and countervailing duties by trading partners. Second, as part of radical governance reform of the IMF, which is desirable in itself, China should be offered a substantially larger voting share in the IMF commensurate with its economic status.

Discussion Questions:

1. How does China continuing to undervalue its currency threaten the industrial economies of its largest trading partners?
2. What is China’s purpose for maintaining the low value of the RMB relative to the currencies of other nations?
3. What would be a unilateral protectionist measure an Obama administration may advocate if the WTO refuses to take action against China’s currency manipulations? How would you advise president-elect Obama on the issue of whether to take protectionist action against China in the context of the current economic crisis in America?

America, a champion of free trade between the world’s nations… right?

Actually, the United States places tariffs (taxes on import) on virtully every item it trades for with the rest of the world. Below is just one tiny section of the 75 page table of contents (!!) of the “Harmonized Tariff Schedule of the United States”.

JOGGING SUITS knitted or crocheted . . . . . . . . .. . . . . 6112.11-19
JOINERY of wood, for builders . . . . . . . . . . . . . . . . . . . . . . . . . 4418
JOINTS artificial . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .. . . . . 9021.11
JOJOBA OIL . . . . . . . .  . . . . . . . . . . . . . . . . . . 1515.90, 1516-1518
JOKE ARTICLES . . . . . . . . . . . . . . . . . . . . .. . . . . . . . . . . . . . 9505.90
JONGKONG . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .  . . . . Ch. 44
JOURNALS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .  . 49-3, 4902
JUDO UNIFORMS of cotton . . . .  . . . . . . . . . . . . 6203.22, 6204.22
JUICES fruit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .20-US1-3
fruit and vegetable . . . . . . . . . . . . . . . . . . . . . . . . 20-5, 2009.11-90
meat, fish, or aquatic invertebrates . . . . . . . . . . . . . . . . . .1603.00
JUMPSUITS men’s or boys’ . . .  . . . . . . . . . . . . . . . . . . .  6211.32-33
women’s or girls’ . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .6211.42-43
JUNIPER seeds of . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . …0909.50

Yes, folks. Even “Joke Articles” made overseas are taxed before ending up in the hands of American consumers (by 70% as it turns out!). But tariffs are no joke. The podcast below offers an excellent evaluation of the effects of America’s tariffs on various stakeholders, including American consumers, producers, and workers and on foreign producers, consumers and workers.

After listening to the whole podcast, respond the the following questions in a comment.

Discussion Questions:

1. How does a tariff on Chinese tires affect American tire manufacturers? Why are American firms that make tires actually opposed to the tariff on Chinese imports?
2. Which group is the main proponent of higher tariffs on Chinese tires? Why does this group favor higher tariffs?
3. How have the Chinese responded to the American tire tariff? Why are American chicken farmers upset about the tax on Chinese tires?
4. Why do “97% of economists say tariffs are a bad idea?” The commentator says economists hate them because “they are so inefficient”. Discuss the economic reasoning behind this statement.
5. Do you think it is likely that the 35% tariff on Chinese tires will save or create jobs for Americans? Why or why not? What are your conclusions regarding the economic wisdom of tariffs?

US president Barack Obama made a speech directly to Wall Street today. In his speech, Obama reflected on the many lessons America has learned in the last year since the financial crisis began. He urged his audience of investors, bankers and brokers that

“Normalcy cannot lead to complacency,” Obama said. “Unfortunately, there are some in the financial industry who are misreading this moment. Instead of learning the lessons of Lehman and the crisis from which we are still recovering, they are choosing to ignore them.”

“They do so not just at their own peril, but at our nation’s,” the president added.

In addition to his warnings about the threat posed by overly risky financial markets to the US economy, President Obama expressed his commitment to free trade and “the fight against protectionism”.

Obama says:

…enforcing trade agreements is part and parcel of maintaining an open and free trading system.

The enforcement of existing trade agreements Obama refers to is his way of justifying a decision his administration made over the weekend that actually limits free trade between America and one of its largest trading partners, China.

Trade relations between two of the world’s biggest economies deteriorated after Barack Obama, US president, signed an order late on Friday to impose a new duty of 35 per cent on Chinese tyre imports on top of an existing 4 per cent tariff.

In his first big test on world trade since taking office in January, Mr Obama sided with America’s trade unions, which have complained that a “surge” in imports of Chinese-made tyres had caused 7,000 job losses among US factory workers.

So, in his speech today, Obama decries protectionism and calls for expanded trade and free trade agreements which are “absolutely essential to our economic future”. But only three days ago, he supported a blatantly protectionist measure aimed at keeping foreign produced goods out of America in order to save a few thousand American jobs.

Obama’s decision is a bad one for several reasons. As an economics teacher, I will turn firstly to a diagram for an illustration of the net loss to the American people of higher tariffs on imported tires:

The key point to notice in the above graph is that a tariff on imported tires results in a net loss of welfare in America. The blue area represents the increase in the welfare of tire manufactures (this could be interpreted as the jobs saved in the tire industry and the profits earned due to higher prices); the black areas, on the other hand, are welfare loss. Since all tire consumers in America pay more for their tires due to the 35% tariff, real income is affected negatively for the nation as a whole.

One effect of the protectionist policy the graph does not illustrate, and perhaps the most serious negative impact of the tariff on America, is the response the Chinese are likely to take to what they interpret as a violation of existing free trade agreements between the US and China.

“This is a grave act of trade protectionism,” Mr Chen said in a statement. “Not only does it violate WTO rules, it contravenes commitments the US government made at the [April] G20 financial summit.”

Beijing said it had requested WTO-sanctioned consultations with the US over Washington’s new duties on tyres. Yao Jian, a commerce ministry spokesman, said the duties were in ”violation of WTO rules”.

China said it would now investigate imports of US poultry and vehicles, responding to complaints from domestic companies.

The problems with protectionism are myriad. Clearly American consumers suffer through higher tire prices. In addition, Chinese manufacturers will see sales fall as their product becomes less competitive in the US market. According to the CCTV report below, as many as 9,000 workers in the Chinese tire industry will lose their livelihoods due to declining demand from the US. But the unforseen effects of the US tariff on Chinese tires is the retaliatory measures China will almost certainly take. If China imposes new tariffs on American automobiles and poultry, the scenario in the graph above will be reversed, and Chinese consumers will face higher prices, Chinese car and poultry producers will experience rising sales, while the American auto worker and chicken farmer will suffer.

Free trade tends to result in net benefits for economies that choose to participate in it. American tire manufacturers are certainly harmed by cheap Chinese imports; however, America as a whole benefits through cheaper goods, more consumer surplus, higher incomes in China and therefore greater demand for imports of products made in America. The road to protectionism is a dangerous path to take for the Obama administration. Justifying these new tariffs by claiming that they “enforce existing free trade agreements” is a political maneuver aimed at covering up the truth, which is that the Obama administration has sided with a special interest group to save a few thousand jobs and garner political favor at a time when 700,000 American jobs are being lost each month. By doing so, he is calling into question his own commitment to free trade, and harming America’s image as a global proponent of global economic integration.

Discussion Questions:

1. Why is the Chinese government so upset about a new tax on such an insignificant product as automobile tires?
2. “Self-sufficiency is the road to poverty”: Do you agree?
3. Some would say that it is a small price to pay for Americans to face higher prices for one product like tires in order to “save” 7,000 Americans’ jobs. Would you agree? Why or why not?
4. If 7,000 Americans were to lose their jobs due to free trade with China, what would we call the type of unemployment experienced by these workers? Is this the same type of unemployment experienced by the 700,000 workers who have lost their jobs each month during the last year of recession in the United States?

U.S. Trade Gap Widens on Oil Imports – WSJ.com

Terms of trade is a term that is often misunderstood by IB Economics students. Simply put, a nation’s terms of trade refers to the relative price of a country’s exports to its imports.

When a country’s imports increase in price, while the value of its exports stays the same, the country’s terms of trade are said to deteriorate. As a nation experiences deteriorating terms of trade, it finds itself moving towards a deficit in its current account, meaning that expenditures on imports are growing more than income from exports, also called a trade deficit.

The United States has run trade deficits for most years since 1970. Since 2004 the US has annually spent over $600 billion MORE on imports than it earned from the sale of its exports. (Balance of trade data going back to 1960 can be found here).

Usually, when a country enters a recession, it would be expected that its balance of trade would improve, since households demand fewer imports and domestic inflation decreases making the country’s products more attractive to foreign households. In fact, in 2008, when the US entered its current recession, its trade deficit actually decreased. Recently, however, due to the weakness of many of its trading partners and a deterioration in terms of trade, America’s recession is accompanied by a deepening trade deficit:

The U.S. trade deficit widened for the first time in eight months during March, as the price and use of imported oil both climbed.

The U.S. deficit in international trade of goods and services increased to $27.58 billion from February’s revised $26.13 billion, the Commerce Department said Tuesday. Originally, the February deficit was estimated at $25.97 billion.

U.S. exports in March slipped by 2.4% to $123.62 billion from $126.63 billion as trading partners bought less consumer goods and cars from the U.S. U.S. imports fell at a lower rate, dropping 1.0% to $151.20 billion from February’s $152.76 billion

Discussion Questions:

1. How did rising oil prices lead to an increase in America’s trade deficit?
2. What determines demand for American exports in the rest of the world? Why is demand for American goods and services falling even as their prices decline due to deflation in the US?
3. Where does America get the money to buy hundreds of dollars more in imports than it sells in exports? What do foreigners do with all the US dollars they earn from their enormous trade surplus with the US?
4. Why doesn’t the US government simply place tariffs or quotas on imports to try and achieve more balanced trade with the rest of the world? Is this an appropriate response to a trade deficit?

FT.com | The Economists’ Forum | The case for forward-looking protectionism in the US

Free trade is an ideal. This is a theme of my IB Economics class which I emphasize repeatedly during year two of the course. Free trade, defined as the exchange of goods, services, resources, and financial assets based on the principle of comparative advantage, results in a more efficient allocation of the world’s resources, an increase in total world output and welfare, and increases the opportunity for growth and development for all countries that prescribe to its principles. This is the ideal, at least.

In the real world, free trade is rarely practiced. Free trade agreements between nations represent managed trade; the selected removal of protections such as tariffs, quotas and subsidies on the exchange of particular goods does not represent free trade, rather managed trade. The problem with free trade in the real world is simply that it has never been truly practiced, therefore the adjustments that both developed and developing countries would have to undergo to adopt widespread free trade would be extremely disruptive both economically and socially. Entire industries would disappear from the developed countries as manufacturing resources were reallocated to low cost countries. Poor countries trying to build their manufacturing industries would lose any competitive advantage offered by protectionism, forcing their “infant industries” to wither and die in the face of global competition from countries that long ago achieved economies of scale in manufacturing. Farmers used to heavy subsidies would see their livelihoods disappear as the world’s food would be sourced from the countries with true comparative advantages in agriculture. Simply stated, the social costs of the widespread adoption of free trade are not politically palatable, thus leaders have only hesitantly pursued this ideal on the world stage.

For decades, America has stood for the ideal of free trade, proselytizing its advantages and urging developing countries to reduce or remove their barriers to the free flow of resources and goods from nation to nation. Today, however, the United States faces the very fate free trade prophesized as its own automobile industries teeters on the edge of collapse. As many as 3 million American jobs stand to be lost if the auto industry goes under. Today, America faces the ultimate test of its will to stand for and defend free trade in the world. Should America erect new barriers to trade, bail out its auto industry, and save this dying sector from collapse to avoid the political hardships its death would incur? Or should America stand for the ideal of market liberalization and allow the auto industry to disolve as the principle of comparative advantage indicates it should?

The question is dire, and it’s one that Barack Obama will be forced to address early in his term as president. Cambridge economcis professor Ha-Joon Chang argues the case for protectionism by America in this time of economic turmoil:

Mr Obama’s trade policy… is already causing controversy. He has vowed to protect American jobs and even argued for re-negotiating the NAFTA. There is already some hand wringing among free-trade economists, worrying that his protectionist policies may destroy the world trading system in the same way the infamous Smoot-Hawley Tariffs of 1930 did after the Great Depression. They counsel that the US should maintain its historical commitment to free trade.

However, contrary to what most people think, the US is the true home of protectionism. Between the 1830s and the 1940s, against superior European competition, the US developed its industries behind literally the highest tariff wall in the world, with the average industrial tariff rate ranging between 35% and 55%. Even the Smoot-Hawley Tariffs were not an aberration – the average US industrial tariff in 1931 was, at 48%, well within the historical range.

Moreover, the theory that justified such protectionism, namely, the ‘infant industry’ argument, had been first developed by none other than the first Treasury Secretary of the US – Alexander Hamilton (that’s the guy you see on the $10 bill). Hamilton argued that producers in relatively backward economies needed to be protected and nurtured through tariffs, subsidies, and other government policies before they mature and can compete with producers from more economically developed countries.

Of course, the protectionism that Mr Obama is advocating is protection to ease the adjustment of mature industries, rather than to promote infant industries. The case for such protectionism is not as overwhelming as that of infant industry protection. However, well-designed and time-bound protection of mature industries can facilitate, rather than hinder, trade adjustment and industrial upgrading. Japan and some European countries in the aftermath of the 1970s Oil Shocks come to mind.

Mr Obama should use protectionism in a similarly forward-looking way. Industries that can be revived through re-tooling of its factories and re-training of its workers should be given protection, but only if they fulfill certain conditions regarding investment and training. Industries that have no future should be given strictly temporary protection to ease phasing-out through orderly liquidation and redundancy.

…Keeping its market open is not enough for the US to play a genuinely positive role in the world trading system. The US should also stop pushing for trade liberalization in developing countries and give them the chance to use (intelligently-designed, of course) infant industry protection, which it invented and benefited so much from. Mr Obama should take a lead in creating a world trading system that allows asymmetric protectionism between the rich countries and the poor countries, with the latter protecting their markets more and gradually opening up in line with their economic development.

All these call for a much more activist role for the US government than it has been the norm. Providing protectionism to facilitate structural changes, and not just to protect existing jobs, would require a much closer coordination between trade policy and those policies to upgrade American industries, such as R&D support and worker training. Redesigning the welfare state as a vehicle to promote skills upgrading and labor mobility would push the US government into an uncharted territory.

These are big challenges. However, the US cannot continue its peculiar mixture of free-trade mythology and uncoordinated, ‘reactive’ protectionism that has served ordinary Americans and the developing nations so poorly.

Mr Obama has turned a new chapter in US history by becoming the country’s first Afro-American president. He will turn a new chapter in world history if he can come up with a forward-looking protectionist strategy that that both protects American jobs better in the long run and help developing countries develop faster.

Discussion Questions:

1. What is the difference between the protectionism America needs today and the protectionism it used in the late 19th and early 20th centuries?
2. How could protectionism be used responsibly by developing countries to promote economic growth and development?
3. Professor Chang argues that responsible protectionism should allow industries with no future to be phased out “through orderly liquidation and redundancy”. What does he mean by this and why is such a policy so hard to accomplish politically?

Russell Roberts of George Mason University is a well-known advocate of free trade. This article is one of my favorite and certainly one of the clearest explanations of the mutual benefits resulting from free trade that I have read.

Foreign Policy: Why We Trade – by Russ Roberts

To hear most politicians talk, you’d think that exports are the key to a country’s prosperity and that imports are a threat to its way of life. Trade deficits—importing more than we export—are portrayed as the road to ruin… Politicians are always talking about the necessity of other countries’ opening their markets to American products. They never mention the virtues of opening U.S. markets to foreign products.

This perspective on imports and exports is called mercantilism. It goes back to the 14th century and has about as much intellectual rigor as alchemy, another landmark of the pre-Enlightenment era.

The logic of “exports, good—imports, bad” seems straightforward at first—after all, when a factory closes because of foreign competition, there seem to be fewer jobs than there otherwise would be. Don’t imports cause factories to close? Don’t exports build factories?

But is the logic really so clear? As a thought experiment, take what would seem to be the ideal situation for a mercantilist. Suppose we only export and import nothing. The ultimate trade surplus. So we work and use raw materials and effort and creativity to produce stuff for others without getting anything in return. There’s another name for that. It’s called slavery. How can a country get rich working for others?

Then there’s the mercantilist nightmare: We import from abroad, but foreigners buy nothing from us. What would the world be like if every morning you woke up and found a Japanese car in your driveway, Chinese clothing in your closet, and French wine in your cellar? All at no cost. Does that sound like heaven or hell? The only analogy I can think of is Santa Claus. How can a country get poor from free stuff? Or cheap stuff? How do imports hurt us?

We don’t export to create jobs. We export so we can have money to buy the stuff that’s hard for us to make—or at least hard for us to make as cheaply. We export because that’s the only way to get imports. If people would just give us stuff, then we wouldn’t have to export. But the world doesn’t work that way.

It’s the same in our daily lives. It’s great when people give us presents—a loaf of banana bread or a few tomatoes from the garden. But a new car would be better. Or even just a cheaper car. But the people who bring us cars and clothes and watches and shoes expect something in return. That’s OK. That’s the way the world works. But let’s not fool ourselves into thinking the goal of life is to turn away bargains from outside our house or outside our country because we’d rather make everything ourselves. Self-sufficiency is the road to poverty.

And imports don’t destroy jobs. They destroy jobs in certain industries. But because trade allows us to buy goods more cheaply than we otherwise could, resources are freed up to expand existing opportunities and to create new ones. That’s why we trade—to leverage the skills of others who can produce things more effectively than we can, freeing us to make things we otherwise wouldn’t be able to afford.

Discussion Questions:

1. “Self-sufficiency is the road to poverty” – Discuss…
2. Explain the logical economic fallacy of the mercantilist philosophy of “exports good, imports bad”
3. “…because trade allows us to buy goods more cheaply than we otherwise could, resources are freed up to expand existing opportunities and to create new ones”. What basic economic principle is Professor Roberts alluding to here?

YouTube – Obama / McCain 3rd Debate, Part 10 – Free Trade

Below is a clip from the third and final presidential debate, in which the candidates discuss the benefits of free trade.

Both candidates support the principles of free trade, one more enthusiastically and with fewer conditions than the other. Only Obama speaks of “fair trade”, which he seems to think means trade that does not encourage the violation of human rights abroad.

Notice how towards the end of the discussion of free trade, McCain attempts to wrap up the conversation when he claims:

“I don’t think there is any doubt that Senator Obama wants to restrict trade and to raise taxes; and the last president of the United States who tried that was Herbert Hoover, and we went from a deep recession into a depression…”

Hoover, of course, was the US president at the time of the Great Depression, when the government’s response to a financial crisis on Wall Street worsened the economic meltdown, throwing the US into its deepest and longest slowdown in history.

Discussion questions:

1. How would a free trade agreement with Columbia help “create jobs in America”? What are the “billion dollars or more that (America) has already paid” through its trade with Columbia?
2. What is the source of Obama’s lack of enthusiasm for the Columbia Free Trade Agreement? Do you agree with his position on the importance of limiting free trade in order to stand for human rights? Why or why not? Is his view a protectionist one?
3. One of Obama’s highest priorities is to hold auto makers responsible for improving the fuel efficiency of American-made automobiles. How does he plan to create “five million new jobs all across America, including in the heartland”? Does Obama’s plan to invest in a clean energy economy sounds remotely protectionist? Why or why not?

FT.com / World – Anti-dumping investigations soar

Free trade is good, right? This sentiment is one that economists typically agree with wholeheartedly. The mutual gains from free trade among nations that specialize in the goods for which they have the comparative advantage results in increased global output and consumption among trading nations. That, at least, is the basic premise of free trade.

But is there such a thing as unfair free trade? The World Trade Organization, whose mission is the removal of barriers to trade among all the world’s nations, thinks there is such a thing as unfair trade. Under certain circumstances, the WTO allows member nations to place protective tariffs on particular imports, and recently, more and more nations have taken action to protect their domestic markets from unfair trade practices of their trading partners:

The number of new anti-dumping investigations soared by nearly 40 per cent in the first six months of this year, the World Trade Organisation said on Monday, reflecting increased trade tensions as the credit crunch began to take its toll on the global economy.

Between January and June 16 WTO members started 85 new investigations compared with 61 in the first six months of 2007. China was the target of nearly half the probes, a jump of 75 per cent over the same period last year.

Under WTO rules, countries can put duties on unfairly priced imports that are sold in export markets more cheaply than at home. But until this year dumping actions had seemed to be on a downward trend, with 164 investigations in the whole of last year compared with over 200 in 2006.

Anti-dumping actions, once mainly taken by rich countries against poor ones, have become a tool increasingly used by developing nations while industrialised countries have increasingly become targets…

The EU was the third-ranking target in the first half of the year, after China and Thailand. Canada, the US, New Zealand and Norway also had investigations opened against their exports.

The WTO said the main products affected were base metals (21 investigations), textiles (20) and chemicals (10).

The number of new measures taken as a result of anti-dumping probes also rose in the first six months of 2008, with 54 measures against 51 measures in the same period in 2007. India applied duties in 16 cases, with the EU some way behind in second place.

China was again the main target followed by Taiwan, the EU, South Korea, Russia and the US.

Discussion Questions:

1. Why would a country want to keep cheap imports out of its domestic markets? Don’t cheap goods make consumers happy?
2. Does dumping refer to the sale of a country’s goods below the importing country’s costs of production or the costs of production in the country where the good is made? Why does this distinction matter?
3. When a nation protects its domestic market from dumping, is the principle of comparative advantage being undermined? Discuss.

“This post was originally published in April, 2008. It has been re-published today for the benefit of my year 2 IB Econ students, who are currently studying barriers to free trade.

Bloomberg.com: Economy – Korea Beef Deal Won’t Yield Trade Vote

Free trade: everyone either loves it or loves to hate it. South Korea and the US have been in negotiations for a landmark free trade agreement for years. Korea, however, has had a “beef” with US beef imports since 2003, when a case of Mad Cow Disease gave Korean officials the jitters and all imports were halted.

Even though Mad Cow has disappeared from American beef, the ban has remained, making it difficult for negotiators to come to any major agreements on the reduction of tariffs and other barriers to trade in other markets in which the US and Korea trade. Just last week, South Korea removed the beef ban, giving some analysts hope that a free trade deal may soon be agreed upon.

President Bush signed the agreement last year but has hesitated to pass it on to Congress; where certain Democratic politicians have refused to approve the agreement until S Korea removed the beef ban. Now that the ban has been lifted, however, it appears that the issues keeping an agreement from being reached may run deeper than the simple beef ban:

In addition, Ford Motor Co., unions and Democrats, including both Hillary Clinton and Barack Obama, all say the accord must be reworked to address what they call South Korea’s barriers to U.S. manufactured goods.

“I understand there are foreign policy considerations, but this is too important for us,” Stephen Biegun, vice president for government affairs at Ford said in an interview earlier this month. “We don’t see any sign that they are ready to change.”

Levin, who represents autoworkers in suburban Detroit, said the accord will need to be changed to address what he calls South Korea’s non-tariff barriers to U.S. manufactured goods, especially autos.

Clinton, in a response to questions from the Pennsylvania Fair Trade Coalition, said the agreement with South Korea “will cost America jobs.”

The S Korea / US Free Trade Agreement should bring a boost in trade between the two countries:

The U.S. is South Korea’s second-largest export market behind China, with shipments totaling $45.8 billion in 2007. Imports from the U.S. last year reached $37.2 billion. The trade agreement would eliminate or reduce tariffs on a wide range of goods including automobiles, vegetables and electronics.

Through free trade there are winners and losers. This is a theme we’ve explored in some depth already during our International Economics unit. The winners, in the case of the S Korea/US FTA will likely be manufacturers in S Korea and service industries in the US. Judging by Ford Motor Company’s response to the FTA, we can assume that American manufacturers will be losers from the accord.

Does this make it bad, however? According to macroeconomic theory, no. The removal of tariffs on imports from S Korea will force American manufacturers to become more competitive and achieve greater efficiency, both which will result in a more efficient allocation of resources in both S Korea and the US. If Ford, for example, sells fewer cars because of in influx of high quality, affordable Korean automobiles, then Ford may be forced to shut down some of its plants in the US. This will lead to the loss of American jobs, just as Hillary Clinton claims it will.

But in the long-run, America as a whole should be better off for it. Manufacturers in the US will focus more on capital intensive goods such as industrial equipment, the manufacture of which requires highly skilled labor, which America has in abundance. In addition to industrial equipment and other high skilled manufactured goods, the US service sector should benefit from freer trade with S Korea.

With beef being resolved, the U.S. banks, insurance companies and other services companies that stand to gain the most from this accord are gearing up their lobbying efforts.

Beef “has been our biggest obstacle in having a meaningful dialogue on the benefits of this agreement,” said Matt Niemeyer, vice president for the business insurer ACE Ltd. and a former U.S. trade official. “It’s now time to work with Congress to find a way to move this important agreement this year.”

As any student of economics knows by now, politics and economics don’t always mix well. The opposition to the S Korea/US FTA among Congressional Democrats is more political than it is economic. Jobs will be lost, that’s true, but overall trade between two technologically advanced, developed countries like the US and S Korea should do more for improvements in efficiency and in resource allocation than it will in harm for a handful of American workers who may find themselves out of work due to greater demand for imported automobiles.

*A tariff on Korean automobiles results in the following outcomes:

• The quantity demanded of automobiles is less than it would be without a tariff (Q4 rather than Q3)
• The quantity supplied by American auto manufacturers is greater than it would be without the tariff (Q2 rather than Q1)
• The difference between Q2 and Q1 represents an overallocation of resources in America towards automobile manufacturing.
• The domestic quantity demanded exceeds the domestic quantity supplied. The difference (Q4 - Q2) is made up for by imports from S Korea.
  
• The government earns revenue equal to the area of the yellow rectangle (amount of tariff x number of cars imported)
• Society experiences a loss of efficiency (deadweight loss) equal to the combined areas of the green triangles Y and X. This is consumer surplus lost, accounted for by the higher price paid by American consumers imposed by the tariff.

In the model above, the removal of a tariff on Korean automobiles will result in a decrease in output by American firms from Q2 to Q1, an increase in imports from Q4 – Q2 to Q3 – Q1, and an increase in consumer surplus, efficiency, and better overall allocation of resources in America.

Discussion questions:

1. How does the graph illustrate the concept of “winners and losers from free trade”?
2. Who gains and who loses from free trade with the US within Korea?
3. Is it possible that a free trade agreement with Korea would actually create jobs in America? Explain…
4. Why do politicians oppose free trade deals that would result in such improvements in efficiency, allocation of resources, and even in the employment opportunities for American workers?

Beyond the Noise on Free Trade – New York Times

Ever wondered which presidential candidate had the most “economistic” views on economic issues? In other words, which candidate supports economic policies most in line with the mainstream economic theories of our day: Obama, Clinton or McCain?

First question is what, exactly, are the mainstream economic views at issue? In Harvard Professor Gregory Mankiw’s article above, he talks about the issue of free trade:

Economists are, overwhelmingly, free traders. A 2006 poll of Ph.D. members of the American Economic Association found that 87.5 percent agreed that “the U.S. should eliminate remaining tariffs and other barriers to trade.”

The benefits from an open world trading system are standard fare in introductory economics courses. In my freshman course at Harvard, we start studying the topic in the second week, and we return to issues of globalization throughout the year. The basic lessons can be traced back to Adam Smith of the 18th century and David Ricardo of the 19th century: Trade between two countries creates winners and losers, but it leaves both nations with greater overall prosperity.

Indeed, all principles of economics courses (including our AP and IB courses here at SAS) teach in the first units the concepts of comparative advantage and trade based on specialization by nations in the production of the goods for which they have a lower opportunity cost than others. This basic tenet, illustrated so clearly with a simple productions possiblity curve, has proven to be the source of endless political turmoil in America, a country whose market economy is built on the principles of free trade, but whose citizens seem to increasingly oppose it today:

In December, an NBC News/Wall Street Journal poll asked Americans, “Do you think the fact that the American economy has become increasingly global is good because it has opened up new markets for American products and resulted in more jobs, or bad because it has subjected American companies and employees to unfair competition and cheap labor?”

When this question was asked a decade ago, the public was almost evenly split. In the recent poll, however, only 28 percent endorsed globalization, while 58 percent opposed it.

The protectionist tide seems to be rising in America in the face of rising unemployment, falling output, inflation and all-around insecurity among households and firms. So the question arises, where do the leading candidates fall on issues of free trade? Is it a threat to Americans’ well-being or the source of our vast wealth and power? Mankiw examines the candidates’ stances on a few major trade issues in the last few years. 

Here’s what he finds: Overwhelmingly, John McCain has shown support for policies aimed at expanding free trade, while Clinton and Obama have taken stances oposing open markets. From opposing tariffs on Chinese imports to advocating a reduction of subsidies to American farmers to supporting the Central American Free Trade Agreement (FTA) and the US/South Korea FTA, McCain has consistently fallen on the side of the mainstream economists on the issue of globalization, while his Democratic counterparts have taken stances opposing trade liberalization and the opening of new markets to competition between American and foreign producers.

What conclusions can be drawn from Mankiw’s observation? Are Democrats economically illitereate? Do Obama and Clinton need to sit through Econ 101 to learn that trade and specialization benefit society through expansion of output and lower prices? Probably not. Mankiw suggests that the rhetoric coming from the “Hillbama” campaigns is probably just populism aimed at gaining support of voters who fear the threat they perceive trade to pose to their livelihoods.

Maybe the candidates’ records as legislators are not good indicators of what their policies might be as president. Maybe campaign rhetoric… is nothing more than that. But counting on it requires, one might say, the audacity of hope.

Personally, I hope Mankiw is right, and that the Democrats prove to be a bit more ”economistic” in their policies should one of them end up in office. What do you think? Should American voters believe everything candidates say in their campaigns? If Hillary and Barack appear to be anti-trade and protectionist now does that mean America will be put on a path of isolation should one of them win the White House? Should we, as economists, be afraid, or hopeful, in this time of “change” and “hope” in America?

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Foreign Policy: Why We Trade

Professor Russ Roberts, host of the EconTalk podcast, has an essay in the latest issues of Foreign Policy journal titled “Why We Trade”. In this piece, Roberts defends the benefits of trade from a broad perspective, beyond the popular political view of trade, usually along the lines of “exports, good – imports, bad”. Roberts compares this line of thinking (characteristic of presidential candidates of both the Republican and Democratic parties), to the 14th century, pre-Adam Smith view of world trade, known as mercantilism.

Mercantilism was a view of global economic interaction that placed emphasis on the accumulation of gold and other precious metals from abroad in exchange for your country’s exports. The doctrine failed to recognize the importance of imports from abroad, as this was viewed as a loss of wealth to foreigners. Mercantilists viewed wealth in terms of bullion or the amount of precious metals a country owned. Today, of course, our understanding of wealth has evolved to account for the amount of output, or products (goods and services), we are able to consume. Herein lies the flaw in the rhetoric of modern politicians who, “are always talking about the necessity of other countries’ opening their markets to American products. They never mention the virtues of opening U.S. markets to foreign products.”

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Understanding the World Trade Organization

Below is an audio introduction to the World Trade Organization, courtesy of my year 2 IB Econ students here at SAS. Our current unit (IB Unit 4) examines free trade, global economic integration, and the WTO among other topics. As an introduction to the WTO, student were asked to record a two-minute podcast of the main ideas from a specific page on the WTO’s website. Below are their summaries of the basic functions and agreements of the organization, summarized and podcasted for your listening pleasure!

 

 Marco Garafolo: "What is the WTO?": Play Now | Play in Popup | Download

 

 Enno Zhang: "Principles of the Trading System" [2:40m]: Play Now | Play in Popup | Download

 

 Manon Van Thorenburg: "Tariffs": Play Now | Play in Popup | Download

 

 Dennis Melzer: "Textiles": Play Now | Play in Popup | Download

 

 James Hannam: "Standards and Safety" [2:36m]: Play Now | Play in Popup | Download

 

 Kaj Nieman: "Anti-dumping, subsidies, etc.": Play Now | Play in Popup | Download

Introduction to the WTO, continued…

 

 Carlos Siu: "Intellectual Property": Play Now | Play in Popup | Download

 

 Lucas Topham: "Non-tariff Barriers": Play Now | Play in Popup | Download

 

 Wan Jin Park: "Services": Play Now | Play in Popup | Download

 

 Danny Witters: "Agriculture" [1:20m]: Play Now | Play in Popup | Download

 

 Daniel Yeung: "Plurilaterals" and "Trade Policy Reviews" [1:57m]: Play Now | Play in Popup | Download

Seeing Sugar’s Future in Fuel – New York Times

“The sugar producers say whatever its costs, the new farm bill is needed to save their industry.”

We’ve all heard the news about this amazing new fuel that just might save the world from the perils of global warming… ethanol, food fuel, alternative energy, replacement for oil, the panacea to all of America’s energy, climate, and geo-political woes! Corn farmers in America’s grain belt have benefited hugely of late due to large subsidies bundled with America’s latest farm bill.

The new version of this bill, being debated in Congress now, contains a proposal to prop up the country’s 12,000 sugar farmers by promising to buy any surplus sugar resulting from cheap sugar imports from Mexico (themselves the result of market liberalizations accompanying the North Atlantic Free Trade Agreement) at a profitable price. The sugar lobby insists that sugar should play a larger part in the production of ethanol, currently which is made mostly from corn.

To effect that policy, the government would buy excess sugar and sell it at a loss to ethanol producers. They ferment corn starch to ethanol, but adding a little sugar can speed the reaction…

Mr. Keenum suggested that the Agriculture Department would end up buying sugar for 22 cents a pound and selling it to ethanol producers for 4 to 7 cents a pound. “You can easily do the math and look at the loss potential,” he said.

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Here’s an online special for my IB students. We’ve recently started our unit on International economics, and one of the first topics is free trade, protectionism, barriers to trade, and the arguments in support of and against such protection. Below are the graphs we discussed in our Smartboard lesson during today’s class.

If you click on each image it will take you to a full size version.

What to notice about the impact of a tariff: Domestic producers benefit at the expense of domestic consumers and foreign producers. The green triangles represent efficiency or welfare loss because that is consumer surplus that is forgone after the tariff. The yellow rectangle is not DWL because it is tariff revenue for the government.

Be sure to understand the indirect effects of such policies also. For example, any of the three forms of protection shown here will lead to a decrease in net exports for America’s trading partners, which means a decrease in Aggregate Demand and the possibility of higher unemployment, recession, lower income, thus less demand for American products abroad. So, not only does the tariff hurt American consumers through higher prices and lower quantity, but it could harm other American businesses whose products are no longer in demand from foreigners whose incomes have declined thanks to the American tariffs.

Note also the regressive nature of tariffs. Much like a VAT or an excise tax, tariffs place a greater burden on low income earners than high income earners, as a particular tax on imports represents a larger percentage of a poor person’s income. Continue Reading »