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Trade Solutions That Won’t Work

Economics / Economic Theory Feb 28, 2011 - 04:17 AM GMT

By: Ian_Fletcher

Economics Americans in recent decades have not, of course, been entirely unaware that America has a trade problem. This has drawn into public debate a long list of proposed solutions. Unfortunately, many will not work, some are based on analytical confusions, and a few are outright nonsense. If we are to understand the true scope of our problem and frame solutions that will work, these false hopes must be debunked forthwith.


For example, since the early 1990s it has been repeatedly suggested that the U.S. is on the verge of an export boom that will erase our trade deficit and produce a surge of high-paying jobs. Bill Clinton was fond of this idea, and Barack Obama proposed in 2010 that America double its exports in five years.

The possibility looks tantalizing when we observe that America’s exports have indeed been growing rapidly—just not as rapidly as our imports. (Between 1992 and 2008, our exports more than doubled, from $806 billion to $1,827 billion.) This seems to imply that we are not uncompetitive in world markets after all, and that if only our export growth would climb just a few points higher, the whole problem would go away.

Unfortunately, our deficit is now so large that our exports would have to outgrow our imports by two percent a year for over a decade just to eliminate the deficit—let alone run the surplus we need to start digging ourselves out from under our now-massive foreign debt. This doesn’t sound like much, but it is, in fact, a very strong export performance for a developed country, and unlikely in the present international economic environment, where every other nation is also trying to expand its exports.

Much of our recent export growth has been hollow anyway, consisting largely in raw materials and intermediate goods destined to be manufactured into articles imported back into the U.S. For example, our gross (i.e., not net of imports) exports to Mexico have been booming, to feed the maquiladora plants of American companies along the border. But this is obviously a losing race, as the value of a product’s inputs can never exceed the value of a finished product sold at a profit.

Not only is America’s trade deficit the world’s largest, but our ratio between imports and exports (1.28 to 1 in 2010) is one of the world’s most unbalanced. Given that our imports are now 17 percent of GDP and our entire manufacturing sector only 11.5 percent, we could quite literally export our entire manufacturing output and still not balance our trade. Import-driven deindustrialization has so badly warped the structure of our economy that we no longer have the productive capacity to balance our trade by exporting more goods, even if foreign nations wanted and allowed this (which they don’t, anyway). Therefore, the solution will have to come from import contraction one way or another.

Exporting services won’t balance our trade either, as our surplus in services isn’t remotely big enough, compared to our deficit in goods (in 2010, $148 billion vs. $652 billion).

Neither will agricultural exports balance our trade (a prima facie bizarre idea for a developed nation). Our 2010 surplus in agriculture was only $28 billion—about one eighteenth the size of our overall deficit. 2010 was also an exceptionally good year for agricultural exports; our average annual agricultural surplus from 2000 to 2010 was a mere $15 billion.

It is sometimes suggested that to solve our trade mess, America merely needs to regain export competitiveness through productivity growth. Comforting statistics, showing our productivity still comfortably above the nations we compete with, are often paraded in support of this idea. Unfortunately, those figures on the productivity of Chinese, Mexican, and Indian workers concern average productivity in these nations. They do not concern productivity in their export industries, the only industries which compete with our own. These nations are held to low overall productivity by the fact that hundreds of millions of their workers are still peasant farmers. But American electronics workers compete with Chinese electronics workers, not Chinese peasants.

It is narrowly true that if foreign productivity is as low as foreign wages—an easy claim to make with aggressively free-market theory and cherry-picked statistics—then low foreign wages won’t threaten American workers. But a problem emerges when low foreign wages are not balanced by low productivity. It is the combination of Third World wages with First World productivity, thanks largely to the ability of multinational corporations to spread their technology around, that has considerably weakened the traditional correlation of low wages with low productivity. For ex-ample, it takes an average of 3.3 man-hours to produce a ton of steel in the U.S. and 11.8 man-hours in China—a ratio of nearly four to one. But the wage gap between the U.S. and China is considerably more than that.

In any case, productivity is not in itself a guarantee of high wages. U.S. manufacturing productivity actually doubled in the two decades from 1987 to 2008, but inflation-adjusted manufacturing wages rose only 11 percent. From roughly 1947 to 1973, productivity and wage growth were fairly closely coupled in the U.S., but since then, American workers have been running ever faster simply to stay in place. Wage-productivity decoupling has been even starker in some foreign countries: in Mexico, for example, productivity rose 40 percent from 1980 to 1994, but following the peso devaluation of 1994, real wages were down 40 percent.

As I've been saying for a while now, a tariff is the real solution.

Ian Fletcher is the author of the new book Free Trade Doesn’t Work: What Should Replace It and Why (USBIC, $24.95)  He is an Adjunct Fellow at the San Francisco office of the U.S. Business and Industry Council, a Washington think tank founded in 1933.  He was previously an economist in private practice, mostly serving hedge funds and private equity firms. He may be contacted at ian.fletcher@usbic.net.

© 2011 Copyright  Ian Fletcher - All Rights Reserved

Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.


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