Yet governments do that computation for countries. Do trade deficits between countries matter? They do, but a lot less than most people think. A high trade deficit is not a definite sign of an economy’s weakness, and a low trade deficit or high trade surplus is not a definite sign of an economy’s strength.

First, let’s define our terms. By the most comprehensive measure, there can never be a balance-of-payments deficit. If we import a higher dollar value of goods and services than we export, then the extra dollars we spend on imports balance that difference, and the net balance is zero.

Of course, when people refer to a balance-of-payments deficit they are not thinking about this comprehensive measure; they’re thinking about a narrower measure—the merchandise trade deficit. This is the difference between the dollar value of what we spend on imports and what we are paid for exports. In 2008, the latest year for which these data are available, Americans spent $840 billion more on imports than foreigners spent on U.S. exports. Offsetting this was a U.S. surplus on services of $144 billion. The net balance of trade on goods and services, therefore, was $696 billion. To put this into perspective, this was about 4.8 percent of the total U.S. gross domestic product.

Where did this $696 billion go? It went to other countries, of course, but most of it came back in one of three forms: 1) foreign purchases of American bonds, mainly government bonds; 2) foreign purchases of other assets such as stocks, land, and property; and (3) so-called direct investment whereby foreigners build plants and equipment in the United States.

Is this bad? Consider each in turn.

1) If foreigners refused to buy government bonds, the U.S. government would need to offer higher interest rates to make holding the bonds attractive to Americans. That would drive up the cost of financing the U.S. budget deficit. We can decry this deficit—and I do—but given that it exists, which is better: having the irresponsible federal government paying a higher or lower interest rate? I vote for the latter.

2) One reason foreigners invest in U.S. stocks, land, and property is that the United States is still a relatively safe haven for investment. Granted, it’s probably less safe than it was before the U.S. government changed the rules with its bailout, the so-called Troubled Asset Relief Program (TARP), and with the so-called stimulus package. But it’s still safer than investing in much of the rest of the world. So rather than being bad, the size of this investment is actually good.

3) The same reasoning applies here. It’s good, not bad, that foreigners find it attractive to invest directly in the United States. It’s especially good for U.S. workers. The more capital there is per worker, the higher worker productivity is and, therefore, the higher are real wages.

Dollars on the Penny

What if the money doesn’t come back in any of the above three forms of investment but, instead, is held in U.S. dollars? That’s even better for Americans. Instead of giving up capital in return for merchandise, we are giving up paper money. According to the Bureau of Engraving and Printing, the average cost of a unit of paper money is 6.4 cents. Because of the production process, the cost is probably higher for a one-hundred-dollar bill, and presumably a disproportionately high number of such bills is held abroad. But it’s still likely to cost under 25 cents to print a one-hundred-dollar bill, and the bills take an average of 89 months to wear out. Getting valuable goods in return for paper money that sells for dollars on the penny is a good deal for Americans. Jay Leno, in a 1980s ad for Doritos, said “Crunch all you want. We’ll make more.” Similarly, if people in other countries hold on to their paper U.S. bills, the Federal Reserve can make more.

But aren’t we as a nation, by spending more on imports than our exporters earn, actually saving less and implicitly giving up capital for consumption goods? Yes, we are. But that’s the result of decisions that millions of us make individually. And it really doesn’t matter, at an individual level, whether we save less to buy imports or to buy domestically produced consumption goods. Either way, we’re giving up capital for consumption. Is this a bad idea? We’re showing by our actions that we think it’s not. We’re showing that many of us value those high-quality Toyotas more than we value the shares of General Motors stock or U.S. government bonds that we could have bought instead. Do you think you’re giving up too much capital for consumer goods? Then spend less and save more.

I mentioned earlier that a small balance-of-payments deficit is not necessarily a sign of economic strength. Between 1980 and 2008, there have been only three years in which the United States has had a merchandise trade surplus: 1980, 1981, and 1991. Those were all years in which the U.S. economy was in recession. That is no coincidence. When economic growth is high, we tend to spend a higher share of our income on imports. The years with the highest merchandise trade deficits also tended to be the years with the highest economic growth.

What about the danger that foreigners will own a large share of the U.S. capital stock? First, it’s not a danger. Even if it happened, it would simply mean that U.S. workers would work for foreign employers. While some of these foreign owners would be worse than U.S. employers, some would be better. Incidentally, during the 1988 U.S. presidential campaign, Democratic candidate Michael Dukakis told workers at a St. Louis automotive parts plant: “Maybe the Republican ticket wants our children to work for foreign owners . . . but that’s not the kind of a future Lloyd Bentsen and I and Dick Gephardt and you want for America.” The problem? The workers he was speaking to were employed by an Italian corporation.

Second, the amount of U.S. capital owned by foreigners at the end of 2008 was $23.4 trillion. But the amount of foreign capital owned by Americans was $19.9 trillion. This difference of $3.5 trillion is only about 7 percent of the $48 trillion total value of physical assets.

To look at the $3.5 trillion another way, it is less than $70 trillion. Why is that relevant? Boston University economist Laurence Kotlikoff says that’s the amount by which the present value of the U.S. government’s future promises to spend exceeds the present value of the government’s future projected tax revenues.

Now that’s something to worry about.

Explaining that American imports from China reflect nothing more sinister than the voluntary choices of American consumers does not satisfy simple-minded protectionists. It is sufficient that these imports take business away from some American producers. In the minds of simple-minded protectionists, international trade is harmful whenever it causes domestic business to lose market share to foreign rivals.

Not all protectionists, though, are this simple-minded. Some of them understand that resources have alternative uses and that prosperity is enhanced when each specific resource is used to produce that good or service that consumers value more highly than any other good or service that that resource can be used to produce. The “sophisticated” protectionist (if we may call him that) also understands the argument based on comparative advantage—namely, free trade encourages resources to be used in their most efficient ways.

But the sophisticated protectionist is still a protectionist. He cannot shake off his uneasy sense that imports somehow harm his country’s prosperity. So he eagerly latches onto almost any excuse to proclaim that he of course staunchly supports free trade “but not when foreigners do” this, that, or the other thing that allegedly nullifies the case for free trade.

The length of the list is limited only by protectionists’ fertile imaginations: Foreign governments subsidize exporters; taxes and regulations in foreign jurisdictions are less burdensome than taxes and regulations in the home jurisdiction; foreign governments don’t have as much respect for human rights as the home government does; foreign industries are older and more experienced and hence have an unfair advantage over domestic industries; imports are sold by their foreign producers at unfairly low prices; capital can freely move from one country to another. . . . Truly, the list is long and ever-growing.

An Idea With No Currency

A sound treatment of each item on the list requires more space than is available here. (Suffice it for now to say that none of these alleged exceptions to the case for free trade withstands careful scrutiny.) So let’s focus on just one such reason heard frequently now for why free trade is unwise: undervalued foreign currency.

The protectionist complaint about undervalued foreign currency rests on the indisputable argument that the lower the price of a foreign currency—for example, the Chinese yuan—the greater the quantities of this currency that will be bought. Just as a lower price for apples makes apples a more attractive purchase for consumers, a lower price for a currency makes it more attractive.

If the price of the yuan falls—that is, if it takes fewer dollars today than it did yesterday to buy yuan—people with dollars will buy more yuan.

Yuan, like dollars, are not themselves consumable but instead can be exchanged for goods, services, and assets. In the case of yuan, the goods, services, and assets that they can be directly exchanged for are supplied by the Chinese. So the greater the number of yuan that can be bought for a dollar, the less expensive for Americans are Chinese products relative to American products.

Therefore, a lower-priced yuan causes Americans to buy fewer U.S. products and more Chinese products.

Governments being what they are, it’s undeniable that many of them—including the one headquartered in Beijing—intervene in their economies in countless distorting ways. Let’s assume for the remainder of this article that the Chinese government does in fact keep the price of the yuan artificially low.

Does this policy help the Chinese and harm Americans?

False Savings

A low-priced yuan certainly shifts business to some Chinese producers and away from American producers who compete with them, just as genuine efficiency improvements in Chinese industry take some business away from American producers who compete with Chinese producers. But contrary to protectionists’ claims, Beijing’s efforts to lower the price of the yuan harms the Chinese economy and benefits the economies (including that of the United States) whose people trade with the Chinese.

To see why, let’s use a close-to-home example.

When I was a child my elementary school—Immaculate Conception School (ICS)—held two fund-raising fairs each year. At these fairs we kids bought tickets that we could exchange for various trinkets and food. Of course, some items cost more than others. A big stuffed panda bear might have been priced at, say, 50 tickets, a hotdog at three tickets, and a pencil sporting the school logo at one ticket.

Using dollars, each of us students could buy as many or as few tickets as we pleased (or, more accurately, as many tickets as our parents could afford or would allow us to buy).

Suppose that ICS had undervalued its tickets. Suppose, if the “correct” price (by whatever calculus) was $1, ICS sold each ticket for 75 cents.

Undervaluing its currency in this way surely would have resulted in more sales at the fairs. A 25 percent discount on trinkets and junk food is a darned attractive deal for kids.

Would ICS have benefitted itself by such undervaluation of its medium of exchange? Some of its employees would have benefitted. The fairs would have required more clerks and food preparers to handle the larger demand. But it’s clear that undervaluing these tickets would have harmed ICS on net. Instead of raising money for its operations, ICS would have lost money. By underpricing its trinkets and junk food, it would have subsidized its students’ consumption of these things. Undervalued tickets would have enabled its customers (us students) to acquire valuable goods and food at prices below ICS’s cost of supplying them.

No student (including me) would have complained about undervalued fair tickets. Such undervaluation would have been to our benefit.

But the school principal (Sister Quentin, if I recall)—who we can imagine was the architect of this self-destructive scheme—would have realized, on coming to her senses, that artificially stimulating the school’s exports of trinkets and food on fair days is no path to long-run and widespread prosperity for ICS.

The situation with the Beijing government is identical. The real costs of the resources and outputs exported by the Chinese people are not lowered simply because Beijing keeps the price of the yuan artificially low. And the resources spent to supply the extra American demand that results from an artificially low price of yuan—even though they are unseen by the untrained eye—represent a huge cost that harms the Chinese economy.

Preface: 

The globalization of culture, politics and economics is arguably the defining characteristic of the past half century.   English has become the international language of commerce, Chinese holiday toys entertain children in Nebraska and Norway, American political consultants sell their advice to candidates in Israel, and  the Bollywood film industry holds its annual awards event in Bangkok.   That an enormous expansion in global wealth has accompanied this increase in global interconnection is self-evident.  That the former is a result of the latter is the Smithian premise. 

129 authors responded to FEE’s Call for Papers in competition for the Eugene S. Thorpe Award, and spoke with near unanimity to the benefits of globalization, the causative relationship between the expansion of markets and wealth creation, and the limited ability and frequently destructive consequences of governmental attempts to manage the process.   

The choice of a “best” paper was a difficult one, and the selection committee wants to thank all of the Award participants for their contributions.  Only one paper could win and we will let that paper speak for itself; but special recognition and honorable mention are in order for several of the runner-up contributors.   In particular, two runner-up contributions addressed the issue of “government facilitation” of globalization in a more sophisticated manner than most, recognizing that the concept of government facilitation can and should include not just the destructive mechanisms of market manipulation and management, but also the supportive and (for Smith) essential mechanisms of preserving and protecting the legal infrastructure necessary for free markets to function.     

Mr. Lorenz Kraus of Albany, New York, in his paper “Liberty of Contract and the Division of Labor,” reminds us that “One of the great feats of intellectual history has been the discovery of the crucial connection between a thriving division of labor and a thriving civilization,” and that “the division of labor…depends on the laws and institutions a nation adopts.”    Just so.  Adam Smith was not an anarchist, and his vision of the optimal role of government was not that of no government at all.   Two of the three legitimate functions of government he identifies are the national defense and the administration of justice.   Mr. Darin Clark of Bradenton, Florida, in his paper “Cooperative Exchange, the Occurrence Necessary for the Division of Labor,” emphasizes that “voluntary exchange” can only take place when we have “a necessary framework of laws…This framework of laws is the respect for contractual agreements and rights to private property.” 

Government can play a positive role to “facilitate” globalization by enhancing the rule of law in those areas of the world where it is lacking, and by defending property rights whether against the thuggery of high-seas piracy or the high-tech assault of electronic spam.    Honorable mention to Messrs. Kraus and Clark for elaborating on this point. 

And honorable mention likewise to Mr. Mark Hendrickson of New Wilmington, Pennsylvania, who offers the insight that modern governments’ attempts to manage trade through bi- and multi-lateral trade agreements is a modern form of the mercantilism prevalent in Adam Smith’s time.   “It turns out that a democracy can be as harmful as a monarchy to the economic well-being of a people, if special-interest politics force the common people to subsidize the privileged few and abrogate the right of a free person to buy from his or her seller of choice.”  Mr. Hendrickson makes a powerful argument in favor of the unilateral removal of trade barriers. 

The globalization of the world’s markets is almost certainly a Hayekian effect emerging from the technology of the twentieth century, but it is one that poses a direct threat to the power of governments to control individual behavior.    Governments, whether democratic or autocratic, do not react well to loss of control and will act to retain their power by whatever means necessary.   As the political environment in the U.S. shifts, and with the convenient excuse of recent disruptions in global financial markets (occasioned themselves by government interference), we can expect new efforts on the part of sovereign and meta-sovereign institutions to re-impose their control over international trade.   Hayekian processes tend to persist over time – but the pace at which they proceed is more problematic.   

Congratulations to Mr. Gennady Stolyarov II of Hillsdale, Michigan, on his winning article, “Globalization:  Extending the Market and Human Well-Being.”     
 

Dr. Karl Borden

Professor of Financial Economics

University of Nebraska

Chair, Eugene S. Thorpe Award Selection Committee

Much of the prosperity of today’s world arises from the division of labor. Globalization, by extending the market’s scope to the entire world, enables the division of labor to become as developed as the current world population allows. However, to be truly in the interests of consumers and a boon to economic prosperity, globalization needs to occur spontaneously through the workings of the unhampered free market. Government attempts to meddle with this process—even with the sincere intent to facilitate or accelerate it—will only undermine its efficacy at benefiting us all.

In his 1776 classic, The Wealth of Nations, Adam Smith explained that “the division of labor is limited by the extent of the market.” This is not hard to understand on an individual and local scale. Imagine you are somewhat skilled at making tables. If you live alone in a cabin in the woods and can only personally use the tables you make, you might create four or five of them—but there your need for them would stop. You would have little further reason to continually develop your table-making skills. You would not be able to turn table-making into your full-time occupation. After all, you also need food, shelter, non-table furniture, and myriad other goods to have even a meager standard of living. You would have to create all these goods yourself, with no time to develop anything beyond a rudimentary table-making ability.

If you have a few friends who also use tables, you can devote more of your time to making them and improving your craftsmanship, while exchanging the tables for other goods your friends specialize in producing. If you live in a village, your ability to obtain most of the goods you desire solely by producing tables increases along with your likelihood of finding enough people who demand tables to keep you busy during all of your working hours. As you sharpen your skills, you might even begin to incorporate artistic flourishes into your tables and learn how to make tables suited to specific purposes. Perhaps you might become a master craftsman of coffee tables or desks. In a large city, the demand for either of these types of tables alone might keep you employed.

But imagine that your passion in life is to carve elaborate geometric designs into your tables and turn them into unique works of art. This kind of table-making takes many days of hard work, and only a few people in the world would appreciate the merits of your table art. You might be able to command a high price for each of your special tables—say, $10,000—if you could find a buyer. But let us say that only 60 people out of the world population of six billion would be willing buyers of one of your tables each year. In your large city, there are six million people, so your probability of finding even one buyer in your city would be a mere 0.06—giving you an expected annual income of $600 if you specialized in making your unique tables. But if you were able to access customers from all over the world easily, then you might fulfill all the existing demand for your work and thereby receive an annual income of $600,000. You can live lavishly by only serving the needs of 60 people—if your market extends to the entire world. If you could only sell in your city, you would likely never have made many of your special tables, leaving so much potential value uncreated.

Globalization is the process of the ever-increasing extension of markets, past national and even regional boundaries. Three principal factors drive globalization. First, improved transportation and communication technology enables previously formidable barriers of distance and geography to be overcome. Adam Smith remarked on the extent to which water transport facilitated the division of labor and consumers’ ability to get more and better goods faster: “A broad-wheeled wagon, attended by two men, and drawn by eight horses, in about six weeks’ time carries and brings back between London and Edinburgh near four ton weight of goods. In about the same time a ship navigated by six or eight men, and sailing between the ports of London and Leith, frequently carries and brings back two hundred ton weight of goods.” In our age, air freight and the Internet can be added to the list of technologies facilitating the extent of the market.

The second factor facilitating globalization is the removal of government restrictions on trade. Tariffs, quotas, subsidies to domestic producers, and other trade barriers make it difficult for businesses located outside a country to compete with domestic producers based solely on the consumer-evaluated merits of their products. Such interventionist measures tax domestic consumers and foreign businesses and artificially inflate the incomes of some—though by far not all—domestic businesses. The favored businesses have reduced incentives to cut costs and increase product quality, since the government shields them from the most intense competition. In the long run this leads to poor products, widespread waste, organizational inefficiency, and consumer dissatisfaction. When government trade barriers are removed and no regulations are put in their place this burden is lifted from millions of consumers and producers, who are now able to extend the market to the degree desired by consumers. Since reaching a high point with the Smoot-Hawley Tariff Act of 1930, tariffs levied by the United States against imported goods have generally declined up to the present day. Tariffs and other protectionist policies in many other countries have been likewise reduced, especially from the 1980s onward.

Increased Tolerance and Respect

The third factor responsible for globalization is increased tolerance by people throughout the world for others of different national, ethnic, and cultural backgrounds. As trade among people begins to take place, it becomes easier for people to see one another in terms of the goods and services they offer, rather than in terms of negative stereotypes, hatreds, and fear of “the other.” In a virtuous cycle, people in globalizing markets begin to extend increasing respect, understanding, and willingness to cooperate to those who are unlike them. A more cosmopolitan, individualistic outlook emerges: Each producer and consumer is judged on the basis of personal actions and merits, not circumstantial group identity. This in turn makes it much easier for people to engage in trade with still more others, unhindered by unwarranted negative preconceptions. The prevalence in the United States of Mexican food, Japanese automobiles and electronics, Chinese manufactured goods, South American fruits, and hundreds of thousands of other goods imported from virtually all parts of the world illustrates the seamless merger between economic and cultural exchange—a ubiquitous characteristic of globalization. Richard Cobden, perhaps the most outspoken free-trade advocate of the nineteenth century, saw this growth of tolerance as a desirable aim and outcome of the extension of trade: “The people of [France and England] must be brought into mutual dependence by the supply of each others’ wants. There is no other way of counteracting the antagonism of language and race . . . and no other plan is worth a farthing.”

More Variety

The benefits of globalization are manifold. Economists recognize that globalization lowers prices for a wide array of consumer goods, thereby making consumers better off in real terms. But increased product variety is another outcome, well documented by Christian Broda and David Weinstein in their 2006 Quarterly Journal of Economics paper, “Globalization and the Gains from Variety.” Broda and Weinstein note that “in 1972 the US imported 74,667 varieties (i.e. 7,731 goods from an average of 9.7 countries) and in 2001 there were 259,215 varieties (16,390 goods from an average of 15.8 countries).” Some of these goods were already common in their regions of origin but have now been able to spread elsewhere and find willing consumers. The spread of other products was only made possible by the ability of their providers to find enough customers by extending their market to the entire world. In his essay “Spicing the Gains from Globalization with Product Variety,” Neel Chamilall emphasizes “that consumers value this greater product variety for its own sake, on top of the lower prices that globalization also generates.” A wider range of possible satisfactions is valued since the more kinds of products exist, the likelier a particular product is to fulfill the specific tastes of an individual consumer at any given moment.

But globalization’s extension of the market facilitates more than the production of greater numbers and varieties of material goods. The intellectual division of labor—as well as the opportunities for intellectual cooperation extending throughout the world—are also greatly magnified by globalization. In “Globalization: The Long-Run Big Picture,” George Reisman explains that globalization brings about a “substantial increase in the number of highly intelligent, highly motivated individuals working in all of the branches of science, technology, and business. This will greatly accelerate the rate of scientific and technological progress and business innovation.” Reisman observes that “one of the greatest of all gains that results from the division of labor is the ability of geniuses to devote their full time to activities representing the discovery and application of new knowledge.” The broader the division of labor, the greater the likelihood that a creative genius in business, science, medicine, engineering, or another vital field will not personally need to manufacture most of the goods he desires. Moreover, the likelihood that he will find a market receptive to his own endeavors increases to the maximum extent if he can interact with anyone in the world.

When creative geniuses—or creative people in general—communicate with one another, exchange ideas, and build on one another’s work, additional economies of scale emerge. Many creators relying on each other’s utmost strengths can produce more discoveries, inventions, structures, and organizational innovations than the sum total produced by each creator working in complete isolation—just as the division of labor in the pin factories Adam Smith observed could raise the number of pins produced per worker by orders of magnitude. When national, geographic, and cultural boundaries no longer pose barriers to creators exchanging ideas and undertaking joint ventures, some of the greatest possible benefits to all humanity can be realized.

Raising Everyone’s Standard of Living

If globalization proceeds unhampered, it will achieve, in Reisman’s words, “the elevation of the productivity of labor and of living standards all across the globe to the level of the most advanced countries, and at the same time the radical improvement in productivity and living standards in what are today the most advanced countries.” As everyone is enabled to participate in a truly global division of labor, its benefits will spread throughout the world—eradicating true poverty and much other human suffering in all areas where governments do not forcibly restrain their people from peaceful economic and cultural exchange.

But aside from staying out of globalization’s way, governments cannot act efficaciously to promote or accelerate it. As George Washington is reputed to have said, “Government is not reason. It is not eloquence. Government is force; like fire it is a dangerous servant—and a fearful master.” Government’s entire modus operandi is force or the threat thereof. If the government promotes anything in an affirmative fashion, it can only do so through the use of force. Calling a particular exertion of government force a “free-trade agreement” or a “free-trade organization” does not alter its nature, and the facts attest to this. In “Can Trade Ever Harm a Country?” Robert P. Murphy comments on the NAFTA “free-trade agreement”: “The NAFTA is over 1,000 pages, detailing all sorts of environmental and labor regulations and establishing supranational boards to rule on disputes. If NAFTA really did nothing but establish free trade, it would be the size of a postcard, and there would currently be no tariffs between Mexico and the US.” It is true that NAFTA lowers some tariffs and lifts other trade restrictions, but the government’s affirmative exertions in this agreement amount to regulating and intervening more in certain aspects of commerce by controlling thousands of tiny elements of production, employment, and property ownership that would otherwise have been left to individual choice. There is no clear way of determining that the “free-trade agreement” resulted in more freedom than would have existed otherwise.

International institutions devised by Western governments allegedly to promote deregulation and globalization have often achieved the opposite purpose. Much of the apparatus of the World Trade Organization (WTO) engages in the imposition of retaliatory tariffs on the products of countries whose governments are deemed uncooperative. From a free-market standpoint, this is a travesty. Because the government of a particular country has infringed on economic freedoms, must the private individuals and businesses of that country suffer further infringements of their freedoms as a result? Moreover, having tariffs imposed through the WTO merely legitimizes them and falsely assures many who would otherwise have opposed them that trade barriers are necessary somehow to bring about free trade.

Unilateral Action that Works

The only legitimate government policy regarding globalization is to let the process develop spontaneously through the interactions of billions of private individuals and to lift all trade restrictions unilaterally. Even if other governments have tremendous trade restrictions against American producers, and even if they completely prohibit imports into their countries, the U.S. government should permit all foreign goods to enter the country without at all taxing them, restricting their quantity, or regulating their quality.

The reasons for unilateral renunciation of all trade restrictions become clear once one considers that American consumers are subject to two distinct sources of harm. The first source is the trade barriers set up by other governments. But trade restrictions established by the United States government perpetrate even greater damage to American consumers, resulting directly in higher prices and lower quality. The presumption behind multilateral “free-trade agreements” has been that only foreign-imposed trade barriers hurt domestic consumers, while domestically imposed trade barriers are simply defensive or retaliatory measures. But if both foreign and domestic trade barriers hurt domestic consumers, then it is always preferable to have just one of these sources of harm—the foreign trade barriers—instead of both.

The benefits of unilateral renunciation of trade restrictions do not stop at freeing consumers from domestically imposed tariffs, quotas, regulations, and subsidies. Such a course of government inaction sends an unambiguous message to foreign governments and businesses that we are willing to benefit from anything they have to offer us, while respecting them enough to let them operate as they see fit. This gesture of goodwill is likely to be reciprocated, just as Cobden’s success in getting Britain to abolish the Corn Laws unilaterally in 1848 led multiple European countries to eliminate many of their own trade barriers.

The way to truly accelerate globalization is not to wait for all nations to agree warily to the conditional removal of restraints on their own people, but rather to boldly proceed alone in knocking down one domestic trade barrier after another. With the passage of time, it will become evident that not having retaliatory trade restrictions against the producers of other countries does not in fact harm American consumers or producers. Other governments, seeing the mercantilist fears falsified empirically, will become increasingly inclined to join in the rising prosperity by opening their markets to globalization. As globalization fosters a truly international division of labor, billions of people will come to benefit from unprecedented product variety, technological growth, and cultural exchange.

Yes, clothes hangers. Marie Sledge, co-owner of Rome (Georgia) Cleaners, states, “Hangers last year at this time were $28 a box, where now they are $56.” News reports indicate that cleaners in Springfield, Missouri; Birmingham, Alabama; and Harlem are also encountering doubling hanger prices. In response, many cleaners are posting signs in their shops encouraging customers to return used hangers.

Hangers can’t, even if combined with government subsidies, be converted into biofuels. So what is causing the rapid increase in hanger prices? Government, of course, though in this case it’s the trade bureaucrats at the Department of Commerce rather than the folks behind other debacles in the news these days.

In a March 19 news release the Department of Commerce “announced its affirmative preliminary determination in the antidumping duty investigation on imports of steel wire garment hangers from the People’s Republic of China.” Translation: The government will now impose tariffs on hangers imported from China. The tariffs vary by supplier, ranging from a lightly starched 33 percent to a truly stiff 221 percent. With hanger prices potentially tripling because of tariffs, it’s easy to understand the disruption facing dry cleaners.

Why would the Commerce Department impose such taxes on imported hangers? The key bit of bureaucratese is the press release’s “antidumping duty” clause. Prompted by a complaint from M&B Metal Products Company of Leeds, Alabama, the only domestic metal-hanger manufacturer, Commerce analyzed prices charged by Chinese hanger producers to determine if they were below “fair value.” Calling anything other than a price arrived at through voluntary exchange between the buyer and seller “fair value” is perverse. But the U.S. government, in its infinite wisdom, has defined “unfair value” as the price charged by foreign firms selling below their cost of production or below the price they charge in their domestic markets.

In any event, economist Russell Roberts, in The Choice, describes Commerce’s process as “arbitrary” (hardly surprising, given the slipperiness of “fair value”) and reports that between 1986 and 1992 Commerce found dumping in 97 percent of the 251 cases it investigated. In a 2002 paper, Cato Institute scholars Brink Lindsey and Dan Ikenson elaborated: “In a depressingly wide variety of circumstances, a foreign producer can charge prices in the United States that are identical to or even higher than its home-market prices and still be found guilty of dumping.” It therefore comes as no surprise that Commerce determined that Chinese producers have been dumping their hangers on the United States market.

The notion of dumping, even without arbitrariness by Commerce apparatchiks, is suspect. Since the raison d’être of firms is to make profits for their owners, there should be a strong presumption that firms will not sell below cost, regardless of the Commerce Department’s Byzantine calculations. And if, glory be, some foreign firm does choose to sell below its production cost, we should welcome the gift rather than ensnare the givers in a thicket of questionnaires, documents, and legal mumbo jumbo.

In the case at hand, it’s unlikely that the Chinese firms were selling below cost. M&B president Milton Magnus states, “The price [Chinese firms] pay for wire is about 30 percent less than what we pay, [and] [t]hey’re paying workers 83 cents per hour.” (M&B’s ire about competition from cheap foreign labor seems rather selective because, according to American Drycleaner, it operates a hanger-manufacturing plant in Piedras Negras, Mexico.) If true, the Chinese firms might well be able to charge a much lower price than M&B and still not be selling below their cost of production.

Although firms might rationally choose to sell an item at lower prices in foreign markets, there’s strong reason to doubt Chinese hanger manufacturers would do so. Transportation costs for weighty and bulky items like hangers are not trivial. Moreover, one might expect price-discriminating firms to charge lower prices in poor countries, but not in wealthier ones such as the United States (as is done with pharmaceuticals). But as I said about the Chinese selling at a loss, glory be if they are willing to price-discriminate to our benefit.

Of course, the fear is that the alleged dumping is a scheme to bankrupt domestic producers, shut them down, and leave U.S. consumers vulnerable to large price hikes that will recoup the losses incurred by selling below cost. Among the many conceptual problems with such a notion is that it would be easy for U.S. customers to find alternative international suppliers or for firms in the United States to restart their production when the predatory Chinese firms jacked up their prices. In the case of the Chinese hangers, the Department of Commerce indicates that there are more than a dozen Chinese hanger manufacturers, so it is hardly a given that, even if they desired to do so, they could sufficiently coordinate their activities to cartelize the international hanger market.

Overlooking the Unseen

The department defends antidumping duties as being necessary to protect American jobs. Indeed, news reports indicate that M&B has hired about 50 new workers and may double its workforce over the next two years. Alas, as is so often the case, such thinking ignores Henry Hazlitt’s admonition in Economics in One Lesson to “trac[e] the consequences of [a] policy not merely for one group but for all groups.” In the case of the great hanger crisis of 2008, other groups lose jobs in response to the protectionism that enriches M&B and its employees.

News reports indicate that higher hanger prices will cost cleaners $4,000 or more per year. Suppose that cleaners try to pass the increased cost of hangers along to their customers. Charging an extra, say, 10 cents per item will cause at least a few customers to reduce the number of items they send out for cleaning. If so, cleaners will need fewer employees, and M&B’s jobs will have come at the expense of cleaners’ employees. (Similar logic would apply if cleaners reduced their workers’ hours or wages in response to higher hanger prices.)

Even if customers grudgingly pay the extra dime without reducing their cleaning, they will have less to spend elsewhere. Although that may seem like a trivial amount, the cumulative impact of many consumers having perhaps a dollar per week less to spend on other goods and services may reduce employment in those occupations.

Another possible result of the hanger tariff is that cleaners will earn less profit rather than raise their prices or reduce workers’ hours or wages. Again, there would be unseen job losses since it is now the cleaners’ owners who would have less income available to spend on other goods and services. Of course, if the dry cleaners in an area do not pass along the higher costs, any marginally profitable firms will close, eliminating jobs for all their employees.

The Costs of Intervention

Brandon Fuller, writing May 21 on the Aplia Econ blog (http://tinyurl.com/6dk67x), provides a back-of-the-envelope calculation of the cost of the antidumping hanger tariff. Multiplying the $4,000 per-firm cost by the 30,000 dry-cleaning firms in the country yields a cost of $120 million. To put the $120 million figure in perspective, the tariff is expected to cost some $212,765 for each of the 564 jobs saved.

The lesson is that the misguided attempt to save jobs for domestic hanger manufacturers comes at the expense of other domestic employment. Failure to base policy on Hazlitt’s wisdom has led to the substitution of political competition and bureaucratic fiat for the market process. Not only has M&B enriched itself by using the political process to stifle competition from foreign firms, it has also taken advantage of the reduced competition by raising its price by more than 10 percent. (See Stan Diel, “Hanger Costs Belt Dry Cleaners,” Times-Picayune, April 15, 2008, http://tinyurl.com/63nhbs.)

Talk about being taken to the cleaners.

China’s transition from plan to market since 1978 has not only increased prosperity but also has led to a new way of thinking. In a 2005 poll covering 20 countries, GlobeScan found that China had the highest proportion of respondents (74 percent) who agree that the “free market economy is the best system on which to base the future of the world.” That outcome is remarkable given that only a short time ago Beijing embraced a state-led development model.

The same poll found that U.S. citizens have strong support for the free market (71 percent) while Russia, which has a long anti-capitalist history, still has rather weak support (43 percent favored the market), and France, with its long attachment to socialism, has even less support with only 36 percent saying they favor a free market.

The significant change in the Chinese people’s attitude toward economic liberalism is further illustrated in the Chicago Council on Global Affairs’ 2006 multination survey of public opinion. Eighty-seven percent of those surveyed in China thought that “globalization, especially the increasing connections of their country’s economy with others around the world, is mostly good for their country.” That result compares with 60 percent in the United States and 54 percent in India.

It is not surprising that the Chinese people would embrace globalization as it has opened China to the outside world, brought about rapid economic and social change, and helped lift millions out of absolute poverty. In 1978, only 12 large state-owned enterprises (SOEs) had the right to engage in foreign trade. Today virtually any firm is free to enter the import-export business. China has become the world’s third largest trading nation and is the leading destination for foreign direct investment. Those regions that have experienced the greatest amount of economic freedom have also grown the most and have the highest living standards. Guangdong, Zhejiang, and Fujian are all heavily “marketized” (SOEs account for only a small fraction of output) and have growth rates far above the national average.

In widening the range of opportunities open to people, globalization has increased personal freedom and put pressure on the Chinese Communist Party (CCP) and National People’s Congress to pass a Property Law last March. It recognizes the importance of the private sector and better protects property rights—all with a positive impact on civil society.

People are free to own their own homes, operate their own businesses, and seek work in the private sector. Those and other economic freedoms would have been impossible under central planning and autarky. One can now read a leading business magazine like Caijing and see a glossy photo of the Statue of Liberty on the same page as an advertisement for private condominiums in Beijing. F. A. Hayek’s Road to Serfdom and the Cato Institute’s Toward Liberty can be found in Beijing bookstores. High-school students in Shanghai can now open their new history textbooks and find much discussion of globalization and economic reform but only a single reference to Mao.

Most surprising, one can travel to the Southwestern University of Finance and Economics in Chengdu and see a life-size statue of Adam Smith, who in 1776 wrote in The Wealth of Nations: When “all systems either of preference or of restraint” are abolished, “the obvious and simple system of natural liberty establishes itself of its own accord.”

Spontaneous order, or economic harmony, arises out of voluntary exchange based on what Smith called the “laws of justice.” The role of market prices and profits is to coordinate the myriad individual plans in the pursuit of happiness.

Smith’s principle of spontaneous order—or freedom under the law—is similar to Lao Tzu’s principle of nonintervention (wu wei). Long before the Wealth of Nations was written, Lao Tzu argued that when the ruler takes “no action . . . the people themselves become prosperous.” Today China’s President Hu Jintao is promoting the idea of a “harmonious society” and “peaceful development.” In doing so, he should embrace the ideas of Lao Tzu and Adam Smith, and realize that limited government and the rule of law are essential for peace and harmony.

The problem is that the CCP has no desire to let go of its monopoly on power. Creating “free private markets,” as the late Milton Friedman recommended to General Secretary Zhao Ziyang when they met in 1989, would require widespread private property rights and further undermine the CCP’s influence. That is why China’s leaders continue to favor market socialism rather than market liberalism.

Nevertheless, the momentum for market liberalization is strong, especially since China joined the World Trade Organization in December 2001. Trade liberalization has been good for China and good for the global economy. Even though millions of Chinese workers have been dislocated, the Chicago Council survey found that 65 percent of those polled in China believe that “international trade is good for the job security of workers.” In contrast, only 30 percent of Americans surveyed thought free international trade benefited workers.

Of course, the goal of trade is not to protect jobs but to create wealth—and global wealth is much greater today than it was two or three decades ago. Trade liberalization, the information revolution, and financial integration have combined with pro-market institutional change to make China’s future bright. Trade is not a zero-sum game: the richer China becomes, the more prosperous the global economy. Protectionism would destroy the market forces that have helped lift millions out of poverty, embolden hardliners, and politicize economic life. Both economic and personal freedom would suffer.

One lesson from China’s transition from central planning to a market-oriented system is that poverty is best addressed by institutional change rather than foreign aid and government intervention. Several decades ago most of the world’s poor were concentrated in Asia, not Africa. The reverse is true today. Foreign aid has not improved the plight of the poor.

Likewise, increasing the minimum wage is not a panacea. Politicians promise a higher wage but do nothing to address the underlying causes of poverty. Rather, if the legal minimum wage is above the prevailing market wage for unskilled workers, employers will cut back on hours, reduce benefits, and switch to labor-saving methods of production.

Hong Kong has no minimum wage yet is prosperous. China has no national minimum wage and lets the market guide local minimum wages so that they do not interfere with economic growth and employment. In Shenzhen, one of the most marketized cities in China, the minimum wage was increased last year to 810 yuan per month (about $105). Many companies already pay more than the minimum, so the higher minimum wage is unlikely to interfere with job opportunities. Indeed, there is a labor shortage, so market wages will be forced up by competition. As one local labor official said, “We are adapting to the market through the pay raise, rather than interfering with the market.”

Entrepreneurship Everywhere

The spirit of entrepreneurship is evident everywhere in China. One of the most popular TV game shows is “Win in China,” a contest in which the person with the best business plan is awarded venture capital financing of $1.2 million and gets to retain 20 percent of the equity. The first show in 2006 attracted 120,000 entrants. The host of the show, Anna Wang Lifen, launched the program because she sees entrepreneurs as “the heroes of our peaceful times.”

Although China has made substantial progress on its march toward the market, much remains to be done. Free markets require widespread private property rights, a transparent and just legal system, and the free flow of information. Moreover, if China is to develop world-class capital markets, Beijing must make the yuan fully convertible and allow capital freedom.

The right to freely buy and sell currencies and assets is an important element of personal freedom. In his “Memorandum to General Secretary Zhao Ziyang,” Friedman listed what he considered the fundamental lessons from studying the process of development. The first lesson, which he thought applied to China as well as India, is that the government should “end exchange control, establish a free market in foreign exchange, and permit the exchange rate to be determined by the market.” Without such reforms, he thought, corruption would continue. Although Hong Kong does not have a freely floating exchange rate (it has a currency board that fixes the Hong Kong dollar to the U.S. dollar), there are no capital or exchange controls. The high degree of capital freedom has enabled Hong Kongto become a leading financial center.

China is moving gradually toward a more flexible exchange-rate regime and slowly relaxing capital controls. That process will take time, but it appears China’s leaders support the long-term goal of a fully convertible currency. Ending capital and exchange controls would give the Chinese people greater investment options and increase efficiency. But, again, such reforms would threaten the CCP’s power.

Opening the CCP to capitalists is not sufficient. The Party’s monopoly on power has to be contested at some point. Nor is it sufficient to amend the PRC Constitution to better protect private property when there is no independent judiciary to enforce contracts. If China’s future is to rest with the free market, there must be political as well as economic liberalization. Ultimately a free market cannot exist without a free people. The real challenge for Beijing will be to institute a rule of law that protects persons and property against the state. The people’s preferences will then rule rather than the Party’s. China’s leaders would do well to follow the path of Lao Tzu and Adam Smith by adhering to Hong Kong’s model of “Big Market, Small Government.”

While this sort of consumer-led protectionism is preferable to subsidies, tariffs, and import quotas imposed by the government, it is unfortunately born of the same economic illiteracy. In a segment on CNN’s “Lou Dobbs Tonight” last January, Simmermaker claimed that if Americans made a conscious effort to buy American products whenever possible, the impact on the U.S. economy would be enormous. He is correct that indiscriminately purchasing American products would have an enormous impact, but that impact would be enormously grave.

If consumers were unaware of, or unconcerned with, the origins of specific consumer goods, they would seek the highest-quality products at the best available prices. Thus for those American products that offer the highest quality at the best price, there is no need for crusaders such as Simmermaker to encourage Americans to buy them. What is left, then, is for Simmermaker to encourage American consumers to purchase those other American products that are higher priced and/or of lower quality than competing foreign goods. According to him and others, doing so will preserve American jobs and help the American economy.

In fact, inducing Americans to purchase higher-priced goods harms the American economy in several ways. The most significant, contrary to Simmermaker’s basic presumption, is that indiscriminate buying of American goods costs American jobs.

One of the primary reasons American consumers purchase foreign-made goods is that those goods are often less expensive. Consider a simple basket of American products that cost $20,000, and includes an automobile for $18,000, an assortment of electronic items for $1,500, and clothing for $500. Now consider a basket of comparable foreign-made goods that cost only $15,000, including an automobile of similar quality for $13,500, electronic items for $1,250 and clothing for $250. Simmermaker would encourage American consumers to purchase the American goods, although they would cost an additional $5,000.

Indeed, if Americans follow Simmermaker’s advice and buy the more-expensive basket of goods, American jobs would be preserved in the automobile, electronics, and clothing industries. Unfortunately, this is where Simmermaker’s economic analysis ends.

Let’s take the analysis a step further. If Americans were to purchase the less-expensive basket of foreign goods, in addition to having all their needs met that induced them to purchase the goods in the first place, they would also have an additional $5,000 with which to purchase other goods and services. Perhaps they would upgrade their computer operating systems, dine out more often, see more movies or plays, attend more concerts, and purchase more books. In this instance, the $5,000 saved by purchasing the less-expensive foreign goods results in the creation of additional jobs in the software, restaurant, entertainment, publishing, and other industries where the money saved would be spent.

But the benefits to Americans of buying the less-expensive foreign goods do not end there. Consider the $15,000 spent on the foreign goods. This money is now in the hands of foreign producers. One of two things will happen next. One possibility, a very unlikely one, is that nothing will be done with the money; that is, it will simply sit in some vault or be sewn into some foreign producer’s mattress never to be seen again. In this case, the American consumer has received a basket of useful goods, while the foreign producer has received a bunch of useless slips of green paper.

Dollars Spent or Invested

The second and more likely possibility is that the money will be spent on American goods or services, or invested in the U.S. economy, either directly or indirectly. Perhaps the foreign producer will take his family on a trip to Disneyland, purchasing a host of services that will elude U.S. Department of Commerce balance-of-trade sheets, perpetuating the false impression of a trade deficit.² Perhaps the Japanese automaker will purchase a bottle of French perfume, and the French perfume producer will use the dollars to purchase the latest edition of Windows. In any case, the money, if not left simply to gather dust, will find its way back into the American economy creating jobs in countless American industries in the process.

Those opposed to foreign trade bemoan lost jobs to foreign competition. Yet they fail to account for the fact that as imports of goods and services have increased, the U.S. unemployment rate has declined. In the 15 years from 1988 through 2002, a period in which the United States experienced record levels of imports averaging over $928 billion per year³ and in which we were deluged with cries that American jobs were moving out of the country in search of cheap labor, the average annual unemployment rate was a healthy 5.5 percent.⁴ However, in the 15 years before that, from 1973 through 1987, when average annual imports of goods and services totaled a mere $312 billion per year (in 2003 dollars) and there was much less concern about losing jobs to cheap foreign labor markets, the average unemployment rate was significantly higher, 7.2 percent.

In addition to the creation of American jobs associated with increased imports, per capita income has also risen, from $14,291 per person in 1973 to $22,851 in 2001—an inflation-adjusted increase of nearly 60 percent.⁵

The best thing Americans can do to save American jobs is to be smart shoppers and purchase goods that offer the highest quality at the lowest price—wherever they are made. Merely acting in one’s own self-interest is the best means of advancing the interests of society.

Robert Carreira is an economic analyst at the Center for Economic Research at Cochise College in Arizona, where he also teaches economics and political science.

Notes

1. See sample chapters at Simmermaker’s website, http://www.howtobuyamerican.com.
2. For more on the fallacy of trade deficits, see Frédéric Bastiat, Economic Sophisms (Irvington-on-Hudson, N.Y.: Foundation for Economic Education, 1996 [1845]).
3. U.S. Department of Commerce, Bureau of Economic Analysis, interactive database at www.bea.gov.
4. U.S. Department of Labor, Bureau of Labor Statistics, www.bls.gov/cps/prev_yrs.htm.
5. Personal income data expressed in 2001 dollars. U.S. Census Bureau, www.census.gov.

A trade deficit exists for the United States whenever Americans, during some period, import a greater dollar amount of goods and services than they export. This deficit means that some of the dollars which foreigners earn from selling things to American consumers are not spent during this same period buying things from American producers. This difference between the larger dollar-value of imports and the smaller dollar-value of exports is the trade deficit.

Whether or not all or part of this “deficit” becomes debt depends on what foreigners do with their dollars. If foreigners hold all their unspent dollars as cash reserves, none of the trade deficit becomes debt. Foreigners own some dollars while Americans own the goods and services they bought with this cash. Likewise, no debt is created if foreigners use their dollars to buy ownership shares in American companies or if they buy real estate in the United States.

Debt to foreigners is created only when Americans borrow from foreigners.

It’s true that Americans can and do borrow from foreigners. For example, Intel might borrow dollars from foreigners by selling bonds to them. Likewise, Uncle Sam might borrow dollars from foreigners by selling Treasury notes to them. In such cases, Americans do become indebted to foreigners—and, indeed, this indebtedness is facilitated by Americans running a trade deficit. But a trade deficit is not necessarily debt.

Let’s suppose, though, that every last dollar of America’s trade deficit does become debt. That is, suppose that if America’s trade deficit is $500 billion, not a cent of this $500 billion owned by foreigners is held as cash reserves, and not a cent is used to buy American real estate or ownership shares in U.S. businesses. Instead, foreigners lend the money to Americans.

Should we worry?

One response is that foreigners who lend to Americans display confidence in the American economy. How many of us lend money to economically unpromising entities (who aren’t our brothers-in-law)? To the extent that investor confidence drives the trade deficit, it should cause no concern.

Another response is that such loans strengthen the economy by enabling more productive investment to occur.

But insofar as America practices free trade, there’s a more fundamental reason not to worry. An open economy is not defined by political borders. Therefore, measuring trade between people living in one particular space and people living in other spaces is misleading if these spaces are economically integrated.

Consider a straightforward example. Suppose you live in the only house on Elm Street, in the town of Townville. You’re frugal; each month you save some of your income. Your financial future is bright because your sacrifices today will likely raise the value of your portfolio tomorrow. If we calculate the current account for Elm Street we will find that it is in surplus: you export more (in the form of supplying labor services to your employer) than you import (that is, than you consume).

Not-So-Frugal Neighbor

One day a house is built next to yours. Your new neighbor is a spendthrift; each month he not only spends all his income, but he also adds an amount of debt to his credit-card balance that exceeds the amount you save each month.

When we now calculate the current account for Elm Street, we find it to be in deficit. But are you worse off than before? No. Your rate of saving hasn’t fallen. The fact that you live in an area that not only has a current-account deficit, but also where every cent of that deficit is in the form of debt does not worsen your economic prospects one bit. If you continue to save, you’ll prosper.

Suppose that the issuer of your neighbor’s credit card is First Townville Bank. Further suppose that this is the bank that holds your savings. First Townville Bank “imports” capital from you and “exports” capital to your neighbor. (The difference between the amounts borrowed and saved is made up through fractional-reserve banking.)

Now let’s calculate the trade account for the entire town. If everyone else in Townville spends on consumption exactly the amount that he or she earns in income, and if First Townville Bank does business only with citizens of Townville, then Townville’s current-account and capital-account both equal zero.

As this example shows, changing the geography over which we calculate trade accounts can generate significant changes in these calculations. If your house alone is reckoned as the relevant geographic unit, we find a current-account surplus; if both houses on Elm Street are reckoned as the relevant unit, we find a current-account deficit; if the entire town is reckoned as the relevant unit, we find that the current-account is neither in deficit nor surplus. Regardless of the way we choose to reckon, however, you are no better off or worse off.

The relevance of this example for the larger economy is obvious. To the extent that Americans trade freely with foreigners, Americans become integrated into an economy larger than that part of the North American landmass identified as “America.” And it is this larger economy (“the global economy”) that is most relevant.

Investment, of course, is desirable. And saving is necessary for investment. For a variety of reasons, much of the investment that today takes place within U.S. borders comes from the savings of non-Americans. But so what? If the research lab in Boston and the vineyard in Oregon are built with dollars borrowed from the Japanese, I and other Americans are no worse off or better off than if these productive assets were built with dollars borrowed from other Americans. I would likely be better off if I, too, saved more and invested in these assets. But whether or not I invest, the nationality of those who do invest is irrelevant to me and my economic prospects.

Opportunities for mutually advantageous trade are what matter. The greater the number of such opportunities, the better. Classifying the world’s producers and consumers according to the issuer of their passports creates an illusion of relevance out of an utterly irrelevant happenstance.

In a letter dated December 2000 and addressed, “Dear Friend of US/LEAP,” Stephen Coats, executive director of the U.S./Labor Education in the Americas Project, spoke of various purported “victories and losses in the struggle for worker justice in the global economy.” Among the “losses” was what he called the “race to the bottom” in the banana industry:

Wages, benefits, and even the existence of the Central American banana unions, generally considered the region’s strongest private sector unions, are threatened by a “race to the bottom,” as companies continue to increase imports from low-wage, non-union Ecuador. US/LEAP, which is working with banana unions to develop a strategic response to the industry crisis, expects this issue to be a top priority in 2001.

We can see at once what kind of portrait is being painted for us with this “race” and its evocation of dog-eat-dog competition. Here are the faceless multinational corporations, concerned only with profit, abandoning their workers in poor (but unionized) Third World countries in order to exploit the cheaper (non-union) labor in another, even poorer Third World country. The corporations, which increase their profits by pocketing the money saved on lower wages, are the undeserving “winners,” while both the newly unemployed and the newly “exploited” workers are the unjustly harmed “losers” of this free-market power struggle. Isn’t this a connect-the-dots case of the rich getting richer from the poor getting poorer? Could anyone seriously claim that such a situation in fact benefits everyone?

Actually, yes. Let’s consider an economy—global, national, local, or even household—as if it were one company. Wouldn’t it make sense to assign a particular task to the person who could perform it most efficiently: that is, who could get the job done at a lower cost to the company than anyone else? It is just this function that employers perform for the economy when they search for the “cheapest” labor, the lower cost of which allows for lower, more competitive prices and expanded production, both of which benefit consumers, a group that happens to include the workers themselves . . . and everyone else. As Frédéric Bastiat observed, goods that are high in supply and low in price constitute the very definition of prosperity.

But are the “low-wage, non-union” Ecuadorian laborers better off working now for some foreign corporation? Apparently they think so, or else they would have stayed with what they were doing previously. (Would you leave your job for one with less pay and worse conditions?) And the union workers in the other Central American countries, who are losing their jobs to the Ecuadorians—exactly what do they gain from all this? The answer: employment in those fields where they can better contribute to what will thus be a more productive economy. When the blacksmith “lost his job” to the automobile, he didn’t go without work for the rest of his life. Instead of working in a smithy, he now worked in Mr. Ford’s factory—and lived in a world where cars replaced horses. Unemployment is not eternal. No one benefits from the idleness of others.

Strikers versus “Scabs”

Although the issue of the “race to the bottom” is discussed here in the context of foreign trade, the basics apply equally to the domestic conflict between strikers and “scabs.” Again, people generally gain when production shifts from less-efficient to more-efficient workers. In contrast, who benefits from the high prices and low supplies that result when government restricts the mobility of capital? But perhaps the real question is why activists, polemicists, and politicians continue to see strife and misfortune where the economist sees harmony and opportunity. The reason can be gleaned from the example at hand. Mr. Coats’s understanding of the situation begins with one thought—banana union workers are losing their jobs now—and ends with it. He doesn’t make the mental leap from “banana union workers” to the rest of society and from now to the long run. But the economist does; he knows that the focus must be, not on what happens to one part of one industry today, but on what happens to all parts of the economy tomorrow. That’s why the activists, among others, will demand—on behalf of the union workers—government restrictions on the importation of bananas from Ecuador, while the economist will denounce those restrictions as harmful to everyone.

It’s incredible. We would all laugh our heads off at some character who’d suggest that Uncle Sam should’ve crushed the emergent automobile industry in order to preserve the jobs of blacksmiths and horse breeders, and yet our federal and state governments are swamped with bills conceived to “protect” one sector of the populace from the productive activities of every other sector. Call it dog-eat-dog legislation, except that ultimately there’s just one dog—us—and the only prey he’s consuming is himself.

—E. F. Schumacher^[1]

The Anti-Capitalistic Mentality, Updated

In 1956, Ludwig von Mises countered myriad arguments against free enterprise in his insightful book, The Anti-Capitalistic Mentality. “The great ideological conflict of our age,” he wrote, “is, which of the two systems, capitalism or socialism, warrants a higher productivity of human efforts to improve people’s standard of living.”^[2]

Unfortunately, Mises’s counterattack has done little to stem the tide of anti-market sentiments. One that continues to be popular is E. F. Schumacher’s 1973 book, Small Is Beautiful, which has recently been reprinted in an oversized text with commentaries by Paul Hawken and other admirers. Schumacher has a flourishing following, including Schumacher College (in Devon, England) and the Schumacher Society (in Great Barrington, Massachusetts). Hawken hails Schumacher as a visionary and author of “the most important book of [his] life.”^[3] Schumacher’s message appeals to environmentalists, self-reliant communitarians, and advocates of “sustainable” growth (but not feminists—the old-fashioned Schumacher cited favorably the Buddhist view that “large-scale employment of women in offices or factories would be a sign of economic failure”^[4]).

From Austrian to Marxist to Buddhist

Oddly enough, Fritz Schumacher’s background is tied to the Austrians. Schumacher was born in Germany in 1911 and took a class from Joseph Schumpeter in the late 1920s in Bonn. It was Schumpeter’s course that convinced Schumacher to become an economist. While visiting England on a Rhodes scholarship in the early 1930s, Schumacher encountered F. A. Hayek at the London School of Economics and even wrote an article on “Inflation and the Structure of Production.”^[5] But his flirtation with Austrian economics ended when he discovered Keynes and Marx. He renounced his Christian heritage and became a “revolutionary socialist.” The Nazi threat forced him to live in London, where he was “interned” as an “enemy alien” during World War II. After the war, he worked with Keynes and Sir William Beveridge and supported the nationalization of heavy industry in both Britain and Germany. But his real change of heart came during a visit to Burma in 1955, when he was converted to Buddhism. “The Burmese lived simply. They had few wants and they were happy,” he commented. “It was wants that made a man poor and this made the role of the West very dangerous.”^[6]

Schumacher greatly admired Mahatma Gandhi and his saying, “Earth provides enough to satisfy every man’s need, but not for every man’s greed.” Eventually he wrote a series of essays that became his classic, Small Is Beautiful, published in 1973. In the 1970s, he became passionate about trees and began a campaign against deforestation. After a successful book tour in the United States, including a visit with President Jimmy Carter, he died in 1977 of an apparent heart attack.

The Lure of Buddhist Economics

Schumacher’s message is Malthusian in substance. Small Is Beautiful denounces big cities and big business, which “dehumanizes” the economy, strips the world of “nonrenewable” resources, and makes people too materialistic and overspecialized. According to Schumacher, individuals are better off working in smaller units and with less technology.

His most important chapter is “Buddhist Economics,” with its emphasis on “right livelihood” and “the maximum of well-being with the minimum of consumption.” Foreign trade does not fit into a Buddhist economy: “to satisfy human wants from faraway places rather than from sources nearby signifies failure rather than success.”^[7] In sum, traditional Buddhism rejects labor-saving machinery, assembly-line production, large-scale multinational corporations, foreign trade, and the consumer society.

There are two problems with Schumacher’s glorification of Buddhist economics. First, it denies an individual’s freedom to choose a capitalistic mode of production; it enslaves everyone in a life of “nonmaterialistic” values. And second, it clearly results in a primitive economy. Mises responded to both these issues: “What separates East and West is . . . the fact that the peoples of the East never conceived the idea of liberty . . . . The age of capitalism has abolished all vestiges of slavery and serfdom.” And: “It may be true that there are among Buddhist mendicants, living on alms in dirt and penury, some who feel perfectly happy and do not envy any nabob. However, it is a fact that for the immense majority of people such a life would be unbearable.”^[8]

I have no objection to preaching the Buddhist value that sees “the essence of civilization not in a multiplication of wants but in the purification of human character.” Nor do I disapprove of localized markets (see my favorable review last November of the Grameen Bank, which makes small-scale loans to the poor). But none of this idealism should be forced on any society. Ultimately we must let people choose their own patterns of work and enjoyment. Clearly, whenever Third World countries have been given their economic freedom, the vast majority have chosen capitalistic means of production and consumption. As a result, poor people have been given hope for the first time in their lives—a chance for their families to break away from the drudgery of hard labor, to become educated, see the world, and enjoy “right living.”

Freedom is beautiful!

Ample empirical evidence backs up the theoretical arguments in favor of free trade. The more that countries permit international trade to direct their productive efforts into their comparative advantages, the more they prosper relative to those that restrict trade. Despite this evidence, almost no country has followed a policy of free trade. With rare, and typically short-lived exceptions, governments reduce economic productivity and their citizens’ prosperity by either taxing or imposing quotas on imports. Why? Answering that question is the purpose of this column.

Cooperation vs. Confiscation

Given the advantages of free trade, no government would erect barriers to imports if the political process allowed the same degree of social cooperation as the market process. When trade restrictions are eliminated consumers gain but some workers and investors lose, most temporarily but some permanently. Even those who would lose permanently from eliminating their industry’s trade protections would still be better off living in an economy with completely free trade than in one where all domestic industries were protected. Even though individuals may benefit from their industry’s protection, they would lose far more as consumers from the protections of everyone else.

Those in an industry subject to intense foreign competition will want government to protect them if they don’t have to consider the costs it imposes on others. But protectionism would not occur if an industry had to pay these costs because the burden to consumers is always greater than the benefits to the protected industry.

Unfortunately, when people obtain benefits from government they do not have to pay prices reflecting their costs, as they do for benefits received in the marketplace. The cooperation of the marketplace comes from the market’s ability to collect, aggregate, and communicate costs that are widely dispersed over many people so that they are taken into consideration by those responsible for them. In sharp contrast, when the costs from politically provided benefits are dispersed over many people, those costs are likely to be ignored. So government commonly becomes the means by which people can gain private advantage through confiscation rather than through cooperation.

Weakness of the Many

A trade restriction concentrates benefits on the few in the protected industry at costs that are thinly dispersed over the entire consuming public. With the cost of a trade restriction spread over millions of consumers, few if any will be aware of the little extra they are paying for the protected product. After all, consumers buy hundreds of different products, and a little increase in the price of one product typically has little impact on the well-being of any one of them. Even if a consumer is aware of the extra cost, she will seldom know that it is caused by a trade restriction. And if by some chance she does know the reason for the extra cost, she has little motivation to respond politically. Even if she could eliminate the trade restriction, the effort might cost as much as or more than the restriction. While the total benefit from eliminating the restriction is huge, most of it would go to other consumers whether they took political action or not. But her political action is unlikely to do any good if she acts alone.

Of course, if a large percentage of the consumers act in unison they would surely have a decisive political influence. But because the number of consumers is so large, with each having such a small stake in the outcome, it is almost impossible to organize them for political action. As is often the case, the larger the number of people harmed by a policy, the weaker their political influence.

Power of the Few

On the other hand, because a relative few benefit from a trade restriction, they will be effective in lobbying for it. The benefit to each person will be significant, and each will be aware of both his own gain and the source of that gain. Also, because of the small number of beneficiaries, they are relatively easy to organize for political action. Indeed, they will generally be organized already through industry and occupational associations. So when a trade restriction is being considered, politicians will hear plenty from those favoring the restriction and little if any from those harmed by it. The result is a bias toward providing concentrated benefits and ignoring much larger, but dispersed costs. Therefore, it is often the case that the smaller the number of people benefiting from a policy, the more powerful their political influence in its favor.

With small, organized groups able to capture benefits at the expense of the general public through restrictions on trade (and many other special-interest policies), little social cooperation is achieved through the political process. For that reason, government is a constant threat to the social cooperation that comes from free-market activity.

Considering Some Costs

The costs of trade restrictions are more difficult to identify than indicated above. Consider restrictions on steel imports. Few people buy steel directly. Rather they pay for it indirectly when they buy products made from steel. Also, when an import restriction increases steel prices, employment opportunities are reduced in industries relying on steel as an input. Those who don’t get jobs because of a trade restriction will seldom know the reason. It has been estimated that limiting steel imports to 15 percent of the U.S. market would cost American consumers $189,000 a year for each steel job saved, and that for every U.S. steel job saved, over 3.5 U.S. jobs would be destroyed because of higher steel prices.^*

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*See Arthur Denzau, “American Steel: Responding to Foreign Competition,” Center for the Study of American Business, Washington University, St. Louis, Mo., February 1985.

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If such costs were revealed, rather than concealed, by the political process, we would never reduce our prosperity with trade restrictions. The advantage we all receive from free trade is that it forces industries to consider the full opportunity costs of their productive activity. It’s too bad that they aren’t required to consider the full cost of their political activity.