On "Free" Trade

One of the key axioms of the "Washington Consensus" is that international trade is good for both parties and is the only viable road to development in the third world. They have been promoting this vision, in one form or another, for 50 years.

There are many critics of this view who illustrate their objections with a large number of case studies. These generally fall into two categories. In the first are the examples of states which have been the object of much international advice and intervention and still haven't done well. Much of Africa falls into this category. The second are those states which have done well, but have ignored most of the policy prescriptions promoted by entities such as the World Bank and IMF. Examples include South Korea and China.

Many of the policies promoted are concerned with specific philosophical ideas, rather than being tailored to the individual situation. This includes allowing foreign investment in (or ownership of) local enterprises, reform of tax and tariff laws to be more favorable to businesses, and constraints on social spending and subsidization of emerging sectors. Many programs try to shift from local production aimed at making a state more-or-less self sufficient to one where products are aimed at the international market and the income received is then used to buy necessities that were previously sourced locally.

Examples of such export directed programs include the growing of cut flowers for the US and EU from, for example, Ethiopia and Columbia and salmon farming in Chile. This is not the same as the traditional export market where the state has some unique resource like Copper in Chile or Cocoa from Ivory Coast. Growing flowers for export means that some other agricultural product is displaced and makes the country less self-sufficient in the case of a natural disaster. The use of intellectual property laws has also made many of these countries dependent on the purchase of specialized seeds each season which can only be obtained by spending hard currency. It is clear that there may be benefits to both parties (Ricardo's claim), but that the benefits are not distributed equally.

It is not ethical to say that if I make a dollar and you make a dime the trade is worthwhile since we both gain. This is, however, how all international trade is viewed.

When criticizing the failures of expanded trade to improve the lot of underdeveloped countries the discussion gets mired down in the details of exactly where the failures are in each case. In one instance it might be corruption, in another a lack of education, in yet another poor government infrastructure and weak property laws. This makes generalizing and offering policy recommendations difficult.

I'd like to propose that critics and supporters of various trade philosophies examine a simpler model - the United States. National laws have ensured that artificial barriers to trade, such as tariffs, don't exist, yet the federalist state structure allows for much local control over policy. Some states have strong support for education, some weak. Some states have "right to work" laws which disfavor organized labor, some don't. Some states have extensive social programs, some don't. Some use high taxes to fund programs, both those for industry as well as for human services, some don't.

What they do have, in addition to no barriers on inter-state trade, are the lack of barriers on migration. If economic prospects are better in one area people are free to move there and try their luck. Lack of migration prospects between countries is often cited as a reason why development is hampered. The US allows a study of this assumption.

So, how have the states done over the past 200 years with open borders to trade and migration? Have one set of policies been generally more successful than another?

The evidence is pretty clear. States that have been unfriendly to organized labor, social spending and high taxes used for development have remained underdeveloped. Mississippi and Alabama were near the bottom 150 years ago and they still are, even as they have attracted firms which have left the traditional industrialized states as a way to escape unions. Poor levels of education have left them at a disadvantage in the new era of intellectual property. There is no "Mississippi Valley" to compete with Silicon Valley.

States that have consistently supported a tax policy coupled with investment in education, infrastructure and R&D have done well. This includes New York, New Jersey and Massachusetts. As manufacturing has left these states they have compensated by developing expertise in areas such as finance, media, publishing and advertising, medical research and higher education.

The states of the rust belt that held on to their industrial base too long and didn't make these sorts of investments, but allowed the big industrial firms to extract the profits rather than being required to return some of them in the form of high taxes are now suffering. They no longer have the revenue stream to fund new development and have fallen behind in education and infrastructure. California is also on the cusp of a disaster as a multi-decade policy of tax cutting has left it unable to cope with social transformation. The boost from the rise of computer industry is coming to an end as the industry matures and globalizes.

Economists and policy planners, as well as ideologues of all stripes, don't have to study Burundi to see how development policies play out. They can look to the US and eliminate a set of variables that have been hard to factor out in other cases.

I'll save them a bit of time. You get what you pay for. A coherent state public policy which supports education, good labor relations, investment in infrastructure, R&D and emerging technologies, all paid for by high, but progressive taxes, leads to better outcomes then low tax plutocracies.

Poor development outcomes internationally aren't the result of not knowing what policies to promote, but because the policies that are adopted favor plutocrats and wealthy first world investors.


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Copyright © 2008 Robert D Feinman
Feel free to use the ideas, but the words are mine.