Arguments Against International Trade in Modern Principles of Economics

In our textbook, Modern Principles of Economics, Tyler and I explain the benefits of free trade and show why some common arguments against free trade are mistaken. Our goal, however, is to teach students how to think like economists and so we also explain the costs of free trade. In particular, we indicate the strongest arguments against free trade and explore when those arguments best apply. Here’s one of the better arguments against free trade, straight from the book:

If a good is vital for national security but domestic producers have higher costs than foreign producers, it can make sense for the government to tax imports or subsidize the production of the domestic industry. It may make sense, for example, to support a domestic vaccine industry. In 1918, more than a quarter of the U.S. population got sick with the flu and more than 500,000 died, sometimes within hours of being infected. The young were especially hard-hit and, as a result, life expectancy in the United States dropped by 10 years. No place in the world was safe, as between 2.5% and 5% of the entire world population died from the flu between 1918 and 1920. Producing flu vaccine requires an elaborate process in which robots inject hundreds of millions of eggs with flu viruses. In an ordinary year, there are few problems with buying vaccine produced in another country, but if something like the 1918 flu swept the world again, it would be wise to have significant vaccine production capacity in the United States.

If I may be permitted to advertise a bit (more). In Modern Principles, we explain the concept of externalities using flu shots. In macroeconomics, we deal with both real shocks and demand shocks and we list pandemics as one example of a real shock. We also explain how shocks are amplified and can create dis-coordination. These relevant, real world examples in Modern Principles are not an accident. There are different styles of textbooks. Some are written in a vanilla style so they don’t need to be updated or revised very often. In contrast, we wanted Modern Principles to have modern examples and to be relevant to the times. Sometimes, however, we’d like it to be a little less relevant.

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Due to free trade, there will be enough popcorn to feast on while the comments roll in.

And due to national security concerns, there will also be enough popcorn in the strategic popcorn supply.

The real trick to thinking like economists is to have your popcorn and eat it by the handful too.

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The strategic industry argument still fails. It wold be better to subsidize a domestic vaccine industry, say by a per dose bounty than to have a tariff. The tariff in effect taxes users to pay the subsidy. If there is a pubic interest in production of the good, then a broader base should be taxed. In addition a subsidy would remove the distortion of making domestic sales more profitable than exports.

"The strategic industry argument still fails."

It fails at justifying tariffs. But it succeeds, theoretically at least, at justifying subsidies of domestic industry, for the reasons that you and the textbook say.

It's standard fiscal economics: apply specific taxes or subsidies to correct for the specific market imperfection that we are trying to correct.

So even better than subsidizing domestic production would be to subsidize domestic capacity, that might sit around underutilized most years but that can be ramped up when a national emergency hits. (Or if the good is durable as masks and ventilators are, put them into the Strategic National Stockpile, put oil into the Strategic Petroleum Reserve, etc. https://www.phe.gov/about/sns/Pages/default.aspx)

But when it comes to creating new vaccines, that degree of specificity might be impossible to achieve. The best we can probably do is have a lot of research hospitals, labs, biomedical experts, and drug manufacturers in the country -- which we do have, and they are subsidized, except for the manufacturers. I'm not sure if they need to be, even taking into account the argument from Alex and Tyler's textbook. If they shrank further, maybe.

So, the Post is reporting that the American apparel industry is swinging into gear to produce masks, much like TC predicted. "The companies aim to begin delivering the masks in the middle of the coming week and to achieve weekly production of 10 million masks in about a month’s time, according to the National Council of Textile Organizations, or NCTO."

The kicker? "Hanesbrands will make the masks in factories that normally produce T-shirts, underwear, socks and sweatshirts, in El Salvador, Honduras and the Dominican Republic."

It's just a flu. We are making it worse by overreacting.

It's a flu that kills 3% and leaves permanent organ damage to a significant percentage of others (liquefies your insides). There's people like you here in Greece and after tonight's two week lockdown, if they are found outside without cause, they'll be fined 150 Euro. The USA if it wants to whip Covid-19 without going down the potentially unsafe "herd immunity" route needs to do this now. I'm afraid they won't, so we'll see how bad this flu is.

Bonus trivia: TC by private email dismissed the Ebola crisis about 6 years ago and called the Covid-19 crisis this year. He's a genius that can see farther than most people, because of his chess background. Verdad.

National security is not the only issue for consideration. Economic strategies can drive supply chains to a configuration where a black swan event like coronavirus can produce greater disruption than the disease itself. Currently about 70% of US drug consumption is sourced in China and India. I suspect that coronavirus persist through the summer, that more people may die of drug shortages than from coronavirus disease. Also consider, that in the event of a global pandemic such as coronavirus, many nations may nationalize pharmaceutical production in anticipation of eventual drug shortages. Lastly, from a national security perspective, consider the scenario of a potential war with China where pharmaceuticals are simply withheld from export to the US.

China is reopening its factories now, so those drug shortages aren't going to materialize. There would actually be a higher risk of drug shortages right when you need them if the drugs were produced in the US and those factories had to be shut down while the US dealt with a pandemic. No country could deal with something like this without international trade: even China was importing masks and other supplies when it was suffering the worst outbreak and its factories were shut down.

And the supply chain risks of a war is an excellent argument for not starting a war.

Somehow, I doubt that economic arguments against starting a war have ever been effective. It's rather amazing that while I hear many politicians say we can't afford Medicare for All, but I've never heard one advance the argument that we can't afford this war, so we should just surrender now, so we can save money.

To clarify, I wasn't arguing in favor of pure domestic production; rather that concentrating supply chains into the most economically efficient structures, can create catastrophic situations when localized disruptions occur. The incessant drive to squeeze every penny out of supply chains is not always the smartest option in the long run.

India not China will be the bottleneck. A lot of the raw ingredients for the drugs manufactured in China come from India, as do a significant amount of drugs manufactured in India.

" a black swan event like coronavirus"

It is not remotely a black swan. It was long predicted that another viral respiratory epidemic would come out of the East. It's just that nobody had any idea when it would happen. It's an unreliable white swan.

By this criteria, nothing is ever a black swan. Was 9/11 a black swan? People has suggested flying planes into buildings was a possibility, but policymakers assumed that because it hadn't happened, it wouldn't happen. Was Hurricane Katrina a black swan? George Bush said no one could have predicted this, but the Army Corp of Engineers had predicted the extent of damage back in the 80's. Was the financial mess in 2008/9 a black swan? Certainly lots of people made big bucks from that.
My sense of black swan is whether people predict it or consider it theoretically possible, but rather preparations and plans are put in place to be ready for such an event.
Did (or could) anyone have predicted supply chains disruptions from a public health emergency in China? Sure. Did people make plans for such an event? No.
Every year there's hurricane season. Very unreliable. Some years, no hurricanes even hit the US. Other seasons, we may have one; sometimes there may be multiple. But plans are in place. Some businesses will even plan routine maintenance that shut down normal operations during the peak part of the season.
After SARS, H1N1, MERS, Zika, could another global public health emergency been predicted. Sure. Was anything done about it? No

Black swans to me are anything that we choose to ignore because we don't want to make the effort to deal with it. White swans are things we feel comfortable about dealing with.

"Some are written in a vanilla style so they don’t need to be updated or revised very often...In contrast, we wanted Modern Principles to have modern examples and to be relevant to the times." Really? As an economist and textbook author surely you realize that there is an incentive to do as you have done so as to produce a constant stream of new editions to produce revenue and keep up with the competition.

Pure Hasbarah...

It is obviously true that for most goods and services, maximizing the utilization of comparative advantages produces the greatest overall prosperity and material good.

But it is also obviously true that comparative advantages can change over time. Countries or regions can develop specializations and competencies in industries that didn't exist there before. It is not through natural endowments that manufacturing power shifted from Europe and America to Asia (an exploitation of the comparative advantages that existed in the 1950s would have seen East Asia remain exporters of raw materials and the West remain the world's manufacturing hub) but through careful investment and industrial policy, state-backed leveraging of cheap labor with an eye to greater national independence and power. This has undoubtedly created greater prosperity for Asia than they would have maintained otherwise.

From the perspective of any one moment, tariffs and trade barriers are bad policy and reduce prosperity. From the perspective of 50 years hence, tariffs and trade barriers are often necessary policy to reduce dependency, shift competencies and enhance long-term prosperity. How do we properly weight or discount the time factor here?

It depends on the good being stored. For stuff that stores for well over a year, you could probably still rely upon stockpiles purchased from sellers running international supply chains. But for the stuff that doesn't store well at all (especially vaccines), you really need a reserve of domestic production that can ramp up quickly with the right pay.

Some countries just can't do that - they're too small economically. But the US certainly could keep those companies in reserve, and support them with contracts to supply and maintain a certain amount of capacity and stockpile of the stuff versus doing tariffs and more general subsidies.

All that said, you'd want to make the bidding as open as possible to any potential domestic manufacturer willing to supply the stuff. That way, you can avoid it just becoming a patronage system for specific companies (or you can at least try).

As with any bureaucratic body, the problem is one of knowledge. Which products are strategically important? Does only the end product count or the entire supply chain? We are potentially talking about thousands of products with complex supply chains all of which may change at any time. Understanding where risk is may be more important than either tariffs or subsidies.

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