On SA and free trade (another cheeky academic-esque look).

Introduction

In light of the government’s recent 30-page document titled, “Reconstruction, Growth And Transformation: Building a New, Inclusive Economy” – a lengthy treatise which essentially amounts to nationalisation and mandatory use of pension funds to prop up state-owned investments – I believe the government to be progressing steadily towards a socialist state weighed down by protectionism and isolationist policies.

From the outset, let me note that I am exceptionally pro the pan-African movement, and believe that trade with other African countries is paramount to our growth as a country and continent. My being a proponent of free trade does not come at the expense of my patriotism, nor am I suggesting Africa goes cup in hand to Western society. We need to build local businesses, facilitate local entrepreneurship, and prioritize local investment, but all this is built on the back of free-market capitalism unhindered by interventionism.

For two great pieces of further reading on this topic, please see “Get South Africa Growing” by Brian Kantor and “Why Africa Fails” by Elly Twineyo-Kamigisha.

According to the World Bank (worldbank.org, 2017), 2016’s global trade in both goods and services accounted for roughly 56.4% of all GDP worldwide that same year, up 30.4% from 1960’s 24%. Using 2010’s GDP as a constant, global GDP has increased from approximately 11 trillion in 1960 to nearly 78 trillion in 2016. Simply put, this means there is an undeniable correlation between increased global trade, and increased global economic growth. It means too that, in absolute terms, the countries of the world are trading more amongst each other than ever before. To a large extent, this increase in trade has been the result of the almost ubiquitous agreement amongst generally dissenting economists: that free trade leads to greater economic growth (Driskill 2012: 2; Fuller and Geide-stevenson 2003: 370).

Historically, ever since Adam Smith’s game-changing magnum opus The Wealth of Nations first laid out the theory in proper, economists have been proposing and re-proposing arguments for the freedom of trade. Over the past two centuries there have been numerous challenges to it, many of which have resulted in necessary solidifications of the arguments in favour of the theory. Figures such as Ha-Joon Chang have cautioned against it in part, recommending a more strategic approach towards trade, believing it to be potentially dangerous and occasionally a zero-sum game (Chang 2007: 35). Figures such as David Ricardo and more recently, Jagdish Bhagwati, on the other hand, have embraced free trade, believing it to be a positive sum game and have developed increasingly resolute and sophisticated arguments for models based primarily on Smith’s initial work (Pugel 2016: 32).

This essay will outlay several of the core arguments made by the champions of free trade throughout economic history, and – along with providing an explanation of the underlying economics of such arguments – will briefly expand upon the critiques of these augments. Despite the near complete acceptance of the theory by modern economists as beneficial, there remain fervent critics of free trade from both within and without their own ranks (Driskill 2012: 2). These criticisms – moral, economic and social – will be addressed in the final component of this essay: an analysis of a modern take on the core arguments made by earlier economists. Before one examines the augments for a concept however, one ought to understand the context into which that concept was introduced, as well what – as far as possible – that concept is.

History and economics of free trade

Prior to the Adam Smith’s aforementioned book in 1776, the world largely operated on a mercantilist basis, designed to maximise a nations accumulation of bullion. Here, exports were seen as good as they brought in gold and silver in payment, and imports were seen as bad for their reversed role. Trade was essentially viewed as a zero sum game. Mercantilist thinking held that the government ought to regulate international trade as trade merchants would serve their own interest and not that of the nation – thus, governments would impose stringent taxes and restrict imports as much as possible (Pugel 2016: 33). Smith refuted this thinking by, inter alia, suggesting that if the purpose of accumulating bullion through exports is to ultimately purchase goods, then imports are logically a good thing as they are the extended market from which one may purchase. Essentially, exports exist to fund imports, thus making trade with other countries a positive sum game as both were able to benefit from it (Pugel 2016: 34).

Smith used the concept of absolute advantage to argue that countries could gain from each producing exclusively the good(s) for which they have the most suited production capacity, and trading amongst each other for the other goods they required (Pugel 2016: 34). Thus, global production efficiency is enhanced through each country exploiting its advantage in production – at least one country is better off, while neither are worse off – making it a Pareto-efficient scenario (Bhagwati: 1994: 232). What Smith failed to answer however, was the question of what to do in the instance where a nation has no absolute advantage. In steps David Ricardo.

Ricardo’s primary contribution was answering the above question through the examination of a nation’s opportunity cost (Pugel 2016: 35). He argued that a country will import the goods and services that have a high opportunity cost for it to produce and export those it can produce at a low one thereby consuming at a point inaccessible by non-trading production. This was called the principle of comparative advantage and has remained to this day the leading argument for the freedom of international trade (Bhagwati 2002: 5). It implies that trade will be most beneficial where it is free from restrictions such as levies, taxes and bylaws. This allows for nations to gain from trade despite their lack of an absolute advantage in any specific area of production. While their gains from such trade may not be as high as those of a nation with greater productive capacity, they will still be economically better off than were they in a state of autarky (Bhagwati 2002: 2). Later economists of the neoclassical school have refined Ricardo’s assumptions to explain why no country specializes completely by the introduction of increasing marginal costs when shifting production factors from one good to another (Pugel 2016: 48; Irwin 2009: 35).

The leading theory amongst such later neoclassical economists that seek to explain the difference in countries’ specialisation is the Hecksher-Ohlin theory. Succinctly, this theory predicts that a nation will export the product(s) which uses the relatively abundant production factor(s) within the nation intensively and will import those which uses its relatively scarce production factor(s) intensively (Pugel 2016: 61; Irwin 2009: 43). Both Ohlin and Samuelson argued that this theory will accord for a country’s gain through trade despite the comparative size of their production factors, thereby making international trade exceptionally beneficial for smaller countries (Pugel 2016: 62).

Another notable economist, John Stuart Mill, pointed out the dual nature of trading gains: both direct and indirect economic benefits, arguing further that despite their importance, both were surpassed in importance by the intellectual and moral gains (Irwin 2009:44). Direct gains are the aforementioned benefits of specialisation, while indirect gains usually take the form of scaling benefits: a larger market can introduce improved production processes (Irwin 2009: 51). Mill’s statement that these gains are surpassed by those of the intellectual and moral nature may be in reference to the notion that commerce breaks down prejudices by creating points of contact and sharing of ideas or beliefs (Irwin 2009: 60).

Despite the success the theory of free trade has received over the past two centuries, there have been numerous lingering challenges to it, both from within the economics camp and from without.

Modern critiques and their responses

The fundamental arguments for free trade – that it yields measurable net economic gain based on specialisation and comparative advantage – is seldom in question by modern economists and has by and large been accepted as what is as near to fact as a social science will get (Fuller and Geide-stevenson 2003: 370; Bradfield, Friedman and Friedman, 1982: 265).

Thus the arguments made today for protectionism primarily fall into either the moral category (trade might be economically beneficial, but is detrimental in other spheres) or the economic category (that trade hurts particular groups in the economy); there exists too, a more general argument against free trade is that it is a form of imperialism or colonialism in disguise (Blinder: 2008: 722).

Moral and social critiques

The moral category of criticism is wide, including facets such as ecological concerns, income inequality, the support of immoral labour usage and wage slavery, colonialism, aggravating poverty and increasing disparity between countries (Blinder: 2008: 722). Many of these are beyond the scope of this essay, however they will be broadly discussed in the context from which Bhagwati addresses them: In short, Bhagwati (2002: 55) argues that the majority of “moral” concerns can be attributed to a “looking over the shoulder” approach of producers who use a limited notion of fairness as a rhetoric to justify nationalist protectionism. Bhagwati (1997: 53) further argues that differences in tax burdens and alternate “moral considerations” are entirely appropriate for nations with varying fundamentals and that there is little empirical evidence to suggest that multinationals, and not governments, are caught in a “race to the bottom”. Essentially, Bhagwati calls for an examined approach to the claims of morality lobbyists, arguing that the majority of their claims are either logically unsound or will ultimately lead to free trade as the solution (Bhagwati 2002: 62).

A further critique of free trade theory is that it promotes a form of economic imperialism, whereby power is forcefully taken from some (either through economic, militant or political pressure) and given to others – rendering trade a zero-sum game (Helleiner 2002: 307; Chang 2007: 48). These views have been held by Marxist and Leninist economists predominantly, and have influenced neo-Marxist thinking in modern times (Helleiner 2002: 309). An offshoot of this theorizing is the world systems theory, in which a “core” set of nations exploit the “periphery”. The core maintains its wealth by importing cheap materials and selling expensive completed goods to and from the periphery. This maintains and aggravates impoverishment (Helleiner 2002: 309). In response to claims of imperialism, Irwin (2009: 204) argues that globalisation is entirely the choice of the trading country, a choice vindicated by historical records of prosperity for trading countries and decay for autarchic ones. This argument is rather incomplete and somewhat cyclical as it simply restates the claim as a justification for itself.

On a different branch, free trade has been criticised for not accounting for the negative externalities of environmental degradation, and many ecological economists take issue with the lack of responsibility shown here by economists seemingly content to focus solely on their theories with little regard for their practical repercussions (Frieden 2007: 136). To this, responses have suggested that the answer lies not within trade policy, but alternate governmental policies, perhaps with the addition of economic incentives for emission control, thus minimizing the negative externalities trade causes (Pugel 2016: 306).

Finally, a rather intriguing critique was made by Robert Driskill (2012: 5) not so much on free trade so much as on those who espouse it: he argued that due to mass acceptance, the arguments in favour of free trade are growing lax and are lacking intellectual rigor. He concluded that while free trade is certainly the best option, trade economists should be more forthright about both the desirability of free trade, and about the epistemological basis for their advocacy thereof.

Economic critiques

Much of the conventional economic arguments include concerns of free trade destroying infant industries, causing monopoly power and undermining long-run economic development (Bhagwati 1994: 233). Economist Ha-Joon Chang (2007: 38) posits that higher tariffs are justified in the case of developing nations due to the large productivity gap between them and the countries they are competing against. Underdeveloped nations are, Chang (2007:38) argues, weak players in a highly competitive system. This theory, known as import substitution industrialization, is largely considered ineffective by modern economists, as it has been counterargued by proponents of free trade with relative success (Pugel 2016: 312). Jagdish Bhagwati, a prominent free trader, argues that developing countries are able to adopt technology rather than having to create it, and that developing countries have a significantly richer export base than developed ones had when they began (Bhagwati 1994: 235).[1]

Essentially, much of the conventional arguments against free trade are nullified upon realising that the net result of removing tariffs would be a significant gain of surplus for society because, no matter on whom the tariff is applied, it causes the loss in surplus to be greater than the gain in surplus for the alternate party (Parkin 2014: 161).

A further economic critique is that of free trade causing nationalist policies wherein nations will become caught in a war of tariffs in a “beggar-thy-neighbour” approach.  For example, production of a good is economically efficient if the country with the lowest production cost produces it, unless they face a tariff while others (high cost producers) do not. Applying free trade to some and not all leads to trade diversion and an overall economic loss. However, it is precisely for this reason, many economists place vital importance on the negotiations surrounding the reduction of tariffs (Bradfield, Friedman and Friedman, 1982: 267).

Conclusion

The core of the arguments for free trade have remained largely unchanged since its inception: that it logically yields more gain then any alternative. This has proven itself in multiple forms with multiple degrees of sophistication. From Adam Smith, through David Ricardo and John Mill, to Jagdish Bhagwati, many prominent economists have espoused the reasons for free trade. There have been criticisms, however they are largely dealt well with and have, in the minds of the majority, been unable to sway the persuasion such trade holds.

Free trade is a theory that has been argued back and forth for centuries, and at each turn the pros vastly outweigh the cons. Frequently, it appears then that free trade is most opposed by those domestic industries who would most lose in face of stiffer competition. Ultimately free trade creates winners and losers, but both theory and empirical evidence show that the size of the winnings from it are far larger than the losses.

References

Bhagwati, J. (1994). Free Trade: Old and New Challenges. The Economic Journal, 104(423), p.231.

Bhagwati, J. (1997). Fair trade and harmonization. 1st ed. Cambridge, Massachusetts: MIT Press, p.53.

Bhagwati, J. (2002). Free trade today. New Dehli: Oxford University Press, pp.3-6.

Blinder, A. (2008). Free Trade. In: D. Henderson, ed., Concise Encyclopedia of Economics, 2nd ed. Indianapolis: Library of Economics and Liberty, pp.720-728.

Bradfield, M., Friedman, M. and Friedman, R. (1982). Free to Choose: A Personal Statement. Canadian Public Policy / Analyse de Politiques, 8(2), p.265.

Chang, H. (2007). Kicking away the ladder: Development Strategy in Historical Perspective. London: Anthem, pp.32-48.

Driskill, R. (2012). Deconstructing the argument for free trade: a case study of the role of economists in policy debates. Economics and Philosophy, 28(01), pp.1-30.

Frieden, J. A. (2007). Global capitalism: its fall and rise in the twentieth century. 1st ed. New York, NY: Norton, p.136.

Fuller, D. and Geide-stevenson, D. (2003). Consensus Among Economists: Revisited. The Journal of Economic Education, 34(4), pp.369-387.

Helleiner, E. (2002). Economic nationalism as a challenge to economic liberalism? Lessons from the 19th century. International Studies Quarterly, 46(3), 307–329.

Irwin, D. (2009). Free trade under fire. Princeton: Princeton University Press, pp.31-76.

Parkin, M. (2014). Microeconomics. 11th ed. Boston: Pearson, p.161.

Pugel, T. (2016). International economics. 16th ed. Boston: McGraw-Hill Irwin, pp.30-35.

Worldbank.org. (2017). Trade (% of GDP) | Data. [online] Available at: https://data.worldbank.org/indicator/NE.TRD.GNFS.ZS?display=graph [Accessed 3 Mar. 2018].


[1] Further, Milton Friedman (1982: 265), another economist, eloquently suggests:

“The infant industry argument is a smoke screen. The so-called infants never grow up. Once imposed, tariffs are seldom eliminated. Moreover, the argument is seldom used on behalf of true unborn infants that might conceivably be born and survive if given temporary protection; they have no spokesmen. It is used to justify tariffs for rather aged infants that can mount political pressure.”

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