Thursday, October 07, 2004

Finally something economists agree on: Free Trade! A speech by the Fed's Roger Ferguson

FRB: Speech, Ferguson--Free Trade: What Do Economists Really Know?--October 7, 2004

Quick what is the only thing that economists can agree on? Free Trade! That said, many in the "public at large" do not agree. That is why it always serves us well to go back and see why free trade is a "good thing."

Bravo!! Fed Vice Chairman Roger Ferguson does a wonderful job defending Free Trade!

Ferguson begins off by explaining that many factors influence the economy, but his talk would focus on free trade. This focus is largely because in recent years there has been a split between economists and "the public at large" over free trade.

From a longer time perspective free trade is increasing:

"In the past half-century, global trade has become freer and has expanded rapidly. The ratio of trade (exports plus imports) to worldwide gross domestic product rose from only 16 percent in 1960 to 40 percent by 2001. In 1960, the United States, Germany, and Japan had average tariff rates of around 7 percent; these rates were more than halved by 1993."

Although most economists welcome these trends, the public at large has been much more ambivalent about international trade. Attitudes toward free trade in principle remain generally positive, but a substantial--and, perhaps, growing--minority of Americans hold more negative views."

Ferguson goes on to list benefits of free trade:
  1. "International trade allows us to choose from a wider array of goods than would otherwise be available." This he estimates to be worth approximately 3% of GDP.
  2. "A second benefit of international trade is its role in reducing the cost of goods and hence in raising our standard of living" While acknowledging the difficulty in valuaing this benefit of this cost reduction, he cites examples of products that enjoy the benefits of protection and shows that these goods have not fallen in price as much as goods and services that are subject to competition.
  3. A "third key benefit of free trade is that it allows economies to specialize in the activities they do best. This notion was at the core of the classical economists' defense of free trade."
  4. "In addition to promoting specialization, trade boosts productivity through a fourth channel of influence: opening the economy to heightened competition. This effect could occur either as firms are spurred by foreign competitors to become more efficient, or as the least productive firms are forced to close, thus raising the average level of productivity for the economy as a whole."

Ferguson also lists "Arguments agsinst Free Trade"

  1. Trade has "given rise to large trade and current account deficits."
  2. Trade leads to lost jobs. Here Ferguson gives several variants of the basic theme that free trade costs jobs. The key point: "Import competition clearly has cost some American workers their jobs and has caused them considerable hardship as a result. However, economywide equilibrating forces, including monetary policy, ensure that over time such employment losses are offset by gains elsewhere in the economy, so that the nationwide unemployment rate averages around its equilibrium level. In fact, the inflow of foreign capital that finances our trade deficit provides the funding for investment projects that employ U.S. workers." While the number of people losing their jobs as a result of international trade is relatively small, "We cannot and should not minimize the hardships of workers displaced by imports."
  3. Many believe that "discuss is that import competition, whether or not it affects the number of jobs, shifts the employment mix from high-quality jobs to low-quality jobs.... However, no conclusive evidence has shown that, over the long haul, the service jobs being created pay less or are otherwise less desirable than manufactured jobs being displaced. Moreover, the declining share of manufacturing in U.S. employment most likely stems less from import competition than it does from the rapid pace of productivity growth in manufacturing; this growth outpaced the productivity "

Yeah yeah, but what about outsourcing? Again he answers this:

“There are no conclusive data, but a prominent study puts the number of jobs displaced through services outsourcing over the next decade or so at fewer than 300,000 annually, or less than 2 percent of the 15 million in total gross job losses I noted earlier. Moreover, only a fraction of those jobs represent high-skilled, high-wage jobs; these numbers are quite difficult to pin down, but one study puts the number of software jobs lost to India since 2000 at fewer than 50,000 annually.”

A problem with convincing many of the benefits of free trade is that the benefits are often hidden whereas the costs are often more readily seen. For example, we can easily see that a local plant has been closed and jobs shifted overseas, but we do not realize that we are paying less for cars etc because of free trade. Or your job just got outsourced and you do not care about how many millions of jobs are NOT outsourced.

To combat this, Ferguson suggests free trade advocates turn this around and showing how the absence of free trade (i.e. protectionism) can hurt. This is easier to quantify:

"Rather than arguing the merits of international trade in the abstract, advocates of free trade might gain more traction by arguing against concrete examples of protectionism"

Case in point, the steel tariffs of the US that were imposed to protect steel makers. Not only did they not work, they probably ended up costing more jobs (even in the US)!

" raising the cost of goods that are inputs for other producers, import barriers may destroy more jobs in so-called "downstream" sectors than they save in protected sectors. According to one study, the 2002 steel safeguard program contributed to higher steel prices that eliminated about 200,000 jobs in steel-using industries, whereas only 187,500 workers were employed by U.S. steel-producers in December 2002."
Moreover, protectionism designed as quatas can actually serve to help foreign producers by allowing them to sell at a higher price AND to be compensated (through WTO fines) for the illegal protectionism laws.

Overall Ferguson believes free trade will continue, but movements for freer trade may slow unless the costs and benefits are clearly delineated.

Well done!

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