Protectionism: The Myths
OCTOBER 01, 1986 by J.R. KEARL
J.R. Kearl is a professor of economics and law at Brigham Young University, Provo, Utah.
This article is adapted with permission from the April 1986 issue of BYU Today.
For at least 200 years it has been deafly understood that opening an economy to trade increases real per capita income, and that this increase is larger the more open an economy becomes. In our modern age, though, almost everyone who is not an economist thinks that imports reduce profits and eliminate jobs, that an economy would best be served by exporting more and importing less, and that a trade surplus would be good while a trade deficit is most certainly bad. Each of these notions is false but very much a part of the rise of protectionism in the United States.
In perhaps no other area of social policy are there so many myths that are so demonstrably incorrect yet so persistently invoked. But this gives rise to a nice puzzle: If free trade is such a terrific thing, why do protectionist myths persist and why are we moving step by step away from an open trade environment at great costs to each of us?
The positive effects that liberal or open trade have upon economic wen-being or, conversely, the negative effects that protectionist policies have on our welfare are more than abstract ideas of academic scribblers. The historical record is quite clear.
The growth and power of the American economy are a direct result of the movement away from the Articles of Confederation to a union of states within which trade between states could not be taxed. The Constitution essentially created a free trade area among the original 13 states and ensured that the free trade area would automatically increase with the creation of new states. Your economic well-being would be substantially lower if there were now 50 separate economics in this country, each with its own protected “basic” industries, rather than the integrated and specialized economy we now have. This fact might prompt you to ask why free trade between Montana and Florida is good but open trade between Alberta and Florida is not.
Likewise, all of our real incomes are substantially higher because the city of Provo cannot impose a tariff on the importation of clothing by the citizens of Provo from the mall in Orem and because Utah cannot impose a tariff on the importation of lettuce from California. Imagine, if you can, what our economic position would be if there were a tariff wall around Provo, or any of this country’s cities, so high that we had to manufacture within the city all of the typical commodities we consume—shoes, televisions, cars, refrigerators, computers, and so on. Our living standards would be much lower because economic independence produces, quite simply, economic poverty.
Britain’s move toward free trade in the early part of the nineteenth century, culminating with the repeal of the Corn Laws (laws that severely restricted the importation of grains in the support of domestic agriculture), ushered in almost a century of unparalleled economic growth. Those who supported the Corn Laws argued that wages would fall if trade was not restricted. In fact, wages within Britain rose rapidly with more open trade. However, not just the British benefited from the repeal of the Corn Laws. As a consequence of this move toward freer trade, Britain was the engine of economic growth for the world in the nineteenth century. (It is useful to note that Britain did not demand reciprocal actions by her trading partners, and indeed many continued to pursue protectionist or mercantilist policies to their detriment.)
On the negative side, there is now a good deal of evidence that the severity, depth, and length of the Great Depression were directly related to the unprecedented tariffs imposed by the Smoot-Hawley Act in 1930 and to similar actions taken by other countries in reaction to this tariff.
Furthermore, following World War II, as the colonies of the European powers obtained political independence, they also pursued economic independence and sought to restrict trade. All available evidence indicates that this effort to be economically independent stunted economic growth and impoverished these economies and their citizens. By contrast, those less developed areas that pursued more open economic policies, notably Hong Kong, Singapore, Taiwan, and South Korea, have experienced remarkable economic growth. For example, 1960 per capita income in the Philippines was $163 while it was $139 for Taiwan. By 1980, income in the Philippines had increased to $665, a four-fold increase, while it had increased to $2269 in Taiwan, or by a factor of 16. While there are many differences between the Philippines and Taiwan, one of the important differences was the pursuit of more protectionist policies by the Philippines.
The Myths of Protectionism
Despite the obvious achievements of open trade and the costs associated with restricted trade, protectionist myths persist.
Myth #1: An economy with high labor costs must protect itself because it cannot compete with an economy benefiting from “cheap” labor.
The benefits from trade depend only upon relative production costs, not on the level of production costs. Every economy has a relative cost advantage in some activity. For example, if you compare U.S. production costs in each of its industries with those of a low-wage country, say South Korea, you will find that those activi ties with relatively high U.S. costs will mostly be undertaken in Korea, while those with relatively low U.S. costs will be undertaken here. Higher labor productivity and lower capital costs allow us to have lower relative production costs in some activities, while lower labor costs allow South Korea to have lower relative production costs in other areas.
This myth suggests that we can only benefit from trade by trading with those countries that are “similar” to us. In fact, the gains from open trade are greater the more dissimilar the economies with whom we trade—our relative cost advantages and their relative cost advantages are greater and as a consequence the positive effects on per capita income in both economies will be greater.
It should also be noted, as an empirical matter, that the U.S. is not being driven from the international market place by “low” wage competition. The vast majority of our trade occurs with Canada and the European Economic Community, both of which have wage patterns comparable to our own. Even the wage pattern in Japan, our next largest trading partner, is closer to our own than to those in the less developed areas of the world. Conversely, little trade occurs with most of Africa, an area of truly low wages.
Myth #2: Import restrictions save American jobs.
In fact, import restrictions destroy American jobs. Free trade will move jobs from high relative cost sectors of an economy that cannot compete to low relative cost sectors that can. This occurs because imports undermine high-cost domestic activities, but since imports are paid for with dollars, when those dollars are spent by foreigners in the U.S., they increase employment in exporting sectors. It is true that when there is protection, there will be more people employed in the protected activities, but this will be at the cost of fewer people employed elsewhere in the economy.
Moreover, because real per capita income is higher with free trade, the average worker will have a smaller real income under protectionist policies. Indeed, estimates of the annual costs to consumers of distorting the distribution of jobs through protectionist policies are generally between $100,000 and $300,000 per job. More bluntly, we are paying well over $100,000 to maintain the jobs of people earning considerably less than $100,000.
Finally, it should be noted that the effect of trade on long-term employment is generally small when compared to other determinants of employment, even though in a protectionist environment all job losses are attributed to trade. For example, recent estimates indicate that in the steel industry, 209,000 jobs were eliminated between 1976 and 1983 because of a long-term decline in the demand for steel while only 37,000 jobs were lost (reallocated) because of import competition. The recessionary difficulties of the late 1970s and early 1980s accounted for the loss of another 27,000 jobs.
Myth #3: Temporary protection can provide a breathing period for an industry to modernize and become more competitive.
While temporary protection does create higher returns in activities under competitive pressure, it also reduces the incentives for adjustment. If there are technologies or organizational changes that will make an industry competitive, the expected profits will provide the necessary capital for such investments, regardless of protectionist barriers. If, on the other hand, no technology or organizational change will make an industry more competitive, then the increased income that temporary protection creates will not be reinvested by a rational manager but will be devoted to other activities. Consequently, the evidence indicates that once protection is granted, productivity and unit costs generally deteriorate even further relative to other industries. It is no surprise that the steel industry has enjoyed some form of protection for the past 15 years without notable recovery or that protectionist policies have not returned the U.S. to its once dominant position in the manufacture of televisions and footwear. Textiles have been provided temporary protection in anticipation of finally becoming viable in the international and open national market since the 1820s, giving new meaning to the word temporary.
However, while temporary protection does little to assist a domestic industry to adjust to international competition, many forms of protection, particularly those that currently are being employed, help foreign producers because they enable them to increase the prices they charge for imports to the United States. In both the automobile and steel industries, so-called voluntary agreements to limit exports to the United States have increased substantially the profits of foreign producers. For example, the external quotas imposed by the U.S. during the 1970s are estimated to have increased the annual profits of Japanese steel firms by about $200 million, or about one-half of Japan’s annual expenditure on research and development in steel. Our assistance to the domestic automobile industry has benefited the Japanese producers and dealers by at least $2 billion per year. Best estimates are that the external quota arrangement with the Japanese increased the price of Japanese cars by about $900 per car and the price of U.S. cars by about $350 per car—a total cost to consumers of $4.3 billion, or about $160,000 per year per job “saved” in the automobile industry.
Myth #4: Bilateral trade should be balanced.
Of particular concern these days is the $35 billion or so trade deficit with Japan. Even if one could argue that a trade deficit, per se, mattered, it certainly cannot be argued that a deficit with any particular country matters. Suppose, for example, that we purchase $10 billion in manufactured goods from the Japanese, who purchase $10 billion in raw materials from the Indonesians who, in turn, purchase $10 billion in food from the United States. Each country would be running a deficit with at least one other country, but the total trade deficit for each would be zero since each is also running a surplus with at least one country. More important, our ability to run an export surplus with the Indonesians would depend fundamentally on our export deficit with the Japanese. If we eliminated trade with the Japanese in order to get rid of the bilateral trade deficit, we would make it impossible for the Indonesians to run a surplus with us. More precisely, a refusal to import goods from Japan, demanding bilateral balanced trade, would result in a decrease in U.S. exports to other countries. It is important to understand that trade restrictions ostensibly directed at imports are always restrictions on exports as well; a tariff is always a tax on exports even though it appears to be a tax on imports alone.
It should be emphasized that where we have made large international loans (to Brazil, Mexico, South Korea, et al.), it would not be possible for those countries to pay off the loans unless we ran trade deficits with them, that is, unless they export more to us than we do to them—with the difference being equal to the payment on the loan. Part of the current international debt crisis is a direct result of our refusal to accept in payment (i.e., to import) the goods these debtor nations produce.
There is an important sense, then, in which trade is always balanced: If we import more goods than we export, we must be exporting dollars or the ownership of dollar denominated assets. This is an essential fact in understanding international trade. We can only import more goods than we export if foreigners willingly accept and hold these pieces of paper, and they can only get these pieces of paper if they exchange real goods and services for them. Except for possible adjustment costs associated with changing foreign preferences to hold these pieces of paper, this arrangement cannot possibly hurt us.
Myth #5: The United States will one day become a debtor nation if it continues to have large trade deficits.
This myth is true, but empty. Indeed, the U.S. became a net debtor during 1985, but here the word “debtor” gets in the way of understanding. If you incur a personal debt, you must produce income to pay off the debt. If our government runs a domestic deficit, it must also produce income to make payments on the debt. If a foreign country borrows dollars from the United States, that country must produce a dollar income to make payments on that debt. In each of these cases, domestic and foreign, the debt implies some future obligation, an IOU.
The U.S. trade deficit implies no such obligation. In the simplest case, we trade dollars for goods. Dollars are not IOUs, and they can only be spent in one economy, our own. Moreover, we can trade dollars for goods only so long as foreigners are willing to hold dollars. When they are unwilling to do so, we will have to trade goods for goods as foreigners use the dollars they have accumulated in the only way that they can, to purchase U.S. goods. If they do not want U.S. goods and do not want U.S. dollars, then an adjustment will occur in the value of the dollars that foreigners are holding so as to limit the amount of importing the U.S. can do. This is the only potential cost—that at some point in the future we will not be able to consume more than we produce as we have been able to for the past several years because of the willingness of foreigners to hold dollars.
Myth #6: We should protect U.S. industries from subsidized foreign goods that hurt American industries and consumers.
While it is difficult to know when a price difference is the result of a difference in efficiency rather than an explicit subsidy by a foreign government, there is little doubt that many governments subsidize the production of goods that enter the international markets. It is important to understand what this means, however. It is simply this: A foreign government taxes its citizens, thereby cutting their consumption, so that it can subsidize the consumption of people living in the richest country in the world. While paternalistic instincts may lead us to discourage this activity, we should not do so on the grounds that this activity is hurting Americans. If the rest of the world wants to provide welfare payments to us, we probably ought to humbly accept their largess. Our real income is certainly higher as a consequence.
It should be noted, though, that we are not without dirty hands in this matter. For example, while we undoubtedly have a comparative advantage in the production of agricultural commodities, the Department of Agriculture’s budget, which has fluctuated between $18 and $35 billion over the past several years, is almost to tally a subsidy to agricultural production that we are anxious to export. This is an indirect but very large subsidy of the goods that we expect other countries to buy from us. Moreover, we have directly subsidized exports of, for example, wheat to Egypt and shipping services. In the latter area, the U.S. merchant marine fleet, which competes in the international shipping market, stays afloat solely because of governmental subsidies.
Myth #7: Free trade for a country can only be beneficial if it is reciprocal, that is, if others are protectionist, we should be protectionist.
What happens if we trade freely with a country that is protectionist? If a country refuses to allow U.S. goods to penetrate domestic markets but exports aggressively to the U.S., it trades real goods (e.g. cars, televisions, clothing) for paper money (U.S. dollars). This poses no problem for the country getting the real goods; we should be concerned only if the U.S. were pursuing a policy that resulted in a long-term systematic surplus.
It is important to point out, however, that we have an interest in freer trade by our trading partners since to the degree that restrictive or mercantilist policies by others lower the amount of trade that occurs, we are not as well off as we might be. In this sense, reciprocity matters. The gains here are only on the upside, however, and a nation that is freely trading with others only hurts itself with protectionist policies. The benefits of a unilateral movement toward free trade by the British in the last century were noted earlier.
It may also be the case that reciprocity is necessary to create an open or free trade political coalition where trade liberalization is sold on the notion that with reciprocity, foreign markets will become open and that we cannot expect to export without importing. Essentially, reciprocity arguments may be used to play off the mercantilist sentiments that exports will be increased more than imports in order to create a more open trading environment.
Myth #8: The effects of protectionism are isolated to the industry protected.
For virtually every country except possibly the U.S. (because of our unique position as the world’s banker), decreasing imports decreases exports, and a tariff, quota or voluntary agreement on imported steel, for example, is essentially a tax on all exports.
The effects are even more direct than this, however. In 1985 the U.S. steel industry felt a sense of triumph because our government had persuaded the Japanese to “voluntarily” decrease their exports of steel to the U.S. The effect of this agreement, and others like it that we have forced on virtually all the steel producing nations of the world, will be to increase the price U.S. manufacturers pay for steel. While this may be advantageous to steel producers, there is more than one way to import steel: You can either import it as steel to be used in the production of final goods here, or the final goods, embodying steel, can be produced abroad and imported. Because of the potential for this kind of substitution, all U.S. manufacturers of goods using steel are now at a competitive disadvantage with foreign producers of those same goods; and while we will import less raw steel, we will now begin to import more steel embodied in final goods. The effect of this “advantageous” agreement is to place all U.S. industries that use steel in a “disadvantageous” position.
As another example, it is clear that protectionist measures that increase the price of domestic copper relative to foreign copper will lead to the destruction of more jobs in copper fabricating industries (because products with copper will be fabricated abroad) than will be saved in the copper mining industry. It is likely that these industries will then go to the government complaining about import competition and seeking relief. Like a cancer, protectionism will then spread.
Myth #9, Finally, it is often asserted that we must protect “basic” industries or, as a variant of this myth, those essential to national defense.
The vitality of the economy as a whole is not linked with the prospects of any particular industry. Indeed, the hallmark of a robust and growing economy is that the basic industries change through time. Railroads and agriculture were basic industries a hundred years ago. If we had pursued more aggressively domestic and international policies that protected these industries, 80 per cent of us would still live on the farm and none of us would easily be able to drive or fly. Because of the relationship between importing and exporting, when we adopt a trade policy that preserves our historical industrial base and freezes structural change, we impede structural change, not just in the U.S. but around the globe.
There are certainly legitimate national security needs, but protectionism is the most inefficient method of providing for them.
Kernels of Truth
Debunking these myths has been, perhaps, too much of an academic exercise, yet the central point is quite simply put: Under virtually any circumstances you can imagine, protectionism lowers our economic well-being considerably. If you look only at the costs of tariffs and domestic quotas, excluding the numerous voluntary agreements, the lower end of the estimate was $75 billion in 1984, which is a hidden tax of almost $1300 for each family of four. The true loss is likely several times this figure.
I am not suggesting that we pursue protectionist policies in this country because we do not understand the consequences or because the myths are convincing and we have been fooled. This would imply that a little education would stem the tide of protectionism and that ideas would triumph as we establish our trade policies. Rather, these myths are essentially the clothing for naked self-interests. A full explanation of the decline of free trade depends upon identifying both particular protectionist interests and a policy process that allows these special interests to outweigh the interests of all of us.
While each of these myths is false, each, as with most myths, contains a kernel of truth; indeed, there are three basic kernels that keep these myths alive.
1. Free trade increases per capita real income, but to do so it forces adjustments in the economy.
In practical terms, this means that while free trade creates new jobs in some sectors of the economy, it also causes unemployment in other sectors. Moving from one activity to another is not without cost, even if one’s income doesn’t change. Thus, to return to a specific myth, foreign subsidies are of concern not because they undermine the U.S. economy but because if they are not permanent or if they fluctuate greatly, they impose recurring adjustment costs on U.S. industries and on the individuals employed in those industries.
2. Free trade increases per capita real income, but it also changes the distribution of income within an economy.
As a result of free trade, some people’s incomes may fall, even though average individual income across the economy increases. Of course, it is little solace to unemployed steel or copper workers who have been making hourly wages well above the national industrial average that there are lower paying jobs elsewhere in the economy that they can find or that the average income for their fellow Americans is higher because theirs is now lower.
It is important to remember that protectionism, while lowering average real income, does increase someone’s income. Free trade produces winners and losers, but the gains of the winners are larger than the losses of the losers, while protectionist policies produce gains for the winners that are smaller than the losses of the losers.
3. Free trade increases real per capita income, but it leads to economic interdependence.
Thus, the increase in income is associated with our linkage to other economies—our well-being, in some senses, is tied to theirs.
Keeping the Myths Alive
These three kernels of truth give the myths their staying power. Ideas and historical evidence create no political coalitions. But adjustment costs, worries about economic interdependence, and narrowly focused losses that are only offset by broadly spread gains do create political coalitions. More precisely, a group of workers at a particular factory being forced to find work elsewhere—perhaps initially at a lower salary—forms the basis for a potent political coalition. Not surprisingly, the political system responds to such political coalitions.
Lyndon Johnson once said that a politician couldn’t be for free trade because there were no votes in it. Thus, our political representatives, while often voicing allegiance to free or open trade as a general principle, virtually always find that there are special circumstances associated with particular industries in their districts that call for protectionist responses.
While the adjustment problems associated with changes in employment opportunities and incomes of particular workers may elicit a sympathetic response, neither need be present for groups with narrow interests to seek protectionist policies. Because such policies will increase the incomes of certain individuals, the policies will always attract political interest. As a consequence of this incentive and the resistance to adjustment noted earlier, protectionism is used as a subtle private tax and transfer scheme to increase the incomes of selected individuals.
The government’s intervention in the sugar market illustrates this point. The world price of sugar is between 2 and 3 cents per pound, but because of protectionist policies, the price in the United States is over 20 cents per pound. That is, each of us pays over 10 times the world price for the sugar we consume. This amounts to a little less than $100 per year for a family of four, so it is not worth it for any of us to fight the policies that create the disparity in prices. For the small number of sugar producers in this country, however, the additional amount families spend sums to millions of dollars each year. Indeed, the annual amount spent on sugar, beyond that which would be spent if we freely traded in the commodity, is equal to half the capital value of all domestic sugar producers.
In addition, the annual expenditures per family do not fully measure the costs of protectionist policies in this area because, as noted earlier, it is not possible to isolate the effects of such policies. In particular, it is easy to import sugar in other foodstuffs, such as candy bars or pasta, but doing so places this country’s producers of these products at a competitive disadvantage with foreign producers.
Where does all this lead? The government now protects us from imported chicken and turkey pot pies, lemon curd, white chocolate, chocolate sauces, sweetened cocoa, pancake mixes, sweetened flour and mousse mixes, sprinkles for ice cream and toppings for Black Forest cake, herb teas, mussel salad, Korean noodles in a soup base, and frozen kosher pizzas. Shipments of each of these have been prevented from entering the U.S. during the past year because they contain sugar.
The convenience of manipulating the concern over sugar importation as a lever for protectionist policies is perhaps nowhere better illustrated than by noting that the mussel salad that was prevented from entering the U.S. contained less than 1.7 per cent sugar and the Korean noodles were in a soup base with less than .02 per cent sugar.
The “Fairness” Doctrine
All such protectionist policies are devices by which small groups, with much to gain, use the political process to force the rest of us to pay for their well-being. That the true subsidies of these protectionist policies are hidden explains their attraction to politicians and protected individuals and businesses.
Protectionist policies, then, may be appealing, but protectionist rhetoric is not. Everyone is for open trade—as a general matter. However, there has been a subtle change even in the rhetoric. In much of the debate, people no longer speak of “free trade”; instead, it is now popular to stand for “fair trade.” Those interested in protectionism have used that great shibboleth of contemporary life, “fairness,” to mask protectionist policies and, increasingly, the debate is between “fair” and “unfair” trade rather than between “free” trade and “protectionism.” Thus, no one is in favor of “protectionism,” but, increasingly, people favor “fair” (read protectionist) trade and not “free” trade.
This shift in rhetoric has accompanied a shift in the kinds of protectionist policies we pursue. Tariffs were once the common means of intervening in international trade, but, increasingly quotas and “voluntary” export restraints by our trading partners dominate our trade policy.
Part of this movement away from tariffs accompanied the development of the world trading system following World War II. The United States emerged as the dominant economy following the War and with some extraordinary guidance recognized that an open trading system was important for the future stability of the Western countries. As a consequence, the U.S. pushed for the development of a number of international institutions that would facilitate international trade and economic development. Among them was the General Agreement on Trade and Tariffs (GATT), a treaty that committed the U.S. and the other industrial nations of the West to lowering tariffs from the historic highs reached during the Great Depression. In many respects, this treaty has been successful beyond anyone’s expectations. Average tariffs on industrial products for us and our trading partners have declined through a series of negotiations from 59 per cent (following the Smoot-Hawley tariff) to less than 5 per cent today.
However, other changes have created an environment more conducive to protectionism. First, with the growth of economies elsewhere, the U.S. economy has become more integrated into the world economy and relatively less dominant. Trade from the rest of the world is now much more important to us, but, at the same time, we are now a less important trading partner for any particular country. As a consequence, goods in our economy now face direct competition from abroad, many for the first time, and we have less leverage on the trade policies of other countries.
Second, the movement toward more open trade coincided with a long-term decline in some politically important and “basic” U.S. industries, including textiles, footwear, machine tools, steel, and copper. This created hostility toward what people easily identified as the “cause” of this decline—open trade—even though most of the problems had other sources.
Third, lower tariffs did create a more open U.S. economy. However, other countries, which historically had relied more on non-tariff barriers, were less affected by these lower tariffs. These economies have become relatively less open as a consequence of the decline in tariffs. In addition, non-tariff barriers, which were made obscure and unimportant by high tariffs, have now become much more visible, important, and irritating to the U.S.
A simple example will illustrate the point. When the tide is high, it is difficult to know whether beaches are sandy or rocky and for many purposes it does not matter. Similarly, when tariffs are high, it does not matter if a country has other trade barriers. As the tide falls, however, there is a big difference between sandy and rocky beaches because the rocks are now visible and affect the use of the beach. Likewise, a country (like the U.S.) which relied primarily on tariffs, finds itself much more open to trade when tariffs fall than a country with lots of hidden barriers that only become visible as tariffs fall.
Finally, the GATT covered primarily industrial goods. It turns out that our comparative advantage appears to lie in other areas, areas that are not covered by GATT, including services and agricultural commodities. For both services and agricultural goods, substantial barriers exist that make it difficult for the U.S. to export to other nations. Thus, while GATT was a success on one dimension, it turns out to be a dimension that matters greatly to those who would export to the U.S. but less to us.
These problems with GATT, the change in our relative economic position vis-à-vis the rest of the world, and the decline in domestic industries of political importance have created a very different kind of environment than that which existed just after World War II. In addition, large U.S. domestic deficits and flexible exchange rates have provided an easy means for capital flows to the U.S., flows that result in a highly valued dollar in international markets, This highly valued dollar, while accommodating the partial funding of our domestic deficit by foreigners, also makes U.S. goods relatively uncompetitive on international markets, which makes the environment even less hospitable to free or open trade. Thus, protectionism becomes a seductive option to “cure” our ills, and tariffs or non-tariff barriers seem to be the answers.
Tariffs have the nice property that they are reasonably transparent, that is, easy to detect and measure. Non- tariff barriers, like voluntary export restraints entered into by our trading partners, are not as transparent. This makes them, unfortunately, much more attractive in the current environment. I view them with great alarm because they are much more difficult to negotiate away. Their use is a confirmation to some degree of the old law of unintended consequences: GATT reductions in tariffs did not eliminate protectionist pressures, they simply forced those pressures to surface in areas where unraveling them would be much more difficult.
Why this alarm? The history of voluntary restraints has not been encouraging. In 1955, in response to threats to impose some sort of import restrictions on the rapidly increasing imports of textiles from Japan, the Japanese government offered to voluntarily limit exports to allow U.S. textile firms to adjust to the new market conditions. The resulting higher price of textiles in the U.S. provided a powerful stimulus for other nations to enter this business, and Hong Kong soon did. Again in response to threats of direct protectionism, the temporary voluntary agreement with the Japanese was extended to Hong Kong. It was then extended to Taiwan, to South Korea, to Indonesia and to every emerging producer of textiles, including the People’s Republic of China following then-President Richard Nixon’s diplomatic efforts. This “temporary,” “voluntary” arrangement was formalized and extended to synthetic as well as natural fabrics in the early 1970s so that 30 years after the initial “temporary” arrangement was made, it remains in place.
Now, in a major effort to tighten these restrictions, the current administration has redefined what is entailed in “fabrication,” which has tightened the effective import quotas, and has thus made its foray into medieval philosophy. Only instead of asking how many angels can stand on the head of a pin, the important question now is, “When is a sweater a sweater?” This issue arises because under the textile quota agreement, some countries have quotas for exports to the U.S. but no domestic textile industry. As a consequence, there is an incentive for a textile producing country to ship its textiles to one of these countries for subsequent shipment to the U.S., thereby exceeding its quota but not the quota of the two countries combined. Since this is a bit blatant, what these countries do, instead, is to ship parts of finished clothing—say the back, two fronts, and two sleeves of a sweater—to a country without a domestic textile industry, for instance China to Panama. The parts are then assembled, labeled “Made in . . . ,” and shipped to the United States.
Similar voluntary agreements have been made in a number of areas, including specialty steel, automobiles, footwear, and that all-important domestic sector, mushroom production, which is now covered by a voluntary agreement limiting imports. The U.S. is now proceeding to force our trading partners to “voluntarily” limit carbon steel exports to the U.S.
These arrangements are neither “voluntary” nor “temporary” nor “transparent.” To illustrate, consider the current war of words with Japan. This battle was initiated by a fairly dramatic increase in the announced exports of Japanese autos to the United States following the expiration of the “voluntary” Japanese arrangement limiting exports to the United States to about 1.8 million cars per year for the past four years. You would think that the expiration of the agreement between the U.S. and Japan would mean just that, that the Japanese were now free to trade in automobiles. Such, of course, was not the case. It is clear that our government and the industries involved expected a continued adherence to the arrangement by the Japanese with at most modest increases in exports to the U.S. The Japanese were still limiting exports, but apparently at higher quotas than was expected, resulting in an increase in exports to the U.S. under a supposedly open trading system that has triggered the recent attacks on Japan.
Voluntary trade agreements are attractive precisely because they are not transparent. They amount to taxes on U.S. citizens and transfers to some U.S. and foreign producers that never appear on any budget document of the U.S. government. Firms simply claim them as revenues from sales.
Because ideology and ideas matter far less in the political arena than political self-interest, I think one has to be quite pessimistic about the future of the open trading system. In fact, the subtle manner in which it is now being undermined makes even tariffs attractive by contrast. What is quite certain, though, is that we have neither a Congress nor a president with any commitment to free trade, only to “fair” trade, and that some of our private industries will continue to benefit from hidden, but nevertheless substantial, taxes on each of our incomes to support their own interests.