The rise of import from China in the 2000s’ led to a strong increase in American households’ debt, reveals a study written by Professors Jean-Noël Barrot, Erik Loualiche, Matthew Plosser and Julien Sauvagnat. This effect is mainly explained by manufacturing workers borrowing to smooth consumption after facing deteriorating labor market conditions. Import competition from China therefore has not only played a role in the dramatic drop in US manufacturing employment after 2000, but has also fueled the credit bubble that has ultimately led to the Great Recession.
Import competition from China has caused controversies around the impact on developed countries’ living standards which has gradually caused the withdrawal of the United States from the Trans-Pacific Partnership and a strong activism in Europe against the Transatlantic Trade and Investment Partnership.
Understanding the impacts of free trade is one the most debated topics in economics. After decades of thinking that trade was uniformly good, a new consensus is emerging among academics. Trade impact is heterogeneous. It makes both winners, e.g. exporters, and losers, e.g. manufacturing workers in import-exposed industry, lose their jobs.
In a new paper, Professors Barrot, Loualiche, Plosser and Sauvagnat show that import competition has a far more reaching impact than we used to think. US manufacturing workers that lost their jobs,following the rise in import from China, suffered from high levels of debt trying to maintain their standards of living. This subsequently played a role in the Great Recession as higher level of debt made it even more difficult for them to face the economic downturn.
Import competition from China and the rise of household debt
The first step taken by the researchers is to compare the evolution of household living conditions in areas that were heavily exposed to import competition with others living in less affected areas. An example of an exposed area would be where a large amount of people work in the textile or the automobile industry. Data collection on households’ borrowing shows that there are places where workers were displaced by import competition and household debt increased significantly more than the rest of the US. Facing a drop in income after losing their jobs, affected workers, mainly blue-collar laborers without a college degree, took on debt to maintain their standards of living.
Linking free trade, the Housing bubble and the Great Recession
How did manufacturing workers raise more debt? Looking deeper at the data that they collected, the researchers found that the rise in debt was concentrated in areas where house prices increased the most during the run up to the financial crisis. In other cases, unemployed workers borrowed against their homes, which was easier in places which were the most affected by the housing bubble.
They then ask the broader question of the link between import competition, the housing bubble and the Great Recession, discovering that displaced workers that took on more debt due to the loss of their jobs faced even more difficult times during the crisis than the rest of the population as they had to repay their debt.
The research of Professors Barrot, Loualiche, Plosser and Sauvagnat is the first to show how free trade impacts households’ borrowing. Not only did they discover that import competition pushes manufacturing workers to take on high level of debts, but they also explain how this was made possible by the housing bubble and how it undermined workers’ ability to cope with the Great Recession. Those are ground breaking results with the far reaching consequences for the debate around the distributional consequences of trade.
Dumping always improves economy! Dumping is a sort of Marshall plan! Dumping is very good for Occident, because foreign taxpayers subsidize our welfare! Let Chinese dump all the way until they go broke. We love Chinese dumping! Uncle Chin, please dump on me! Yes, please, please, please!
It is erroneous to believe that free traders have been historically in favor of free trade agreements between governments. Paradoxically, the opposite is true. Curiously, many laissez-faire advocates fall into the government-made trap by supporting free-trade treaties. However, if we accept free trade, treatises of commerce have no reason to exist as a goal. There is no need to have them since what they are meant to fix does not exist anymore, each nation letting come and go freely any commodity at its borders.
Free trade should be unilateral, that it consists not in treaties but in complete freedom in international trade, regardless of where products come from. The lack of transparency concerning free-trade negotiations is problematic and it is often hard to know what the content of a treaty will be.
We opposed NAFTA and showed that what the Orwellians were calling a free trade agreement was in reality a means to cartelize and increase government control over the economy. Several clues lead us to the conclusion that protectionist policies often hide behind free trade agreements, for as genuine free trade doesn’t require a treaty.
The first clue is the intergovernmental and top down approach. Intergovernmentalism is nothing more than a process governments use to mutualize their respective sovereignties in order to complete tasks they are not able to accomplish alone. Nation-states are entities which rarely give up power. When they finalize agreements, it is to strengthen their power, not to weaken it. On the contrary, free trade requires a decline of governments’ regulatory power.
Free trade does not require interstate cooperation. On the contrary, free trade can be and has to be done unilaterally. As freedom of speech does not need international cooperation, freedom to trade with foreigners does not need governments and treaties. Similarly, our government should not rob their population with corporatist and protectionist policies just because others do. Anyone who believes in free trade does not fear unilateralism. The simple fact that bureaucrats and politicians do not conceive of the international economy outside of a legal frame settled by intergovernmental agreements is sufficient to show the mistrust they express toward individual freedom. This reinforces the conviction that these agreements are driven by mercantilist preoccupations rather than genuine free trade goals.
The second clue concerns the intense conflicts between governments on these agreements characterized by a high degree of technicality. History shows that multilateralism leads toward deadlock. The failure of the Doha Round is the cause of the proliferation of bilateral and regional initiatives.
The contentious relations between governments come from the will of some states to dictate their norms to other countries’ producers through an international harmonization process. But this is the exact opposite of free trade. As economic theory shows us, exchange and the division of labor is not based on equality and harmonization but rather on differences and inequality. Furthermore, the technicality and secrecy surrounding free-trade agreements favor mercantilism and protectionism to the extent that technical regulations are used to favor producers who are politically well connected.
The third clue concerns the vigor with which governments have tried over several decades to impose at the international level a more constraining legal framework for intellectual property. The first initiatives appear in 1883 and 1886 with the Paris Convention for the Protection of Industrial Property and the Bern Convention for the Protection of Literary and Artistic Works. Amended several times during the twentieth century, the initiatives embrace, respectively, 176 and 168 states. These conventions are placed under the auspices of the World Intellectual Property Organization (WIPO), an international bureaucracy which joined the United Nations system in 1974. A turning point came in 1994 with the signature of the Agreement on Trade-Related Aspects of Intellectual Property Rights (TRIPS) administrated by the World Trade Organization (WTO). It is now incorporated as an essential part of the administration of international commerce and benefits from the WTO’s sanction mechanisms.
In 2012 we endured a fresh attempt by our governments to reduce our freedom to create and share intellectual works with the Anti-Counterfeiting Trade Agreement (ACTA). And, if we look at the negotiations mandates of these trade agreements, we can see they all include a chapter on the reinforcement of intellectual property rights. Intellectual property has become a key concept of the international economy. But this must not hide its illegitimacy.
From the point of view of the protectionist, treaties of commerce are what is most important for a country’s economic future. Each time a new free trade treaty is enacted, what is seen is the attenuation of tariff barriers, but what is not seen is the sneaky proliferation and harmonization of non-tariff barriers impeding free enterprise and creating monopolies at an international scale at the expense of the consumer. It’s time for genuine free trade.
The great mystery of Trump’s mindset is that he does not carry over the market-driven principles of his sensible domestic policies into the realm of international trade. The introduction of national borders does not mean that the gains from competition, certainty, and administrative simplicity no longer apply. The key principle of comparative advantage applies in both contexts. A good analogy is trade between states in the United States: Open trade among our states has produced growth and lowered costs for goods and services—and it could do the same at the level of nations. It would be a national disaster if states erected barriers to goods and services coming from other states. Trump’s views on international trade represent outright invitations to the worst mercantilist excesses found in Obama’s protectionist trade policies.
At the root of Trump’s intellectual confusion lies his statement that “I believe strongly in free trade but it also has to be FAIR TRADE.” (The all-caps are vintage Trump.) The former term is easily defined. Each government allows cross-border transactions in goods and services to take place on the same terms and conditions as ordinary domestic trades: no tariffs or quantitative restrictions on the flow of goods, services, or cash. The net cash balances, plus or minus, are of no particular concern. Let them fall as they may. Where there is a trade deficit with a particular country, it only means that the United States has persuaded individuals and firms from other countries to invest their money in the United States, where it can help fund new domestic businesses that generate growth, jobs, and products.
Unfortunately, Trump’s key trade advisor, Peter Navarro, does not understand this point. He took to the pages of the Wall Street Journal to explain why the White House worries about trade deficits. In his static view of the world, forcing U.S. automakers to use American parts and labor will improve our position in export markets. But that is not so. The reason American firms go overseas is that the cheaper parts and labor allow them to sell more effectively both domestically and abroad, which is why it is presidential foolishness to badger companies like Carrier to maintain plants in the United States. The market responds to incentives that the protectionists ignore.
Ideally, of course, all nations should follow the same policy, but often, for a variety of protectionist reasons, many nations try to prop up exports with subsidies and drive down imports with tariffs or quantitative restrictions. The hard question is how to improve the position for the United States in this second-best world. Trump is keenly aware that we often face tariffs and taxes overseas, while foreign goods come into this country virtually free. But, notwithstanding his distaste for this practice, there is a huge virtue in adopting a strict policy of non-retaliation that seeks to lift tariff barriers overseas without raising tariffs at home. The subsidies that foreign governments confer upon their export industries redound in part to American buyers, who in turn increase their levels of consumption, or reduce the costs of the goods that they make for sale in both domestic and export markets.
The term “fair trade” is less easily defined, though it covers a multitude of bad policies, like the imposition of tariffs and restrictions on the free flow of goods. And when that phrase is used, as Trump did in withdrawing from the Trans-Pacific Partnership negotiations, “to promote American industry, protect American workers, and raise American wages,” he is asking for trouble. By putting a tariff wall around the United States, he is removing the pressure that state and local governments have to make their own businesses more productive and competitive by internal deregulatory reform. His approach to bilateral negotiations could easily lead to a downward global spiral that will engulf the United States.
Trump’s backward views on international trade are reflected in his constant refrain that we should “Buy American and Hire American” domestically. On the positive side, he issued an executive order allowing the Keystone XL and Dakota Access pipelines to move forward on an orderly basis—following endless Obama administration regulatory delays, long after all environmental or preservationist issues were resolved. Yet at the same time, he issued the related but indefensible Executive Order that “all new pipelines, as well as retrofitted, repaired, or expanded pipelines, inside the borders of the United States, including portions of pipelines, use materials and equipment produced in the United States, to the maximum extent possible and to the extent permitted by law.”
Fortunately, these last two phrases show some wiggle room that is often overlooked in the press headlines, because this EO applies, except when it doesn’t. It is hard to give economic content to the phrase “maximum extent possible,” because the words conceal the question of just how much unnecessary extra cost must be incurred in order to make good on a promise that, if kept, only drives up the energy costs of American manufacturers and consumers. Nor is it clear how much of this order can survive the provisions of the World Trade Organization that prevent various kinds of favors to local over foreign suppliers.
The argument here is, again, straightforward. Any form of discrimination distorts the relative value of competitive goods and thus leads to economic efficiencies, which the WTO is intended to combat. With these two pipelines, the problem was happily skirted because both companies had purchased and stored the needed steel pipes before these Executive Orders were issued, making it wasteful to chuck large quantities of steel. But the possibility that such “Buy American” Orders will resurface is ever present. The irony is that the populist Trump is taking a leaf out of the Obama playbook: The previous administration’s American Recovery and Reinvestment Act contained complex “Buy American” provisions that exacerbated the slow growth of the Obama years.
For some reason, Trump wants to blame our economic woes on other countries rather than on the bad policies of the Obama administration. Thus, at one point in his speech, Trump raised the reckless charge that it is our foreign entanglements that have led to our domestic distress. He lamented: “For too long, we’ve watched our middle class shrink as we’ve exported our jobs and wealth to foreign countries.” The first half of this charge again ignores the benefits at home from exporting jobs that can increase the supply and reduce the costs of services that are consumed at home, as well as strengthening through trade our alliances with other countries. It never occurs to Trump that it is the domestic obstacles in labor markets—and not free trade—that stunt job growth and lead to wage stagnation. And no country just gives away wealth to foreign countries without getting some concessions in return. We are not being bled dry by foreigners.