Trade: No Trade, No Gain

Opposing trade means opposing innovation.


The new century is nearly at hand. A great nation finds itself hobbled by debt and saddled with doubts about its future prosperity at home and abroad. Its trade deficit has been growing for some time and is expected to widen. The nation has suffered a number of debilitating recessions in recent decades. Observers believe that the great nation's prosperity is an illusion built on a weak foundation–that the nation is excessively devoted to services and finance and gives insufficient attention to the manufacturing arts. People are convinced that the signs of decay are everywhere, first in the economy, but also in politics and even public morals.

America in 1996? Astute historians may notice that I have been writing about England around 1800, as viewed by a good many writers both at home and abroad. Economic historians have long marveled at how unaware contemporary British observers were that from around 1780 to 1860 they were in the midst of an unprecedented economic transformation that we now call the Industrial Revolution.

No one guessed that technological innovation and market development would make possible a near trebling of per capita income alongside a doubling of the population. Britain's trade would continue to flourish and its economy to prosper, making it the world's greatest commercial power, despite the burdens of the debt and despite the fact that the British continued to run a merchandise trade deficit for virtually every year of the 19th century and right up to World War I.

Like Britain then, much is made of the difficulties facing the United States today. Presidential candidate Pat Buchanan likes to claim that the U.S. standard of living has fallen in the past 20 years and blames much of that on free trade. Worst of all, slow growth is presumed to be inevitable, and even economists have come to speak as if it were impossible for the U.S. economy to grow as fast as it had in the past century.

But our indicators of stagnation and decay may be almost irrelevant to our prospects in the years ahead. Those who advocate protection and managed markets, from Ross Perot to Patrick Buchanan, are aligning themselves not against trade, but against innovation. The dream of managed trade is functionally equivalent to the utopia of scientific planning: Neither can achieve the results their supporters hope for.

The changes the Buchanans of the world attribute to trade are really a consequence of rapid technological change, the same technological change the human race depends on to expand its standard of living. But the best innovations not only create new markets–they succeed largely by destroying old ones, creating the necessary disruptions that Buchanan decries.

Consider the personal computer. The thousandfold fall in the price of computing power over the past few years and millionfold change in the past few decades have greatly expanded the range and quality of goods and services we can buy. Entertainment, scientific analysis, communications, even ordinary household appliances have been dramatically reshaped by the computer revolution. Yet these improvements have meant that many traditional jobs have had to change or disappear entirely.

Technology's unpredictability leads to great instability. Artists and architects find themselves working with graphics work stations more often than pen and ink. AT&T has become dramatically more innovative to survive, and in doing so has shed jobs that would have been guaranteed in a much earlier era.

Such changes would have occurred even with little foreign trade or competition. The only way to eliminate the pain of economic transition is to banish all innovation. The painful adjustments the United States has been undergoing would still take place even if the economy were kept closed. Since export-oriented industries employ more people and pay higher wages than the declining industries that would be protected, a policy of raising tariffs would lose more jobs and lower more wages than would be gained. This may be cold comfort to those embittered by losing their jobs. But without growth and innovation, we'd all be losing out on benefits that far outweigh those losses.

Trade is the real information superhighway. Open markets speed up the transfer of information and actually cushion the impact of change. Closed economies delay information about needed change, which guarantees that necessary change will be even more painful. Protectionists often speak of fair trade, but the issue is not what is fair, but what policies will help us to grow and raise people's standard of living in the long run.

Economic adaptability is so crucial to a nation's continued development that most economists advocate free trade even if all our trading partners keep their markets closed. Thus Wilhelm Röpke, the German economist whom Buchanan often cites admiringly, argued vigorously in post-World War II Germany for "the principle of absolute and even, if necessary, one-sided free trade."

Buchanan likes to say that no country, including Britain, developed without protection. Since every country has had trade protection to one degree or another that by no means indicates protection is necessary for development.

Cotton textiles, which became Britain's leading industrial sector, were unprotected; it was the older linen and woollen industries that hid behind tariff walls. Tariffs on wine mainly aided the beer brewers while taxing the working classes. The Corn Laws protected British agriculture just as industry was becoming dominant, as Japan's agricultural barriers destroy the benefits of its industrial success today by lowering that nation's standard of living. Contrary to popular belief, protection actually hampers exports by encouraging domestic firms to produce inefficiently goods for home consumption rather than working to develop industries that can sell abroad.

Like pundits now confused by downsizing and economic disruption, contemporaries of the Industrial Revolution were confused because its economic growth was certainly destabilizing, and this caused great anguish. Because average growth rarely exceeded 2 percent a year, contemporary writers remained oblivious to the revolutionary improvement in general human welfare wrought by those changes. They saw only the misery and suffering of the poor who were now concentrated in the cities. Yet after a century's growth, per capita income had tripled and quality of life improved substantially.

Many opposed the changes wrought by new technology and idealized the pre-industrial past. But any attempts to impede those developments would have probably left the people with the more traditional problems of poverty, famine, starvation, and a rigid class system based on ancestry rather than economic achievement.

Protectionists like to note that the United States had the highest tariffs of any industrial nation in the 19th century. But they do not note two things: First, all economic research suggests that the United States developed despite and not because of high tariffs. Indeed, until the Civil War, American average tariff levels were similar to those in liberal Britain, and they declined substantially from 1800 until 1860, when tariffs were raised. Second, and more important, America had virtually open markets for labor and capital.

Thus, the high costs of importing foreign manufactured goods were offset by the low costs of importing foreign workers. Large numbers of immigrants came to work from all over the world, putting pressure on the native work force. Restrictions on their entry were rudimentary and hard to enforce. Furthermore, it was relatively simple to invest in the United States, with its advanced capital markets and a lively financial sector that was leniently regulated.

Most important is that given the size of the unexplored frontier and the explosive growth of the American population, merchandise trade was of relatively little importance in the 19th-century United States. Neither exports nor imports were very important for American producers, with the exception of agriculture. Hence tariffs were imposed over the objections of the defeated Southern states, which suffered the most from protectionism. And America was at least as open as most other countries to the changes that characterized the period of late industrialization.

In the end, protection didn't stabilize the economy, and Americans were buffeted by the same technological shocks as Europeans. Nineteenth-century America suffered from monetary crises, recessions, deflation, labor unrest, and the problems of mergers and takeovers as the industrial landscape accommodated to the changing technologies of the railroad, telegraph, and electricity. Throughout it all the nation's economy grew steadily and impressively, eventually making most people better off. America's strength lay in its ability to absorb those inevitable shocks, learn new techniques, and change to meet the needs of the time.

Though international trade may have accounted for only a small part of GNP in the 19th century, it plays a much larger role now. We no longer have an expanding frontier, and population growth and immigration do not play the same roles they once did. Today, the new frontiers are the world markets, from Europe and Japan to the growing middle classes springing up in Southeast Asia, Latin America, the Middle East, and even Central Europe and Africa.

Just as with the contemporaries of the Industrial Revolution, we can't know the future that current changes are creating with certainty. We are going through difficult and exciting times but all told the United States is doing quite well. Periods of large, dramatic technological innovation are also periods of mind-boggling, even gut-wrenching changes. The open society shows the effects of those changes most rapidly and clearly. We must resist the temptation, particularly in an election year, to blame the messenger–free trade–that brings both the bad and the good news.

The United States has adjusted to the changing state of global innovation and trade more successfully than most countries. It is now almost universally acknowledged abroad that for Europe and Japan to prosper they must become more like us. But they have postponed reform and so the will to change is weaker than ever. For example, protection of the German automobile industry from Far Eastern competition has meant slow adjustment to the needs of the world economy. Where Volkswagen was once a household word, it is now almost insignificant in the North American market and has lost thousands of workers while continuing to lose market share. The United States, by confronting the competition earlier, has seen its Big Three companies retrench and retool, and Detroit now shows record profits.

Japanese domestic regulation and agricultural protection have driven home prices so high that the Japanese have a real standard of living half that of Americans. Their system shields an inefficient banking system that may have up to a trillion dollars in bad debts. Germany and Japan may have been lulled by their protective walls into a false sense of security and stability, little suspecting that the day of reckoning will wreak even greater havoc and make the adjustments both more urgent and more politically painful.

The most interesting times feel like the most accursed. But if history is any guide, there is as much reason to hope for still greater prosperity as there has ever been in history. It is especially surprising that Republicans would be seduced by the siren song of protection. Long concerned about the problems of overtaxing and regulating the domestic economy, they do not see that taxing and managing foreign trade suffer from the same difficulties. Both are ultimately debilitating, and in the long run, both are equally futile.

John V. C. Nye is co-director of the Institute for the Study of Economic Performance Over Time and associate professor of economics and history at Washington University in St. Louis.