As the global-trade establishment becomes more insulated from the growing criticism of people still rooted in their native soil, it is missing the turn in world events that is frustrating its efforts. Examples abound. The latest round of trade-liberalization negotiations has never managed more than a crawl since it was launched by the World Trade Organization in Doha, Qatar, in 2001. The initial attempt to launch a new round had failed in 1999. Doha had really broken down at the 2003 ministerial meeting in Cancun, Mexico. The 2005 Hong Kong ministerial meeting ended with nothing more than a press release asserting that the session had not failed. The thousands of bureaucrats, lawyers, politicians, and lobbyists who have enjoyed commercial diplomacy at five-star resorts cannot conceive of trade talks “failing.” Still, at the end of July, the Doha negotiations were “suspended” indefinitely.
Though economists and political philosophers have incessantly praised “free trade,” it is clear that the WTO talks have little to do with classical liberal thought. On July 1, European Agriculture Commissioner Mariann Fischer Boel said the deadlock was over how to cut domestic support to farmers. He particularly criticized Washington for refusing to revise its October 2005 offer to cut overall domestic support by 53 percent. Boel wanted the United States to make a cut of 70 to 75 percent, ostensibly to aid farmers in the Third World. The real objective, however, was to open the American market further so the Third World would dump its goods there rather than in Europe. Sen. Saxby Chambliss (R-GA), chairman of the Senate Agriculture Committee, objected, saying the United States should not “unilaterally disarm” in trade talks. Unfortunately, his admonition comes a couple of decades too late.
This is not the first attempt to undermine the security of the American farmer. The Federal Agricultural Improvement and Reform (FAIR) Act of 1996 contained “freedom to farm” provisions. The idea was that American farmers could increase their incomes more from exports than from farm-support programs. This approach failed. The stagnation of overseas markets and an increase in imports conspired to reduce the U.S. agricultural-trade surplus from $31.7 billion in 1995 to $7.6 billion in 2005. And during the first half of 2006, the United States ran a deficit in food and fiber trade.
The farm lobby has been much more successful in gaining relief than have manufacturers, who have lost 2.6 million jobs since 2001 with a trade deficit of $695.8 billion in manufactured goods in 2005. Farmers have been content to watch their neighbors in industry face devastation as long as their own position was protected. Now, it is the farmer’s turn to be thrown to the foreign wolves.
Trade officials in the rest of the world understand that gains from commerce come from winning access to markets, not from some mysterious working of the “invisible hand.” Doha is explicitly committed to redistributing wealth from developed to underdeveloped countries—even those such as China and India, who are asserting themselves as rising, formidable powers.
Not surprisingly, Beijing finds the current world system well suited to its needs. Beijing’s State Information Center reports that Chinese exports have been growing by over 20 percent per year for five consecutive years. China has easy access to affluent foreign markets such as the United States, with minimal commitments to reciprocate. She runs a trade surplus and holds very large hard-currency reserves. There is nothing in the Doha round that Beijing needs, and it has successfully fended off any measures that would weaken its own development agenda.
According to the founding Doha declaration, developing countries will only have to make two thirds of the tariff cuts made by developed countries on manufactured products. Developed countries will not be able to put higher duties on high value-added products, which allows developing countries to move up the industrial ladder and challenge a wider range of output. At a July 12 meeting with WTO Director-General Pascal Lamy, India’s commerce minister Kamal Nath reiterated his country’s position that “adequate flexibilities” to protect India’s rural population and infant industries must be incorporated in any Doha agreement. In 2003, Lamy—then the E.U. trade commissioner—took credit for leading the coalition that caused the collapse of the Cancun talks.
The grand sophistry of free-trade theory is that unfettered commerce is a “win-win” situation. As Alexander Hamilton noted, however, “There are some who maintain that trade will regulate itself[, but] this is one of those speculative paradoxes . . . rejected by every man acquainted with commercial history.” This view has been confirmed by the work of two eminent scholars, economist William J. Baumol and mathematician Ralph E. Gomory, whose book Global Trade and Conflicting National Interests sent shock waves through the academic community. Baumol is a former president of the American Economics Association, and Gomory taught at Princeton. “We have shown that if a nation loses its share of world industries because its productivity lags or for any other reason, national income and the nation’s wage-earners are apt to be the ultimate victims,” they argue. “Free trade is not always and automatically benign.”
The hard facts are slowly beating down the soft appeal of free-trade theory. Alan Tonelson, my colleague at the U.S. Business and Industry Council, has compiled a database covering 112 industrial sectors, which traces how America is losing her share of high-valued-added industries. The largest losses have been within our home market, particularly industries critical to the fate of any modern industrialized economy: aircraft, aircraft parts (including engines), telecommunications equipment, pharmaceuticals, navigation and guidance instruments, machine tools, ball bearings, turbines for power plants, farm and construction equipment. Though the U.S. trade deficit made its seismic shift from a century of surpluses to perpetual deficits in the 1970’s, the import wave surged in the wake of the 1997 world financial crisis.
The very narrow passage of the Central America Free Trade Agreement (CAFTA) by the U.S. House of Representatives last year casts doubt on the willingness of Congress to enact whatever might come from the Doha round. The battle over CAFTA revealed that free trade as an ideology can no longer command a majority in either political party. The Democrats split 188-15 against CAFTA, while the “party of business” could not muster more than 100 members on the record to support CAFTA a week before the vote. According to Majority Whip Roy Blunt (R-MO), the strongest argument for winning over reluctant GOP members was foreign policy—shifting the focus from free trade to helping cement democracy in Central America by building a trade bloc against China that could protect regional industry. The last few votes were won with promises of pork-barrel projects and even “protectionist” measures for firms in key House districts.
Free trade has never withstood the rigors of the real world. Historian Jaime Vicens Vives argues that the “opening of the internal market to foreign goods” led to the decline of Spain in the 17th century. Imports ran double exports and ruined the finances of the global superpower of the day. The bounty of the treasure fleets went to expand industry not in Spain, but in Spain’s trading partners. Today, the United States is fast approaching that same trade-deficit ratio.
Writing from the Netherlands in 1765, James Boswell reported that “Most of their principal towns are sadly decayed. . . . Utrecht is remarkably ruined.” The cause was competition from England and France, who were not afraid to use protectionism and subsidies to win the economic contest, while the Dutch clung to free trade and were driven from the field. The Dutch elite were merchants and bankers, middlemen in a service economy easily outflanked by those who actually produced things. So weak was the Dutch central authority that, according to Boston University professor Liah Greenfield, “they were not a nation.” In her thought-provoking history The Spirit of Capitalism, she argues that “The sustained growth characteristic of a modern economy is not self-sustained; it is stimulated and sustained by nationalism.”
In The Rise and Fall of the Great Powers: Economic Change and Military Conflict 1500-2000, historian Paul Kennedy cites several causes of England’s decline from global leadership, including
a failure to invest sufficiently in new plant and laboratories, and in entire new industries; an inadequately trained work-force, and an insufficient supply of engineers and scientists as compared with foreign rivals; . . . a social culture which accorded far greater prestige to the professions and service industries (law, medicine, merchant banking, stockbroking) than to the business of building ships, turbines, machine tools and other manufactures.
All of these negative factors are evident in America today.
During the mid-19th century, classical-liberal ideas bloomed with the end of the Napoleonic Wars, which created the last great era of free trade. By the 1870’s, however, the continental powers started to move away from such ideas to concentrate on their own national development. Tariffs were enacted across Europe by the mid-1890’s, and national economic growth rates increased. The United States used protective tariffs as she was becoming the world’s largest economy, peaking in the decade before World War I. America will now have to return to tariffs if she is to preserve her industrial base and bring her trade back into balance.
Article XII of the 1994 GATT-WTO agreement states that a country may, “in order to safeguard its external financial position and its balance of payments, . . . restrict the quantity or value of merchandise permitted to be imported.” With the U.S. trade deficit pushing the current-account deficit to seven percent of GDP, the nation’s international financial position has reached a danger level that could plunge the economy into a deep recession. Every responsible economist and policymaker knows that the current imbalance is unsustainable. In its May assessment of the U.S. economy, the International Monetary Fund concluded: “Delaying the inevitable multilateral adjustment will mean continued increases in U.S. external indebtedness, magnifying the potential for disruption to exchange rates, financial markets, and growth, both domestically and abroad.” The IMF would like the United States to adjust to the “world” by raising domestic taxes rather than by resorting to “protectionism”—a reversal of priorities that does not favor American workers.
The WTO was founded to expand free trade, yet Article XII was actually strengthened by the accompanying GATT rules, which establish a preference for tariffs over quotas whenever a dangerous imbalance needs to be corrected. This attests to the legitimacy of tariffs as the traditional remedy for persistent trade problems, a use also endorsed by the lessons of history. Economists at Bard College’s Levy Institute have calculated that a 25-percent tariff on all non-oil imports would cut the trade deficit in half (in terms of GDP) and generate enough new tax revenue to balance the federal budget.
Of course, it would be unwise to place a tariff on all imports, as there are some commodities and products that are not available from domestic sources. The goal should be to reverse foreign penetration rates in American industries. Tariffs would also provide a stimulus to foreign direct investment in new facilities. If the best way to reach the American market is to locate production within it, that is what foreign entrepreneurs will do—or they will leave the land of bounty to American entrepreneurs. The trade-equalization tariff would have to be higher than that proposed by the Levy Institute model if it is to bring the current account closer to balance, which would reduce the revenue effect as imports subject to the duties dried up. The enlargement of the domestic production base would generate new taxes in a true supply-side fashion.
The actual needs of the market are better met by tariffs than by the “market solution” of a substantial dollar devaluation, which would have an indiscriminate impact. A strong dollar that serves as the world’s reserve currency is also a considerable strategic asset to the United States as the globe’s preeminent power. It should not be gutted to balance trade; instead, trade should be balanced to preserve the dollar—and the financial system behind it.