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March 30, 2018

The Economist Is Right; It Would be a Mistake to Take His Advice

In a New York Times op ed Donald J. Boudreaux, who is is a professor of economics and a senior fellow at the Mercatus Center at George Mason University, repeats the economic truisms that free trade is a more than zero sum game (total gains are more than total losses) and that trade wars are less than zero sum game. For good measure he points out that the total number of US jobs is higher than ever and that trade-related job losses are a relatively small part of the churn in the job market, which is also caused by technical innovation and changing tastes.

“Fears of losing jobs to trade are inconsistent with our larger embrace of innovation and competition. More ominously, given that trade-induced job losses are a tiny portion of all job losses, such fears are wildly overblown — so much so that they now have America and the world on the brink of a potentially calamitous trade war.”

His implicit argument is for unilateral economic disarmament; that has been and would be a mistake. It doesn’t take much understanding of game theory to understand why.

Although there is mutual advantage to be gained from free trade between two countries, there is even more advantage to be gained by either country if it cheats. If a country can tap our market at will and we are restricted in what we can sell to them, that country gains an advantage. In the case of China, as an example, our companies can’t tap their local markets without sharing technology. That technology then can end up in the hands of Chinese competitors. That’s cheating.

Question: How do you stop cheating?

Answer: With a credible threat of retaliatory tariffs.

Question: What if they don’t believe you?

Answer: Impose the tariff.

Question: But both sides will be hurt. How does that help?

Answer: May lead to negotiations and back to a fair deal. May discourage future cheating. May not work in this instance.  Alternative is the unacceptable one of allowing the cheating.

This isn’t nearly as scary as the mutually assured destruction that kept (keeps?) the US and Russia from using their nuclear weapons against each other. The principle is the same: your opponent has to believe you’re willing to take a step which harms you as well as the opponent or the opponent will cheat. Renouncing the threat of tariffs (or force) is like putting up a sign saying this house has no burglar alarm and the occupants are unarmed.

The US currently has a huge advantage in trade gamesmanship: we’re the world’s biggest market and we’re self-sufficient in most essentials (rare earths are an important exception). Almost every trading partner would lose more than us from a mutual cutoff of trade. Doesn’t mean we should be a bully. Does mean there’s no sense in being a patsy.

Recent stories are that China has responded to Trump’s tariff saber-rattling by entering negotiations. I hope that’s right and the negotiations succeed. Fair trade is a more than zero sum game. Also hope Trump means what he says – that he’ll accept free trade if it’s fair trade.

 For what should've happened long ago, see Customer Call - A Prehistory.

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