The basic idea behind free trade is the idea behind all free-market policies: Trade is voluntary. If private parties did not benefit from a trade, they would simply not engage in it. Using the government to prevent voluntary exchange is stopping people from doing things they want to do, and this is always bad.
However, note that in the case of international trade, there are, by definition, at least two governments involved, not just one. Either one of these governments can take actions that affect trade. Suppose that Government A takes actions that interfere with its trade with Country B. The "free trade" position is that Government B should never take any steps in response to the policy interventions of Government A. In other words, advocates of "free trade" insist that there is no strategic component to trade; that it is always undesirable to use government policy to "cancel out" or counteract the market interventions of another government. Note that this is a stronger claim than in the one-government case.
As an admittedly muddy and imperfect example of this sort of situation, which I call "one-way free trade", take the recent case of solar subsidies. Starting in 2009, the Obama administration began dishing out loans and grants for solar power companies, since solar power was predicted to be the industry of the future. But starting in 2010, China unveiled subsidies for solar manufacturers and exporters that dwarfed those offered by the U.S. With their profit margins fattened by the subsidies, Chinese companies cut prices drastically in order to grab market share. The price of solar power plunged, dipping below the 7% "Moore's Law" rate at which it had been steadily declining for three decades.
U.S. solar manufacturers, unable to compete with Chinese prices, went bust in droves. Solyndra, the highest-profile failure, was ridiculed as a boondoggle of industrial policy. Somewhat belatedly, the Obama administration imposed "anti-dumping" tariffs on Chinese manufacturers; it is unclear how many U.S. manufacturers have been saved by the tariffs, which have drawn strong disapproval from most economists.
Meanwhile, what happened to those Chinese manufacturers who got all those government subsidies? Patric Chovanec reports:
State subsidies have spawned dozens of Chinese Solyndras that are now on the verge of collapse.
Unveiled in 2010, Beijing’s 12th Five-Year Plan identified solar and wind power and electric automobiles as “strategic emerging industries” that would receive substantial state support. Investors piled into the favored sectors, confident the government’s backing would guarantee success. Barely two years later, all three industries are in dire straits...
Chinese solar companies blame many of their woes on the antidumping tariffs recently imposed by the U.S. and Europe. The real problem, however, is rampant overinvestment driven largely by subsidies. Since 2010, the price of polysilicon wafers used to make solar cells has dropped 73%, according to Maxim Group, while the price of solar cells has fallen 68% and the price of solar modules 57%. At these prices, even low-cost Chinese producers are finding it impossible to break even.
Chovanec draws the lesson that Obama's solar subsidies are a bad idea. But to me, the lesson of this episode is broader: it's about policy risk.
The case of Chinese solar subsidies shows that governments do not always act in their own interest. China's attempt to corner the world market for solar power blew up, but it took much of the American (and German) solar industries with it. American and German solar firms whose business models might be perfectly viable in the long run probably never made it to the long run, because of a pointless, suboptimal, foolish suicide attack by the Chinese government. This represents a loss for the entire world.
But what if the U.S. had had tariffs in place (or conditional tariffs in place) before 2010. Chinese subsidies might have been insufficient to put Solyndra and other U.S. companies out of business. Or China might not have tried the subsidies in the first place. Of course, such tariffs would have costs as well. But would those costs have outweighed the benefits of blocking or deterring the disastrous Chinese subsidy binge? I'm not sure.
Yes, I realize that the solar example is not a great one; the U.S. gave its companies grants and loans before China did, and enacted tariffs. The point of the example is to illustrate a more general principle: Companies must always contend with policy risk. With one government and a closed economy, limiting policy risk is easy - just don't interfere in the economy. But in the two-government case, policy risk can also come from a foreign government. An American solar manufacturer, even if they intend to sell only in America, must contend with the risk of suddenly being put out of business by Chinese solar subsidies. - at least, if America's government adheres to a strict "free trade" regime.
The big question, to me, is: Can U.S. government intervention limit the policy risk imposed on U.S. firms by foreign governments? And if so, does the limitation of that risk outweigh the costs of the other market distortions caused by the intervention? Free-traders (i.e. most economists) say "No, never." But I do not see compelling logic in favor of the consensus position. Sometimes the world works according to general equilibrium, but sometimes you need game theory. It seems quite possible to me that "one-way free trade" might not always be superior to a strategic trade policy that requires free trade to be a two-way street.
(Note: It is possible that China's solar subsidies were good for the world, because of global warming. However, from what Chovanec reports, it seems like the subsidies just disrupted the global solar industry without achieving any real technological breakthroughs; if this is true, then China's subsidies will be bad for solar costs in the long term. And in general, I think direct research funding is the best way for government to promote solar cost reduction, followed by subsidies to solar consumers rather than producers.)
Update: For an extremely simple, Econ 101 example of how strategic trade policy might be better than one-way free trade, see this new post.
(Note: It is possible that China's solar subsidies were good for the world, because of global warming. However, from what Chovanec reports, it seems like the subsidies just disrupted the global solar industry without achieving any real technological breakthroughs; if this is true, then China's subsidies will be bad for solar costs in the long term. And in general, I think direct research funding is the best way for government to promote solar cost reduction, followed by subsidies to solar consumers rather than producers.)
Update: For an extremely simple, Econ 101 example of how strategic trade policy might be better than one-way free trade, see this new post.
Why not team up with a Chinese partner and profit from the subsidies as an American or German manufacturer?
ReplyDeleteAlso why buy solar cells from Chinese manufacturers when you can expect that without subsidies, those manufacturers would no longer be there? If the Chinese government is reliable, and will continue those subsidies into the indefinite future, then there is not much of a problem, if the government is unreliable, then those solar cells might be cheaper, but you have no recourse when they break down too soon and the firms that produced those are gone?
I think you need to insert some transaction costs or assume some sort of irrationality to justify intervention by one government, even in a two model with two governments.
Woops, sorry for the typo's.
Delete1.Second sentence, second paragraph should have no "?"
2."even in a two model with two governments." -> "even in a model with two governments."
Why not team up with a Chinese partner and profit from the subsidies as an American or German manufacturer?
DeleteI'm not sure the Chinese government allowed this. And as you said, there are transaction costs (and other risks aplenty) to this.
Also why buy solar cells from Chinese manufacturers when you can expect that without subsidies, those manufacturers would no longer be there?
Because no one knows, or even knows the probability. "Policy risk" is really not risk, but Knightian uncertainty.
I am not sure whether they allowed this either, however, the subsidies should increase the return, so the required return + transaction costs could be offset. Personally, I think the latter is quite likely:
Delete1. Chinese firms need American partners to sell in the USA; not by law, but it helps when they have an American partner to sell to other Americans. Part of the transaction costs involved are then incurred regardless by the Chinese firm.
2. How much of premium do Chinese investments have above investments in the USA? I hazard to guess that this is quite small, but you'll probably know better than I do. Any subsidy will probably quickly push up the return past the required return.
As for the "policy risk"; I don't know, but buying from a Chinese manufacturer versus buying from an American manufacturer already implies an estimate of that risk. So it becomes quickly a question of who has the better estimate, the government imposing tariffs or the private sector purchasing solar cells from Chinese subsidized manufacturers.
You're right though that free trade prescription implies that the private sector has the better estimate.
As for the "policy risk"; I don't know, but buying from a Chinese manufacturer versus buying from an American manufacturer already implies an estimate of that risk. So it becomes quickly a question of who has the better estimate, the government imposing tariffs or the private sector purchasing solar cells from Chinese subsidized manufacturers.
DeleteThis seems wrong to me.
Let's say that the Benefit of buying a solar cell is B, and that the Price of buying it from a Chinese manufacturer is P_c and from an American manufacturer is P_a.
DeleteWe now compare:
B - P_c to B - P_a
turn it into an Expected benefit-cost comparison and we compare:
EU[B - P_c] to EU[B - P_a]
where EU is the expected utility. It seems to me that to make a decision you need to be able to say that:
EU[B - P_c] > EU[B - P_a]
or that:
E[B - P_c] < E[B - P_a].
Your action therefore already needs to imply some sort of estimate.
If we then assume that the buyer of said solar cells also has many other alternatives of what to buy instead of solar cells, then his or her action should imply a pretty decent estimate. Or am I missing something?
No, your condition isn't right. You can't just subtract the price from the benefit, since the benefit is a stochastic stream of possible future payments and the price today is known. You need a value function, not just an expected utility. Also, you need to introduce more alternatives - for example, an alternative to install non-solar energy sources.
DeleteNoah, that's a fair point, I was a bit quick and overly sloppy there, and I would not have written it like that now. You're right.
DeleteThat said, would you agree with me that the decision between the alternatives including the non-solar energy sources alternative, would be contingent on a parameter representing risk or uncertainty? And that based on the answer we can say something about the relative values of the parameters?
More specifically:
B_a -> Benefit American Manufacturer
B_c -> Benefit Chinese Manufacturer
B_o -> Benefit Alternative
where B_x ~ N[b_x,sigma_x^2], similarly, we have P_a, P_c, P_o.
The value-function, v_x, would be:
v_x = u[-p_x] + Beta*Eu[B] + etc.
where the stream of benefits can be as long as we want. For tractability we can use an Exponential Utility Function. For the decision of the purchaser we would now have:
Max[v_a;v_c;v_o], and to make that decision, the purchaser would have to have an estimate of sigma_x^2 right?
Alternatively, if you were to draw a demand-curve for that purchaser, for one of these three, wouldn't the WTP tell us something about what the estimate of the risk/uncertainty is? If we therefore assume that the purchaser can draw his or her own demand-curve for the good, we know that the purchaser has an estimate of the uncertainty/risk involved.
Several points here.
Delete1. I think what you're saying is that we can back out the amount of policy risk caused by the Chinese government's actions by observing the choices of solar consumers in the United States. Is that what you are saying?
2. If it is what you're saying, then it's wrong, because the policy risk is not necessarily borne by solar consumers. In fact, if the risk is borne by American solar producers, then under rational risk aversion, what they will do is to share that risk by buying insurance from solar consumers. This will represent a windfall benefit to solar consumers.
3. It would also be wrong because since terms-of-trade shocks act like total factor productivity shocks, the policy risk created by Chinese policy decisions might not be insurable at all.
4. But even if it were right, your conjecture would have little bearing on the question asked in the original post, of whether U.S. countervailing trade protectionism can reduce foreign-government policy risk at an acceptable cost, since observing the actions of U.S. solar consumers cannot give us information about the U.S. policy counterfactual.
Think carefully about all of this...
I think I sort of see what you're trying to say. You're trying to say "Look, if subsidized Chinese solar producers are likely to fail, U.S. solar consumers will not buy from them. By observing that U.S. solar consumers did buy from them, we can infer that the gains from trade to the U.S. from China's subsidy exceeded the losses from the added risk."
DeleteIs that what you're trying to say?
Because if so, that is not right at all...
To see why, imagine a market where many people buy tacos from a taco stand. Now imagine that another taco truck comes through with a ticking bomb strapped to it. People know with certainty this taco truck will self-destruct in a week. However, the exploding taco truck offers really cheap tacos. If people buy tacos from the exploding taco truck, the (non-exploding) taco stand will go out of business. If there were only one consumer, he might choose to behave strategically, and keep buying the more expensive tacos of the taco stand, so that after the truck explodes he will still have tacos. But since there are many consumers, one consumer's business is not sufficient to keep the taco stand afloat. So rationally, unless they can somehow coordinate, the consumers all choose to buy the cheap tacos from the exploding taco truck. The taco stand goes out of business, the taco truck explodes, and the people go without tacos until the stand can be re-started...IF anyone is willing to restart the taco stand, knowing now that there is a risk of exploding taco trucks coming through town.
See? In this case, the policy risk imposed by the foreign government (the owner of the exploding taco truck) is 100%. No need to back out any risk parameter; it is known. And it is the maximum theoretical value of the risk. But the decision of consumers is still to buy from the exploding taco truck, because our consumers are price-takers.
Now note that the owner of the exploding taco truck may not behave rationally. But governments don't always behave rationally.
I like the model, and yes that's what I am saying and I get what you're getting at. That said I have a few points:
Delete1. In the exploding taco-truck model you have to assume something about how easy it is to re-start; if there is no fixed cost, this is trivial. If there is a fixed cost, there will be a market for those inputs and there will be depreciated assets, the drop in demand for those assets and the increase in supply due to the presence of depreciated assets, makes the fixed costs very low.
This, if I recall correctly, is also similar to one of the arguments advanced against why predatory pricing is not a big deal: the assets remain so re-entry is relatively cheap and easy.
2. Most (capital) goods are not at all like taco's sold from an exploding taco-truck; rather solar panels and other capital goods are more like exploding taco's. Service, warranties and such are an important component of what defines the good. Warranties for solar panels, I've read, can run up to 20-25 years.
The example would be more appropriate if the consumers face the risk that the taco's will explode in their mouths causing some damage.
Even if the governments do not behave rationally, the consumer will internalize the whole risk as there is no one but the consumer to bear the harm from the exploding taco's: no one else can be held liable.
If I am correct it is now #1 that will determine whether or not it is efficient to act. I agree with you that the problem is one of coordination among consumers to buy from that party that is in their joint interest.
"whole risk" -> "most of the risk" as solar panels are both like exploding taco-trucks and exploding taco's.
DeleteI will have a closer look at the other 4 points in the morning, as I am off to bed here now.
In the exploding taco-truck model you have to assume something about how easy it is to re-start; if there is no fixed cost, this is trivial.
DeleteCorrect. But, even a small fixed cost may be prohibitive. Because the risk of a second (and third, and Nth) exploding taco truck may still exist. And the Bayesian estimate of the risk of a second (and third, and Nth) exploding taco truck will be raised by the appearance of the first.
If there is a fixed cost, there will be a market for those inputs and there will be depreciated assets, the drop in demand for those assets and the increase in supply due to the presence of depreciated assets, makes the fixed costs very low.
I read this as an argument that fixed costs are always low. In any case, it's not right, because many assets cannot be depreciated (brands, goodwill, network capital). Also, there are probably large transaction costs, which cannot be depreciated.
Most (capital) goods are not at all like taco's sold from an exploding taco-truck; rather solar panels and other capital goods are more like exploding taco's.
This is beside the point. Remember, in this example, there is assumed to be zero risk for the consumers of tacos. My main point is not about risk to consumers at all. Think about it...
Also, if I understand you correctly, you are attempting to argue that because fixed costs are small, American solar manufacturers will be willing and able to restart their operations shortly after govt.-subsidized Chinese producers go bust; and not only this, but that American solar manufacturers will be willing and able to do this any number of times in a row. In fact, we will soon be able to see to what degrees this happens, in the real world.
DeleteALSO, consider the case where fixed costs are paid entirely by the U.S. government. Taco service is never interrupted, nor do the taco stand people suffer any more than anyone else. However, note that the existence of the fixed cost (or transaction cost if you prefer) will still be borne by the U.S. as a whole.
DeleteNoah, could you clarify to me what you mean by:
Delete"This is beside the point. Remember, in this example, there is assumed to be zero risk for the consumers of tacos. My main point is not about risk to consumers at all. Think about it..."
As I read you - at some points - it is unimportant whether or not consumers are able to buy taco's/solar panels in the future, whilst I would argue that whether or not consumers are able to satisfy their wants in the future is pretty much the whole point.
Therefore I do recognize that there is a possible coordination problem among consumers, as they do buy from Chinese manufacturers which is not in their short-term interest, but the cost of buying from American manufacturers does not weigh up against the benefits unless they all do it.
In this light my point about the exploding taco's vs. the exploding taco trucks is that, because the consumers care about the service component of the good, they are willing to pay a higher price. For, to the lower price of the Chinese manufacturer they add the premium to self-insure against the probability that they will lose the service component of the good.
That said, am I correct to read your main point is about fixed costs and the problem of re-entry?
On a side-note, regarding the capital goods that cannot be depreciated:
1. The first two, (goodwill & brand) imply that the firm is able to charge a higher price; the existence of those would therefore make subsidies less of a problem.
2. Similarly, the existence of network capital means that re-entry is very easy, provided it can be transferred. It's a highly specific asset that is otherwise worthless; the price is therefore very low.
3. Approximately a year or so ago, Chinese companies were buying American brands to re-enter the market after those companies went bust. Similarly, a Dutch car company bought the Saab brand to re-enter the market for cars together with the other capital goods involved in churning out those cars.
Also, Noah, I would like to thank you for taking the time to discuss this topic with me in the comments.
DeleteIf your problem is really about fixed costs, do you agree with me that the same argument applies to competition between firms within a country?
I don't see much of difference between large irrational firms and irrational governments, pursuing bad policies of which the costs are partly born by consumers who are unable to coordinate against such a policy.
Martin
Delete"This, if I recall correctly, is also similar to one of the arguments advanced against why predatory pricing is not a big deal: the assets remain so re-entry is relatively cheap and easy."
I think Noah missed something with this. This sort of assumes that the assets involved are totally specialised. Some of them will be, but not all of them. And another (hidden and forgotten) asset is knowhow, organisation and good will. Going concerns have invisible assets.
I think this is getting too complicated...we both have a different set of wrinkles, frictions, and complexities that we have in the back of our minds for this model, and so I'm not sure that continuing with it is going to be that fruitful...
DeleteInstead, how about this:
1. The strategic case for retaliatory protectionism can easily be made without any of these complex things. See my more recent post (the reply to Tim Worstall). The example uses the case of an import tariff.
2. If there are externalities present, then there may be cases in which export subsidies harm countries other than the countries that offer the subsidies. This could provide a second reason for strategic retaliatory protectionism. The taco truck example was meant to demonstrate this, but I think we got hung up on what the externalities were and whether they were realistic.
YES! Actually though, remember the Chinese are purchasing one to two billion dollars of US t-bills daily. Are they doing this because they are generous and sweet? Because they are stupid and irrational?
ReplyDeleteOf course not! They're doing this to subsidize every and all kind of tradable goods industry and quickly absorb technology from the rest of the world. This has been extremely successful. The US provided some extremely modest subsidies for a single industry, against a backdrop of an extremel anti-industrial policy (allowing the US dollar to become extremely overvalued)
GO NOAH GO! Free trade is what destroyed the Dutch Republic in its 18th century losing battle with mercantilist England. A USA with no industry is a USA that is as poor as Zimbabwe. Don't forget it.
It seems quite possible to me that "one-way free trade" might not always be superior to a strategic trade policy that requires free trade to be a two-way street.
ReplyDeleteVery good. You're the first academic economist I've seen who grasps this blinding obvious point.
Google "strategic trade". I'm not the first.
DeleteThe technology is still there, so couldn't investors just start up new American and German firms once the Chinese Solar bubble explodes? It's not like we only get one shot at the solar panel manufacturing business.
ReplyDeleteWell, that depends on the risk that China will try the same thing again in the future... ;)
DeleteFree lunches are never free. We may all be consumers, but few can consume without also producing and focusing on consumption to the exclusion of production is a recipe for neither long term. Distortions create artificial externalities and undoing those externalities is the only thing that makes trade truly free.
ReplyDeleteI wonder why the WTO never stepped in to do something about this trade war in solar manufacturing? You explained pretty well why the end result was bad for everyone, and it seems like just the kind of thing that the WTO was designed to prevent.
ReplyDeleteThe answer to the first part of your big question is obviously Yes. The simplest way governments can limit policy risk faced by domestic companies from foreign governments is to outlaw trade, as you have pointed out.
ReplyDeleteThe second part of your big question is much more interesting. It is important to draw a distinction between how foreign policy risk affects individual domestic companies and how it affects the entire domestic economy. Domestic government policy that reduces foreign policy risk may have a positive effect for individual companies (by protecting them from foreign competition), but its hard to show how it would have positive effects for the entire economy. In the end, Chinese subsidies are gift to the American economy. Sure, some American solar companies went broke, but presumably those resources can go on to be redeployed to their next most productive use, while Americans are compensated for the differece through lower solar panel prices.
One way to get the result that one-way-free-trade is suboptimal is to make the assumption that there are barriers to entry for American firms after the "Chinese Blow Up." If there is no way to redeploy those solar resources back to solar, then a temporary foreign policy that kills the American solar industry can end up decreasing American welfare in the long run by removing its capacity to produce solar in the future. Personally I don't buy that assumption because if the companies were there to begin with, then presumably there are not the kind of barriers to entry that would prevent new firms from spawning.
It basically all boils down to how efficiently you think the domestic economy can redeploy resources after a foreign policy shock. If the economy is efficient in redeploying resources, it is both easier to take advantage of the gains from foreign industrial subsidies and to mitigate the costs when those subsidies dissappear. The more efficiently it redeploys resources, the less justification there is for domestic policy to reduce foreign policy risk.
Pretty much all manufacturing and tech industries are industries of scale which indicates the falsity of the free lunch.
ReplyDelete"American and German solar firms whose business models might be perfectly viable in the long run probably never made it to the long run, because of a pointless, suboptimal, foolish suicide attack by the Chinese government. This represents a loss for the entire world."
ReplyDeleteThis is easily one of your best posts ever. Think of the all the wreckage and waste that was caused by most of these companies going under needlessly. We need some metrics and models that take *that* into account. The unsaid (and said!) mantra for the last 10-20 years is that we need Chinese (i.e.) suppliers lined up ASAP after we get this product introduced... or after we get past the prototype stage... or we will focus on the high end production only and source the late stage stuff to China... There's your POLICY RISK in a domestic nutshell. It's going there.. nothing can be done.. it's what everybody else is doing.. you will LOSE if you fight the status quo..
Get over it libertarians. We need an industrial policy!
"And in general, I think direct research funding is the best way for government to promote solar cost reduction, followed by subsidies to solar consumers rather than producers.)"
ReplyDeleteYes
By the way Noah, I have asked a related question before (although it is I think not necessary to assume policy is the source of the problem). The gains to trade argument is very much a static argument. Now let's pretend that we aren't the US, we are small, highly specialised open economy instead (say Finnland or New Zealand). What if those handful of eggs in our basket face very volatile world markets. What if going the free trade root, means that we may in any given equilibrium situtation be better off, but that at the same time the risk of large income swings is increasing. And adjustment is costly. Is free trade still a good idea for us?
ReplyDeleteYou're asking, basically, if private international trade decisions impose a negative externality by creating aggregate risk. And indeed, in models of international capital flows with limited enforceability of debt contracts, this is exactly what happens; you get repeated debt bubbles and currency crises.
DeleteThis comment has been removed by the author.
DeleteThen why isn't this result something people talk about much. Is it just assumed markets are complete and the country will somehow hedge against this (well yes one way of hedging is tarrifs)? And is it assumed that there are no costs of adjustment?
DeleteI sort of like the idea of "arms-length" free trade. I won't pick winners, but I don't quite trust the wide world to play fair. My marginal industries might get swept up in the odd international hurricane, and if terms of trade move against me, I might just need them. So lets build a dyke to keep out the storms.
I feel also too many people ignore the difference between a VAT based tax system (which taxes imports but not exports) and an income tax based tax system (which taxes exports but not imports). In principle exchange rate adjustments should balance the difference - but it seems to me exchange rate adjustments don't reliably ensure external balance.
Concern over growing policy risk from China may be one of the reasons Western companies are not re-investing profits.
ReplyDeleteProtecting one American industry, either by tariffs or subsidies, will adversely impact other American industries through effects on the exchange rate.
China is promoting domestic employment (at suppressed wages) by exporting large quantities of capital to keep the exchange rate down. (Some of the capital leaving China will be money embezzled by government officials, but it all adds to the problem.) In terms of global economic effects there is little difference between the Chinese buying American government bonds or Canadian oil companies. In seeking domestic political stability, the Chinese have stretched American and European societies to the breaking point.
A free market is not a free market if someone on the other side of the world is rigging the market.
ReplyDeleteAs long as there are competing nations some forms of protectionism will remain beneficial in certain case. US policymakers should be more pragmatic — particularly on national security issues like energy, infrastructure and resources.
A free market is not a free market if someone on the other side of the world is rigging the market.
DeleteWell said.
Can this be related to Prisoner's Dilemma models?
ReplyDeleteI think so, yes. Google "strategic trade" and look at the Wikipedia entry.
DeleteYour analysis is excellent.
ReplyDeleteOne addition: The realpolitik here is that American politicians use economist's reflexive support of 'free trade' as a cover to pursue strategic goals at the expense of domestic jobs. The situation is fundamentally driven by which American interests are favored by policy makers, and the interests of workers and American jobs are not high on the list.
Clyde Prestowitz covers this well and he knows the terrain, having been a trade negotiator. I suggest you take a look at his analysis of some under negotiation 'free trade' agreements:
http://prestowitz.foreignpolicy.com/posts/2012/09/11/dueling_free_trade_agreements
I want to add another point to ponder about international competition and domestic investment. Let's imagine I have an amount of money to invest. I want to invest in my own currency, and I don't want to take a large risk. It seems to me I must invest in something that gives me rents today. Any investment in a productive enterprise, that is not protected by patents, runs the risk of being swamped by international competition, that can as it were, come out of the blue. Internationalisation makes it very hard to know where the competition might come from. Due dilligence has become very hard (think about Samsumg and having to have company lawyers report of possible patent outcomes from many different countries). When markets were local or regional, it was much easier to calculate potential return on investment.
ReplyDeleteIt seems to me economists treat risk and uncertainty as exogenous. Maybe it is time they endogenised it.
I didn't want to contribute what others already had so here's an interesting thought:
ReplyDeleteWhat if the foreign government was "subsidising" all industries with low corporate taxes across-the-board. How would a strategic trade policy enforce two-way free trade?
Noah, I'm just curious what's your intended policy implication from this post (if any)?
ReplyDeleteShould we engage in more bi-multilateral trade agreements or take a more protectionist stance?
Well, I think the main "protectionist" thing we should do is to credibly threaten countervailing duties for currency manipulation. I also do like bilateral and multilateral trade agreements.
DeleteWith the US, Chinese, and German solar panel industries in tatters, what's happening with pricing and availability of solar panels?
ReplyDeleteTrade must be balanced, in the long run, to be in the interests of both partners. Where there is imbalance, where one country runs a significant deficit, it is damaging to that country's industry. The deficit country's Aggregate Supply curve shifts to the right, driving prices down along the Aggregate Demand curve and reducing the revenue available to its domestic producers. Note they are also denied the revenue from the imports, which they are forced to compete with. This leads to reduced or negative growth, increased unemployment, reduced tax revenues, reduced investment, etc.
ReplyDeleteOn the contrary, in a country running a trade surplus, the Aggregate Supply curve shifts to the left, forcing prices up along its Aggregate Demand curve, and increasing the revenue available to its domestic producers. Note they also have the revenue available from the exports. This leads to increased growth, increased employment, increased tax revenue, increased investment, etc.
Indeed, the industry of the country in surplus literally feeds off the industry of the country in deficit, growing while it destroys the other.
See:http://anamecon.blogspot.com/2010/04/effects-of-unbalanced-trade.html
Greg,
ReplyDeleteKeynes was on to this:
http://www.guardian.co.uk/commentisfree/2008/nov/18/lord-keynes-international-monetary-fund
I think Noah makes out a strawman. I always had read that free traders *do* believe in game theory and retaliation between governments, meaning the US *should* try and force China to not subsidize their solar companies, but that in the absence of any retaliation, unilateral free trade is better than no free trade between countries. That's the "classic case" not that unilateral free trade is always better than game-theory tit-for-tat retaliation (in fact, it is worse).
ReplyDeletereason,
ReplyDeleteThanks for the pointer. Keynes's idea might work, but it could just result in the surplus country buying up assets in the deficit country, unless I mis-read it.
My own idea, actually a variation on Warren Buffett's idea of import certificates, I discuss in:
http://anamecon.blogspot.com/2011/10/import-trade-certificates-some-problems.html
Greece, (say,) issues certificates, which are a right to export to Greece, to countries which themselves buy Greek goods, in proportion to amount of goods from Greece they buy. Eventually, a country buying $1 of Greek goods will earn the right to export to Greece $1 worth of goods, but it can be phased in, gradually squeezing the trade deficit over a number of years.
It's something any country can unilaterally adopt, and requires no international agreement. It just requires the political will.
"Yes, I realize that the solar example is not a great one; the U.S. gave its companies grants and loans before China did, and enacted tariffs."
ReplyDeleteSo shouldn't it be better practice to apply the game theory argument to the trade-war case at hand starting from this first step above? Why not take the Chinese subsidies as a retaliatory move by the Chinese government against the protectionist U.S. policies? As a balancing act if you will. And then look where that has brought these two players.
Also involving the conclusion from your later post, your claim basically is that, counter-protective measures (or a credible threat) are warranted because they serve as a balancing act to the disruptive policies of the opponent. But when we look at the example at hand from one step earlier, we see that such a move by China had already been made, and from your perspective, had been a failure (not only for the U.S. but also for the many Chinese manufacturers who are set to go bankrupt soon). So the problem with the U.S. trade tariffs is not that they are too little too late to balance things out. Because what China did was not too little (by your claims more than the existing U.S. subsidies) and not too late and yet it still failed.