Trump is Wrong on Trade

By: Frank_Hollenbeck

Trumps claims (see here) that America has lost high paying manufacturing jobs to China because the communist country promotes its exports through subsidies, tax advantages and currency manipulations. The reality is that we should not care what China does. The more China subsidizes its industries, the more its trading partners gain in the abundance of cheap goods and services and, contrary to what Trump believes, in the creation of high-paying jobs. In an exchange economy, there is a natural antagonism between producers and consumers. Producers benefit from scarcity, consumers from abundance. A producer wants to be the only store on a block selling a limited number of products for a limited period of time. Consumers, on the other hand, want abundance with more producers and products available over a longer period of time. This conflict arises naturally in an exchange economy. Robinson Crusoe hunting for himself will clearly prefer abundance to scarcity.

Competition promotes abundance while enabling income and wealth equality

In a non-competitive environment, high-paying jobs may occur in protected industries, but it depends on the ability of trade unions to capture a portion of the profits generated by monopolistic or oligopolistic firms by demanding higher wages. The pressure from non-union labor is a constant threat to these high-paying jobs created by government actions of artificial scarcity. Yet, there is no guarantee that this will bring higher paying jobs instead of just higher profits to these protected industries.

In a competitive environment where abundance is the norm, high-paying jobs come from high productivity. Our living standards are higher than those living in Africa not because we are smarter or work harder, but because our labor is grafted onto a much larger capital base. Robinson Crusoe will catch more fish with a net than with his hands. And the more nets he has, the more fish he will catch. His productivity is constantly increasing with more resources at his disposal.

Thus, high-paying manufacturing jobs in a highly competitive environment come from high value productivity. No one will pay you more than the value of what you produce¹. Suppose you could make a five-piece widget that could sell for a subjectively high price of $100 per unit in a highly competitive widget industry. To make this widget you hire 100 workers who work on the widget independently and require 10 hours to complete one widget. Abstracting from other non-labor costs and profits, how much could you pay each worker? Less than $100 or $10 an hour. Now suppose you specialize and each worker works on only one of the five components of the widget. The gains from the division of labor allow you to make a widget in half the time or 5 hours. How much could you pay each now? Less than $100 or $20 per hour. Now suppose we add a machine that allow each worker to complete a widget in one hour. How much can workers expect now? Less than $100 or $100 per hour. High wages come from the division of labor and the abundance of capital. The greater the amount of capital, the greater the value productivity and, in a competitive environment, the greater the wages.

Of course, competition will ultimately reduce the price of widgets, reflecting growing abundance, and the nominal wages of this unskilled labor. Yet, if deflation is the norm, real incomes or the standard of living of the average worker will be constantly rising: every man benefiting from the increase in real wages resulting from more abundance or lower prices.

Now suppose that China subsidize its exports to the point that we can buy them essentially for free. This will mean that we no longer have to use scarce resources to produce these products at home and we can divert some of the capital from these industries (steel, textiles, etc.) to be used in other industries. With more capital, these other industries, ceteris paribus, will have higher paying jobs than before trade with China.

Trump’s trade policy is structured on creating scarcity. Trade restrictions do not increase the amount of capital but force a diversion of capital to import competing industries. Capital would be dispersed more widely and hence wages would be lower than they otherwise would be. His policy would lead to an economic reality that would be the exact opposite of what he is promoting.

The key word above is ceteris paribus. Trump is confusing association with causation.

The real culprit or cause of the loss of purchasing power is the American Central Bank. It is directly responsible for the growth in income inequality and the slow decline in living standard of the American middle class (see here). Monetary policy is “econspeak” for legal counterfeiting! A simple example will make this clear: Suppose we have $10 to spend on 10 apples; market forces normally will generate an equilibrium price of $1 per apple. If the amount of money doubles, prices will rise to $2. The government will have stealth taxed the public five apples. Few understand that the central bank is in reality a thief robbing the purchasing power of your money while you sleep. Although central bankers may attend fancy lunches in thousand-dollar suits, it does not diminish the reality that they are nothing more than counterfeiters. The only difference between them and the guy printing currency in his basement is they do not fear the police breaking down the doors of the Eccles building.

If Trump really wants to make America great again, he should seriously consider returning the U.S. to sound money (here). He should consider implementing a Chicago type plan (here) based on the creation of a new cryptocurrency.

There is another aspect of Trump’s trade policy that is not currently being discussed. He talks about bridges and cars soon to be built by American steel. But how would his administration respond to complaints by the big three automakers that Audi, Land Rover, BMW, Hyundai, and Toyota have unfair competitive advantage nationally and internationally by using low cost Chinese steel? Would he impose restrictions on all imports that use Chinese components as inputs? It is clear this would quickly escalate into trade wars where everybody loses. Globalization, or international competition, has led to razor thin margins, and Trump’s policy would put U.S. industry at a competitive disadvantage both nationally and internationally.

Trump also talks about fair trade. Again, we should be totally indifferent on whether China, or any other country, is or is not trading fairly. If fairness is a real concern, maybe the first action of a Trump presidency would be to shut down the Export-Import Bank which unfairly benefits U.S. exporters.

He also is misguided in thinking that trade is like negotiating with a supplier, where one gains at the expense of others. The best US policy, or that of any country, should be the elimination of all barriers to imports. This can be done unilaterally. Abundance should always be preferred to scarcity.

¹ Something advocates of a higher minimum wage do not seem to understand.

Frank Hollenbeck teaches finance and economics at the International University of Geneva. He has previously held positions as a Senior Economist at the State Department, Chief Economist at Caterpillar Overseas, and as an Associate Director of a Swiss private bank. See Frank Hollenbeck's article archives.

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