Why Johnny Can’t Innovate: the American Economy’s Most Surprising Deficit

Ian Fletcher

Activist Post

I argued in a previous article why, despite America’s current obsession with government budget issues, the real key to bringing back our economy lies in a) fixing our trade deficit and b) restoring our capacity for innovation.

Although the former problem has now grabbed significant public attention, most Americans seem to think that our national capacity for innovation is healthy and without problems.

After all, we’re the home of Silicon Valley.  So things must be going great, right?

Unfortunately, no, and for the same reason that, as I explained elsewhere, our manufacturing sector isn’t healthy. While it’s true that there’s an enormous amount of innovation (and manufacturing) going on in this country, “enormous” is not, in and of itself, an adequate quantity.

To figure out how much innovation (or manufacturing) is enough for America, the quantity must be measured against how much we need to maintain our living standard.  And we are, in reality, falling short in both areas.

The American Manufacturing Crisis and Why it Matters

Ian Fletcher

Activist Post 

Despite the denial chorus of the same politicians, financiers, and economists who told us prior to 2008 that our financial sector was fine, the American public is increasingly aware of the truth:American manufacturing is in a state of deep crisis. (And, as I argued in a previous article, the recent small uptick in this sector doesn’t change that fact.)

Let’s start with manufacturing employment.  Below is a chart giving the grim story of job losses in this sector. (Source)  

This degree of  manufacturing job loss is not inevitable or normal.  The U.S. actually enjoyed relatively stable employment levels in manufacturing as recently as the year 2000.  Then, thanks to our burgeoning trade deficit, things fell off a cliff.

America’s Fate Under Chinese Hegemony

A Review of Eamonn Fingleton’s Jaws of the Dragon

Ian Fletcher 
Activist Post 

The news has recently hit the press that China’s economy, measured on the purchasing-power basis that adjusts for price differences between nations, may surpass the U.S. in only another five years or so.  Surprisingly, China has still shown no signs of morphing into the cuddly liberal and democratic nation, devoted to American ways from Coca-Cola to democracy, whose eventual appearance has been assumed by American policy for thirty years now.    

Our policy during this period has, after all, enthusiastically cooperated with China’s efforts to build up its economic power—which entails, of course, every other kind of power, including the military kind.  So our assumption of a benign China had better be right, or else we have been abetting the creation of a monster.  A hostile China will be arguably even worse than the USSR, because it will not do us the favor of sabotaging its economy by adhering to a dysfunctional economic ideology.

The above realities are the subject of Eamonn Fingleton’s book In The Jaws of the Dragon: America’s Fate Under Chinese Hegemony.  Fingleton is a Tokyo-based Irish journalist who has lived in East Asia for over 25 years, and he has a long and distinguished record of telling truths about the region’s politics and economics that the establishment (on both sides of the Pacific!) would rather the public did not learn.  This is one of those books that one wishes the President would read.

Answering Objections to a Tariff

Ian Fletcher

Activist Post

It’s only fair to answer some of the objections to the idea of an import tariff that I and others, like possible presidential candidate Donald Trump, have recently proposed.

One common objection is simply that our trading partners would just shrug it off by increasing subsidies to their exporters.

They are constantly alert to threats against their trading position: China, for example, was recently reported in China Daily as increasing export rebates on 3,800 items “to maintain growth.”

This would, obviously, force us into an endless game of matching these moves on a country-by-country, industry-by-industry, and even product-by-product basis.

However, such subsidies by our trading partners would be restrained by the fact that they would be very expensive in the face of an American tariff. Right now, these subsidies are relatively affordable only because they don’t have to climb an American tariff wall. But if they did, their cost would increase dramatically.  

Why Donald Trump is Right on Trade

Ian Fletcher
Activist Post

The usual suspects are racing to debunk Donald Trump’s foray into the most serious protectionism—a 25% tariff on China—proposed by a major presidential candidate since Patrick Buchanan ran in 1992.

They know this is big.  Our long-delayed national trade debate has begun.

I have expressed reservations about getting obsessed with just China before.  But broadly speaking, Trump is right on the money here. Nothing less than an actual tariff or the equivalent is ever going to get Beijing to stop gaming the international trading system to America’s disadvantage.

This matters, big-time.  Because until we sort out America’s trade mess—which must start by zeroing out, or close to it, our $600 billion-a-year trade deficit—our economy will never truly be healthy again.

Jobs are the aspect of this everyone understands.  But what a lot of people miss is that the current budget fight, and the angst over our mounting national debt, are also intimately connected to trade.

So Trump is onto something even bigger than people realize.

A Tariff Would, Too, Fix Our Trade Mess

Ian Fletcher 

Activist Post

I and my employer, the Coalition for a Prosperous America, are unabashed protectionists.  I have written previously about how, for example, a flat tariff on all U.S. imports may well be the key to solving the ongoing trade crisis that is depleting our national wealth and gutting our industries. 

We at CPA believe that a genuine national debate on trade issues will eventually draw public opinion our way.  So it is only fair to answer some of the reasonable-but-mistaken objections raised to our position.

One obvious objection is simply that a tariff is a tax increase. So it is. But it does not have to be a net tax increase if the revenue it generates is used to fund cuts in other taxes. So in order to obtain a “clean” policy debate, in which the tariff is debated purely on its merits as a trade policy, unmuddied by partisan opinions about the total level of taxation, any tariff proposal should be packaged with precisely compensating cuts in other taxes. 

A related concern is that a tariff is a tax on consumption. This is generally better than a tax on income because it rewards saving and avoids penalizing work. Unfortunately, consumption taxes also reduce the progressivity of the tax system because the poor consume, rather than save, a higher percentage of their incomes. So any tax rebate financed by the tariff should also be designed to leave the overall progressivity of the tax system unchanged. 

No Need for Villains on the Trade Issue

Ian Fletcher

Activist Post

Judging by, among other things, the comments posted on articles about America’s trade mess, a lot of people are getting very angry on the issue. Words like “traitor” are making their appearance.

This is unfortunate, because if free trade is wrong, then it is coldly, factually wrong on its merits, and turning it into a drama of innocents and villains is unnecessary.

For example, sometimes the Third World is cast as the villain.

But whatever harm Third World nations like China have done to America through trade, most has been due to our own foolishness in embracing free trade. The protectionist America of 1925 would have been barely scratched.

Economists Shocked, Shocked: We Really Are Losing Jobs to China!

Ian Fletcher

Activist Post

There’s a nice new academic paper just out by an MIT economist and his friends that gives some hard data to back up everyone’s suspicion that the U.S. is losing jobs to China.  It’s entitled The China Syndrome: Local Labor Market Effects of Import Competition in the United States, by David Autor, which can be downloaded if you are curious.

The bottom line here probably won’t be all that surprising to most ordinary Americans, though it will annoy the living daylights out of most academic economists and our political establishment.  In the authors' own words:

Our study suggests that the rapid increase in U.S. imports of Chinese goods during the past two decades has had a substantial impact on employment and household incomes, benefits program enrollments, and transfer payments in local labor markets exposed to increased import competition. These effects extend far outside the manufacturing sector, and they imply substantial changes in worker and household welfare. 

In ordinary language, we’re getting scr*wed, folks.  “Welfare,” in this context, doesn’t mean welfare checks; it is the economists’ term for, roughly, “economic well-being.” And the “substantial changes” mentioned are not for the better.

The Theory That’s Killing America’s Economy—and Why It’s Wrong

Ian Fletcher

Activist Post

I wrote in a previous article how America’s disastrous embrace of free trade is ultimately based on a false theory of how the global economy works: the so-called Theory of Comparative Advantage. This is what economists, from the government on down, believe in. This matters.

But I didn’t explain why the theory is wrong—which it is. Understanding its flaws is the price of admission to serious criticism of free trade, so it’s well worth getting a grasp on them. Economic theory can be a tough chew, but it’s worth the effort, if only to gain the intellectual confidence not to be intimidated by the so-called experts.  So… let’s take a look at some of that machinery behind the wizard’s curtain, shall we?

The theory’s flaws,  which are fairly well known to economists but mostly ignored, consist of a number of dubious assumptions upon which the theory depends. To wit:

The Famous (and Almost Never Understood) Theory of Comparative Advantage

Ian Fletcher

Activist Post

You can read about the free trade controversy for months and never hear about it.  But in the minds of real economists, it’s there all the time, and it’s big. I’m talking about the so-called theory of comparative advantage, the theoretical lynchpin—in the view of free traders and protectionists alike—of the case for free trade.   It has an unfortunate reputation for being too technically tricky for non-economists to understand, but I think this is a shame, because this myth tends to shut ordinary concerned citizens out of the debate. Therefore, I’d like to take a shot at explaining this theory.

The theory is ultimately wrong, for reasons I spent half a book discussing.  And in a future article, I’ll explain why. But for now, let’s just get clear on what it says.  That’s the price of admission for engaging in serious debate on the issue.

Why Public Support for Free Trade Will Collapse Soon

Ian Fletcher

Activist Post

For once, some good news: public support for free trade will almost certainly collapse over the next few years.  On this issue, the public is way ahead of the political class in the quality of its thinking, and the average hardware store owner in Nebraska understands the real economics involved better than the average U.S. Senator.

Public opinion certainly continues to turn against free trade: an NBC-Wall Street Journal poll in September 2010 found 53% of Americans believing free trade agreements hurt the U.S., with only 17% believing them beneficial.  (The split had been 30%  vs. 39% in the dot-com boom year of 1999.)  86%  named outsourcing to low-wage nations the key cause of America’s failure to emerge fully from recession and create jobs, significantly outranking choices like the federal deficit. The turn against free trade was sharpest among the affluent and cut across boundaries of class, region, and political affiliation.

As of early 2011, there are four missing prerequisites for free trade to explode as an issue and collapse as a policy:

1.    Everyone is still preoccupied with the financial crisis, its aftermath, and recovery from recession, especially job recovery.

2.    There remains a residual sense in the minds of the public and the lawmakers that somehow free trade, despite all its problems, is still sound economics, and that perhaps we should just keep on eating our spinach because it will be good for us in the end.

3.    There is no obvious alternative policy on the table. There is instead a grab bag of issues, ranging from Chinese currency manipulation to the proposed Korea, Colombia, and Panama free trade agreements. This paucity of credible alternatives feeds the defeatist attitude that nothing fundamental can be done, which feeds apathy.

4.    A specific crisis has not happened to force the system out of its old way of doing things as the debacle in subprime mortgages upended our financial system in 2008 and made continuation of prior policy impossible whether anyone wanted it or not.

Are American Workers Just Getting What They Deserve?

Ian Fletcher

Activist Post

If you don’t think American workers are being inexorably scr*wed by our governing establishment’s embrace of “free” trade, stop reading right here.  If you do, I have a dark question for you, one that may have occurred to you in private already:

Did we bring this whole mess on ourselves?
That is the gauntlet thrown down recently by, among others, one Ray Buurmsa, a columnist for the Holland Sentinel in Michigan.  He writes:

So you’re an American employee. Maybe you make car parts. Maybe you’re an engineer or designer. Maybe you’re an accountant, store clerk or tradesman. Whatever you do, you’re probably stupid or lazy. Yes, I wrote it, and I mean it. You are either stupid or lazy. Maybe both. 

Now, I’m not referring to your work ethic or job performance. No, most of you are competent and devoted to your profession or vocation. I’m addressing the way you view economics and employment. I’m challenging your gumption to advocate for yourself and your fellow Americans. Here’s what I mean.

Review: Thom Hartmann’s Rebooting the American Dream

Ian Fletcher

Activist Post

Thom Hartmann is famous as a liberal commentator on the radio, on TV, and in over a dozen books. But he has written here a book that is of far more than partisan value. Rebooting the American Dream: 11 Ways to Rebuild Our Country will please liberal readers, but it will also challenge them to revisit some of their own lazy beliefs.

It will annoy conservatives, but the smarter ones will take notes and absorb some of his trans-partisan insights into their own politics.

Chapter 1, “Bring My Job Home!” squarely identifies the root of America’s jobs problem in its trade problem.  Unlike most commentators on the issue, who remain stuck in the “born yesterday” mentality of most contemporary economics, Hartmann understands that this problem cannot be understood without recourse to economic history. So he goes into considerable depth explaining the original Hamiltonian (after founding father Alexander Hamilton, principal economist among the founders) design of America’s tradition of broadly-shared prosperity.  Hartmann shows how nations like China are applying the same winning principles even today, and why we must return to them. If we don’t, we’ll get an inexorably shrinking middle class, a bloating plutocracy, and a polity poisoned by class division.

Economists Are Hopelessly Naïve About International Trade

Ian Fletcher

Activist Post

The economics profession, or well over 90 percent of it according to polls, continues to support free trade. Above all, most economists remain stuck in a cheery “win-win” fantasy of how trade works and are unable to see the brutally adversarial dynamics of trade in the real world.

The basic justification for their delusion, of course, is David Ricardo’s venerable 1817 theory of comparative advantage.  However, economists do not consider free trade justified today simply on the strength of the original 1817 theory alone. Ricardo’s ideas have been considerably elaborated since then, and they generally use sophisticated “computable general equilibrium” (CGE) computer models, built upon his work as the foundation, to assign actual dollar amounts to the purported benefits of free trade. 

As a result, it’s well worth looking at problems with these models a bit in order to understand why economists remain so confused. 

Economic Nationalism: Fair or Foul?

Ian Fletcher

Activist Post

Because we have a national government, because Americans care about what hap­pens to their economy, and because it is the national debate on the question that will bring changes or fail to, our trade problems will be fixed in Washington or not at all.  As economist Herman Daly of the University of Maryland, best known for his work on ecological economics, puts it, “Free trade makes it very hard to deal with these root causes at a national level, which is the only level at which effective social controls over the economy exist.” 

Unfortunately, critics of America’s trade mess are often confronted with the idea that caring about the well-being of other Americans more than foreigners is either a) irrational or b) downright evil.

It’s the latter category that concerns me here.  

Holy Cow! A Real Debate About Free Trade

Ian Fletcher

Activist Post

Despite being one of the most pressing policy choices facing America, and despite having been one of the biggest controversies in the last, oh, 400 years of economic history, free trade rarely gets a real debate in this country.  For the most part, its superiority is just assumed, and the word “protectionist” is treated like, say, “fascist”:  something just obviously, axiomatically bad and requiring no serious thought.  

So it is gratifying to see economist Uwe Reinhardt of the New York Timesand Princeton University attempt to engage in a real debate on the issue.

Is it America vs. Poor Nations in Trade? No.

Ian Fletcher

Activist Post

Question: is there a fundamental us vs. them dynamic in America’s trade with the developing world? Is a sound trade policy for ourselves ultimately about nothing better than grabbing an economic advantage at the expense of other nations, especially poorer ones? 

Some people certainly seem to think so.  To them, ending free trade sounds like a mere invitation for America to become a global economic bully boy.

But they’re wrong. The serious economic rivals of the U.S. and other developed nations are “big boys” whom nobody needs to cry over. We need not have ethical qualms about taking industries away from Japan. 

More Free Trade Agreements? When NAFTA Failed?

Ian Fletcher

Activist Post

With the Republicans and the Obama administration attempting to rush headlong into a new trade agreements with Korea, and possibly also with Panama and Colombia, it is incumbent on Americans to apply a bit of empiricism.  How have our past trade agreements worked out?  Above all, how’s the grand-daddy of them all, NAFTA, doing?

Unfortunately, NAFTA is a veritable case study in failure. 

This is all the more damning because this treaty was created, and is administered, by the very Washington elite that is loudest in proclaiming free trade’s virtues. So there is no room for excuses about incompetent implementation, the standard alibi for free trade’s failures in the developing world.
So if free trade was going to work anywhere, it should have been here. 

Instead, what happened? NAFTA was sold as a policy that would reduce America’s trade deficit. But our trade balance actually worsened against both Canada and Mexico. 

Free Trade Won’t Help World Poverty

Ian Fletcher

Activist Post 

The propaganda for free trade tells us that not only is it the master key to our own prosperity, but also the master key to lifting the world’s poor out of poverty.  So if we don’t support free trade, we’re in for a guilt trip like the one that used to  make us stick quarters into UNICEF boxes.

Unfortunately, free trade just doesn’t work as a global anti-poverty strategy.  The spreading Third World affluence one sees in TV commercials only means that the thin upper crust of Western-style consumers is now more widespread than ever before. But having more affluent people in the Third World is not the same as the Third World as a whole nearing the living standards of the First.

This is actually not a terribly big secret, and is fairly well known to the people who promote free trade.  For a start, the World Bank standard for poverty is $2 a day, so “moving people out of poverty” can merely consist in moving people from incomes of $1.99 a day to $2.01 a day. In one major study, there were only two nations in which the average beneficiary jumped from less than $1.88 to more than $2.13: Pakistan and Thailand. Every other nation was making minor jumps in between.

Time to Quit Pining for a “Level Playing Field” in International Trade

Ian Fletcher

Activist Post

One of the most common plaints from those who are upset about America’s current trade mess is “just give us a level playing field.”  In particular, this is what one tends to hear from American businesses (at least those which have resisted the siren song of offshoring) that are hard pressed by “unfair” foreign competition.  It’s hard not to be sympathetic, and on an individual basis, my heart goes out to them.

Unfortunately, the whole idea of a level playing field in international trade is basically a mirage as an aspiration, and we’ll all be better off if we stop pining for one right now.

As I pointed out in a previous article, the concept of “fair” trade, while of some finite usefulness in the context of things like fair trade coffee, is basically a non-starter as a serious solution for economic problems, either here or abroad.  And unfortunately, the cry of  “all we want is a level playing field” is just another way of asking for fair trade. 

The fundamental problem is this: a true level playing field would require not just equal rules for international trade, but also that nations have the same domestic economic policies, as these can also confer an export advantage.