October 31, 2015

International Trade and Manufacturing Policies for the 21st Century

This post provides an abstract of a  paper that I was invited to present at the International Trade and Manufacturing Session of the National Workshop on U.S. Manufacturing and Public Policy at the University of Indiana on October 29, 2015. 
The full draft of the paper can be accessed through the "Papers" link at the top of the home page of this blog site.
This draft will be revised for presentation to a national conference on trade and manufacturing policy in 2016.
Comments are most welcome.
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Abstract

American manufacturing has suffered a major decline in international competitiveness over the years since the first Oil Crisis in the 1970s. This decline is driving the offshoring of jobs and production lines to low-wage foreign countries and is central to America’s overarching economic problem today -- excessive trade deficits that have been accumulating for nearly forty years with no end in sight.

As a result, America now carries the largest stock of foreign debt in the world. Furthermore, manufacturing’s declining ability to compete with imports in domestic markets and with foreign producers in export markets has contributed to America’s high and rising unemployment and income inequality, as well as to financial market volatility and instability.

Although America’s trade deficits and its manufacturing decline relative to countries like China are closely linked, one does not really cause the other. Instead, both are the result of a serious overvaluation of the U.S. dollar.

The dollar’s overvaluation is driven largely by: (a) the failure of America’s international monetary policies to keep pace with dramatic changes in the global economy during the past forty years, and (b) the fact that, because the U.S. dollar is the world’s main reserve currency, America is more exposed than any other country to the impact of a tectonic shift in the way exchange rates are determined.

Following a brief summary of reasons that American manufacturing has lost its competitiveness and that trade deficits have become so large, the paper summarizes the pros and cons of the ways America could increase its international competitiveness and reduce its trade deficits. The paper finds that the key reason for declining competitiveness and rising deficits is the flood of foreign capital into America, starting in the 1970s, to take advantage of America’s financial markets. 

This has caused the dollar to become seriously overvalued because (a) the demand for dollars and dollar-based assets has pushed up the dollar’s market exchange rate; (b) excessive capital inflows have driven up domestic prices, making American goods more expensive and less competitive, and (c) the market exchange rate has not adjusted sufficiently to restore balanced trade and international competitiveness for American manufacturing.

Based on this analysis, the paper finds that the best way to restore competitiveness and reduce external deficits would be to moderate the inflow of foreign capital coming into U.S. markets so that the present glut of capital no longer distorts the American economy.

The paper then examines a new approach that appears to have the best pros
pects for success, namely a small “market access charge” (MAC) on capital inflows that would be paid by foreign investors who want to exploit America’s financial markets when these markets are already overheated and are causing the dollar’s overvaluation as indicated by a rising trade deficit relative to GDP.


After describing the legal and economic foundations for the MAC and how this simple mechanism would work in practice, the paper analyzes potential headwinds to the policy’s implementation and how likely issues can be resolved. It also examines the MACs expected benefits for stakeholders across the economy who will create tailwinds that should allow the MAC to become the core of a consensus-based manufacturing and trade policy for America for the 21st century.

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To access the full paper, click on the "Papers" link at the top of the home page and select
  "
International Trade and Manufacturing Policies for the 21st Century: Yes, We Can Build a Consensus".

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