A Trade Strategy for the 21st Century

The Washington Post recently asked a very good question: “If Not the Trans-Pacific Partnership, Then What?”   Since the problematic TPP is clearly not a gold standard that can define trade policies for the 21st century, what principles should?

Forty years of trade deficits, lost jobs, and closed factories make it clear that America’s current trade policies do not work in a world where exchange rates, driven by capital flows rather than trade in real goods and services, are rarely the rates required to balance trade. This note provides an outline for a new U.S. approach to foreign trade policy, anchored to balanced trade, that is suitable for the realities of today’s globalized, financialized world.

1. Balanced Trade: 

America’s nearly unbroken string of trade deficits since the 1970s has been driven by two major factors: the failure of international markets to maintain the dollar at a trade balancing equilibrium exchange rate, and foreign country currency manipulation. America’s foreign trade policy for the 21st century should start by restoring balanced trade with the following currency-related actions:

• Implement a Market Access Charge (MAC)  that would bring the dollar back to its trade-balancing equilibrium exchange rate and keep it there – regardless of what other countries may do. 

• Implement a Countervailing Currency Interventions (CCI)  policy to discourage and counteract any resurgence of currency manipulation by trading partners. 

• Establish quantifiable triggers for all currency-related actions so that they come into effect automatically. 

2. Fair Trade: 

Other countries hurt American exports, domestic production, corporate profitability and family incomes with their unfair trade practices. America needs to restore fair trade with the following actions:

• Fully enforce adherence to obligations in existing trade agreements. 

• Implement policies such as those in the Trade Facilitation and Trade Enforcement Act of 2015 that enforce payment of penalties levied in accordance with America’s countervailing, antidumping, and other trade remedy laws.

• Revise existing rules, preferably in collaboration with other countries, where current rules fail to prevent unfair trade. 

3. Growing Trade: 

Once America has assured that its international trade is and will remain balanced, expand trade through multilateral and bilateral agreements such as a revised TPP. Such agreements should:

• Have benefits that clearly exceed their costs -- including the costs borne by adversely affected workers and industries.

• Assure that the benefits of expanded trade are distributed in an equitable manner, taking into account costs to groups hurt by expanded international competition. 

• Provide an enforceable framework of rules consistent with contemporary realities to assure that trade under such agreements is fair and balanced. 

4. Strategic Trade and Domestic Development:

Along with these actions on the international front, America should implement domestic policies that will help all Americans gain the greatest possible benefits from the opportunities provided by trade that is balanced, fair and growing.  Such policies should accomplish the following:

• Develop America’s manufacturing capacity in strategically important areas through industrial policies that build up the R&D capacity and diffusion mechanisms needed to assure that U.S. manufacturing can develop internationally-competitive capacity in high value added and advanced manufactured goods. 

• Develop America’s “industrial commons.” Grow the network of researchers, suppliers, producers, investors, workers, and markets throughout America who provide the essential basis for America’s international competitiveness. 

• Restore and Expand America’s Infrastructure. Today’s crumbling, inadequate infrastructure, especially in transportation, but also in areas such as utilities ranging from safe drinking water to high-speed internet, take a daily toll on America. 

• Improve the American systems of education and health to assure that all Americans have an opportunity to realize their full potential, both for personal development, and to assure that America has a healthy, well-trained workforce that is second to none. 

• Improve America’s social safety net. Special attention should be given to assisting workers most adversely affected by increased competition from abroad to prepare for, find and take new jobs that are well paying. 

• Preserve America’s right to maintain its rule of law for the well-being of all American people. Protect them from decisions of private international tribunals that could over-rule our nation’s laws, thereby creating possible environmental damage, health hazards, monopolistic competition, and national security weakness. 

• Preserve America’s right to retain natural and man-made resources for the future of America – including, for example, production technology and other forms of intellectual property developed in America.

Conclusion

Trade that is balanced, fair, and growing on the basis of rules that are suitable to the realities of the 21st century should form the core of America’s international trade policy for the future. Externally-focused measures to accomplish this should be supported by domestic policies focused on preparing America to compete successfully in global trade and improve the quality of life for all Americans.

Rev. 9/19/2016

Trade Deficits and Income Inequality - Summary Results

International trade has taken center-stage during the current presidential campaign in a manner rarely seen. From far left to far right, Americans are angry about the perceived loss of jobs to China and other low-wage countries. The most vocal opposition to trade and the TPP comes from those in lower income groups who have already lost jobs, or fear they will.

Is their concern valid?  Would expanded trade under the Trans-Pacific Partnership (TPP) actually hurt Americans? Free trade is supposed to be a rising tide that floats all boats. But what about those who have no boat – or whose boat is full of holes?

Recent research indicates that many Americans don’t have a “boat” that assures rising incomes when trade increases, especially if trade is already unbalanced. Under such conditions, the rising trade promised by agreements such as the TPP mean bigger trade deficits – deficits that directly cause greater income inequality.

These conclusions are based on micro-level analysis of the United States where the past forty years have been marked by trade deficits and rising income inequality, and on cross-country analysis of twenty-eight developed OECD countries, including the United States.

Micro-level U.S. Analysis

Those most at risk of stagnant or falling incomes because of expanding unbalanced trade are those least able to compete with workers in low-wage countries. This includes workers who (a) have less than a college education, (b) lack advanced manufacturing skills, (c) are older and cannot afford to pay for additional training, (d) work in factories producing textiles, apparel, footwear, furniture and other labor-intensive products, (e) work in regions dominated by plants producing similar at-risk products, (f) work in single-factory “company towns” where alternative jobs are scarce, (g) live in areas already suffering high employment and low wages, (h) live in isolated, traditional communities far from alternative sources of employment, and (i) those who are bound by poverty, families, illness, housing costs, or tradition to remain in their present communities. In short, those most likely to suffer a further relative loss of income from foreign imports are those already most likely to be relatively poor.

If trade were balanced, the problem would be less severe because international competition would drive America to expand production and jobs in areas where it has a greater comparative advantage. But if the dollar is overvalued, the price signals that would otherwise stimulate a move to more competitive production and better jobs are distorted. The result: more job loss and more poverty. Hence the direct causal link between trade deficits and increasing income inequality.

Global Experience

We cannot validate this conclusion by running a counterfactual model where the U.S. has had no trade deficits during the past forty years and look at the resulting income distribution. Instead we must look at the experience of comparable countries.

The graphs below plot the average current account balances (a reasonable proxy for trade balances) for twenty-eight non-FSU OECD members over the past thirty-five years against their current levels of income inequality as represented by the Gini coefficient.

Figure 1 shows in scatter-plot form the average current account balance for 1980-2015 and the current Gini coefficient for each of these OECD countries. Although the values are not clustered neatly because of wide differences in current account balances, the trend line indicates a clear correlation between greater external deficits and greater income inequality.

Figure 1

   

Figure 2 gets rid of the external deficit/surplus noise by calculating a least-squares average trend line of external deficits ordered by country income inequality. Here we see very clear evidence that larger external deficits tend to be associated with increasing income inequality.  The micro-level analysis above for America confirms that the line of causality runs from deficits to income inequality.

Figure 2

     

America Needs a Competitive Dollar - Now!

Trade Deficits and Income Inequality in OECD Countries

The previous blog post in this series [1] demonstrated that trade deficits are clearly an important source of income inequality in the United States. However, since we cannot run an experiment to see what today’s income distribution pattern would have been if America had maintained balanced trade over the past 30-40 years, we need to look at cross-country data to see if other developed countries with higher trade deficits also tend to have higher income inequality.

This blog post, which is based on data on OECD countries since 1980, clearly shows that trade deficits and income inequality are highly related. This evidence supports the hypothesis that America’s virtually constant trade deficits since the 1970s have contributed significantly to the high degree of income inequality in America today.

Do Trade Deficits Cause Income Inequality in America?

International trade has long been a non-issue for most Americans voters. Today, however, the American public is so concerned about trade that the presidential candidates seem to be competing for the Anti-Trade Crown – especially when it comes to talking about the Trans-Pacific Partnership (TPP).

Why such virulent feelings against free trade? Why are so many Americans willing to throw the baby out with the bathwater – to forgo the benefits of increased efficiency and lower prices that free trade can yield?

The best explanation is almost certainly the justified belief that trade worsens income distribution by killing jobs when trade is not balanced – when Americans cannot earn as much producing exports as they spend on imports.

This note summarizes the key reasons why expanding trade will almost certainly have a negative impact on income distribution if the U.S. is already running trade deficits and no mechanism is being put into place to return the dollar to its trade balancing equilibrium exchange rate and keep it there.

The next blog post in this series will examine the experience over the past thirty-five years in developed countries that are members of the Organization for Economic Cooperation and Development (OECD) to see if the negative impact on income distribution of trade deficits that we see in the United States is found there as well.