The Intellectual Basis of U.S. Trade Policy Trench Warfare

January 26, 2015

At its core, trade policy is based in economics. And despite what many economists claim, economics is not a science. And, as with economics, intellectual approaches to the issue of trade differ substantially. These approaches reflect differences in economic doctrine among economists, policymakers and others. This paper postulates and describes three competing economic doctrines that shape the current U.S. trade debate: the predominant neoclassical doctrine (NC), the oppositional neo-Keynesian doctrine (NK), and the emerging innovation economics (IE) doctrine. The IE doctrine (IE) not only more accurately reflects the reality of the 21st century global innovation economy but offers the best opportunity for creating at least some actionable consensus on trade policy moving forward.

The three competing doctrines are:

1. The  Washington free trade consensus grounded in neoclassical economics: The NCs’ primary rationale for and defense of free trade is allocative efficiency, because it privileges this over all else. In this doctrine, free trade lets the global economy allocate production on the basis of nations’ inherent comparative advantage: the belief that countries all have an inherent advantage in some kind of production relative to others. Thus, because all trade is voluntary, no two parties will trade unless they can both improve their welfare, especially consumer welfare, by obtaining things for which they do have a comparative advantage. In this sense, nations do not compete with each other economically.  In addition, even one-sided trade (free trade by the U.S., mercantilist by others) increases U.S. welfare.  By definition then, measures that hinder trade (e.g., countervailing duties, anti-dumping duties, tariffs, non-tariff barriers, etc.) even if used to pressure mercantilist nations to adopt free trade measures reduce allocative efficiencies for both nations involved.

2. The protectionist impulse grounded in Neo-Keynesian economics: Because neo-Keynesians privilege worker, as opposed to consumer, welfare they are resistant to and skeptical of globalization and trade, especially with low-wage nations. Rising demand based on rising worker incomes drives growth and trade, especially with low-wage nations, and might lead to downward pressures on some wages and therefore limit opportunity. Thus, just as NCs will go to great lengths to deny any negative economy-wide impacts from trade, NKs will do the same with regard to the benefits of trade. NKs oppose virtually all new trade agreements, and prefer stronger labor and environmental standards for other nations, assuming that if corporate costs go up in other nations, American workers will benefit. Similarly, NKs oppose stronger enforcement of some kinds of trade rules against foreign mercantilism, especially if those rules (such as IP protection and investor protections) are designed to enable multinational companies in the United States to become more competitive.

3. The qualified free trade support grounded in Innovation Economics: Because IE’s see innovation as the key driver of growth, they embrace global trade in part because trade enables larger markets, which in turn help spur innovation in innovation-based industries with high fixed costs but relatively low marginal costs of production. For IEs nations competitive advantage must be created and constantly fought for.  As a result, they recognize that not all trading regimes, even if they maximize short-term U.S. consumer welfare, are structured in ways that boost productivity and innovation of firms in the United States. Indeed, some policies that improve consumer welfare (e.g., low currency values in foreign nations, export subsidies, etc.), are harmful to competitiveness, productivity and innovation. In a similar vein, IEs oppose policies such as weak intellectual property rights that might increase short-term consumer welfare but would harm innovation in the medium-term. In this sense, IEs see globalization and trade as a key tool for productivity and innovation, but only if the global trading system is structured in ways that limit mercantilist policies and if the United States embraces active national competitiveness policies.

In short, Washington’s trade policy debate is like World War I trench  warfare.  Both major sides (NC and NK) are committed to their  doctrinal views with neither side willing to give an inch for fear of total victory for the other side. Each side is sure that if they just speak more loudly they can prevail on the latest trade policy skirmish. But like an increasing number of other policy areas, this kind of Manichean thinking – the belief by NKs that trade and globalization is largely a force for ill and by NC’s that it is a brilliant and liberating force – serves to obscure reality and hold back progress.

To break this stalemate, the Keynesian left will have to once and for all embrace U.S. integration into global markets and accept “natural” loss from trade.  But the NC right and center will have to abandon their focus on short-term consumer welfare and their naive, textbook beliefs that markets are perfect, wonderful things without failure or political distortion. This will mean recognizing that nations compete; that trade can be negative sum; that if markets apply to goods and services, they also have to apply to currency; and that the only way to save the soul of the global trading system is to first risk going down the protectionist road – by taking aggressive trade enforcement actions in the service of pressing other nations to roll back their mercantilist regimes. And all sides will need to put their shoulder to the political wheel and advocate for a new national trade enforcement and competitiveness strategy that will enable enterprises in the United States to win in global competition.