December 9, 1983

December 9, 1983 | Backgrounder on Trade, Economic Freedom

A U.S. Department of Trade - Or Protection

(Archived document, may contain errors)

312 December 9, 1983 A UmSm DEPARTMENT OF TRADE--OR PROTECTION INTRODUCTION In response to pressure from politicians andibusinessmen, and despite widespread internal dissen t, the Reagan Administration has proposed creation of a new cabinet-level Department of Inter national Trade and Industry (DITI the avowed.purposes of which, include Itexpansion of U. S exportswt and reduction of overseas barriers (to U.S. firms).t11 Like many administrations before it, the Reagan White House faces political problems on the trade front as international markets become more competitive, as domestic firms face greater competition from overseas firms, and as some domestic industries weaken bec ause of changes in the economic environment. Recessions add considerably to these problems, and finns and workers hit hard by declining fortunes beseech Washington for various forms of aid.

Because the effects of trade policies vary from group to group, the voices heard by government on trade issues are mixed and often difficult to reconcile They are nevertheless loud.

The friction and confusion are reflected in the process of govern- ment itself, as these groups appeal to their respective patrons in Congr ess and in the bureaucracy. And while some government officials would love to rid themselves of such controversy, other officials, less harassed, covet new authority Trade protection is one of them It is therefore not accidental that the particular circum - stances of the times have produced a proposal by the Reagan Administration for an international trade department-or that the advocates of protectionism and other versions of industrial policy are so warm to the idea. But.would it make society as a whole 1 Statement by the President, June 1, 1983 2 better off focus the pressures for economic protection and governmental sub sidies, have no aggregate effect on employment, and enlarge the government at a substantial net cost to the American economy Most unlik e ly: a DITI would tend to concentrate and THE ROLE OF ECONOMIC POLICY pansion. of national wealth and productivity-that is, economic efficiency as environmental quality. While seemingly sterile, economic effi ciency as a goal, amounts to the quest for maxi m um satisfaction of human wants, given that not all such wants can be satisfied simultaneously. In'short, economic policy should strive to make society better off as a whole; however, this may or may not be consistent with actions taken to improve the posi t ion (wealth of particular groups.2 The issue of the proposed DITI turns, then on the analytic answer to the question: would a trade department improve the efficiency of overall economic activity The appropriate goal of economic policy is the maximum ex Th is goal includes the promotion of such intangibles IS HERE A SPECIAL TRADE PROBLEM ferent individuals, groups, and nations enjoy a comparative ad vantage (that is, lower costs) in the production of certain goods.

Just as efficiency in resource use serves t he overall interests of a given nation, so economic efficiency maximizes the produc tivity of the world economy Specialization is productive. For a myriad of reasons, dif I This efficiency goal requires that goods be produced at lowest real Cost, that is, by those able to produce them most cheaply By minimizing production costs for a given good, more resources are left available for production of other goods, yielding greater overall productivity In this regard, it should be noted that low wage rates in,a g iven nation do not necessarily imply low costs per unit output; low wages may merely reflect low labor pro ductivity. Shifting demands, technological advances, changes in relative prices, new resource discoveries, political events, and innumerable other f actors change comparative advantages among nations for the production of goods. process, and it is eficient for the world economy for economic behavior to change as circumstances change.

The winners are those upon whom changing circustances have be stowed new opportunities for productive (that is, profitable This is a never-ending Inevitably, this dynamic process produces winners and losers Furthermore, the goal of distributional equity, h owever defined, is con sistent with the efficiency objective: a growing social pie yields more for redistribution purposes and clearly is the only environment consistent with upward mobility. 3 activity. The losers ticular activity have are those whose pa s t investments in a par been rendered obsolete, or at least less valuable. The- losers are easily identifiable industries, laborers and participants in related activities (such as suppliers They are in. a word, concentrated, and a united appeal to governme n t for a reversal of the effects of market shifts is relatively easy and politically persuasive competition among politicians for votes in the democratic process to form the first source of the trade problem, Concentrated interest groups have a natural adv a ntage in terms of lobbying for policies favoring their interests. They are easily identifiable their interests are relatively clear And members of such groups particularly the large ones, have the incentive to engage in the lobbying effort rather than to w ait for others to make lobbying investments. Industry trade associations provide a vehicle for such appeals These demands by losers for governmental aid combine with Greater economic efficiency, on the other hand, accrues to the benefit of the whole decen tralized economy, and the stake that any single individual has in a given efficient polixy is trivial.

Each individual, therefore, has an incentive to wait for others to lobby for efficient policiesi just as on a windy day each home owner has an incentive to hope for a "free ride" on the efforts of his neighbors to gather up the blowing newspapers cratic process, therefore, has a natural tendency to respond to the appeals of concentrated interest groups rather than to policy proposals yielding greater weal th for society as a whole.

Subsidies of various kinds by foreign governments may enable foreign producers to compete in world markets more effectively than they might without such assistance, thus placing U.S. firms at a competitive di~advantage.~ This is a second source of the trade problem U.S. firms often justify their efforts to obtain subsidies, in part on' grounds of unfair cornpetition by foreign countries, regardless of the actual nature of the alleged foreign subsidies The demo Finally, protectian i st policies pursued by given foreign governments may reduce the ability of U.S. firms to compete in those foreign markets. Efforts to induce relaxation of such Note that this market reallocation process maximizes aggregate wealth thus making everyone--wit h the exception of politicians, bureautri,';s, and a few others-better off. Even those who lose because of 'a particular market shift are better off because of the operation of the process in all other markets I Foreign governments are hardly the only sinn e rs in this particular congre gation. Export-Import Bank support, natural gas price controls, and other manifestations of governmental "benevolence" are forms of business subsidy in the U.S. 4 foreign restrictions through imposition of protectionist polici e s at home are a third source of the trade problem THE INEVITABLE BES3AVIOR OF A TRADE DEPAR!JME"X The DITI issue hinges on the following questions. Is the trade problem in its various manifestations a problem for particu lar industries and interest groups or for society as a whole Are specific government policies directed at the trade problem likely to yield net aggregate benefits? And if so, is a trade department the appropriate institutional .framework in which to formulate and implement such policies In s titutional Biases and Behavior While it professes great foresight, Congress usually acts only after the manifestation of a crisis-itself typically the result of other government policies. The behavior of the bureau cracy is similar because it, too, finds i t far easier to adapt to the past than to the unknown future. It is therefore natural and inevitable that, as the economic environment changes, government policy tends to subsidize losers, who are visible, instead of winners, who only emerge after a time l ag.s often are not known, even to themselves; the losers, in contrast usually are established, concentrated 'industries or interest groups, enjoying entrenched political advantages The potential winners The DITI, therefore, would be driven inexorably towa r d policies protecting existing firms and industries from foreign competition The costs imposed upon the economy b protectionist policies are considerable. Weidenbaum and Mungerx conclude that a conservative estimate of this cost for 1980 was $58.5 billion (in 1980 dollars or $255 per person. The cost has grown significantly since 1980 because of numerous protectionist policies implemented since then.

Furthermore the institutional biases and pressures of a DITI would cause this aggregate cost to grow consid erably. A trade department would harbor an institutional bias favoring subsidiza tion of losers, thereby reducing economic efficiency and produc tivity for the economy as a whole. This natural bias would be given added impetus by the fact that existing in d ustries and groups have allies in Congress, to whom the department would have to turn for its annual budget. Trade policy outcomes in a world This is only one of the numerous fatal flaws in the new (but really quite old) arguments or "industrial policy kn own in simpler times as central planning. because that would require foresight, an attribute for which government has few incentives and even less reputation.

Murray L. Weidenbaum and Michael C Munger, "Protection At Any Price Regulation, July/August 1983 Government cannot identify and subsidize fledgling winners 5 in which bureaucracies demand protection would not be difficult to predict. Inevitably, a DITI would soon evolve into a central receiving station for the demands of innumerable interest groups f avoring protection and other policies bestowing benefits upon themselves and costs upon the economy as a whole.

Experience in other federal departments supports this pre diction. The Agriculture and Labor Departments are traditional allies of the farming i nterests and Big Labor, respectively. The Transportation Department is a vocal supporter of the maritime and other transportation interests. The Energy Department gener ally supports the demands of small refiners and others whose activities have been made more difficult by volatile world energy markets And the Education Department was created largely as a result of a political deal between President Carter and the organized education lobby special interests and place its greatest emphasis upon aggregate ef f iciency and social effects would be a long shot indeed Any wager that a DITI would ignore Promoting Exports and Opening Foreign Markets The only way that government can promote anything is to subsidize it activities, discussed below, it is difficult to se e how such sub sidies, whether implicit or explicit, can bestow net benefits upon society as a whole With the exception of certain national security Such subsidies are already significant and, without doubt would be supported and expanded by a trade depart ment tion introduced by Senator William V. Roth, Jr. (R-Del would confer upon the new Secretary of Trade the chairmanships of the Export-Import Bank and the Overseas Private Investment Corporation.

The legislation also provides that the proposed DITI and t he Agriculture Department would consult closely and that an agri cultural liaison would be ensconced in the DITI. These arrange ments are far more than mere social niceties; advocacy of subsidies will be the name of the game under the guise of promotion o f ex ports. These agencies are by no means the only special interests in the U.S of course, so the membership in this fraternity will probably grow substantially as the legislation moves through Congress Legisla Trade and other microeconomic policies canno t create or save One jobs; they can only shift jobs among industries and sectors. important reason for this is that the exchange rate effects of such trade policies render them self-defeating in the aggregate.

If the U.S. protects some domestic industries by imposing import restrictions, fewer dollars are sent overseas, thus strengthening the dollar. This makes other export industries less competitive in world markets. The net effect, therefore, is to save jobs in the industries being protected, but to los e jobs in other export sectors. The impact upon the overall economy is adverse.because resources are not used in the most productive manner and because goods are not provided to consumers as cheaply as possible. Efforts i I I i 6 by government to promote r a te effect and thus the sectors exports artificially have the same adverse impacts on other same exchange export It should be noted that the same holds true for foreign governments: their efforts to protect or promote industries are also self-defeating ren c ies relative to the dollar, reducing their competitiveness in world markets and increasing that of the U.S designed to offset foreign subsidies, society as a whole does not benefit; only the industry in question is better off if such policies were sound f o r society as a whole, it is not clear why a cabinet-level department of trade would be necessary for purposes of implementing them and speaking-with one voice are not an adequate rationale because the value of such consolidation hinges upon the likely beh a vior of the new agency or department. Consolidation itself is not a goal; it is simply a means to other ends and is desirable only if these latter ends are socially beneficial Such policies tend to strengthen those cur In short, even if subsidies for dome s tic industries are And even Platitudes about consolidation Budget and Policy Implications A bureaucracy is a concentration of interest groups, and there are always divergent interests within it. This observation applies to both budgetary and policy matter s . Different agencies with responsibility in the same general area tend to constrain each other's budget requests because Congress can always shift responsibilities among them. In effect, the agencies must engage in limited, but real, budget competition. C o nsolidation of trade matters in a single DITI inevitably would reduce this competition significantly, thus increasing the ability of the overall trade bureaucracy to extract budget dollars from Congress-that is from the taxpayers governmental consolidatio n s; spending in a given area has invari ably risen faster after the creation of a new department scope of government activity in a given policy area also tends to increase substantially after a new department is created various agencies currently responsib l e for trade matters are con strained by the larger interests of the departments or offices in which they reside. There is, in effect, political competition in trade matters. If a DITI were to be created, consolidating trade functions under one roof, these constraints would be reduced sharp'y, facilitating the natural protectionist pressures felt and reflected by these agencies government spending in the trade area and transform the bureaucracy into a monolithic voice favoring protectionist policies.

Roth i mplicitly has admitted this This outcome is consistent with experience under previous The The In short, the creation of a trade department would increase Senator I' [Our senior trade officials] 7 are still saddled with a system of institutionalized bureau c ratic in-fighting lr7 Only free trade can benefit society as a whole; protectionism and subsidies will make some better off, but others will be worse off, and society as a whole will lose. Protectionism is just one example of a whole class of policies des i gned to confisc.ate and transfer wealth without use of the explicit tax system. Adding to governmental power in this way makes the outcome of political battles more important By raising the stakes, winners and losers alike are induced to invest more in po litical competition, because the benefits of winning and costs of losing are correspondingly higher. This reduces the production of real goods and services and yields greater politicization of social interaction.

The politicization of private decisions mus t not be under Government is sure estimated in terms of its scope and effect to demand something in return for the benevolence it provides in the form of protectionism, and these demands will have a consider able effect upon incentives for cooperation thr o ugh market processes Can society allow the private'sector to enjoy up-side opportunities while down-side risks are imposed upon the economy at large DITI can be expected to be used in the interests of coordinated political majorities to prevent this'sort o f confiscatory activity by political major ities. By facilitating this behavior, therefore, a DITI would contribute to the gradual weakening of the checks and balances of U.S. constitutional democracy Finally, the increase in governmental power inherent i n a But the Constitution is a contract designed National Security Arguments for the protection of certain industries often are based on a national security rationale: a healthy domestic indus try is required in the event of war or national emergency positi on is usually followed by an assertion that protection from foreign competition is therefore necessary for maintenance of such domestic capabilities.

Since general price controls have been imposed in the past during wars or national emergencies, it is reas onable to expect them to be imposed again in the event of war private sector incentives to invest in defense-related industries for use during wartime are likely to be distorted and inadequate.

A subsidy for investment in strategic industries, therefore, might be an efficient me hod of securing the nation's.defense and trade restrictions might in some cases be the efficient form of the subsidy This This means that But would a DITI be likely to improve efficiency in the Congressional Record, No. 4-Part 111 , January 26, 1983 1 choice, formulation, and allocation of such subsidies? The answer is not clear, but by reducing competition among bureaucracies, a trade department would be likely to skew the decision process in ways consistent with its institutional b iases and thereby increase the total social cost of the national defense effort. And by supporting actions that reduce aggregate wealth and increase government spending, a DITI would tend to reduce congressional willingness, and the nation's ability, to a llocate sufficient resources to defense.

CONCLUSION The trade problem is not a.nationa1 economic problem-it is an issue for certain-industries and sectors and for politicians seeking votes. Government policy directed at the problem can net only'adverse eff ects for the economy as a whole, and the creation of a new cabinet department for trade would only facilitate such perverse governmental activity.

The pressures upon and incentives faced by a trade department would lead it to advance protectionist and other policies favored by concentrated interest groups, while imposing net costs upon the overall economy. Such policies would not save jobs or provid e other social benefits in any meaningful sense, but they would increase government spending and resource allocation the power and intrusiveness of government, a DITI would contribute to an erosion of the private sector and of constitutional con straints o n confiscatory behavior. It would provide strong incen tives for further politicization of economic activity does not make society better off, it makes no sense to create another department the Carter Administration was the creation of two new cabinet depa rtments.

Americans do not want to follow in those steps with yet another bureaucracy By expanding Given that expansion of government authority and activity Among the, numerous dismal achievements of The 1980 election would seem Go indicate that Prepared fo r The Heritage Fpundation by Benjamin Zycher, Ph.D Until July 1983 a' Senior Staff Economist for President Reagan's Council of Economic Advisors and now a Senior Economist at the Jet Propulsion Laboratory, California Institute of Technology his own.

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