Hoisted from the Archives: Letter from Niccolo Machiavelli to Francesco Vettori
Paul Krugman's Views on Reality-Based Trade Policy

James Galbraith Pleads for a Reality-Based Left-Wing Trade Policy

He writes, in the American Prospect:

Why Populists Need to Re-think Trade | The American Prospect: Senators Byron Dorgan and Sherrod Brown articulated a trade policy that typifies the consensus view of the party's labor-liberal wing. They criticize "free trade," call for strong labor and environmental standards in future trade agreements, and argue for aggressive policies to open foreign markets to American goods. Their critique reflects a genuine anger, and the concerns their piece embodies deserve to be met. Their program is populist, nationalist, muscular, and in tune with the mood of the Democratic base.

But it is not reality-based. As policy, it would not achieve the senators' basic objective -- namely, more jobs at higher wages in the United States. As politics, the danger is not that it will fail but that it might succeed. And then, progressives in power will repeat the pattern that conservatives set in 1981, pushing a program based on high expectations and illusions that ends in confusion, reversals, defeats, and an eventual lapse into incoherence and disrepute....

Dorgan and Brown open their essay with a reference to "job-killing trade agreements," such as NAFTA and CAFTA. But these, as they quickly argue, are not really the issue. The larger problem is globalization itself:

The new mobility of capital and technology, coupled with the revolution in information technology, makes production of goods possible throughout much of the world. But much of the world at the beginning of the 21st century looks a lot like the United States did 100 years ago: Workers are grossly underpaid, exploited and abused, and they have virtually no rights. Many, including children, work 10, 12, 14 hours a day, six or seven days a week, for only a few dollars a day. The result has been a global race to the bottom as corporations troll the world for the cheapest labor, the fewest health, safety and environmental regulations, and the governments most unfriendly to labor rights.

This grim portrait is basically true to life, as a description of "much of the world." But it is not a description of America's main trading partners. And therefore, it is not of much use in discussing policies related to trade. Three of our five largest trading partners are Canada, Japan, and the European Union (Germany, France and the UK are all individually in the top ten). All have average wages nearly as high as ours, and higher in some cases. All have stronger unions, higher labor standards, and better job protections, than we do. All have universal health insurance. All have reasonably strong environmental policies. The Dorgan-Brown critique doesn't apply to them.

Mexico is another large partner, with lower wages, vast slums, and severe environmental problems. But U.S. corporations do not "troll the world" before deciding to produce in Mexico. They go there because it's the low-wage country that happens to be right next door. There is nothing any trade policy can do about that; Mexico exists, and isn't going to move.

Of our five largest trading partners, only China qualifies as a place where manufacturing labor is readily available for "a few dollars a day" and whose status as our trading partner appears to depend on that fact. So it is at China -- perhaps alongside minor trading partners such as India and those in the Caribbean Basin -- that the Dorgan-Brown argument is basically aimed.

So let's look closely at China, the target of so much hostility in the trade debates. There are two questions to ask. First, do we have a "China trade problem?" And second, would tough new standards, applied to China, make any difference to the wages, jobs, or well-being of American workers?... China is a vast country.... [M]illions migrate to the cities to escape rural poverty. Working conditions... are dirty and dangerous. Pollution is severe. And China has a large prison population, which is obliged to labor.

But... remote regions do not participate in the export trade.... Exports of goods made in prisons have been banned, by mutual agreement, since the early 1990s. Chinese exporters are located, mainly, in the major cities and along the coast: Guangdong, Shanghai, Zhejiang, Fuzhou... Shenzen (near Hong Kong) and Zhuhai (near Macau). When we speak of working conditions in China, it is conditions there, and not in the countryside or out in the West, that matter.... [E]ven in these regions, the dollar cost of hiring workers in China is very low. But the implication almost always drawn from the fact of low dollar wages -- that Chinese workers live lives of abject misery -- is false. For the dollar cost of hiring a worker tells very little about the conditions of life. Wages in urban China are indeed low, but living costs are incredibly low. Food, clothing, basic shelter, and utilities cost very little, with the result that people are largely housed, clothed, and fed. Children are mostly in school. Cars are still rare -- but they are also unnecessary for most people. Small luxuries, on the other hand, are common. (The country has over 400 million cell phones; what does that tell you?)

All in all -- speaking as someone who spent six weeks living there late last year, with two daughters attending the public schools -- living standards in urban and coastal China, the trading region, are higher, not lower, than in "much of the [developing] world."... Moreover, most people in Chinese cities are not manufacturing workers... are better paid than workers in manufacturing.... Well then, is China's urban prosperity built on its rural poverty? Yes, to a degree. But this is the way of the world. We're no exception: We rape our land, strip-mine our coal, and buy oil from desperately poor countries where life never seems to improve. Should we refuse to import from China because coal is mined there dangerously? Perhaps, but then we shouldn't import oil from Nigeria, either, or from Ecuador. Wisely, Dorgan and Brown don't make that argument. Instead, they focus on the working conditions of those workers who produce, more or less directly, the goods we purchase.

The populist remedy for low-wage competition is to impose standards -- labor standards and environmental standards -- on the companies who employ them. Though Brown and Dorgan are not specific on the point, their emphasis on pay suggests they would favor standards for pay -- not based on U.S. wage levels, surely, but on some relevant measure of abuse and exploitation in the trading partner. As noted, such a policy would have no effect on Canada, Japan, or Europe, and therefore none on half or more of our total trade. But it could hit hard on trade with China, and one has to presume that is the intent....

[H]here's the hard question: Leaving aside whether standards work as advertised, are they good tools for "getting the job done?" Would, in other words, it be a good idea to impede or block Chinese exports to the United States -- whether through labor or environmental standards or some other trick? Should we support Senator Chuck Schumer, in his demand that China either revalue its currency sharply or face a prohibitive tariff on its textiles? In short, is the China trade something that is bad for America and American workers, and that we should be looking to reduce?...

Here are three reasons why not:

First, blocking trade with China would... cause Japan, or Taiwan, or Korea, or American multinationals to shift their out-sourcing from China to some other low-wage country, such as Vietnam.... Second, if blocking Chinese exports to the United States really did cut into our imports overall, that would raise prices and lower real wages here, especially for the lowest-wage Americans who rely most on cheap imports to meet their budgets. The higher prices would show up as inflation, prompting higher interest rates from Ben Bernanke's Federal Reserve. Blocking inexpensive imports creates a transfer, in other words, from low-wage Americans working to bankers and investors. Is this what populists want?

Third, there would be retaliation. China is an enormous market, especially for advanced U.S. products such as aircraft. Those sales could, and very likely would, shift to Europe....

China's dominance of the world market for low-wage manufactured exports is a problem. But it is a problem for Malaysia, Thailand, the Philippines, and other low-wage countries. It is not a problem whose solution would help American workers. And wage standards, in any form, are not a solution to competition from China. If they are not a solution to the China problem, and hardly apply to any trade woes we may have with Europe, Canada, and Japan -- what's the point?

Where did the emphasis on standards in trade agreements come from? Of course it's an outgrowth of the NAFTA debate twelve years ago. So it's to NAFTA we should turn now.... NAFTA was never a pro-worker deal. As Dorgan and Brown correctly say in their December op-ed, the intent was to open Mexico to U.S. finance and insurance as well as farm, pharmaceutical, machinery exports, and to protect the rights of investors. In return, Mexican elites wanted, and got, closer financial cooperation from the U.S. Treasury in times of crisis. Overall, the effect on Mexican factory workers was hard and the effect on Mexican farmers was even harder.

But NAFTA was not a "job-killer" for Americans.... NAFTA made almost no difference to the tariff treatment of Mexican goods entering the United States. Tariff rates on Mexican exports to the U.S. averaged around three percent, and many goods (under the old maquiladora program) entered duty free. Manufactures trade from Mexico to the United States took off in the wake of the debt crisis, and was already booming before NAFTA.

Did jobs leave the United States to take advantage of cheaper Mexican labor? Of course, some did. Were American workers pressured to cut wages, because of Mexican competition? Of course, some were. But that happened because of Mexico, not because of NAFTA. Mexico would not disappear if NAFTA did. From the standpoint of American workers, NAFTA and its successors are just scapegoats. The fact is, China has since passed Mexico as the prime out-sourcing threat, even though we have no "free trade" agreement with China.

NAFTA will continue to have big effects on farmers. Mexico used to have a strongly protected population of maize farmers; NAFTA put an end to that and opened Mexican markets to U.S. corn. The result was predictable: as the food moved South, the people who used to produce it moved North. If any single point of NAFTA should be reconsidered, it's whether we really want to force Mexico's farm market completely open. But these are migration and farm policy issues, which have nothing to do with the fate of industrial employment in the United States.

As for CAFTA -- the Central American Free Trade Agreement -- that agreement contains numerous predatory provisions, abusing the power of North American monopolies (especially in drugs) to maintain and extend their patent protections in these small and low-income markets. It contains the same disruptive provisions in agriculture: More exports from the United States, more immigrants coming back. CAFTA is, in short, a bad idea. Central Americans only accepted it because otherwise they might have lost the trade access to U.S. markets they presently enjoy. But the manufacturing provisions are trivial, and the same is true of trade deals with Singapore, Bahrain, Jordan, and other actual or proposed FTAs.

In short, populists need to... move beyond the lines of argument established in that [NAFTA] debate.... Some of the successor agreements should still be resisted, on grounds directly related to their actual provisions, which are rapacious and predatory. But these have little or nothing to do with the future of employment and wages in the United States....

China's trade surplus with us... China buys food and fuel [and intermediate goods] from other countries.... It [usually] runs a surplus with us... to pay for these imports [from other countries].... [W]hat about the overall U.S. trade deficit -- now running, as Dorgan and Brown state, at a staggering $800 billion per year? Many economists believe this figure is unsustainable per se. I respect their view, and they could be right. But they also could be wrong.... [O]ther countries, for reasons of their own, have wanted to anchor their financial portfolios in U.S. Treasury bonds. Those bonds are costly to hold. They represent a real use of resources that could otherwise be put to buying imports and helping developing economies to grow. But the decision to hold them is the decision of other countries, not ours. There is just about nothing that we can do about it. And there isn't much we should want to do about it, either. In short, our trade deficit is what it is, not because of our material weakness, but because of our financial strength.

Is the system risky? Yes, it is. Could our bond holders, notably China, panic? Could they act to cut us off for political reasons, such as a crisis over Taiwan? Or even Iran? Yes, they could. Could our currency collapse? Yes, those things are possible. The system, hugely favorable to us though it is, is fragile and dangerous. But those are financial risks. They have nothing to do with trade agreements. No trade policy aimed at any one country or at the trade deficit itself is going to reduce the financial risks. A policy aimed at hurting China could, on the other hand, increase them. Buying euros and dumping dollars is an easy Chinese reply to a decision, on our part, to squeeze their exports to us....

The populist objective is to raise American wages, create American jobs, and increase the fairness and security of our economic system. In that sense, I am, and have always been, a populist’s populist. The best way to achieve these things, let me suggest, is to do them -- directly. Nothing in our trading system prevents this. In fact, our privileged financial position ought to make it comparatively easy. Seen in this light, the Chinese willingness to supply us with cheap goods is a magnificent gift. It means we can truly have full employment without inflation....

Suppose that instead of building a trade policy to help with wages, we built a wages policy to help with trade. Does that sound far-fetched? It isn't. If you did that, you would have what economists call the Scandinavian Model. The Scandinavian countries are egalitarian. They have universal unions, high minimum wages, and a strong welfare state. But they also are highly open. They practice free trade. Business there is free to import, export, and outsource. Business there is free to hire and fire. And yet the Scandinavians enjoy, most of the time, the lowest unemployment rates in Europe.

The secret is in the wages. If you are a business in Sweden or Norway, there is one thing you are not free to do. You are not free to cut your wages. You are not free to compete by going after cut-rate workers, either native or immigrant. You are not free to undercut the union rate. Successful businesses must, therefore, find other ways to compete. They do it by keeping productivity high. This means that advanced industries thrive in Scandinavia, while backward ones die out. (And that progressive businessmen prosper, while reactionaries fade away.) As a result, the economies stay competitive. The tax and welfare systems then make sure that everyone has enough to live on.

We are not Sweden or Norway -- we are much larger and will always be much more diverse -- but the economic principles are exactly the same. And we have, in fact, applied them in the past... through unions, laws, regulations and, yes, standards. But the standards weren't imposed on other people. They were imposed at home, where they can be enforced -- and the rest of the world adjusted to what we did here. The problem, in short, is not foreigners and trade. The big problem is simply that unions, laws, regulations, and standards have been undercut by conservative policymakers, right here at home.... This is a reality-based populism. Our goal should be shared prosperity through egalitarian growth, based on our own efforts and imagination. Let's therefore stop scapegoating the Mexicans and the Chinese, and accept that they must have their role, which they will largely determine by their own actions, in the world in which we all live. Let's also stop talking obsessively about trade agreements with tiny countries that don't really matter much. Let's concentrate, instead, on getting things right for workers right here. Let's raise wages, create jobs, support unions, deliver services -- and especially, let's cut the inequalities in our structure of pay...