My old friend and former colleague Martin Sieff has produced a splendid riposte to Thomas Friedman’s “The World is Flat” and “That used to be us” entitled “That should still be us” (Wiley, $22.95). Yet while I agree with much of Sieff’s critique of the Friedman worldview, I can’t help thinking he falls into the same trap – the unfortunate tendency of economists and other commentators, when producing solutions to the world’s problems, to assume that those solutions should be implemented by a benign government. In reality, government is far more often the problem than the solution, and the optimum answer in a complex world is to figure out how to get it out of the way.
Friedman’s worldview is well worth criticizing. It centers on admiration for China’s undoubted achievements, and a wish that we could have a government so well attuned to the country’s needs. It ignores not only China’s manifold human rights abuses, but also the major inefficiencies in China’s system, in particular the gigantic tsunami of real estate overbuilding and banking system bad debts.
Friedman’s work also asserts obvious falsehoods – well pointed out by Sieff – for example that China is engaging in a massive expansion of solar power for its own use, when in reality the highly efficient Chinese solar cell manufacturers get most of their business from foolishly subsidized Western users. As Sieff emphasizes, the Friedman worldview also assumes that trade and investment barriers worldwide are lowering all the time, so that we need not worry about the drain of jobs overseas, but instead can revel in a U.S. future in which the tech sector and service industries employ most of America’s people.
The problem comes with Sieff’s alternative to Friedman’s worldview. He asserts rightly that China cheats on international agreements, then from that leaps to the view that we should revert to protectionism, which as he correctly points out was the U.S. tradition until the Kennedy Round of trade talks in the 1960s. However much of the early U.S. success was built up in the era of British unilateral trade disarmament from 1846 to 1932 —for example enabling the United States not Britain to build up a mighty steel industry using processes that had been developed by the British Henry Bessemer. Given that our trading partners will not allow us to abrogate trade agreements without retaliation, a reversion to protectionism would simply bring a return to the beggar-my-neighbor policies of the 1930s Smoot-Hawley Tariff. That resulted in an immense depression for the United States, though not for Britain which in that decade pursued policies of modest trade barriers and small government that were almost fully optimal in the circumstances.
Contrary to Sieff’s assertion, David Ricardo’s Doctrine of Comparative Advantage is not an outmoded candlepower-era dogma, but remains mostly true, with the few exceptions of those businesses such as software where carrying on the trade on an outsourced basis gives the outsourcee all the resources it needs to become more competitive than the outsourcer.
Raising tariffs is a negative-sum game, unless competitors are as foolish as 19th century Britain. However governments must raise revenue somehow, and so the extreme free trade position is also nonsense, since it puts all the burden of taxation on the unfortunate income earners, causing major economic distortions when tax rates rise to high levels. The solution is a worldwide regime of moderate tariffs, providing modest preference for domestic over foreign manufactures and substantial revenues for the ever-greedy government maw.
On energy, Friedman assumes that high energy costs are good for the United States, and that over time we should move to non-traditional sources such as solar, wind and biomass. Here Sieff is entirely sound in demolishing the idea that high energy prices are in any way good for U.S. living standards. He correctly demolishes the idea of state subsidies for alternative energy, then reverses himself oddly, first to claim that global warming is real, based on a trip to an unusually warm Siberia and then to claim that the Chevy Volt, another hugely subsidized boondoggle, is the solution to our energy problems.
The real solution to our energy problems lies as always in the private sector, in this case with fracking technology, which is admirably suited to the small-scale enterprise at which the U.S. excels. It now looks as though at least natural gas and possibly oil will be considerably cheaper in the United States than elsewhere in the world, with the main problem in the case of gas being transportation. The solution to the latter is not pipelines but local production: situate high-energy-usage plants near plentiful natural gas sources, and the cheap natural gas can be exported in the form of highly competitive widgets. Once again, Pennsylvania, Ohio and upstate New York can become the workshops of the world, while the Middle East can be ignored by a scaled-back U.S. military and foreign policy establishment and left to its own unpleasant devices.
Outside Siberia, other parts of the world have seen cooling, with an expansion of the Antarctic ice cap, for example, so global warming, if real (as it hasn’t been for the last decade), is at most a modest problem which can be solved over time by the private sector with no more than an occasional carbon-tax nudge if needed. .Of alternative energy sources, corn-based ethanol has been a complete waste of money (as Sieff rightly points out) as has wind, but solar is close to being viable at today’s prices – though with the fracking revolution it may well be a case of “close, but no cigar.”
Sieff correctly identifies excessive world population as the principal danger to our environment and resources, but his solution of an autarkic government-led resource and trade policy wouldn’t solve the problem – indeed it might make it worse if resulting Third World poverty increased fertility levels further. However Friedman is indeed excessively Panglossian; the fine examples of negative population growth of Japan, Germany and Italy should be held up as models, and international resources should be devoted to reducing poverty-driven fertility.
Monetary policy is an area Sieff largely ignores (and Friedman is on the wrong side of.) The U.S. will be richer than other countries, not through protectionism but through ensuring that its capital is both more plentiful and more efficiently matched with labor than in other societies. This requires a high savings rate, to replenish the stock of U.S. capital that has become sadly depleted, which in turn requires high interest rates, well above the level of inflation. The accelerating decline in U.S. hegemony can almost entirely be placed at the door of the post-1995 Federal Reserve, and its appalling over-expansion of the U.S. money supply. By this policy, the Fed has thrown away the United States’ main source of comparative advantage over emerging markets: its cheap and readily available capital. Because of low domestic returns corporations are sitting on record cash hordes while the government fritters away over $1 trillion annually in borrowed money. Naturally global capital flows mostly to emerging markets, reducing their capital costs and allowing them to use their labor cost advantage to put U.S. manufacturing out of business..
Both Sieff and Friedman go wrong in one respect: they both have faith in a powerful government – Sieff’s heroes are Abraham Lincoln and Franklin Roosevelt, neither in my pantheon. This is a frequent problem with commentators seeking to solve economic problems; they assume a benign government manipulating the economy’s levers. In practice, public choice considerations dictate that government officials serve their own interests, not those of the economy as a whole and so powerful governments are the principal impediment to economic prosperity. Jean-Baptiste Colbert’s policies in Louis XIV’s France produced the economic decline of the ancien regime, while free-market policies in Britain did the opposite (thereby allowing the smaller Britain to whip France’s ass in war after war through the 18th Century). More recently, there is considerable evidence that the surge in U.S. government regulation, particularly environmental, from about 1970 on is largely responsible for the sharp decline in U.S. productivity growth after 1973 and hence for the relative impoverishment of the U.S. middle classes. Government is the problem, not the solution, and should be cut back as far as possible. Economic development should be left to the private sector, not treated as a game of “Diplomacy” between meddling governments.
Finally, Sieff identifies a further highly important policy problem, that of patents. U.S. patents have traditionally been awarded to the inventor of a new idea, but a 2011 modification to patent law instead awards patents to those filing first. Combined with 1990s reforms that made patent information excessively open to competitors, this has tilted the playing field heavily against small businesses, the main sources of innovation. The principal use of a patent system is to protect small companies from their ideas being stolen by larger competitors; modern U.S. patent law acts primarily as a protection for entrenched interests.
One could wish that Sieff were more skeptical about the benignity of government, and less fearful of free international trade. His “round” protectionism is as unconvincing as Friedman’s “flat” globaloney. In reality the economic world is more topologically complex than either imagines — maybe a doughnut with multiple holes. But as a demolition of fashionable nostrums, Sieff’s book is compelling reading.
-0-
(The Bear’s Lair is a weekly column that is intended to appear each Monday, an appropriately gloomy day of the week. Its rationale is that the proportion of “sell” recommendations put out by Wall Street houses remains far below that of “buy” recommendations. Accordingly, investors have an excess of positive information and very little negative information. The column thus takes the ursine view of life and the market, in the hope that it may be usefully different from what investors see elsewhere.)