The Bear’s Lair: The gathering gloom of protectionism

Over 200 nations signed a “climate change” regulation deal in Paris last weekend. Conversely Mike Froman, the U.S. trade representative, called this week for the Doha Round of free trade talks to be abandoned, as they were going nowhere – his view presumably reflects the official position of the Obama administration. No contrast more clearly reflects the frivolous incompetence of the current political class; it spends two weeks and countless millions negotiating a deal that takes no effective action against a global non-problem, while abandoning a treaty that very likely reflects the one real hope of preventing the next economic downturn spiraling into Great Depression II.

Free Trade isn’t a panacea. The calculations that are always trotted out about each free trade deal and how many trillions of dollars it will generate are deeply spurious. Unilateral free trade, of the kind practiced by Britain between 1846 and 1932, is a self-defeating economic policy that generally results in the hollowing out of the free trader’s industrial capacity. You only have to think of the Bessemer steel process, first presented by Sir Henry Bessemer in Cheltenham in 1856 but later becoming the centerpiece of the United States’ economic supremacy.

Even though Britain had invented the Bessemer process, it was locked out of the U.S. market by high tariffs, while being unable to build sufficiently large-scale plants itself because imports from the U.S. and Germany were able to flood in to the unprotected British market. The result was that British steel capacity fell behind its competitors so that, after World War II, when William Morris wanted to export his cheap automobiles to the United States, taking advantage of cheaper British labor, he was unable to do so competitively because British steel was too expensive.

In principle, true trade tariffs at a moderate level are not particularly economically harmful. The Leviathans of government have to be financed somehow, and a low tariff rate can produce bountiful government revenues, thus allowing income taxes and sales taxes to be set at a lower level. Peel’s bargain of the 1840s, re-introducing income tax and abolishing the duties on corn, destroyed British agriculture, damaged British industry, and made the risks of entrepreneurship less attractive to the middle classes than a cozy salaried position. In today’s overtaxed world, making international trade bear some of the costs of government, with tariffs of no more than 10% or so (above which barriers to “comparative advantage” and their economic inefficiencies become substantial) can be a desirable fiscal rebalancing.

The extension of free trade doctrine to include free movement of people is also thoroughly pernicious. Whereas free movement of goods may put a particular manufacturer out of business and its workers out of jobs, free movement of people gives low-skill domestic workers nowhere to hide. The barber in Boston is paid more than in Bangalore because of the greater wealth of the society around him, not because of any greater haircutting skill. Quite apart from its role in stimulating an unattractive multiculturalism, free immigration deprives the Boston barber of the benefit he should reasonably expect from having grown up in a high-wealth country. He is entitled to expect protection of his living standards, not destruction of them, from a government that is supposed to represent him, not an inchoate mass of foreigners.

A high level of free trade is nevertheless essential to global prosperity. When Lord Liverpool steered the debt-burdened British economy after the Napoleonic wars, he realized (as had William Pitt the younger before him in the 1780s) that British commerce could only recover if the existing high duties on imports were relaxed. From 1820 on, when finances permitted, he and his trade secretary William Huskisson did this, relying on Britain’s economic strength to persuade other states to bring their duties down in parallel. This only went wrong when the Peelites/Whigs after 1846 pushed free trade too far ahead of Britain’s competitors, producing precisely two years of global free trade after the Cobden Treaty of 1860 before the U.S. Morrill Tariff began erecting barriers again, and the world reverted to autarky.

In Liverpool’s time, with Britain the dominant global economic power, his policy could lead the world towards free trade. There has been no such dominant economic power in the modern world since at latest the Kennedy Round of free trade talks in 1964-67. The World Trade Organization is supposed to provide forward momentum, but as we have seen in the last two decades, it is an essentially toothless organization and is now, as a result of a disgraceful deal in 2013, run by a protectionist Brazilian. Without a sponsor pushing free trade forward, and with politicians everywhere far more subject to protectionist lobbies than they were in Liverpool’s day (Liverpool did not need to raise significant campaign finance) there is a severe danger in each recession that the forces of protectionism will overwhelm the forces of free trade, as they did in the 1930s.

Bilateral and multilateral free trade agreements, like the Trans Pacific Partnership, are no substitute for a truly global free trade agreement, for two reasons. First, they do not produce a true “level playing field” for trade but instead a crazy network of criss-crossing agreements that stifles the movement of goods and services to the optimal markets and severely disadvantages those countries left out of particular agreements.

Second, and more important, the TPP and similar agreements such as the potential Transatlantic Trade and Investment Partnership between the EU and the U.S. are not true free trade agreements (this was also partly true of the potential Doha Round.) They contain only very modest reductions in tariffs, instead concerning themselves with two areas that impede trade rather than enhancing it: standardizing environmental and other regulations at the most draconian possible level and increasing intellectual property protections to a point of pure rent-seeking. Extending the “benefits” of the Digital Millennium Copyright and America’s monstrous litigation-crazy patent system to other countries does nothing whatever for trade, it merely allows powerful lobbies to achieve ever larger returns that they have done nothing to earn.

The experience of the 1930s, when global trade fell by 65%, teaches us that waves of protectionism, touched off by an economic downturn can produce a true global depression. So far since 2008 we have not had significant increases in tariffs themselves. However a new factor in this cycle, not present to such an extent in the 1930s, is the presence of non-tariff barriers, through “anti-dumping” duties or environmental, health and safety and other regulations.

This is where the real danger exists in the next downturn. Since 2008 regulatory activity has soared worldwide, especially in the United States and the EU. Lobbyists have become expert in manipulating regulations to suit their own businesses. Needless to say, lobbyists seeking protection from foreign competitors in an economic downturn will find a ready ear for calls for regulation. There is really very little political constituency for free trade, especially when 5,000 page treaties full of regulatory and crony capitalist garbage are sold to the unsuspecting public as free trade treaties.

As with global warming regulations, which would be infinitely less costly to the world economy if replaced with a carbon tax, so non-tariff barriers would be both more transparent and less costly if replaced with explicit tariffs. We can examine a tariff, like the 30% U.S. duty on light trucks that has been “grandfathered” for 30 years under TPP, and estimate the additional price paid by U.S. truck consumers and the overall cost of the tariff. On the other hand it is much more difficult to carry out the same analysis with a regulation, which may be justified by some environmental or safety rationale (which may be entirely spurious, like the EU regulations against GMO foods.)

In general however, we can be sure that a non-tariff barrier raises effective barriers as high as the most draconian tariffs. Global trade and the global economy are already growing strangely anemically in this upturn, and trade indeed is likely to decline in volume in 2015. It can only be imagined how bad the effects on trade could become from a global regulatory outburst following the onset of the next recession.

The Doha Round was nowhere near perfect – like TPP it had all kinds of spurious patent, trademark and copyright regulations in it that have nothing to do with free trade. However the move towards free trade is like riding a bicycle; if no forward progress is made you fall off. Rather than devoting endless time, money and bureaucratic effort towards a global warming treaty that were it effective would do nothing but damage, the next President must redouble his efforts towards a new free trade treaty, global in its extent (regional ones are useless and probably damaging.)

The new treaty should contain only basic patent, copyright and trademark protections, on which all can agree, similar to those of the early patent and copyright systems in the eighteenth and nineteenth centuries. Most important, it should concentrate on opening markets to goods and services and sweeping away existing spurious environmental and other regulations. It should prohibit all tariff levels above 10-15%, rather than attempting to remove tariffs altogether and then allowing all kinds of exceptions such as Japanese rice and U.S. light trucks that distort the market far more than modest overall tariffs. Ideally, the new President should replace the WTO head with a true free trader, and redeploy the U.N.’s “climate change” bureaucrats to the WTO, giving them useful jobs and ensuring that international trade is truly freed.

The chances of that happening under Presidents Donald Trump or Hillary Clinton? Negligible! Come on U.S. voters, there are better alternatives available!

(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.)