Basics: Is trade zero-sum between workers in different countries?

Vox.com had a long, interesting interview with Senator Bernie Sanders covering a large number of political and economic issues. In this post, I want to focus on just one issue he raised: Whether rising incomes for Chinese workers have to come at the expense of U.S. workers. Here is what Sanders told Vox's Ezra Klein:

I want to see the people in China live in a democratic society with a higher standard of living. I want to see that, but I don't think that has to take place at the expense of the American worker. I don't think decent-paying jobs in this country have got to be lost as companies shut down here and move to China.

What Sanders doesn't mention is that the market, left to itself, will indeed force a tradeoff between U.S. and Chinese workers. We can see this via the Stolper-Samuelson Theorem, which says that increasing trade will raise the real incomes of a country's abundant factors of production and reduce the real incomes of the scarce factors of production. The reason is that abundant factors of production (relative to the rest of the world, of course) will find new markets abroad as trade increases, while scarce factors of production will face increased import competition. Since China is a labor-abundant country and the United States a labor-scarce one, the theorem implies that real wages will rise in China and fall in the United States as they increase trade (all trade, not just with each other). And this effect can be sped up if U.S. companies close factories in the United States and open them in China, just as we have seen happen.

To disable the tradeoff requires political intervention in the market. If you want to preserve gains from trade that are predicted by the theory of comparative advantage, and you want to not worsen income inequality in the United States, you need to find a way, as Ronald Rogowski pointed out, for  the winners to compensate the losers from trade. This isn't easy: As Rogowski also noted, the winners increase their clout in the political system while the losers see their influence decrease (look at the long-declining influence of unions here). As I've discussed before, the increased mobility of capital exacerbates this problem in the U.S., since capital is much more mobile than workers. And so we have seen a steady decrease in the tax burden paid by corporations and the rich, more trade agreements signed, and a constant drumbeat to cut Social Security (despite the coming retirement crisis) and "phase out" Medicare.

What would compensating the losers from trade look like? Most obviously, and most focused, is trade adjustment assistance, which is often criticized as inadequate. Yet it does not really make sense to compensate only those who lose their jobs directly to foreign competition, because those workers then spill into other sectors of the economy, driving down wages as they go. Thus, we need to go beyond trade adjustment assistance.

To raise wages in the economy more generally, we need broader measures. One would be to raise the minimum wage: It pushes up workers' pay, but it also reduces turnover and training costs for employers, and puts money into the hands of people with a high propensity to consume, creating multiple channels to counteract the seemingly self-evident fact that raising something's price means people will buy less of it.

Another broad-spectrum approach to raising wages is to restore the power of unions. As I have pointed out before, the United States has the fifth-lowest union density in the 34-member Organization for Economic Cooperation and Development (OECD). Senator Sanders, in the interview linked above, notes that the increased power of unions in Nevada's gambling industry has enabled house-cleaning staff in the state's casinos to earn "$35,000 or $40,000 a year and have good health-care benefits." Having a National Labor Relations Board that is not in the pocket of industry is critical for us to see this take place.

Third, less targeted still but having the political benefit of universal coverage, an expansion of the social safety net would make it possible for people to simply refuse to take crappy jobs. Yes, this is about bargaining power! It would also encourage entrepreneurship because failure would not mean the loss of one's health insurance, for example. Medicare for all has long been one of Senator Sanders' standard prescriptions, a program that benefits from having far lower overhead costs (it avoids outrageous executive salaries, the need for profit, and does not have to advertise much) than private insurance. We could do a lot worse than considering it -- and we have.

Finally, to pay for these programs, it's necessary to raise taxes on corporations and rich individuals. Thomas Piketty, in his monumental Capital in the Twenty-First Century, suggests that the top marginal income tax rate should be 82% for individuals in the top 1/2% or top 1% of income. He notes that this will not raise much money, in part because it will reduce various lucrative but economically unproductive financial shenanigans. Instead, he thinks a tax of 50-60% on the top 5% of incomes would produce substantial revenue to create what he calls a "social state" for the 21st century. One could go further, of course, by adding a financial transactions tax (I hope to write about this soon) and shutting down tax havens.

To return to our original question, there is no reason that Chinese workers and U.S. workers can't both prosper from trade. But to make it possible in the United States requires a great deal of rule rewriting that will not be achieved overnight.

Cross-posted at Angry Bear.

Third Way trade agreements study leaves out a lot

Third Way (h/t TPM), a Democratic pro-trade think tank, has released a new study, "Are Modern Trade Deals Working?" It examines the various "free trade" deals the U.S. has signed since 2000 to conclude that 13 of 17 have led to an improvement in our goods (not including services; see more below) trade balance with the countries involved, giving a net improvement over the 17 agreements studied of $30.2 billion per year.

Long-time readers of this blog may remember that I did a similar analysis (though in less detail than the Third Way study) in 2012. Unlike the Third Way report, my post included all U.S. free trade agreements (rather than starting in 2001 like Third Way) as well as the effect of the 2000 agreement for Permanent Normalized Trade Relations (PNTR) with China. So, compared to the Third Way study, my post includes the FTAs with Israel, Canada, and Mexico, but did not consider the Panama FTA, which had not yet come into effect when I posted. My conclusion was essentially the same as Third Way's, that the effects of the agreements on our trade in goods were usually positive, but of small size (the effect of the Israel FTA was also small). Because the Third Way study begins in 2001, however, it omits the impacts of NAFTA and PNTR with China. However, as my post showed, they are the most important by far.

This fact is not lost on opponents of the Trans Pacific Partnership (TPP) and the Transatlantic Trade and Investment Partnership (TTIP). Lori Wallach of Public Citizen Global Trade Watch told the Associated Press that "studies such as Third Way's make a big deal out of modest trade improvements with countries like Panama, and gloss over huge trade deficits with major trading partners such as South Korea, Mexico and Canada." She's right.

In 1993, the year before NAFTA went into effect, the United States had a surplus with Mexico on trade in goods of $1.7 billion. In 1995, it went to a deficit of $15.8 billion, and in 2014 the goods trade deficit was $53.8 billion, down from 2007's peak of $74.8 billion. This was in sharp contrast with the analysis of Gary Hufbauer and Jeffrey Schott, who predicted trade surpluses on the order of $9-12 billion through the 2000s, even as they admitted that the peso was overvalued (it collapsed in value in the December 1994 "Tequila crisis").

Meanwhile, the balance of trade in goods with Canada went from a deficit of $10.8 billion in 1993 to $34.0 billion in 2014. Note that the U.S. had a peak deficit of $78.3 billion in 2008, which collapsed to  $21.6 billion in 2009.

In 2000, the year PNTR was adopted, the United States had an $83.9 billion goods trade deficit with China. In May of that year, the International Trade Commission (h/t David Cay Johnston) released a report estimating that the trade balance would worsen by a further $4.3 billion. According to the article, the U.S. Trade Representative and the White House both criticized this study strongly. And in fact, the 2001 deficit fell to $83.1 billion. However, in 2002 it was $103.1 billion, an increase more than four times the ITC prediction, and by 2014 it had grown to $342.6 billion.

By including trade in goods but not trade in services, Third Way is admirably the stacking the deck against its own position. It points out that the U.S. has a global surplus in trade in services of $232 billion in 2014, including a $45 billion surplus with Canada and Mexico. However, it doesn't mention that the U.S. goods trade deficit was $737 billion in 2014, or that the country's overall 2014 trade deficit was $505 billion, up from $477 billion in 2013.

The ultimate question is whether TPP and TTIP are going to be more like the U.S.-Australia Free Trade Agreement, or more like NAFTA and PNTR. Considering that the TPP includes all the NAFTA countries, Australia, Chile, Japan, and six others, comprising "nearly 40 percent of global GDP," I think it's safe to assume that it will have a much bigger impact than the FTAs with Australia or Chile, for instance. Similarly, since the European Union has an economy about the same size as the U.S. economy, I believe the TTIP will also have big consequences.

Moreover, we have to remember that these are much more than trade agreements. Both of them have increased protections for investors, patents, trademarks, and other intellectual property, and in both of them the U.S. is advocating the inclusion of investor-state dispute settlement so companies can sue governments through arbitration rather than courts, something that has proven more favorable for companies vis-a-vis both governments and consumers. So, in addition to the negative effects on U.S. workers that we would expect on the basis of the Stolper-Samuelson Theorem, all signatory countries are likely to suffer from higher prices for medicine and assaults on their regulations through investor-state dispute settlement.

Thus, while the Third Way study is right as far as it goes, what it leaves out is far more significant and worrisome.

Most U.S. Trade Agreement Improve Trade Balance, but Effect Overwhelmed by NAFTA and China Trade

The U.S. trade deficit figures heavily in the analysis of Jeff Faux's new book, The Servant Economy. Faux, the founder of the Economic Policy Institute (EPI), was one of the most important voices speaking out against NAFTA when it was debated and ultimately passed by Congress in 1993.

According to EPI's 2011 Annual Report,"Presently, the United States' non-oil deficit alone costs more than five million U.S. jobs." This underscores the importance of the deficit and what is at stake. In the book, Faux points out that the theoretical benefits of free trade assume full employment, but that is hardly ever the case. Thus, he argues, the trade deficit is indeed a job killer.

Yet, as David Cay Johnston notes, the United States continues to negotiate new trade agreements while government agencies and government officials from the President down, tout them as engines of job creation. Johnston points out that the government predicted that our small pre-NAFTA trade surplus would continue, when instead we quickly went into a deficit that in 2011 reached $64.5 billion. Similarly, he says, the U.S. International Trade Commission predicted that normalizing trade relations with China would lead to a trade deficit of just $1 billion, when in fact it grew by 2011 to $295 billion!

How have these trade agreements performed? At present, according to the U.S. Trade Representative, the U.S. has free trade agreements with 19 other countries, with a 20th (with Panama) approved but not yet implemented. The 19 countries are: Australia, Bahrain, Canada, Chile, Colombia, Costa Rica, Dominican Republic, El Salvador, Guatemala, Honduras, Israel, Jordan, South Korea, Mexico, Morocco, Nicaragua, Oman, Peru, and Singapore.

The U.S. Census Bureau (then click on individual countries) has the answer to this. In 11 cases, the goods trade balance has improved from the year prior to the agreements' coming into effect through 2011, in one case it's too soon to tell (Colombia, effective May 15, 2012), and only in seven cases did the trade balance worsen.

Unfortunately, that's the end of the good news, because our trade with most of these countries is relatively small: in six cases the improvement was under $2 billion dollars, which pales against the country's overall goods deficit of $727.4 billion in 2011. The biggest gains have been with Singapore ($10.7 billion) and Australia ($9.1 billion).

The losses, on the other hand, have been huge, with the culprits being NAFTA and liberalizing trade with China (not even a full free trade agreement, just making it easier for U.S. firms to offshore their production to China). In the wake of NAFTA, the U.S. goods trade balance with Mexico has worsened by $66.2 billion, while our Canadian goods trade balance has worsened by $23.7 billion. Just since 2001, when China joined the WTO, and 2011, the goods trade deficit has increased from $83 billion to $295 billion. Robert E. Scott of the EPI estimates that this massive deficit has "eliminated or displaced nearly 2.8 million U.S. jobs since 2001." In addition, our Israel free trade agreement has added about $10 billion more to the deficit.

As Faux argues, the trade deficit reduces demand for U.S. labor, and pushes wages down in the aggregate. Indeed, this is the tendency of trade in general for a labor-scarce country like the United States. Faux's vision of where this is leading us in the long term is a depressing one, which I will discuss in more detail in a future column.

Cross-posted at Angry Bear.