Word Games

Dani Rodrik has an op-ed on attitudes towards trade and ethics:

In the very first meeting, he had asked the students how many of them preferred free trade to import restrictions; the response was more than 90%. And this was before the students had been instructed in the wonders of comparative advantage! ... 

Or maybe they did not understand how trade really works. ...

I began the class by asking students whether they would approve of my carrying out a particular magic experiment. I picked two volunteers, Nicholas and John, and told them that I was capable of making $200 disappear from Nicholas’s bank account – poof! – while adding $300 to John’s. This feat of social engineering would leave the class as a whole better off by $100. Would they allow me to carry out this magic trick?

Those who voted affirmatively were only a tiny minority. Many were uncertain. Even more opposed the change.

Rodrik takes this as evidence that peoples' views of trade are muddled. I'm not so sure. His for-instance in the case is not about trade but about something much closer to theft: for no explained reason Nicholas is made worse off and John better off, but there has been no exchange involved. "The class as a whole" is not better off under this scenario -- i.e. it is not Pareto-improving -- except under a very specific and narrow definition of "better off" that does not reflect what happens during trade. Nicholas is better off, John is worse off, and everyone else neither gains nor loses.

More likely students were confused ("many were uncertain") or objected to the capriciousness of the redistribution. Another, later, thought experiment of Rodrik's seems to bear that out:

Let’s assume, I said next, that Nicholas and John own two small firms that compete with each other. Suppose that John got richer by $300 because he worked harder, saved and invested more, and created better products, driving Nicholas out of business and causing him a loss of $200. How many of the students now approved of the change? This time a vast majority did – in fact, everyone except Nicholas approved!

This example is much clearer and also more closely resembles real-world trade dynamics, at least as we often conceive of them. From this Rodrik concludes:

So the students were not necessarily against redistribution. They were against certain kinds of redistribution. Like most of us, they care about procedural fairness. ...

Too many economists are tone-deaf to such distinctions. They are prone to attribute concerns about globalization to crass protectionist motives or ignorance, even when there are genuine ethical issues at stake.

Or maybe not. Maybe, as Rodrik notes in his piece, his sample was of Harvard students who possess high human capital and are thus exceptionally likely to benefit from open trade. When they did not, as in some of Rodrik's other thought experiments, it was because their comparative advantage was being eaten away by some policy or other. The majority of Americans don't have the same preferences, possibly because they do not work in fields with a strong comparative advantage. So maybe "crass protectionist motives" are salient after all.

Perhaps not. I do not doubt that some attitudes towards trade involve ethical concerns. But Rodrik isn't able to separate out what's driving what in this discussion, so tossing off the old models of trade politics is a bit premature.

Trade and Compensation, Again

Yet another round of debate on “trade, income, and compensation.” In case you are just tuning in, the trade, income, and compensation debate is the following: Trade liberalization reduces the income of one group of people and raises the income of a different group. Should those who gain compensate those who lose?

Here is why this is tiresome.

A. There is no “right” answer. There are good arguments to be made for yes, and there are good arguments to be made for no. There are no external grounds to which we can appeal to select one over the other.

B. Adherents to the yes side (winners should compensate losers) typically under-analyze the economics.

1. The moral obligation to compensate losers must be reciprocal. If tariff reductions redistribute income then tariff increases must redistribute income in the opposite direction. If we should compensate losers from tariff reductions then we should also compensate losers from tariff increases. As textile workers and farmers and (insert protected industry here) have not compensated losers from high tariffs, I do not see why those who win from low tariffs now have a moral obligation in the other direction. Appeals to “fairness” lose their purchase.

2. Losers from trade liberalization already have been compensated. The tariff enables workers to earn above-market returns. This rent compensates for the lower income they earn once the tariff is gone. Imagine that a worker in a protected industry saves the rent (the difference between the wage in the next best available job and her current wage). Once the tariff is eliminated and the worker is employed at a lower wage, those saved rents, spent slowly over time, provide an income higher than the new lower wage. The fact that people don’t behave this way is irrelevant to the broader insight—the rent the tariff provides is compensation for the risk that the tariff might one day disappear. It is not obvious that society has an obligation to compensate them again.

C. Adherents to the “no" side typically under analyze the political problem.

1. Tariffs reflect political influence. Eliminating a tariff, therefore, requires a policy exchange. This policy exchange need not be compensation for workers in the now-liberalized industry, but it must be something equal to the present value that the tariff holder attaches to the stream of rents the tariff generates. Normative arguments (aw, you should just surrender your property rights) are irrelevant. No free lunch in politics either.

2. Sustaining low tariffs in a democratic society requires popular support . The public is more likely to support trade if they believe they are somewhat insured against its downside risk. Hence, compensation might be a political necessity for openness in a democratic society.

D. Thus, debating whether we should or shouldn't compensate losers is pointless; the question is whether compensation is a necessary part of the policy bargain that must be struck in order to construct majority support for trade. As this is not a normative question, debating the question in normative terms—should we or shouldn’t we—is entirely beside the point.

Upside Down World

Twenty years ago, developing countries were highly skeptical about participation in the global economy while western nations were enthusiastic participants. Now, it appears, as developing countries become increasingly supportive, western nations (especially the U.S.) become more uncertain.

"[A] survey of more than 45,000 people in 47 countries this past spring found large majorities everywhere saying trade was a good thing, particularly in countries lifted lately by trade-based growth, like Jordan and Argentina." (Click the image to the right for summary findings; Find the full survey here).

"But recent years have seen erosion in support for trade in advanced Western countries including Germany, Britain, France and Italy — and most sharply in the United States."

This is broadly consistent with the Stolper-Samuelson theorem's core prediction: abundant factors (developing country workers) gain from and support trade; scarce factors (western labor) lose from and oppose trade. Can it be as simple as that?

A puzzle: how can Americans be more favorable to free markets than to free trade (see the chart)?