Trumponomics and the next recession

Progressives for balanced budgets and free trade

It was the best of times; it was the worst of times. Or that is what you would think if you follow the economics press lately. Sebastian Mallaby has a column on Trumponomics a while ago, suggesting Trumponomics is not working. I wouldn't disagree with the verdict, but the explanation is far from correct, and that is a common feature of discussions of Trumponomics in the media, and frankly by many progressive (not just liberal, in the US sense of the word) economists. On the other hand, you can expect a lot of praise in conservative circles (and bragging from the Trumpsters) about the unemployment level reaching 3.7%, the lowest since the Kennedy/Johnson boom of the 1960s. Many would say we are at full employment, and in a sense they might not be wrong (I think it's debatable; more on that below).

The question is then how things can be both good and bad. First, let me explain the more obvious, the labor market story. The recovery from the 2008 crisis has been long and slow, as it is well-known. And it is unclear what impact Trump's tax cuts will have, but it is highly unlikely that they would lead to any significant acceleration of growth, if past evidence is a good guide. So the current low unemployment level is the result of a process that started with the Obama fiscal package and has proceeded at a slow pace pushed essentially by consumption (after the initial fiscal stimulus). And that's why it has not been a more robust recovery (it remains very slow, even in the two Trump years).

This is reflected in an employment to population ratio that is still below the previous peak, even if now recovering. In other words, the participation rate in the labor market remains relatively low. And, hence, wages have not yet started to pick up significantly, and inflation remains subdued, which casts at least doubts about the meaning of full employment.

This suggests that we would need more fiscal stimulus, and not austerity. That's one concern I have with some critics of Trumponomics. That they presume that fiscal deficits and Trump's tax cuts are both bad. I would suggest that the latter is certainly bad, for distributive reasons. But deficits in the current situation in which the recovery has not raised all boats is far from a problem. I think it was Barbara Bergmann (citing Alvin Hansen) that said that the full employment deficit was the fiscal deficit necessary to bring the economy to full employment. We are probably not there yet. Btw, this is what used to be called functional finance and Trump's critics should learn about it.

Some critics, like Mallaby, are concerned with the trade wars. Here too I'm a bit worried about the positions taken by critics. Progressives have complained about Free Trade Agreements (FTAs) for a long while now. And also criticized the concept of Free Trade (see here for a list of entries in this blog). Mallaby, for example, suggests that the trade war with China, and the new version of NAFTA (USMCA now), which is worse for him than the original (the name for sure, Moreno-Brid suggested at a conference in Mexico this week MEXCUSA, a good pun in Spanish), would reduce productivity and growth.

I still don't have a full picture of the USMCA deal, but it seems that beyond the clauses about North American content and percent being produced with higher wages in the auto industry (both clauses that seem to favor the US and not Mexico), the liberalization of Canadian dairy industry, and tighter restrictions on generic medications (all of which seem to favor US corporations against Canadian citizens), the most important is the one that allows any member country to essentially veto free trade agreements with non-member countries. That is, most likely, a clause for the US to veto FTAs with China.

In that sense, USMCA is just an extension of the trade war with China. I don't want to write much on this, but it seems to me that the US finally decided to revert the opening policy towards China, that harks back to Nixon, and to take the Chinese challenge (and at this point it's just that; I don't see a Sinocentric world any time soon) seriously. In all fairness, it seems to make a lot of sense, from an American security position to make it difficult for Chinese firms to go about the process of catching up, which includes acquiring companies, reverse engineering, violations of copyrights and patents, industrial espionage and more. And yes, there will be disruption of the commodity chains. For example, maybe Apple will move some of its i-Phone production out of China into other developing countries in the region (don't think many manufacturing jobs will return to the US though). But productivity won't suffer much.

If you're concerned with productivity, fiscal policy and its impact on growth should be a greater concern to you. Expansion of demand is what pushes labor productivity (productivity is not the cause of growth, but the result; search the entries on Kaldor-Verdoorn Law in the blog). The slow recovery is the problem.

Finally, I'm still unsure about when the recession will come, but neither the fiscal or trade fronts, which are the ones attacked mostly by Trump's critics seems to be the crucial problem. Monetary policy might be though. If the Fed continues to raise rates, something they suggested they would do, then there is a serious possibility of a crisis ahead. Higher rates would affect the already overextended American consumer, and lead to a recession. Nothing like the last one, I think. And the Fed would be forced to reverse course pretty soon. But the Fed remains independent, also something that old critics of the concept have embraced in the Trump era.

At the Rick Smith Show on the Economy and the Exit from the WTO

I suggested my posts on Free Trade during the show. Here a series of posts that might be helpful.

Football (soccer) and Capitalism

Not The Economist's field of expertise

The World Cup is about to start. The Economist has run a piece suggesting that "the World Cup [is] the fulfillment of some of our most cherished values." And yes the cherished values are essentially free trade, the raison d'être for the creation of the magazine (that has a problem of self-image and refers to itself as a newspaper), and more generally laissez-faire capitalism, of which the publication is one of the most important cheerleaders.

There are many of these, pardon the directness, garbage pieces that suggest that football (soccer for the gringos) explains the working of capitalism (see, for example, this popular book). And, yes, the most obvious explanation for the confusion is that football does not explain the market or globalization, or how the world works, or any other way of expressing modern capitalism. It's the other way round, capitalism explains football.

In the magazine's view, the reasons for why football explains economic success is that it is somewhat like a decentralized market, and provides, like an invisible hand, when not curtailed by State intervention, one would guess, for the best to win. A no less Darwinian (or Spencerian) survival of the fittest than often advocated for economies. In their words:

Football can also teach countries how to spot and hone human capital. The best performers not only have systems for finding gifted children, but also ways of spotting late developers who failed to make the first cut. Their academies turn out intelligent, creative players rather than dribbling automatons. Then, if they are clever, they drop their best footballers into a competitive market.

The idea is that in places where there are free market like mechanisms to find the best players you end up with the best teams that go on to win the World Cup. There are too many problems with this view, both with the view of how the economy and capitalism work, but also about football. I will tackle just a few.

Think about the notion that markets select the winners, which are the best players, as an analogy of markets selecting the best firms, the best economic practices. Development is just a question of open and free (unregulated) markets. Yet, the actual record for that is thin at best. It is well known now that even the English experience that led to the Industrial Revolution (IR) in the 19th century was far from being a laissez-faire story. Not only the boom was related to a huge increase in the size of public debt, and the financing of a vast Fiscal-Military State, but also the size of the bureaucracy increased significantly.

"British bureaucracy doubled in size during the 18th century. At the beginning of the century, state employees were estimated at 12,000, a number that had grown to 16,267 by 1797, and 24,598 by 1815," according to Roger Morriss. In other words, the state size doubled during the IR. Markets themselves require a significant amount of regulation. And here the example used by Ha-Joon Chang regarding child labor is always illustrative. Note that during the IR children were exploited working long hours in inhuman conditions (Hamilton suggested in his Report on Manufactures the positive effects of factories, since they would put idle children and women to work). Eventually, after a lot of social pressure (Marx and Engel's Manifesto demands the abolition of child labor) the freedom of firms to hire free willing children was curtailed. Markets are by definition a set of norms and regulations, and the very notion of a completely unregulated market is a bit of a ruse.

Now let's think about football. What country has won the most, you ask. Brazil, with 5 wins in 1958, 1962, 1970, 1994 and 2002, and 2 final losses in 1950 and 1998. Note that Brazil is not a developed country. Nor the US, or Sweden (advanced economies, even if very disimilar in many ways) have ever won a (male) World Cup. The link between development, and the quality of the football played is not particularly strong. Also, I might add, World Cups are tournaments, with elimination games, subjected to chance and luck, and not championships in which every team plays against the other, and the winner is the one that won more points overall. Hungary in 1954, the Netherlands in 1974, Brazil in 1982, and Argentina in 2014 (that's my view, some might have different candidates) were, arguably, the best teams, but did not win the World Cup.

The Economist tries to suggest that authoritarian regimes, with more closed societies, and one would assume markets, would do worse in the World Cup. They do say that "dictatorships are rubbish at football." And they note that Argentina in 1978, under General Videla, was the last time a country ruled by a dictatorship has won. The list should also include Italy in 1934 and 1938 under Mussolini, and Brazil in 1970 under General Medici. The argument is a bit hollow. Brazil, again, has won with both dictatorships and democratic governments (and so did Argentina in 1986 with Maradona and the return of democracy, which sadly doesn't win games). In all fairness, football has nothing to say about capitalism or why nations fail (or not).

The development of capitalism, on the other hand, does say quite a bit about football. Football, or the rules set by the British in Victorian times, that have changed little, I might add, emerged during the first era of globalization. The game spread with the spread of English manufacturing products, and the trade routes. Teams often appeared in ports, like Boca and River in Buenos Aires, or Santos in Brazil. Also, the elites in developing countries copied not only the patterns of consumption of the wealthy in developed economies, but also their hobbies, and football spread to the posh clubs of developing countries. In that high class environment, black players were often discriminated. In Rio de Janeiro followers of Fluminense still are referred to as 'pó de arroz' (baby powder), since players of African descent tried to camouflage the color of their skin to be able to play (Vasco da Gama was the first team to field black players, in the 1920s).

Football developed in places connected by trade with the British, and where patterns of consumption were being imitated, which explains why some parts of Latin America were early developers. Arguably, in many parts of Asia and Africa, income levels were too low for the patterns of consumption of the British upper classes to spread. Or in the United States the patterns of consumption followed their own trajectories, since at this point, the US was becoming the center of global consumption and imposing its own patterns of consumption on the globe. Accident, and history play a role. But it says a lot that the American version of football did not take off as the British one, meaning that institutions are path-dependent. By the way, that path-dependency also explains why more or less the same national teams keep winning. Tradition is a very strong predictor of who would win the cup. Kids don't play football (soccer) in the US, since their sports icons are in other fields.

By the 1920s football started to professionalize, and the markets, cherished by The Economist, for ball players became relevant. The professionalization of sports started in the 1920s, but the crisis of of capitalism in the 1930s, reduced the impetus of free market forces. Teams were not all powerful, and given the structure of clubs in many countries, football was not yet a business like the others. The backlash against capitalism meant that sports, and football were used by nationalist and populist (mostly right wing) regimes to promote national pride. Hitler, that was invested in the success of the Olympic Games in Berlin in 1936, wanted to win the World Cup in France in 1938, but Mussolini's Italy thwarted his plans.

It is with the end of World War II and the victory of the allies, and the with the rise of American hegemony, that football slowly becomes a business like any other. The fundamental impulse for the changes came after the collapse of Bretton Woods, and the Neoliberal turn in the global economy. Increasing market integration and financial deregulation, facilitated the rise of modern football. Clubs became business, with the rise of the European super leagues, imitating the US market. Note that this is the period of the rise of American football (with the creation of the Super Bowl in 1967) and the professionalization of tennis (the 1970s). Even the US tried to develop a market in the 1970s, with Pelé joining the New York Cosmos.

Players were bought and sold in markets, and still are. In the early times, rarely a player would become even moderately wealthy. Several players that would put to shame even the great of these days ended in poverty (Mané Garrincha comes to mind). Very few players are unionized, and most of them do not make the huge amounts of a Messi or a Neymar. Not only, free markets are not a solution for the wealth of nations, but the free market model for football has been detrimental for players and for the sport. Something similar could be said about other sports (I'm thinking about the NBA finals, and the overwhelming dominance of the Warriors). At any rate, The Economist should stick closer to their field of expertise.

PS: I'll probably blog a bit more about football during the World Cup.

China and US Trade Tensions in one graph

The graph below illustrates the reasons for the concerns in the US and the somewhat erratic, but more combative position of the Trump administration.

Note, also, that China is closing the gap on R&D spending and on the technological front, at a faster pace that I would have predicted (more on that for a later post).

PS: I only got noticed this today, but Wolff's column is also about US-China relations. I suppose it's the topic now.

The uses and abuses of economics

Alan Blinder wrote a few days ago in the Wall Street Journal that economic theory has been often abused by politicians. He refers to what he calls the Lamppost Theory of Economic Policy, the notion that: "Politicians use economics the way a drunk uses a lamppost—for support, not illumination." His concerns are fairly conventional. He says:

By 2020, higher spend­ing and tax cuts will push the fed­eral bud­get deficit above 6% of gross do­mes­tic prod­uct—higher than it ever was in the Rea­gan years. Even deficit doves like me think that’s far too high ab­sent a re­ces­sion. Pres­i­dent Trump may be tak­ing the U.S. into a mul­ti-­front trade war, against the ad­vice of al­most all econ­o­mists. And Amer­i­ca’s po­lit­i­cal lead­ers refuse to en­act a car­bon tax, the rem­edy for cli­mate change that al­most every econ­omist fa­vors.

If you read the piece, you would think that economists agree on everything, and that the reasons for the consensus is that the subject is highly technical, and in a sense scientific. So fiscal deficits that are relatively large are bad (unless there is a recession), free trade is always good, and a tax can fix a problem with an externality, like climate change.

The reason for politicians misguided behavior is not difficult to understand either, in Blinder's view. It is essentially a problem of time horizons, politicians must by the nature of their trade be impatient. In his words: "Political time horizons are notoriously short, perhaps extending only to the next election—or the next tweet. In contrast, economists’ time horizons can be agonizingly long—far too long for politics."

I have problems with many of those issues, even if I'm also not a fan of Trumponomics. Note that larger fiscal deficits, including a 6% one, even without a recession, might be acceptable, depending on how the government spends and taxes. If the government is borrowing in domestic currency, with low interest rates, taxing the wealthy, and spending to provide a wide safety net for the relatively poor I would be perfectly fine with that. And there would be no risk of debt sustainability issues or default. Note that, the higher spending would probably translate eventually into higher growth and, as revenue increased, lower deficits. As Blinder well knows, deficits are endogenously determined. The point is that my favoring of higher deficits, in some circumstances, is related to the question of who are the winners and the losers of alternative fiscal policies.

My biggest trouble is, probably, with the free trade assumption (and I discussed that recently here). I don't want to repeat the argument, but there should be significant disagreement within the profession on the benefits of free versus managed trade, since the evidence for free trade is incredibly weak. Free trade is simply a particular kind of trade management that favors some groups at the expense of others.

I also would favor a Green New Deal, a significant increase in the spending on green technologies, since I'm skeptical of substitution effects in general and, hence, of a carbon tax (I'm not against it, just skeptical that it would solve our problems). It seems to me that the biggest issue with global warming is that the distribution of its effects (and note that the benefits of the process of industrialization that caused the climate change in the first place were unevenly distributed) will be very unequal. In particular, developing nations would end up paying a higher price.

All of these issues, with fiscal, trade and environmental policies, seem to suggest that the main problem with the political use of economics is not the illegitimate use of economic arguments for political aims associated to the electoral cycle, that is, the short-termism of politicians. The problem is the very legitimate grievances that arise from the social effects of those policies. Trump is not giving tax cuts just to win elections, although that may play a role (yet, most people are for higher taxes on the wealthy), but also, and more importantly, to increase the rents of the wealthy.

That's why I would be very skeptical of Blinder's suggestion favoring a technocratic government, which would reduce the role of politics in economic policy making. In his words:

I have one final suggestion, though its scope is limited: Suppose we took some—certainly not most—economic decisions out of the hands of politicians, and put them in the hands of nonpolitical technocrats instead.

This is the sort of neoliberal argument used by the Chicago Boys in Latin America to suggest that there was no alternative. Market friendly policies were the only game in town, because they were a technical issue, not open to political dissent, instead of a strategy of a political minority to impose very unpopular policies that favored the wealthy. Trump should be defeated, and his policies rolled back, and for that Dems should field a left of center candidate with reasonable ideas favoring the majority (i.e. the working class), rather than propose undemocratic (technocratic) solutions.

The left and the return of protectionism

So if you believe a simplified version of conservative views on the economy, Trumponomics is pretty contradictory (and yes they are contradictory, even if one may doubts about why). Tax cuts should lead to growth, via supply side economics, and the recently proposed tariffs on steel and aluminum do exactly the opposite. Protectionism (not a very good name, I prefer managed trade, as I discussed here before) has made a come back, but while many heterodox economists have suggested that 'free trade' is not always beneficial to all, and those concerned with the fate of manufacturing and the working class in the United States have decried Free Trade Agreements (FTAs) over the years, it seems that the association of these ideas with Trumponomics has made them less keen on the recent tariff proposal.

A typical example is the recent op-ed by Jared Bernstein and Dean Baker in WAPO, and I cite them exactly for my respect for their economic views in general, and their commitment to progressive causes. In their view: "The bigger dangers to our economy are twofold. One, that our trading partners will retaliate by taxing our exports to them, thus hurting a broad swath of our exporting industries, and two, by leading an emboldened, reckless Trump administration to enact more bad trade policy." Essentially, they agree that tariffs would have a negative effect on employment, but perhaps not as big as some Cassandras have suggested, and that this 'bad protectionist' policies would continue. A similar argument can be found in Brad DeLong's op-ed, another progressive economist, in which he argues that the tariff is a tax hike for consumers. Brad, I should note, has recently published a very good book in which he praises the Hamiltonian system, that is,  the use of managed trade to promote industrial development (I discussed it here).*

It's worth remembering that while on other issues Trumponomics is essentially Reaganomics (low taxes for the wealthy and increased military spending), on trade his views are a break with more recent Republican positions (and hence the push back in his own party against the tariffs) and closer to what many Dems, particularly those connected with trade unions, often defended. He has not signed TPP, has really started renegotiating NAFTA (something Obama promised to do as a candidate, but did not deliver as president) and now has imposed some tariffs (like, btw, Bush, so I'm not suggesting this is unprecedented; just that he has been more consistent on this topic).

Don't get me wrong, I'm not a big fan of Trumponomics, or even in particular of these tariffs. And this will not work probably, but the reasons are not the ones adduced by progressives. Their basic argument is that retaliation by other countries will make them innocuous. In all fairness, the US is already more 'protectionism' (manages trade) than most people understand. The ability to use trade treaties and organizations for defending the country's own advantage is considerably tilted in favor of advanced economies and their corporations that can use loopholes to creatively avoid rules and continue to subsidize their industries (and agricultural sector). The US use of the defense department, again used by Trump, is typical. Poor countries some times lack the basic technical capabilities (lawyers and economists) to face the trade teams of advanced economies. The complexity of the WTO dispute settlement process, the geopolitical role of the US and the importance of US markets for many developing countries render it a very ineffective tool for the interests of less developed economies.

It should not be a surprise that American corporations continue to thrive in international trade (it's the American working class that is in trouble). Manufacturing is doing well, with the support of what Fred Block has termed the hidden developmental state in the US. So the problem is not that tariffs could not work. In all fairness, tariffs together with significant expansion of domestic spending on infrastructure (and more steel demand), with a vigorous defense of trade unions, with higher minimum wages, with policies to improve income distribution, like progressive taxes on the wealthy, to strengthen the domestic market might actually be part of a Hamiltonian strategy of economic growth. Note also that the whole point of imposing tariffs is to depend less on exports and more on domestic markets, so that to some extent retaliation should matter less. A more closed (not closed, but more so, like Keynes suggested in his National Self-Sufficiency piece of 1933) international economic order, to role back of some of the excesses of the neoliberal, pro-corporate globalization process, used to be be, and should be, on the agenda of the left.

The problem, then is less the tariffs per se, and more the fact that the Trumpian agenda is empty, and has nothing for the working class. That was my biggest concern reading the progressive economists complaints about Trump's trade views. Their solutions are to stop protecting patents and professionals, that is more 'free trade,' and a more depreciated currency (I'll leave my skepticism about this one for another post, at any rate I discussed this before). While I'm more sympathetic to the skepticism on property rights, note that China, in part, thrives, exactly because they do explicitly infringe the rules on patents (the first Geely car was a knock off of a Mercedes, and they bought Volvo to have access to foreign technology; there are many examples; it's worth noticing that the US did that in the past too). That would not necessarily be good for American corporations. To weaken doctors, lawyers and other middle (and upper middle) class professionals is certainly not the way out of the hole for the American working class.

The political danger of these views, which I think still dominate the liberal wing of the Democratic Party, is considerable. I think, that even if his policies turn out not to be very helpful (for the reasons I outlined, meaning lower wages and protections for workers, lower taxes for the wealthy and corporations and so on) his true dislike of globalization and free trade policies would strengthen his position with working people in the Rust Belt, which were central for his victory (maybe you think it was Russia... oh, well). As I noticed before the election, this would make things so much hard for Dems in elections. I said back in September 2016 that: "Note that this doesn't mean he [Trump] is going to win the election. Demographic changes make it harder for Republicans to win now, since Dems get more of the electoral college to start with. And I hope he doesn't, btw. But there are good reasons to be afraid. This is going to be way closer than it should be." And so it was.

I'm afraid that his trade policies, and the Dems position that effectively are to his right (like Hillary, but not Bernie) would make it more likely (hopefully not enough) for a longer period of Trumponomics than it is acceptable. This suggests that a good chunk of Dems are stuck in the model that Mark Lilla has referred to as identity liberalism (see his book here), and have become vulnerable to right wing populism. It's getting increasingly difficult to have hope in the dark.

PS: For discussions of trade policy see this two previous entries which provide a simple discussion of the Ricardian and neoclassical models of trade and its limitations. I would also recommend the paper by Robert Wade linked here.

* There are many others that have written on this in the last couple of days. Paul Krugman could, arguably enter the list of progressives here, but he has been consistently more of a free trade guy. Krugman complain is more macro than the others. In his view, the Fed would hike rates, since we are close enough to full employment and any additional gains from the tariffs will be eroded, even without retaliation from other countries. In part, that would happen because higher interest rates would lead to inflows and an appreciation of the dollar (see here).

Cohen and DeLong on Hamilton's Report on Manufactures

Hamilton's Reports, posthumous 1821 edition

Stephen Cohen* and Brad DeLong, in their highly readable book Concrete Economics: The Hamilton Approach to Economic Growth and Policy (if you haven't, go buy a copy now), argue that “Alexander Hamilton [was a] major economic theorist. His theory of economic development, first set out in his famous Report on Manufactures (1791), not only reshaped America’s economy but was channeled by Frederich List half a century later to play a central role in Germany’s rapid industrialization, and still later became a canonical text in Japan." Further they suggest that: “This Hamiltonian project was contrary to Ricardo’s canons of comparative advantage as well as Smith’s free markets. It was bold. The direction of economic activity was not commanded, but it was not left unguided either."

While I generally agree with the main points of the book (my major issues are with the notion that technical change was driven by scarcity of labor, and the need to economize labor along marginalist lines), I would qualify a bit the argument on the break with the Smithian/Ricardian classical political economy (or surplus) approach to economics.

Certainly Hamilton is not Ricardian in the sense that he suggests that the pattern of specialization should not follow comparative advantage (a notion not fully developed until Ricardo's own work a few years later, and simultaneously and independently by Robert Torrens). But note that for Ricardo Free Trade was part of a strategy of reducing the rent of landlords, which resulted from the use of lands of lower quality which were the consequence of the embargo first, and then the Corn Laws. In that sense, Ricardian Free Trade was a strategy of industrialization for England (as much as Hamilton's project was for industrialization in the US). It is also true that Hamilton was breaking with the laissez faire tradition of Smith and classical authors in general. But he was not precisely Mercantilist or Cameralist, in the sense that a reading of the Report clearly shows he understood that the wealth of nations derived from the division of labor, and not from the accumulation of bullion and trade surpluses.++

Hamilton believed, not unreasonably, that manufactures were more prone to the adoption of machinery, and indicates that manufacturing countries are more opulent than merely agricultural countries. In other words, he seemed to believe that what is produced matters, and that manufacturing would further the division of labor that was at the heart of the wealth of nations. That is why there is some importance in the Cohen and DeLong book emphasis on Hamiltonian trade management, and the willingness to use tariffs and bounties (subsidies). Note that the conventional view among economists increasingly tries to deny that this was central for Hamilton. For example, Douglas Irwin argues that: "Although the report is often associated with protectionist trade policies, Hamilton’s proposed tariffs were quite modest, particularly in light of later experience. This reflected his emphasis on using tariffs to generate fiscal revenue to fund the public debt; indeed, the country’s finances were his top priority, not discouraging imports for the sake of domestic manufacturers."

However, the Report itself seems pretty concerned with the differences between agricultural societies and manufacturing ones, arguing that: "nations merely agricultural would not enjoy the same degree of opulence, in proportion to their numbers, as those which united manufactures with agriculture." He cites England and the Cotton Mill developed there as something to be emulated, and that it can only be done with a certain degree of trade management (on free trade versus managed trade see this).

Hamilton is explicit on a strategy that we would call today as import substitution industrialization, and argues that: “The substitution of foreign for domestic manufactures is a transfer to foreign nations of the advantages accruing from the employment of machinery, in the modes in which it is capable of being employed, with most utility and to the greatest extent. The cotton mill invented in England, within the last twenty years, is a signal illustration of the general proposition, which has been just advanced.” Interestingly, he does not cite the use of steam engines, which was still not prevalent, but notes the use of the water wheel, and the extensive use of female and child labor (the latter as a positive development). In this regard, he seems more au courant than Adam Smith, with his pin factory, about what would later be termed the Industrial Revolution.

Moreover, Hamilton suggest that manufacturing and agriculture should be complementary, and argues that manufacturers would provide an outlet for the production of the agricultural sector. The Smithian notion of a vent for surplus, but a domestic one is utilized by him. He argues that: “It is evident, that the exertions of the husbandman will be steady or fluctuating, vigorous or feeble, in proportion to the steadiness or fluctuation, adequateness, or inadequateness of the markets on which he must depend, for the vent of the surplus, which may be produced by his labor; and that such surplus in the ordinary course of things will be greater or less in the same proportion. For the purpose of this vent, a domestic market is greatly to be preferred to a foreign one; because it is in the nature of things, far more to be relied upon.”

The relevance of the ideas related to managed trade seem to be again on the agenda with the rise of right wing populist governments, in particular here in the United States, and the skepticism about Free Trade and Globalization.

* Stephen Cohen was the co-author with John Zysman of a very influential book in the 1980s called Manufacturing matters: the myth of the post-industrial economy which is also still worth reading.

++ In the Report on a National Bank he explicitly says that: “it is immaterial what serves the purpose of money, whether paper or gold and silver; that the effect of both upon industry is the same; and that the intrinsic wealth of a nation is to be measured, not by the abundance of the precious metals, contained in it, but by the quantity of the productions of its labor and industry.”

Robert Wade on Trumponomics vs. Free Trade

Echoing some of the arguments discussed here in the blog (for a list of posts on free trade go here, and for the effect of free trade on the Trump election here, here and here) Robert Wade suggests that the economics profession defense of "Free Trade" might have something to do with the election of Trump.

Wade's phrase is perfect (apparently Adrian Wood came up with it): "Like Gresham’s Law, 'alternative facts' drive out facts." The alternative fact here is the theory of comparative advantage and the notion that free trade is the best of all possible policies for all countries (and people within the country) at all times. As Keynes, quoted in Wade's epigraph, said:

Free trade assumes that if you throw men out of work in one direction you re-employ them in another. As soon as that link is broken the whole of the free-trade argument breaks down (J. M. Keynes, evidence to the Macmillan Committee on Finance and Industry, 1930)

Read paper here.

Tariffs or sales tax and corporate tax reduction?

The announcement, and backtracking, on a 20% tax on Mexican imports caused a lot of confusion yesterday. I assumed like most that this was a proposal for a tariff, which would both ditch NAFTA rules and run afoul of the WTO rules. The wall and the tariff led to a cancellation of the Mexican president's trip, and a souring of the diplomatic relations. But in all fairness, it seems that this had little to do with Mexico.

The Republican Tax Plan basically is to eliminate the corporate income tax, and to substitute if with a destination based cash flow tax (DBCFT, is the clumsy acronym of the beast; on this see Jared Bernstein). The idea is that this would reduce the incentive of US corporations to relocate abroad to scape the income tax, and to basically introduce a national sales tax. The tax is border adjusted, so to speak, since imports sold in the US would pay taxes, but exports wouldn't.

So it seems to me that Trump was trying to use the GOP tax plan, that already existed, and is still in place, as far as I understand, and use it to claim that as Mexican imports will be taxed, they will be paying for the wall, that it seems he really plans to build. They seem to at least temporarily backtracked on the proposal, mainly I think to avoid jeopardizing the tax plan, which seems to me to be regressive, sales taxes after all hit everybody, and solving the problem of corporate tax evasion, by making the US a tax haven, and shifting the burden to consumers (just a hunch, I'll wait for tax exports to do the hard work of calculating the effects).

The impact of such a policy, by the way, is less clear than one would think. Josh Mason wrote something about it here. Like him I'm skeptical that a sales tax on imports would bring a lot of manufacturing jobs back. But even if this reduces the trade deficit, with Mexico and other countries (China?), which again I doubt, the problem of the quality of jobs here (and manufacturing matters among other things because of the quality of jobs) in the US does not depend fundamentally on the trade deficit per se. On that front, what will be done with labor regulations, the minimum wage, and the overall macroeconomic picture seems to be more relevant, and there are reasons to be concerned.

The working class joins the cocktail party

The working class elephant in the room

Upton Sinclair famously said that "it is difficult to get a man to understand something, when his salary depends on his not understanding it." Not understanding the results of this election is what the Democratic establishment is trying very hard to do. Many will continues to say that at the heart of the loss are the misogyny, racism and xenophobia of Trump and his supporters, which is real and problematic, but deny the truth that it was the neoliberal free trade policies pushed by the Clintons and Obama that kept people from going to the pools, in particular in the Rust Belt (see here, but also here, which says essentially the same).

Hillary had slightly more votes than Trump (and yes the electoral college doesn't help, but that's not the problem now), but she had less votes than Romney and about 8 million less votes than Obama in 2008 (when some people thought he was a progressive; btw, there was back then a thing called Economists for Edwards, since many progressives thought, correctly, that Obama was a centrist like the Clintons. He ended up receiving a lot of support because he was the anti-Clinton candidate).

As I noted the other day, the neoliberal wing of the Democratic Party is not dead. Now they are trying to get Howard Dean to substitute Donna Brazile (that passed debate questions during the primaries to Hillary), the interim head of the Democratic National Committee (DNC) (a position she holds because Debbie Wasserman Schultz was forced to resign after being caught blatantly helping Hillary's campaign during the primaries). Bernie wants Keith Ellison instead, since he correctly noted that: “the Democratic Party has to be focused on grass-roots America and not wealthy people attending cocktail parties.”

Of course you will hear a lot about how we need serious people to take over the party in these difficult times, and how we need to collaborate with President Trump, and not be obstructionist, and the idea of electability (how did that work with Hillary?) will be brought back in four years. The emblem of that were the comments from Daron Acemoglu that I quoted the other day: "as long as the Democratic Party shakes off its hard-core anti-market, pro-union stance, there is a huge constituency of well-educated, socially conscious Americans that will join in." That position cost Dems the election, but you should not be surprised that this is taken seriously. This is what the party's establishment is trying to do, since their jobs depend on them not understanding that the Dems need the working class, and they do prefer the nice and educated people in their cocktail parties anyway, rather than the uncouth, and in their view, racist, misogynistic, and xenophobic,* blue collar workers.

* Before some idiot suggest that I'm saying no Trump supporter is racist, misogynistic, and xenophobic, yes there are too many indeed, and his presidency will make things worse. But that's not the reason the election was lost, and many of his voters are NOT those things and DO have legitimate economic grievances. And yes, the majority of the working poor actually voted for her (not enough in the Rust Belt), as I noted in my previous post on the election.

Trump, Hillary and Free Trade

So, besides the nativist, xenophobic, and racist appeals to the darker side of American society, Trump speech was all about trade, and its effects on the working class. That is clearly the strategy for November, and Hillary is, for obvious reasons, weak on that subject. I don't think Trump even thinks Bernie supporters would vote for him, but his appeal to them last night was for them not to vote for Hillary.

Trade matters, even if Trump has no clue why. As, I have explained several times (go here, here or here for the basics of the theory, here  for a brief discussion of the loss of political support for Free Trade Agreements, FTAs) free trade is a bit of a misnomer. Nobody is for purely free trade or complete protectionism. The real discussion is about managed trade, and for what purposes one should manage it. While most economists agree that trade should be managed for phytosanitary rules and defenses purposes, there is unwillingness to accept that the quality of employment and real wages matter too.

Trade matters, because what one country produces matters. Complex products with higher value added are more likely to lead to the incremental innovations that are behind the wealth of nations. Trade agreements that ossify the production structure in sectors with low levels of technological dynamism lead to lower growth, and employment. In the US, certainly, since the entry of China in the WTO there has been a significant collapse of manufacturing jobs (see discussion here), which has not implied lack of technological dynamism per se, but has had a significant impact on the old manufacturing belt, which happens to affect many swing states in this election.

That is why it would be a huge (yuge, really) mistake if Hillary chooses Tim Kaine over Sherrod Brown as a running mate. Both are senators from swing states, but only Brown would be credible as a critic of FTAs. Don't get me wrong. I don't think that if she chooses Sherrod Brown her positions on trade could be trusted blindly (see here, for example; Obama too was critical of FTAs before he was elected). But it would send a signal that the constituency (mostly related to labor) within the party that would want a less pro-business approach to trade would have a voice in the White House (btw, I wouldn't trust Trump's views on trade; given his proposals on taxes, his administration would be the most pro-business since Calvin Coolidge).

Betrayed Again: TPP’s Unconvincing Economic and National Security Arguments

By Tom Palley

Voters of all stripes have recognized the Trans-Pacific Partnership (TPP) as another betrayal of working people, and they have resoundingly rejected it. Despite that, President Obama continues to push it, to the extent of possibly seeking passage in a “lame duck” session of Congress.

President Obama’s pushing of the TPP is recklessly irresponsible politics that benefits Donald Trump who is the outsider candidate. Hillary Clinton is the insider who has touted her links to President Obama, and she still lacks credibility regarding her TPP opposition because of her past endorsement.

In the current dangerous political climate there is no room for error. Yet, that is what we have. Clinton has refused to condemn the TPP in the Democratic Party platform, setting herself up for Trump. Not only does she risk handing the issue to Trump, giving him the economic high-ground, she also sets herself up as “crooked Hillary”. She was for the TPP, then she was against it, and now she is for it again? That plays into voters’ worst assessment of her character.

As for President Obama, he must be made to realize that every time he pushes the TPP, he might as well be campaigning for Donald Trump.

Read rest here.

Free trade and Portuguese decline

Last weekend, as a result of Brad DeLong's post on free trade, we had a brief Twitter exchange. He had suggested that the Heckscher-Ohlin (HO) model* implies gains from trade associated to comparative advantage. He went further and suggested, after I implied that the Methuen Treaty between England and Portugal had not been favorable to the latter, that Portugal had indeed benefited greatly from free trade.

It is important to note, before we get to Portugal, that the HO model, which is a direct application of marginalist theory of value to international trade, arguing that specialization depends on relative scarcity, with countries exporting the goods that use intensively the factor of production that is abundant, is open to the capital debates critique, as shown by Ian Steedman long ago. So the HO model results lack generality, and it is NOT possible to guarantee gains of trade, as suggested by Brad. Actually, there should be no surprise that one finds paradoxes and problems, like the famous Leontief Paradox.

That does not mean that comparative advantage is conceptually wrong. The old Ricardian model does not have the problems of the HO model (Brad would have been on more solid logical grounds using this model). It is open to critiques of its use of the labor theory of value (LTV), but those can be dealt by the Sraffian reinterpretation of the LTV (for that, although not related to trade, go here). Note, however, that Ricardo's model presumes fixed levels of employment (not full employment, but given or constant) and no capital mobility. Anthony Brewer showed (subscription required) that in the Ricardian model, with capital mobility, producers would move to the country with lower costs, basically lower wages (exogenously given by classical authors), and absolute advantage would dominate trade patterns.

So what about trade between England and Portugal, you may ask. In part, the reason why Ricardo, a descendant of Portuguese jews that emigrated to Italy, the Netherlands and then to England, used the cloth-wine/England-Portugal example in his Principles, is because of the Methuen Treaty of 1703, a sort of free trade agreement. If one looks at income per capita (Table below using the Maddison data), one finds that Portugal was, by the time that follows its control of the trade routes to Asia (after Vasco da Gama reached India in 1498), slightly ahead of England, but by 1700, on the eve of the Treaty, it was considerably behind. Yet, by 1750, it seems that Portugal caugth up a bit, only to fall inexorably behind after that. By 1820, the income per capita in Portugal is less than half of the English.

So is there any truth to Brad's view that Portugal benefited from the free trade agreement, you may ask again. The point is that, the Iberian Union (1580-1640), when Portugal was governed by Spanish kings, and the loss of the Asian Empire (but not Brazil) was behind the Portuguese long term decline, which started way before the Methuen Treaty. Guns (and sails, Carlo Cipolla would add), not comparative advantage, were behind the rise and fall of the Portuguese empire in Asia.  The Dutch and then the English would come to dominate those trade routes. And the improvement in income per capita in the 18th century in Portugal can be ascribed to the discovery of gold in Brazil (a little aside, it is the combination of Brazilian gold, the Methuen Treaty, and the infamous mistake in the pricing of silver by Sir Isaac Newton that, arguably, put England on a Gold Standard). Free trade did not explain that.

So the Methuen Treaty by itself did not cause the ruin of Portugal. But it added to the problems associated to the loss of the Asian empire, and created patterns of specialization that did not lead to further technical change and economic development. Trade matters, because what one country produces and exports matters. Complex products with higher value added are more likely to lead to the incremental innovations that are behind the wealth of nations. You may call that increasing returns or cumulative causation. Trade agreements that ossify the production structure in sectors with low levels of technological dynamism lead to lower growth, and, as in any process with path dependency, failure breeds failure. Portugal, like England, needed managed trade, not 'free' trade.

* The model is often referred to as Heckscher-Ohlin-Samuelson (HOS), since Paul Samuelson was instrumental in formalizing the HO theorem and extending some of its results. Also, less frequently the model is referred to as Heckscher-Ohlin-Vanek (HOV), as done by Brad, since Jaroslav Vanek noted that trade of goods is indirect trade of factors of production, providing further extensions to the model.

Argentina and global integration

Decent Vultures

A short note in Spanish for Página/12 on the new direction of the Macri's government, with the emphasis on free trade and financial deregulation. Will try to post something longer in English later this week.

Tom Palley on Paul Krugman and Free Trade

Tom's new post titled 'Self-Protectionist Moment: Paul Krugman Protects Himself and the Establishment' criticizes Krugman's role as an establishment economist and defender of free trade. He says:

Paul Krugman has a new op-ed ('A Protectionist Moment?') in which he tries to walk away from his own contribution as an elite trade economist to the damage done by globalization, while also lending his political support to Hillary Clinton and the neoliberal globalization wing of the Democratic Party. 

His article inadvertently spotlights all that is wrong with the economics profession through the lens of the trade debate. 

On one hand, Krugman writes 'So the elite case for ever-freer trade is largely a scam, which voters probably sense even if they don’t know exactly what form it’s taking. On the other hand, he writes 'In this, as in many other things, Sanders currently benefits from the luxury of irresponsibility: he’s never been anywhere close to the levers of power, so he could take principled-sounding but arguably feckless stances in a way that Clinton couldn’t and can’t.'

Krugman has been a booster of trade and globalization for thirty years: marginally more restrained than other elite economists, but still a booster."

Read full post here.

PS: I had discussed recently Krugman's history as a free trader turned 'protectionist' (note that I personally don't like the terms free trader or protectionist; t's all about managed trade, and how and for what purpose to manage it) here. As I noted, behind the veneer of change "Krugman remains as conventional as he can be. He avoids telling you that trade has negative distributive effects, and that it might negatively affect industrial employment, and potential growth."

Free trade loses political support

Wall Street Journal notes the obvious, given the US presidential campaign. Here some old entries that explain the theoretical problems with "free trade." Some are more theoretical (first three) and others more in tune with the issues related to Free Trade Agreements (FTAs) and Bilateral Investment Agreements (BITs).

On 'free' and managed trade (Ricardian model)

More on "free" trade (HOS model)

Free trade again (on the role of absolute rather than comparative advantage)

On free trade and economics consensus: a response to Mankiw

The Colombia FTA: Only Corporations Win

Bilateral Investment Treaties and the Supreme Court or Do Cry for Argentina

Trans-Pacific Partnership creating strange bedfellows

More on Trans Pacific Partnership (TPP)

US Senate approves fast track authority, and Krugman doesn't

And a video from Ilan Ziv's Capitalism:

Capitalism and comparative advantage

Comparative Advantage and Capitalism

From CAPITALISM the documentary by Ilan Ziv. In this short clip a discussion of comparative advantage and its limitations, with Pascal Lamy, Robert Boyer and yours truly (many others in this chapter, including Geoff Hodgson and Ha-Joon Chang).

The Mexican secretary of finance that appears in the video is actually NOT talking about the Ricardian model of trade, which at least given its assumptions is logically correct, but about the neoclassical or Heckscher-Ohlin-Samuelson (HOS) model that has significant problems (see here).

I should note also that in my view Ricardo should not be seen as Robert Boyer suggests (not shown in the video above) as a precursor of mainstream neoclassical economics for his role in the development of formal models. Formal models can be marginalist or not, and actually Ricardo's ideas led to Marx. As I noted in my interview (in parts that do not appear in he documentary), Ricardo was the first economist to formalize the idea of a distributive conflict between capital and labor, once the Smithian notion of the adding up theory was criticized. I joke that contrary to Samuelson's view according to which Marx was a minor Ricardian, one should think of him as a major Ricardian. And in many other ways Ricardo's legacy has been misunderstood (without even discussing  Barro's Ricardian Equivalence).

More on Trans Pacific Partnership (TPP)

So, a bit busy this week, but as promised here is a more specific, if short, discussion of the Trans Pacific Partnership. The agreement was reached this week, and now approval must be obtained in Congress, and my guess is that there is a decent chance that it will pass with bi-partisan support (after all fast track was approved and that is why the Obama administration could reach an agreement). My guess is that several people that seem less than supportive right now, will come around, like, for example, Orrin Hatch in the Republican camp, who has said he has reservations, or Hillary Clinton, whose PBS interview has been seen as a reversal of her pro-free trade views.

She actually does not say she is against, and only says after being prompted a second time that she is not in favor of TPP as it currently stands. She adds that she thinks the agreement might not live to her high standards, but she is very clearly for free trade agreements, the ones that bring high wages and more jobs to the US. Also known as unicorns. The fact is that on FTAs the establishment in both parties is basically in favor, as much as mainstream economists.

So, as I noted before (in my discussion of the Colombia FTA), FTAs are often not about 'free' movement of goods and services, but are also ways of protecting corporate interests. That's why what you should expect is not that one country wins and another looses with a trade agreement. Corporations and elites win, and workers (consumers) tend to be on the loosing end (that would be a better description of the effects of NAFTA, for example).

The two big issues being discussed are the protections for pharmaceutical patents, and the so-called currency manipulation, given the recent media comments. Note that the first issue is one of the main sticking points of the so far failed Doha Round of the World Trade Organization (WTO) negotiations, which include not only property rights, but also government procurement policies, and investment rules. All of these issues tend to limit the ability of developing countries to pursue the policies that promoted development in advanced economies. Basically FTAs reduce the policy space of developing countries, and the ability of governments in advanced economies to protect workers and consumers.In this specific case, TPP seems to extend the patent protection for pharmaceuticals, reducing the ability of governments to produce generic medications, with potentially large effects on public health.

On the second issue, the currency manipulation, which has been always tied to China (not in TPP, btw), which suggest that depreciation leads to a significant cost advantage, and that it should be banned. Here I'm not only skeptical about the supposedly fantastic price substitution effects of a devalued currency, but more importantly, as I have pointed out before, most developing countries in Asia (and certainly China) have had large increases in real wages, which means that their currencies have often appreciated in real terms. Besides, I can't see how a trade agreement would legislate on exchange rate policy.

Trans Pacific Partnership and the argument for Free Trade

The final agreement on the Trans Pacific Partnership was reached yesterday. Now it must be approved in Congress. I had noticed before (here, here and here) the bi-partisan support for TPP (not all bipartisanship is good after all) and the limitations of the agreement itself. Will write something later this week on the specifics revealed by the agreement (no big surprise, btw).

If you need a crash course on the limitations of 'free' trade based on Ricardian or Heckscher-Ohlin-Samuelson (HOS) models see the posts below, which include also a response to Mankiw's defense of TPP and Free Trade and an older discussion of the Free Trade Agreement (FTA) with Colombia:

On 'free' and managed trade (Ricardian model)

More on "free" trade (HOS model)

On free trade and economics consensus: a response to Mankiw

The Colombia FTA: Only Corporations Win

You can also read my paper "What do undergrads really need to know about trade and finance." It was a response to Krugman's "What do undergrads need to know about trade." He used to say comparative advantage and specie-flow mechanism (which means the balance of payments is self-adjusting; so his argument is about trade and finance really). I suggest that absolute advantage and unstable capital flows might matter too. Krugman seems to have wised up on this, and is not for TPP (even if his reasons are weird; if I have time I'll discuss that too).

US Senate approves fast track authority, and Krugman doesn't

The Senate approved fast track for the Trans-Pacific Partnership (TPP), giving Obama authority to negotiate. It has to be approved by Congress still. On this topic, it is interesting that it is the first time Krugman came out (or here), as a closet 'protectionist', and was against a Free Trade Agreement (FTA). Note that the reason for his Sveriges Riksbank Prize (aka Nobel) was: "his analysis of trade patterns and location of economic activity."

His contribution to the analysis of trade patterns was essentially to introduce imperfect competition in the mainstream trade model. And actually what introducing imperfect competition in the mainstream Heckscher–Ohlin-Samuelson (HOS) model (the limitations of that model were discussed here before) did was to suggest that under certain circumstances trade management might be a good idea. He edited later a book, Strategic Trade Policy and the New International Economics, in which some more vocal defenders of trade intervention were present (I'm thinking of Laura d'Andrea Tyson, and John Zysman, at least at that time, in the early 1990s).

But he remained committed to free trade (he wanted the 'Nobel' badly, is my guess). The logic, presented in his paper "Is Free Trade Passé?" (subscription required) was that free trade was a simple rule, while trade management was too complicated, so even though policy might be required, Occam's Razor suggested that free trade was a better choice. So Free Trade was not passé after all. Note that this is a bogus argument, since trade, even with FTAs is always managed to some degree. Sanitary rules, defense preoccupations, and so on, imply that barriers to trade are usually imposed. The problem is not the complication of managing trade, is who benefits from the rules imposed (cui bono). FTAs favor corporations, mostly in advanced economies.

Now Krugman finally gets that. He suggests that:

"the Pacific trade deal isn’t really about trade. Some already low tariffs would come down, but the main thrust of the proposed deal involves strengthening intellectual property rights — things like drug patents and movie copyrights — and changing the way companies and countries settle disputes. And it’s by no means clear that either of those changes is good for America."

That is not new for those that understood the limitations of the theory behind free trade. A few years back I said on the FTA with Colombia:

"Rather than a 'free trade' agreement, the plan that will be sent to Congress should be understood as a corporate and financial liberalization agreement. Workers, in Colombia and the United States, have little to gain from it." (See also my response to Mankiw on TPP more recently here)

FTAs allow greater mobility to capital, provide all sorts of protection to corporations in terms of ownership and access to courts, at the same time that it limits the abilities of national governments to intervene. However, one of the central things that government should be able to affect is exactly was is locally produced, and what types of jobs are generated as a result of these interventions. Industrial policy is intrinsically tied to commercial policy.

On this Krugman remains as conventional as he can be. He avoids telling you that trade has negative distributive effects, and that it might negatively affect industrial employment, and potential growth. For him, the only reason that TPP might be bad is that it may reduce access to cheap medicines in developing countries and make financial reform more difficult in the US (both true, by the way). Why you ask free trade would not be bad otherwise? In his words: "because, whatever you may say about the benefits of free trade, most of those benefits have already been realized." So there you have, Free Trade already worked, and one would assume it has not been part of the forces that weakened labor bargaining power in the US, according to his views. Or if it was, it was fine, since overall free trade was beneficial. To whom is not a question.

And ask the people in Mexico, left with a pattern of specialization that only allows for the exports of people, directly through immigration or indirectly through maquilas, how much NAFTA has benefited them. The notion that free trade, free markets in general, produce somehow optimal outcomes is a crucial fetish of mainstream economics. And Krugman is very concerned with being taking seriously, and not violating the accepted totem of the profession. As he says it is possible for: "reasonable, well-intentioned people [to] have serious questions about what's going on [the TPP negotiations]." Yes, he still believes in free trade (is not passé and the benefits have been realized), he is 'reasonable, and well-intentioned,' and has 'serious questions.' Not like those dirty hippies that think free trade has no rigorous intellectual foundation.