Free Trade Vs. Protectionism Essay, Research Paper

One of the greatest international economic debates of all time has been the issue of

free trade versus protectionism. Proponents of free trade believe in opening the global

market, with as few restrictions on trade as possible. Proponents of protectionism believe

in concentrating on the welfare of the domestic economy by limiting the open-market

policy of the United States. However, what effects does this policy have for the

international market and the other respective countries in this market? The question is not

as complex as it may seem. Both sides have strong viewpoints representing their

respective opinions, and even the population of the United States is divided when it comes

to taking a stand in the issue. After examining all factors on the two conflicting sides, it is

clear that protectionism, from the side of the United States, is the only way the American

industrial economy can expand for the benefit of its citizens and for its national welfare.

The economy needs to get itself out of the huge deficit hole that it has created for itself,

and lean towards protectionist measures.

The dictionary definition of free trade states it as a policy of allowing people of

one country to buy and sell from other countries without restrictions. This idea originated

with the influential British economist, philosopher, and author of The Wealth of Nations,

Adam Smith. He inspired the writings of great economists such as David Ricardo, Karl

Marx, Thomas Malthus, and others. According to Smith, specialization and trade is the

best solution to create a flourishing American economy, with its industries ruling the

economic world. William H. Peterson, holder of the Lundy Chair of Business Philosophy

at Campbell University, agrees with Smith’s philosophy. He states that the idea of free

trade allows the efficient use of economic resources and will promote international

cooperation.

One of the biggest examples of international cooperation is the Bretton Woods

system that originated from a 1944 conference at Bretton Woods, New Hampshire. Those

participants in this conference created three organizations to help regulate the international

economy. The first is the International Monetary Fund (IMF) which was established with

the idea of regulating monetary policy. One of the benchmarks of the IMF is the

stabilization of exchange rates and the loaning of money to help stabilize countries with

balance of payments deficits. The second organization established was the General

Agreement on Tariffs and Trade (GATT) whose main focus was on a liberal trading order.

Their mission was to reduce trade barriers on manufactured goods and to build-up the

principle of most-favored nation (MFN) status. This would impose a sense of fairness

between countries in that each was required to levy the same low tariffs on each others

imports. The third and final organization sponsored by Bretton Woods is the World Bank.

The World Bank’s most ambitious aim was the fostering of economic development. This

is accomplished through loans to struggling countries. In addition to the World Bank, the

International Finance Corporation was annexed to provide loans to corporations who are

seen to help aide in poor countries’ development. These three organizations within the

Bretton Woods agreement captured the cooperation of the global community due to the

one thing they all found in common: a commitment to a free market and economic

freedom.

In the 17th and 18th century, the American revolution was triggered by the Sugar

Act of 1764 and the Stamp Act of 1765. The Sugar Act imposed import duties on foreign

molasses, sugar, wine, and other commodities. The Stamp Act provided a tax on all

important documents, periodicals, almanacs, pamphlets, and playing cards. The colonists

believed that these control practices were unfounded since they advocated “No taxation

without Representation.” These protectionist measures contributed to the conflict which

led to the American revolution. Similarly, protectionism also led to the Civil War. During

the Civil War era, the industrial North was goading the agricultural South through the

highly disputed Tariff of Abominations of 1828 and 1832. This high tariff protected the

northern manufactures while the South demanded a low tariff in order to trade its cotton

for cheap foreign goods. Eventually, these conflicts led to issues of secession, which thus

led to the Civil War. Through these examples, Peterson argued that protectionist

movements have never succeeded in the past, which means that they will not succeed in

today’s economy.

Peterson seems to have forgotten several factors in his analysis. Even though it is

correct to use mistakes of the past economies as examples, he has forgotten the fact that

the international economic climate is continually changing and is blatantly different from

how it was during the times of the American Revolution and the Civil War. Peterson is

using positive analysis by looking at “what will happen” to the US economy and the

international economy, rather than looking at the issue using normative analysis and seeing

“what should happen.” What should happen should be seen in respect to the conditions of

the modern American economy and the international market. What may have happened

with past protectionist measures does not necessarily mean that similar conflicts will

repeat in the present. By tightening the laxity of the American free trade policy, wars

should not occur. Quite the opposite, wars will be prevented by eliminating the tenacious

competition between the United States and the other nations.

One major strategy used to manage trade differences between countries is regular

economic summits among leading industrial nations to create economic policies. These

economic summits were born in 1975 from the ideas of French President Valery Giscard

d’Estaing who was looking for a solution after the demise of the Bretton Woods system

and saw the need for international economic stability. These summits are held yearly with

growing participation from the global community. The main goals at these summits is

global economic stabilization within the context of important political issues.

Brink Lindsey, a trade attorney in Washington DC, also believes that free trade

will benefit the United States’ economy. According to Lindsey, not only will producers

benefit from free trade, but consumers will as well. The US industries will benefit from

foreign markets and the drive for competition, so free trade should become the

cornerstone of American policy. One of the most important trade agreements of the

twentieth century that reflects this viewpoint is The North American Free Trade

Agreement (NAFTA), which was signed in August of 1992 and involved the U.S.,

Canada, and Mexico. This agreement seeks to remove tariffs and other trade impediments

in automobiles, energy, agriculture, banking, advertising, textiles, and other areas. Its

main initiative is to enhance prosperity in all three countries, which encompasses 370

million people.

The United States may have come out victorious during the Cold War, but now

the military competition has been replaced by economic confrontation (mainly between the

US, Europe, and Japan). A good example of the tensions between the United States,

Japan, and Europe can be best seen in The Uruguay Round which lasted from 1986-1993.

The Uruguay Round addressed some explosive issues such as rules for governing

intellectual property rights, non-tariff barriers, agricultural subsidies, and trade in services.

Few issues such as these ignited great hostility between these three nations as these did.

But by far the most controversial issue was that of agricultural subsides because it is

deeply imbedded in the domestic politics of most every nation. Efforts to reduce

agricultural subsidies were violently opposed by Japan and Europe, especially France. In

1992, following these aggressions, the US and Europe marginally escaped a trade war

because of US retaliation consisting of the increase of tariffs on European exports like

wine and of France’s refusal to accept any measure of change. The Uruguay Round’s

most important contribution was a powerful new World Trade Organization (WTO) which

replaced the outdated GATT organization. Its main function is to set up three member

arbitration panels to decide if countries are violating the agreement, make them correct

such violations and pay for damages, and even authorize retaliation against violators.

Even though America seems to be the only country with a free trade policy,

Lindsey argues that this statement is untrue. Import barriers are falling in different parts

of the world, including Japan. Between 1968-1988 import growth has skyrocketed

several times faster for America’s leading trading partners. Merchandise trade among the

developed countries more than quadrupled between 1963-1973; increased over two and a

half times from 1973-1983; and grew almost one and a half times again between

1983-1986. From 1960-1986, the percentage of GDP derived from trade (exports plus

imports) doubled to 14.4 percent in the US, gained an average of 63 percent in the EC

countries, and remained constant in Japan at 17.3 percent. Specifically, import rises in

Japan and West Germany has been almost as large as that of America’s.

Even though other countries may be letting down their import barriers, it is

not necessary for the United States to follow suit and further open its doors of economic

trade. The American industrial economy is self-sufficient and does not need to rely heavily

on the products of other nations. A good example of the United States shutting its doors

to economic trade is the collapse of the Bretton Woods system. The dismantling of the

system is a direct result of the actions of the United States, namely the “Nixon shock.”

This refers to the announcement made by the Nixon administration in 1970 in which the

administration concluded that it could no longer justify the expense of subsidizing global

trade. The administration saw a direct correlation between the inflation and

balance-of-payments deficit that was plaguing the US and the unfair advantage the US

provided for its self in subsidizing global trade. The administration believed the only way

to combat Japanese and European discrimination against US exports, was to break away

from fixed exchange rates.

The United States is a capital-intensive country, meaning that its inputs consist

mostly of machinery, in contrast to labor-intensive countries in which labor controls the

output of the economy. For example, in 1970 the labor costs of the US and of West

Germany were twice that of Japan. By 1986, the labor costs were comparatively equal.

Also in 1970, US manufacturing productivity was 58 percent greater than West Germany

and 105 percent greater than Japan. By 1986, these figures had fallen to 20 percent and 2

percent, respectively. The United States is far advanced and leading in technological

development, by concentrating on the efficient output of its capital goods. Only 30,000 of

more than 3.5 million patents were held by citizens of developing countries.

David Ricardo, an American economist, speaks on the same side as Lindsey when

he states that all countries benefit from specialization and trade. Trade has potential

benefits for all nations. Tariffs, export subsidies, and quotas simply interfere with the

movement of goods and services around the world. This idea can be illustrated in the

exemplary situation where the addition of a $1 tariff on imported textiles leads to the loss

of efficiency. This $1 tariff has led to two components. First, consumers must pay a

higher price for goods that could be produced at a lower cost. Second, marginal

producers are drawn into textiles and away from other goods, resulting in inefficient

domestic production. In the situation above, Ricardo shows that trade barriers only

prevent a nation from taking advantage of the benefits of specialization (the idea of

concentrating on a single or few tasks). Instead, the American economy is pushed to

adopt relatively inefficient production techniques, and consumers are forced to pay higher

prices for protected prices than they would otherwise pay. For example, trade barriers in

twenty-one US industries saved 191,00 jobs at a cost to consumers of $170,00 per job.

Along with Ricardo, the vast majority of American economists are also in favor of

free trade. Among them is W. Allen Wallis, who stated in the Department of State

Bulletin that the idea of protectionism only invites a spiral of retaliation. Protectionism

raises the cost of living in the country introducing protection and even though a favored

group can benefit from it, the vast majority of the population will not. Domestic

consumers will be forced to pay higher prices. Wallis additionally states that protectionist

measures are not really actions taken by one country vs. another country. Instead, they

are actions that benefit one domestic group at the expense of other groups in the same

country. For example, there is a conflict between the opinions of producers vs.

consumers, and import-competing industries vs. export-competing industries.

Wallis is correct in saying that controversies do exist over protectionism, but the

controversies are merely enhanced in a free trade/laissez-faire economy. In this type of

economy, the free market answers the basic economic questions (what to produce, how to

produce, and who gets what is produced). Because the system of free enterprise has no

government regulation and allows individual producers to decide its own actions,

problems tend to arise with the absence of regulation. First, inefficiencies tend to exist.

Producers do not always supply what people want at the lowest cost. Second, income

may be unevenly distributed and leave out some groups. Third, periods of unemployment

and inflation can arise.

Wallis also argued on behalf of the free traders about the protectionist result of

retaliation. He states that if the US limits a country’s exports of a given product to the

US, then the country’s ability to buy from our country is reduced. They would then have

a tendency to retaliate directly against some of the United States’ exports. This would

result in the US industries losing their export market, thus causing unemployment. The

consequences of this excess supply of labor are not on the positive side. Besides the

already existing surplus, there will also be government purchase of that surplus, a higher

price to consumers, and a higher price to sellers.

Retaliation is a possible reaction to protectionism, but unemployment is not likely

to occur. Even if the laborers will lose their jobs from the export-competing industries,

the United States job sector will still have opportunities for those workers. The US has a

higher rate of skilled workers than that of other countries. In short, the United States has

a higher level of productivity than other countries in the international community.

John M. Culbertson disagrees with the proponents of free trade when he says that

the United States is alone in supporting free trade, while other countries are putting up

barriers. According to Culbertson, the other countries’ goal is their respective national

successes. The welcoming policy of the US simply allows the other countries to take

advantage of the situation.

Forty years ago, the United States dominated the world economic scene. Even

though Japan constantly tried to reach its way to the top, the US was always a step or two

ahead of them. Recently, though, in its quest for unregulated foreign trade, the US has

left its market of success, allowing countries such as Japan to take over their foreign

production markets. The US did not understand the foreign trade game, and lost. In a

continuously competing global industry, the idea of pareto optimality proves to be true. It

is not possible to make one country better off without making another country worse off.

This idea should of been kept in mind when the US adopted NAFTA. NAFTA’s main aim

was to enhance prosperity in all three countries through free trade policies, however, the

goal proved to be impossible for everyone. With the devaluation of the Mexican peso,

U.S. exports to Mexico drastically fell while Mexican exports to the U.S. soared, adding

to the already large US trade deficit. NAFTA didn’t solve the problem of loss of jobs

between the US and Mexico like it intended, but rather diverted it to Asian countries.

Protectionism can also save US jobs. Foreign companies cost Americans their

jobs, leading to unemployment. Some countries are also guilty of unfair trading practices.

Attempts by the United States to monopolize are illegal under the Sherman and Clayton

acts, but US industries continue to become victims of the effects of foreign monopolies.

There is really nothing that the US industries can do about the monopoly situation. Since

it has been made illegal, the US industries just have to find the best of the situation. Most

US industries are perfectly competitive or monopolistically competitive. These industries

have their apparent benefits, among which are the laxity of product differentiation and the

easy entry and exit. Product differentiation provides a varying degrees of new and

different products while insuring that quality is high. Eventually, the demand for these

products will become more elastic, as producers have less control over its prices. The

more elastic the demand, the less control that industries have over price.

Another factor against free trade is the fact that cheap foreign labor makes

competition unfair. Most products (such as foreign-made shoes) are produced in LDCs

(Less Developed Countries) where workers are paid very low and foreign industries are

able to make more profit due to the cheap labor. Most of this unfair competition is

perpetuated by transnational corporations (TNCs). These corporations originate in

developed countries and migrate to the Third World in search of policy flexibility that they

can not find in a country such as the United States. TNCs seek cheap labor , low taxes,

and few regulations. They do little for local development and they even drain the

economy of the underdeveloped country, lowering their GDP. Most TNCs can be seen as

leeches that reap all the benefits in a global community but contribute nothing back. A

fact that people tend to forget is that wages in a competitive industry reflects productivity.

Workers in the United States earn higher wages because they are more productive. US

workers are better trained and each worker has more capital per worker. Other factors in

favor of protectionism are the safeguarding of national security, the discouraging of

dependency, the safeguarding of infant industry, and the provision for protection during

temporary currency overvaluations. If protectionism policies were to be practiced, then

free trade organizations such as the WTO would be obsolete. These organizations place a

back seat to US interests and sovereignty and threaten to erode its consumer-protection

and environmental regulations.

Critic, Gus Tyler, agrees with protectionist measures in his book entitled Dissent.

Tyler presents the idea that free trade is a myth. In the past, nations met in rounds after

rounds to announce reductions of trade barriers. They then went home to make non-tariff

barriers, and created subsidies to encourage exports. They negotiated VERs (Voluntary

Export Restraints) or quotas, and they indulged in the most deceptive form of

protectionism-the devaluation of currency. All in all, these measures taken by nations are

practically identical to tariffs, which vastly reduces consumer surplus (the ability of the

consumers to pay less, an obvious benefit to them). A good example is the Tokyo Round

which lasted from 1973 to 1979 and took place during an oil crisis, a deep economic

recession, and rising protectionism. Tokyo sought to make tariff cuts, regulate the usage

of agricultural subsides, and come to a settlement of a policy to deal with Third World

countries. But most critically, the Tokyo Round failed in curbing the practice of

safeguarding which undermined all the progress and agreements made in Tokyo.

The protectionist solution to the controversy of free trade vs. protectionism is

somewhat hazy: mutually beneficial and balanced international trade. In this situation,

there would be no violence to any nation’s valid claims, excluding transitional problems.

Low-income nations would be helped by developing countries such as the United States,

and the living standards in the high-income nations will still be safeguarded. No country,

not even the United States, can be completely self sufficient, nor should it try to be. At

one point in time, there will be a need in the US for a resource not available. The US

should, however, not be so dependent on other countries. The US should learn to

maximize its production by making it more efficient.

The protectionist solution is more complex than how it is presented, though. The

issue of free trade vs. protectionism is hard to solve, since there are so many factors to it.

Simply stated, the whole issue is a game of theory. The terminology of a Prisoners’

Dilemma is applicable to the competition of global markets. In the Prisoners’ Dilemma,

two prisoners are accused of a crime. Both prisoners are taken into their own questioning

rooms. If both prisoners confess, they are given a light sentence. If one confesses and the

other does not, the one who confesses is set free and the other receives a heavy sentence.

If both prisoners do not confess, the sentence is at its heaviest. This situation parallels the

risky business of global marketing. The respective nations act as the prisoners, always

having to guess the actions of the other nations. Risks are always involved, but by

weighing the costs and benefits of the actions, a dominant or maximum strategy can be

made. The dominant strategy is the strategy that yields the best results regardless of the

opponent’s strategy. The maximum strategy is the maximization of the minimum results.

The propensity for the United States to lean towards free trade lies in the belief of

a declining American hegemony. A hegemony is a dominant state that uses its economic

power to impose and maintain customs and rules aimed at preserving the existing world

order. Even though the US has declined from its superstar economic status, it still boats a

GDP of $6.26 trillion dollars, which is larger than the GDPs of Japan and Germany

combined, $6.12 trillion. The theory of hegemonic stability suggests that a dominant state

is necessary to enforce international cooperation and maintain international law. This

theory will be proved or disproved in the upcoming years since global politics is moving to

even the scales of countries with such tools as free trade.

The US economy is now at a trade deficit, and has been in that state for quite

awhile. The best strategy to alleviate this problem would be protectionist measures.

Although there will be those who oppose these measure, in the long run protectionism will

be more beneficial to the economy of all American industries. Political liberty, the basic

freedoms essential to the formation and expression of the popular will and its translation

into policy, is not infringed by protectionist measures. The American population has

historically disagreed on how much government involvement is enough. But a

lassiez-faire attitude is not the solution to the problems the United States faces. A

protectionist government is not a restrictive one, but rather a government that protects the

interests of its people as a whole. If there comes a time when protectionist measures are

not beneficial to the American people, then public policy can be changed by the majority’s

will. The US must ask itself if free trade policies are in its best interests, or if they are just

a popular growing trend in a new age of political correctness. It is true that the global

market has already expanded, but it is never too late for the United States to begin

shutting its doors to the free market.

Bibliography

BIBLOGRAPHY

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H.W. Wilson Company.

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4. Lieberman, Sima. (1988). The Economic and Political Roots of the New

Protectionism. New Jersey: Rowman & Littlefield, Publishers.

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