Trump: The Equaliser

President Trump’s proposed tariffs have attracted almost universal criticism, both in Europe and America, from commentators of all political persuasions and from economists. The spectre of protectionism, the retreat behind tariff walls, and the demise of international free trade looms large and threatens the prosperity of all countries, America included and perhaps America most of all. Such is the stupidity, pig-headedness and economic illiteracy of Trump.

The standard economic analysis is simple: protecting inefficient industries may preserve jobs in those industries, at least in the short run, but the economic gain is more than outweighed by increased costs, uncompetitiveness and job losses in the rest of the economy, which now pays increased prices for the products of these inefficient industries. When this effect is multiplied worldwide, as tit-for-tat retaliation takes effect, the economic cost is colossal.

Of course, this is all true; but commentators who brandish Ricardo’s doctrine of comparative costs (the original economic justification of free trade), according to which countries are better off if they specialise in the sectors in which they have comparative cost advantage (let England produce cloth, Portugal wine, and the two can be exchanged to mutual advantage), forget that the system only works if countries trade at the correct rate of exchange. What is this rate of exchange? It is the rate at which the value of imports and exports is equalised. There is no need to fix this rate of exchange: the market will see to it. If it is too high for country A, then imports will exceed exports, the demand for foreign currency (to pay for those imports) will exceed supply (earnings from exports), and the currency will depreciate until equilibrium is restored. Such is the beauty of markets.

But what if country A (let us call it America) runs a persistent trade deficit with country B (let us call it China)? What if exchange rate equilibrium is not restored to correct the trade imbalance because China, as a deliberate act of policy, for political reasons, maintains an undervalued currency and uses the vast dollar reserves it builds up to buy up assets overseas, including in America? The problem is obvious, and the game is changed.

Some would blame American industry for being relatively inefficient. But the whole purpose of international trade is to enable countries to trade to mutual advantage regardless of their relative productivities and costs. Indeed, Ricardo notes that even if country A has lower productivity in all sectors than country B, it still better off under international trade so long as it specialises in those sectors in which it is relatively least inefficient. There is no economic reason for persistent trade imbalances to arise at all.

Trump’s policy pronouncements might be ill-thought-out in their practical detail and stand in need of correction by his advisors, but he has grasped a crucial point about international trade that has escaped idealistic economists armed with theoretical models: the current terms on which trade is conducted with China are bad for America!

Would that we in Britain might wake up to this. Why does China have a seemingly inexhaustible stock of capital to invest in our industries, our property, and national assets, whereas we have next to none and are wholly dependent on foreign investment – i.e. on flogging off our assets? Because China runs a huge trade surplus and we run a huge trade deficit. The great game is afoot; but their game is long, while ours is short.

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9 Comments on Trump: The Equaliser

  1. Alistair – I am old enough to remember when Britain was a manufacturing country. Prices were not unreasonably high, and living standards were generally rising, certainly not plummeting. Yes, both management and labour in British manufacturers needed rockets under them, and yes, many of our designs were outdated, and innovation was frequently lacking. But the buying and selling was “on-board” this island. Employment levels were high and our employed people could feel that they were doing something useful, AND that they themselves had a value in the community. Instead, the old manufacturing areas have become industrial wastelands, inhabited by people that, effectively, nobody wants, while everything we need to buy represents another foreign debt. Not good, in fact terrible.

    • You’re quite right. It’s extraordinary how the UK, unlike Germany or France, has become utterly dependent on inward foreign investment, as if there is no payback. Any announcement of foreign investment is treated almost as a national triumph, a ‘vote of confidence’ in Britain. The question ‘why don’t we invest ourselves’ is hardly ever asked. We can be sure that GKN won’t be doing too much more investment under its new management.

  2. Thanks, but first we need as much manufacturing employment in the UK as we can devise. Second, we have had two Dyson vacuum cleaners, and still have the second, an 04. They are too heavy, especially if needing to be taken up and down stairs, they are clumsy; the hose tools cannot be used without the whole of the cable being unwound because its top hook is on the wand. The application of the industrial cyclone system was smart, but there it ends. Sorry!

    • I’ll take you word for it – though my wife seems to love her Dyson. Personally I prefer a dustpan and brush. Much cheaper, does the job (so long as you have wooden floors) and its good exercise.

      I have sometimes wondered what would happen if we had an all out trade war with China, all trade ceased and we were forced to make all the manufactured goods in this country under our costs. True there would be a boom in manufacturing but prices would go through the roof and living standards would plummet!

  3. Just a point Alistair Miller – did not James Dyson win a Queen’s Award and then promptly move his production base to the far east? Did he also not make a technically-advanced washing machine that was too expensive to buy and too bulky to fit the average kitchen space? Cui bono?

    There is another factor in the big picture – if you don’t manufacture in your own country, then people are out of work and being supported by the state (hopefully), paid for by the taxpaying remainder. So instead of purchasers of goods paying higher prices, purchasers of goods, and others, are paying higher taxes. The worst aspect is that people who can’t get work, get demoralised instead. So President Trump’s “instinct” is correct – MAGA it’s called over there. It’s a pity, a disastrous pity, that it’s not happening in Britain.

    • Just waiting to see who would spot that one. And he supported our membership of the Euro too, though he is pro-Brexit. I suppose the economic answer is that there is no problem with lower-end relatively labour-intensive manufacturing being exported to less-developed countries so long as higher-end more capital and knowledge-intensive manufacturing/services are being developed here. We specialise where we have the comparative advantage (which is continually changing) and thereby benefit from international trade. So long as trade flows balance, there is no need for unemployment to be generated overall – which is why the devaluation/depreciation of Sterling is so important.

      We also need to bear in mind that Dyson sales round the world are much greater than they would otherwise be because he is able to keep costs down – and that the profits all flow back to the UK. Research and development is also headquartered here.

      I think it is a bit mean to single out his oversized washing machine for criticism. Overall, Dyson products are world-beaters.

  4. we are taxed and regulated in almost every other area of our lives.

    you’d think the environmentalist would be happy. Making things locally is an idea in sustainability.

  5. “Economic illiteracy of Trump”. A widely held view but one that does square with the facts; President Trump built a very successful business developing real estate. I would wager that he knows more and better understands the real economy and how society really works than the overobsequious followers of David Ricardo and Adam Smith.
    The truth is; that while the US has been open for business and investment from all quarters our major trading partners; Canada, Japan, South Korea, The EU and China are all ruthlessly mercantile in their trade policies. The US has been a milch cow for foreign development for way too long, time to start playing the same game with them that they play with us.

    • Exactly. Though as you said regarding the GKN post, the chances our developing a coherent industrial strategy of any description are sadly minimal.
      A minimalist industrial strategy would be simply to ring fence (protect from take-over) our 100 or so most successful, or fastest growing, companies and ensure they have access to all the funds they need for long-term R & D by whatever means we have at our disposal: ‘here’s what you need to do to earn your knighthood and peerage’. Changing the takeover rules would be a good start. Bringing in James Dyson to the Business Department would be another – he seems to know what he is about.
      Will be interesting to see if Defence Secretary Gavin Williamson blocks the GKN takeover on grounds of national security. Unlike the gutless Business Secretary, he seems to have some balls and is a patriot – and it would do his political ambitions (nothing wrong with that) no harm at all. Never underestimate a Yorkshireman, especially from Scarborough.
      Will also be interesting to see if The Mail’s petition to keep the British passport made in Britain (and save De La Rue) gets somewhere. If we can’t even manage that, then God help us!