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Why it may be time to scrap “free trade” and replace it with a development model of trade

by William McGaughey

   

 

Free trade was inspired by conditions that no longer exist. In the 1930s, the world’s industrialized nations were mired in a depression. One way to create jobs in the domestic economy, it was thought, was to impose trade barriers to exclude products from foreign countries. In that spirit, the U.S. Congress enacted the Hawley-Smoot Tariff Act in 1930 and President Hoover signed the bill. Tariffs shot up to their highest level in history and other nations retaliated with tariffs of their own. The result was a sharp decline in the volume of international trade. The higher tariffs did little then to protect U.S. jobs.

Recognizing the inadequate policies of the prewar period, delegates from the world’s leading nations met at Bretton Woods in New Hampshire in July 1944 to develop a more cooperative framework for the global economy. The World Bank and International Monetary Fund were created. After the United Nations was established in 1945, a specialized agency was created to deal with trade issues: the General Agreement on Tariffs and Trade (GATT). It was replaced by the World Trade Organization (WTO) in the 1990s. The purpose of those organizations has always been to reduce tariffs and other trade barriers through negotiations between national governments. “Free trade”, in other words, has been the goal.

There is nothing wrong with increased trade between nations. Anti-free traders are not proposing to “stick our heads in the sand and pretend the rest of the world does not exist.” That is not the issue. The issue is to recognize that the world has changed since the 1930s and 1940s and make the appropriate adjustments.

How has the world changed? First, world trade is no longer primarily between nation states at a comparable stage of industrial development. Increasingly, it is between developed nations and developing nations where labor is cheap. Second, the relevant relationships are not between national governments but between government and multinational businesses. Government should be regulating business but, because of a failure to empower international political organizations, the corporations have become too large to regulate. They play one government off against another.

My proposed new model of trade would recognize the changed realities. International business has no inherent loyalty to its host nation or to the nation where it originated. It will locate operations in any country where a cost advantage can be found. Therefore, it makes less sense for national governments to be representing businesses located within their countries. They ought to be representing their people or the jobs these people require. The idea of trade negotiations between governments is becoming obsolete.

An increasing share of international trade is intracorporate trade - trade between different divisions of the same company - whether managerial expertise, capital, and technology can quickly be shifted from one country to another. Either that, or the trade is between large companies that control markets in developed countries and subcontractors operating in low-wage countries. This is the “Wal-Mart model” of business. This retail giant signs purchasing agreements with its suppliers so stringent in their cost requirements that the firms must produce in a low-wage country to make money.

The basic situation is that the world’s nations are sharply divided with respect to economic or industrial development. In one group we have the world’s “developed” nations - the United States, Canada, Japan, Britain, France, Germany, etc. Wages and living standards are high. In another group, we have “underdeveloped” or “less developed” countries such as China, Vietnam, Sri Lanka, the Philippines, Indonesia, and various nations in Africa or Latin America. Wages are low in the latter nations - not because the governments in those nations necessarily mistreat their workers but simply because their economies industrialized at a later time. It serves little purpose to moralize about the situation as Americans are prone to do.

This is a “development” issue. It needs to be intelligently and dispassionately discussed.
When the North American Free-Trade Agreement (NAFTA) was being proposed and considered, Cuauhtemoc Cardenas, the leader of Mexico’s leftist party (the PRD), said: “We are not opposed to a continental trade and development pact with Canada and the United States. We maintain that trade must be seen as an instrument of development and that a new kind of development model must be at the core of any continental trade negotiations.” The “free trade agenda,” said Cardenas, “is narrow and simple: Mexico will sell its cheap labor to attract foreign capital, which in turn will guarantee the survival of one of the last authoritarian political systems in Latin America.” My sentiments, too.

Ironically, President Carlos Salinas of Mexico was selling NAFTA to Americans with the idea that, if Mexico developed industrially, there would be less need for poor Mexicans to migrate legally or illegally into the United States. But, of course, Mexican immigration has accelerated since NAFTA was passed. Part of the problem was that free trade gave U.S. agribusiness permission to dump cheap corn in Mexico displacing small-scale corn growers in that country. Without a source of income, such people migrated to the cities in search of work and then came north to the United States.

So, what is a “development model” of trade that we ought to be seeking as an alternative to free trade? Development means production and jobs in the context of sound environmental policy. Both ought encouraged in the poorer countries without collapsing the economies of richer countries such as our own. That means that there must be a controlled loss of jobs to the third world. Give third-world workers time to organize labor unions and agitate for increased wages. Eventually incomes and living standards would rise in those poorer countries. Consumer demand would be generated for many more products including those produced in the United States. Then we could have something approaching free and balanced trade.

If the current cost differential between poor and rich countries is too great, then trade needs to be buffered by artificial costs imposed additionally on products produced in one country but sold in another. That means imposing tariffs. The tariffs should cover at least part of the cost differential between production in the country where the goods were manufactured and the prevailing wage in the country where they were sold. In other words, government would remove part of the cost advantage which a company might achieve through outsourcing.

The desired development cannot take place in a free-trade environment. The problem with imagining that workers in low-wage countries will eventually be able to gain wage increases through union agitation or other means is that, as soon as there are unions effectively agitating for higher wages, the employer shuts down operations and moves elsewhere. Already this is happening in China - and will likely continue to happen after the new law which went into effect on January 1, 2008, protecting workers, takes effect. Employers have moved production from coastal areas to China’s poor interior if not to another still poorer country such as Vietnam. On the other hand, if the country where the goods are sold and consumed imposes a tariff, the producer will be forced to pay this to get his goods to market regardless of how the foreign workers have fared in their organizing efforts.

The key idea in a development model of trade is that it must be a “win-win situation” for working people in all nations. We cannot afford to pit American workers against Mexican or Chinese workers and hope to achieve a global agreement. Thus divided, working people around the world will lose against the united front of international business and finance. Really, it is employers who cut wages to the bone who would and ought to lose under such an arrangement. Employers with more humane policies ought, actually, to gain. The problem is that the more ruthless businesses have sometimes gotten to the politicians so that government does not represent the interests of its own people. That has to change.

I am proposing a model of trade based on international cooperation with full transparency of costs. This is the idea of the “employer-specific tariff”. The U.S. government, for instance, would impose a tariff on goods imported from low-wage countries based on wages, hours, and working conditions in the particular factories where the goods were produced. If the employer improved the offering to workers, the tariff would be automatically reduced. Such a mechanism would thus protect U.S. workers from unrealistic cost competition while an incentive would be created for foreign workers to benefit from the flexible rates.

I would suggest that such an idea could be sold to foreign governments. The same system of tariffs that was established in the United States could be employed by the Japanese, French, or German government, and others, to buffer the cost of products entering their markets. With respect to low-wage nations such as China that have enjoy a large cost advantage under the “free trade” system, I think an argument could be made that the huge dollar reserves amassed from such trade will become progressively less valuable as the dollar depreciates. China has, in effect, taken on our environmental pollution to become financially rich.

Those who created the GATT in the late 1940s could not have imagined that world trade would come to this. They took it for granted that nations and businesses headquartered in them were in the same economic boat and that both had some regard for the well being of working people. That no longer seems to be the case. Also, the idea that a nominally communist nation such as the People’s Republic of China should gain the upper hand with respect to the United States in competition within a global capitalist order would have seemed ludicrous to policy makers then. It’s not that China has behaved deceitfully but that the U.S. government prodded by certain business groups has betrayed the interest of its own people.

Yes, one might say; but is there a realistic chance that the free-trade system can be overthrown? Is not the U.S. government bound by treaty obligations under the WTO which it cannot break? In response, the first point to make is that the U.S. Constitution explicitly gives Congress the power to regulate foreign and interstate commerce. It did not give the President this power. It also did not give one Congress the power to tie the hands of future Congresses. The second point is that those alleged “treaties” were never ratified by the U.S. Senate as the Constitution requires of treaties. As “agreements”, they illegally escaped that requirement. The third point is that the WTO itself allows member states to withdraw from that organization and its requirements. So let’s consider doing that.

I can imagine that leaders of the U.S. government - starting with, say, a President Obama - will acknowledge that the U.S. trade position is hopeless. Under the free-trade regime,we simply will not be able to bring our trade accounts back into balance. Also, it is not in the interest of the American people that foreigners will increasingly own our assets, mortgaging future generations of Americans. Under those conditions, the President could announce his intention to propose withdrawal from the WTO unless it is converted to an organization promoting a development model of trade. He could set a two- or three-year period in which discussions could take place with other national governments. That in itself would stimulate a serious discussion of alternatives.

Given our past propensity to use military force against other nations, I do not think it would shock foreign governments for the United States to take an aggressive step such as this to protect its interests. In fact, I think many would welcome this - if the aim is to create a better world and not just make money for business firms and banks headquartered in the United States. That’s why this U.S. presidential election in 2008 is so important and why the prospect of electing a Democrat as President offers some hope that new trade relations will be considered.

Yes, an alternative to free trade is possible. The question is whether it is politically feasible. It becomes feasible if the message is effectively delivered. Maybe a campaign for U.S. Senate would do that. That’s my dream anyway.

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