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Home Publications Blogs Beat the Press Eduardo Porter Is Badly Confused About Free Trade and Protectionism

Eduardo Porter Is Badly Confused About Free Trade and Protectionism

Tuesday, 07 August 2012 21:19

NYT columnist Eduardo Porter seriously misrepresents the issues in the trade debate in his column today. First of all, he misrepresents recent trade deals by referring them as "free trade" agreements.

While advocates of these trade pacts like to call them "free trade" agreements in the same way that President Reagan wanted to call the MX missile the "Peacekeeper", that doesn't make the assertion accurate. A major part of all the trade deals the United States has negotiated over the last two decades has been provisions that require stronger patent and copyright protection in our trading partners. 

Patent and copyright protection is a form of protectionism; it is not free trade. In fact, patent and copyright protection are extremely inefficient forms of protectionism that lead to far higher prices and much greater economic distortions that the types of trade protection that typically concern policymakers.

While tariffs or quotas rarely raise the price of a protected product by more 20 or 30 percent, patent and copyright protection raise the price of the protected items by many thousand percent. In the case of prescription drugs, patent protection raises the price of drugs that would sell for $5-$10 a prescription in a free market to hundreds or even thousands of dollars per prescription. The total gap between patent protected drug prices that we pay and their free market price is in the neighborhood of $270 billion a year.  

As economic theory predicts, this sort of interference in the market leads to rent-seeking behavior by drug companies that make the economic distortions even larger. In fact, the NYT has run numerous articles on efforts by drug companies to market drugs for inappropriate uses or to conceal evidence their drugs are ineffective or even harmful. (Here's the NYT's latest installment in its series on abuses caused by patent monopolies in prescription drugs. And yes, there are other ways to finance prescription drug research.) These are exactly the sort of abuses that economic theory predicts would result from this sort of government granted monopoly.

The article also mistakenly leaves readers with the impression that free trade would only put downward pressure on the wages of less-educated workers. In fact, this has been the case largely because the most highly educated workers, like doctors and lawyers, have managed to largely protect themselves from international competition.

If our trade deals were in fact "free trade" deals than they would be as focused on subjecting these highly paid professionals to international competition as well as manufacturing workers. The potential gains from free trade in these areas would be enormous.

For example, doctors in the United States get paid on average more than $250,000 a year. This is more than twice the average in western Europe. There are literally millions of people in China, India, Brazil and other developing countries who are perfectly capable of being educated to U.S. standards and who would be happy to work for less than half of the pay of our doctors (just as is the case with manufacturing workers). If we just brought the pay of doctors down to European levels the savings in lower health care costs would be close to $100 billion a year. This would be the equivalent of giving a tax break of about $1,200 a year to an average family of four. 

The point here is that the upward redistribution of income associated with trade policy has nothing to do with "free trade." It was the result of a trade policy that was consciously designed to put non-college educated workers in direct competition with low-paid workers in the developing world, while maintaining barriers that have largely protected the most highly educated workers from this competition.

Finally, the article misrepresents the role of currency values in this story. The United States presently has a large trade that is close to 4 percent of GDP ($600 billion a year). The deficit would likely be close to $750 billion a year or 5 percent of GDP if the country were close to full employment.

In a system of floating exchange rates, like the one we have, a country with a trade deficit is supposed to see the value of its currency fall. The idea is that more dollars are being sent overseas to buy imported goods than are being demanded to buy U.S. made goods.

In fact, the dollar has not been falling in value in large part because governments in developing countries (most importantly China) are buying up vast amounts of dollars. This prevents the trade deficit from putting downward pressure on the value of the dollar.

It is important to recognize that this system is absolutely not free trade. The countries pushing up the value of the dollar against their currency are effectively subsidizing their exports to the United States while imposing tariffs on imports from the United States. This has the predicted and actual effect of hurting those workers (e.g. manufacturing workers) who have been subjected to international competition.

Taking actions to force down the value of the dollar in this context are in fact 100 percent consistent with free trade. It is understandable that those who benefit from the over-valued dollar, for example by getting cheap imports and low-cost trips to Europe, would object to policies that would bring the dollar down to its free market value. However such policies are in fact consistent with free trade.

The current policy is a one-sided protectionist policy that has the effect of redistributing income upward. It is absolutely not free trade. 


Comments (14)Add Comment
What's the Difference Between Free Trade and Anarchy?
written by Last Mover, August 08, 2012 6:45
Nothing according to opponents of Baker's definition of free trade.

Patents, copyrights and the selected protection of upper class professionals from competition is considered the norm by conventional definitions of free trade because they're so enmeshed with the broader notion of property rights in general at the heart of capitalism. Tampering with these untouchables is equivalent to sedition from the political right.

Yet it is Baker who is the true hard core capitalist, forcing their hand to reveal the massive corruption that has undermined capitalism itself with the very protectionism they pretend to demonize so proudly in the name of capitalism.

The opposition doesn't characterize Baker as an anarchist against protectionism because that strikes too close home, revealing their gross hypocrisy on free trade.

Instead, they revert to the standard claim of socialist interference with markets because Baker's solutions to the problem requires alternatives that would create outcomes either more directly competitive (health care) or outcomes equivalent to competition (patents and copyrights).

Of course if Baker really was an anarchist for absolutely no government at all then that obviously makes the opposition outright fascists who could not possibly survive without support from government.
selective immigration...
written by pete, August 08, 2012 10:47
Of course, immigration for intellectuals is the easiest, not the hardest. Try and get an H1 visa for a janitor...now try and bring in a bioengineer or a finance professor. And Dean must have not partaken of health care lately. Got to be 50% immigrants. Should it be more, clearly, as long as the AMA and SEIU/nurses restrict entry. Open the borders to all, but take away the nanny state, and we would absolutely get those with earning the highest rents (doctors, lawyers, college profs, econ-bloggers?) coming here.

And as usual, regarding intellectual capital, expropriating my brain as public property as Last Mover notes is a slippery slope down the road to all property is public. Please keep your hands off my brain.

But that said, there are way too many new drugs anyway, with diminishing value added. That's why most insurance companies push toward old tried and true generics. Like 10 cents or so a day for a statin or metformin. Those are not monopoly profits. And the best medicine, exercise, is free! (Shhh don't tell the AMA/SEIU/Drug Company cartel.)
chinese buy bonds not bucks
written by pete, August 08, 2012 10:57
Of course, the chinese do not buy dollars. They likely have very few "dollars". Instead they have bonds and Tbills. So, lets see, if they dump these bonds and do buy dollars with them, this will raise the dollar, no, and interest rates (from selling bonds) would rise, I would guess (this would be essentially a reverse QE). Then what would they do with those dollars? Buy Las Vegas? Stockton? Apple? Facebook? American Airlines. Probably if we let them. Certainly not our cars, they are building their own. Our tee shirts and shoes? Probably not. Electronics made here? Doubt it. Partake of our health care...ha ha ha. Perhaps send more kids to graduate school here, that would be great! And solve the doctor shortage. Ta da. One way to get them to dump those bonds and buy dollars to change into real stuff is to threaten to debase them with inflation.
written by Peter K., August 08, 2012 2:11
As Mr. Baker famously said "China has an unloaded water pistol pointed at our heads."

Porter is right that if we had full employment with rising living standards people would be less against "globalization." He doesn't seem to answer the question of why people should be in favor of "globalization" if things aren't getting better and he doesn't say much about China's manipulation of their currency and the government acquiescence on the issue.
written by Alex, August 08, 2012 2:19
Dean, why don't you support abolishing all patents, rather than just drug patents? Surely the same arguments apply to both?
monopoly rights
written by saurabh, August 08, 2012 3:34
If the government can grant specific people a patent monopoly and give them the exclusive right to sell a product, why doesn't the government also retain the ability to control the price of that product? What's to prevent the government from stepping in and saying, Okay, you're charging 100X market rates for this drug, that's too high. Cut it down to 10X. If drug companies don't like it, they don't have to accept the patent monopoly.
written by Floccina, August 08, 2012 3:35
It is nice to read a democrat like Dean who argues against some government intrusions into people's lives and for economic freedom.
The Chinese Do Buy Dollars
written by Stephen, August 08, 2012 3:45
Of course, the Chinese do buy dollars in foreign exchange markets to keep the dollar down. They then use those dollars to buy bonds. So yes, that means they buy dollars.

If they stopped buying dollars to buy bonds the yuan would appreciate against the dollar, boosting our exports and raising living standards. Interest rates probably wouldn't rise, considering the vast demand for US bonds, but the appreciation in the yuan would make up for the (probably insignificant and possibly nonexistent) increase in interest on debt payments.
they do not buy dollars in the FX market
written by pete, August 08, 2012 4:29
You imply they issue renminbi to buy dollars, in order to drive the dollar up, when such is not the case. Instead, we give them dollars for tennis shoes tshirts and iphones, not renminbi. They use the dollars to buy bonds with. If they did not buy bonds they would buy something else, but it would likely be our capital, not our goods and services. Don't see how their choice of investment (bonds vs real estate) influences the value of the renminbi. In the 60s, we did the same thing with Japan and Germany, gave them lots of dollars for VWs and TVs and Hondas. They bought gold (since we didn't have enough debt for them). When we allowed gold to float, they bought LA. That screwed up in the crash of the late 70s.
The Chinese Central Bank Creates Prints Yuan to Buy Dollars
written by Stephen Knapp, August 08, 2012 8:01
The Chinese central bank buys dollars on the FX market with yuan and then buys treasuries. This devalues the yuan. In your scenario above, there is no currency manipulation. If they just bought bonds without manipulating their currency, the exchange rate would readjust and we would buy our tennis shoes and iphones from the United States. Dean, please set this straight, I know you're a busy man.
In a free market China's government would not be holding large amounts of U.S. assets
written by Dean, August 08, 2012 9:50
If we had a freely floating exchange rate, the Chinese central bank would not get involved. It would let Chinese companies dump their dollars on world markets, driving down the value of the dollar.
written by Calgacus, August 09, 2012 3:12
Stephen & Pete: It's a combination of what you are saying. Chinese exporters "buy" dollars from us by exporting real goods to the USA. They, uh, are Chinese & would prefer renminbi, which is what they pay their bills with. So the Chinese central bank buys Chinese exporters' dollars with newly created renminbi. So it ends up with a ton of dollars, and since bonds pay interest, it buys the bonds with those dollars ( the last is the least important transaction). The dollar value of the renminbi is "influenced" - really pegged - because the Chinese Central Bank purchases those dollars at a set price in renminbi.

If US economic policy were run with a microgram of common sense, like China's, we would just say thank you very much for this nice thing that China is doing for us. But make sure that this deflationary leakage of dollars did not damage the US economy, by always printing enough new dollars to maintain full employment at good wages.
don't see why they can't trade tennies for Las Vegas and not manipulate...
written by pete, August 09, 2012 10:42
Clearly on a global scale we have massive capital/labor imbalances (think international Solow growth model). The economic (getting the most from scarce resources) problem is getting these aligned. The political problem is much more subtle, as US/European wages must fall a lot relative to the rest of the world. From what I understand the dollar value of Chinese wages are rising now much faster than US. I guess not fast enough...but that depends a lot on capital movements. Now Caterpillar et al. are building plants in China. I.e., capital is chasing the lower wages. That will help drive up Chinese wages across the country while Caterpillar et al. ask for slower wage growth here, and eventually lower their exports, no?
written by AlanInAZ, August 09, 2012 11:13
The shortage of US trained doctors driving up costs was largely the result of restrictions on medical school construction and certification. I think trade deals don't have a lot to do with this cost issue. (Also, I think it is a bit immoral to rob poor countries of their talent to supply a wealthy country such as ours.) European/Japanese medical salaries are lower because their systems are different from top to bottom with a heavy dose of government price controls. The European systems are not free markets.

Dean is wrong if he thinks college educated workers are shielded from foreign competition. I am a retired chemical engineer and I assure you that my profession has been subject to competition from foreign talent for a long time. I was competing against Europeans, Japanese, Indians and others decades ago. Competition is even more intense now because of advances in IT.

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About Beat the Press

Dean Baker is co-director of the Center for Economic and Policy Research in Washington, D.C. He is the author of several books, his latest being The End of Loser Liberalism: Making Markets Progressive. Read more about Dean.