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Home Publications Blogs Beat the Press Enough Magical Thinking on Trade

Enough Magical Thinking on Trade

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Tuesday, 22 July 2014 15:22

In his Financial Times column Adam Posen gets out the old trade magic story, throwing away conventional economics to make bizarre arguments about trade's wondrous impact on the U.S. economy. Among other things, he tells readers:

"Econometric studies have established that when US companies invest abroad, the net result is increased employment, stronger demand and more investment at home. This makes sense, since it should on average be the more competitive businesses that have the resources and opportunities to expand abroad, and investing should increase their productivity. This conclusion applies specifically to US companies that have invested in Mexico. Recent research has found that, on average, for every 100 jobs US manufacturers created in Mexican manufacturing, they added nearly 250 jobs at their larger US home operations, and increased their US research and development spending by 3 per cent."

Hmmm, maybe we should subsidize the export of jobs. If we could export another 4 million jobs to Mexico, we could add 10 million here and close the employment gap. I doubt you will get many people, especially those familiar with economics, to agree that anything like this makes sense.

In fact econometric studies have shown that, consistent with economic theory, trade has been a source of downward pressure on the wages of the 70 percent of the workforce that lacks a college education. The basic story is that we put our manufacturing workers in direct competition with low paid workers in the developing world while protecting our doctors, lawyers, and other highly paid professionals. The predicted and actual result is lower pay for the vast majority of U.S. workers.

In additional to the negative impact of current trade patterns on wages, there is also the simple problem of the massive loss of demand due to the trade deficit. We currently import $500 billion a year more than we export. This is $500 billion that is creating demand in Canada, the European Union, Mexico, and elsewhere, rather than in the United States. Is there some story as to how domestic consumption or investment is somehow larger because of this trade deficit? If so, it would be worth a Nobel Prize if someone could lay it out with a straight face.

The $500 billion trade deficit, coupled with a standard multiplier of 1.5, translates into $750 billion of lost annual output (roughly 4.5 percent of GDP). This in turn would come to about 6 million jobs. That is close to enough to get us back to full employment. That would give workers enough bargaining power to secure real wages. So yes, trade is a big deal.

It is also worth noting that the "trade" deals currently on the table, the Trans-Pacific Partnership and the Trans-Atlantic Trade and Investment Pact, have little to do with trade. Both are primarily about putting in place a pro-corporate regulatory structure that would almost certainly not pass in Congress through the normal process or in any other democratically elected parliament. It will also include increased protectionism in the form of stronger patent and copyright protections. These will have the effect of raising prices, slowing growth, and costing jobs. 

 

 

Comments (14)Add Comment
where does he get this from?
written by djb, July 22, 2014 6:24
"Recent research has found that, on average, for every 100 jobs US manufacturers created in Mexican manufacturing, they added nearly 250 jobs at their larger US home operations, and increased their US research and development spending by 3 per cent."
...
written by JDM, July 22, 2014 7:23
He takes it from a paper, and series of claims, by Theodore H. Moran and Lindsay Oldenski. But their claim is belied by a figure they present in one of their papers making the claim (http://blogs.piie.com/realtime/?p=4385). Figure 2 there shows employment by US multinational companies in Mexico and the USA from 1990 to 2010. The US side shows a slight rise, and is flat since 2000, while the Mexico side shows a steady rise. Given that (stats from US Bureau of Economic Analysis), their claim cannot be true. I have no idea how they managed to come up with numbers to make their claim, but the graph is pretty clear. And mind you they presented it in their own work.

They also do one of my pet red flags, comparing two things (US and Mexican employment) by using numbers of employed for one and percentages for the other. In my experience, when you see that done you're probably looking at a reason for using the bait and switch. This is from the text just below Figure 2:

"Figure 2 shows the employment trend by US MNCs in the United States and at their affiliates in Mexico over the same time period. Employment by affiliates of US firms in Mexico grew from about 553,000 workers in 1990 to 1.34 million in 2011. Employment in Mexico went from 3 percent of employment by US MNCs in the United States to 5.9 percent of employment by US MNCs in the United States in 2011. As was the case with sales, it is clear from figure 2 that employment by US MNCs in the United States and Mexico both follow similar trends, with the rate of growth varying with times of overall economic growth and contraction."
My suspicion
written by Dave, July 22, 2014 8:22
I suspect Moron is thinking something like this:

Looking at the growth of companies with operations in Mexico, the growth such companies occurs in roughly a 2.5/1 ratio of US employees to Mexican employees. Obviously this is meaningless regarding the effect of having the labor in Mexico because it doesn't compare the effect of being in Mexico as opposed to not being in Mexico.

In other words, what happens when US companies start with no employees in mexico and then move their manufacturing to Mexico. Well, I can tell you that. I just finished a contract for a company that had just moved their manufacturing to Mexico. I layed off hundreds of of employees and moved to a building half the size of the original.

Magic, yea.
half a Nobel prize?
written by Jerry Browm, July 22, 2014 10:05
"Is there some story as to how domestic consumption or investment is somehow larger because of this trade deficit?"

Isn't consumption in the U.S. going to be $500 billion or so higher while running that trade deficit than otherwise? We consume $500 billion worth of products made somewhere else in exchange for pieces of paper or promises of them. I agree with you as to the effects on domestic production and therefore as to how that harms demand for labor and wages paid in the U.S. And I don't see how it helps domestic investment.
@ Jerry Browm
written by Larry Signor, July 22, 2014 10:36
So you suppose that $750 billion dollars in production would just materialize out of thin air? No expansion of employment or production infrastructure? These things are part of investment. Domestic consumption is weaker because of the national account imbalance. We are not experiencing the benefit of a weaker dollar or the full benefit of the multiplier effect while we run a trade deficit. [This is in addition to the employment benefits we fore-go because of a dearth of jobs].
No mention of immigration, Low-rated comment [Show]
Moron's ideas on crashes / slumps.
written by Ralph Musgrave, July 23, 2014 8:58

I was at a conference once where Moron was the keynote speaker. He claimed that ALL slumps / crashes have been caused by house price bubbles. Someone then asked him what houses had to do with the 1929 crash, and he had to eat humble pie.
...
written by JDM, July 23, 2014 10:53
[Dean doesn't want to offend his democrat friends.

Yeah, that's why he wrote a book called Loser Liberalism calling out their failed tactics and goals.
We could point out the worst Democratic offenders
written by Dave, July 23, 2014 12:04
BJD, LHS, GS, BHO, WJC…

Did I miss something?
written by gary, July 23, 2014 2:30
How does downward economic pressure on wages refute the claim that when US companies invest abroad, the net result is increased employment...?
...
written by jl, July 23, 2014 5:13
In fact econometric studies

the 'studies' link is bad.
Trade balance has improved since 2006
written by Doug Rife, July 23, 2014 8:22
Here is a chart showing the very long term effect of the trade balance on real final sales of domestic product. I subtract real final sales to domestic purchasers and divide the result by real GDP. One can see that trade subtracted a whopping 6% of GDP back in 2006 when the economy was running hotter than today. In fact, 2006 was the peak of the US housing bubble. Now it's only half as much at 3% of GDP, a very big improvement! If it were not for this large improvement the US economy would be in even worse shape today. Also note that the trade deficit often improves near or during recessions. That suggests that trade effects on GDP need to be balanced against other non-trade effects.

http://research.stlouisfed.org/fred2/graph/fredgraph.png?g=Gf4

One reason is that during periods of domestic weakness Fed policy is more accommodative, which tends to lower the value of the dollar and improves the competitiveness of US products.
Why would this not apply to manufacturing moves from high wage USA state to low wage states
written by John Wright, July 23, 2014 10:38
The central premise of this seems to be "have no fear, move your USA factory to Mexico and more jobs are created in the USA region that lost the jobs".

As a thought experiment, let's imagine the MNC manufacturing plant moving trucks stopped before they crossed the border.

One would expect the same situation to occur if a manufacturing plant moved from high cost California or Michigan to lower cost Tennessee or Alabama.

Are there studies that support this?

If afer the foreign move, the jobs DO increase at the remaining portion of the MNC still in the USA, it may be because lower cost of the MNC killed other USA based competitors, especially the smaller companies that cannot easily move overseas but were price competitive before but are no longer.

So the numbers the author's quote could be correct for MNC's, but in the aggregate job market the MNC's could simply be grabbing market share and jobs from other USA companies.

For, if this were true in a general sense, one would expect Alabama, Louisiana and Texas to promote, "Move your USA factories to our states and you will create even more net jobs than you lost."

Maybe they are arguing this, but I haven't heard the campaign.
Factors
written by Andre, July 24, 2014 4:11
Generally when you have the two factors labour and capital, after free trade the labour intense economy is becoming more labour intense and the capital intense economy more capital intense. Which may be beneficial for the US.

TTIP is a useful tool to get rid off trade distorting counter-productive protectionism as the Berry Amendments, Buy American and oil export restrictions.

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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.

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