Mercantilist Illogic

by Don Boudreaux on March 25, 2007

in Myths and Fallacies, Trade

In this letter appearing in yesterday’s New York Times, the University of Maryland’s Peter Morici accused Beijing of subsidizing Chinese exporters.  Morici calls on Uncle Sam to protect Americans from such treachery.  According to Morici,

Were these mercantilist practices [China's subsidies] stopped, many more American products
would flow out of West Coast ports to Asia. That would mean many more
high-paying jobs for Americans than additional government largess could
ever create.

Mercantilist policies do indeed include export subsidies.  But they include also protection of domestic firms from (real or imagined) export subsidies dished out to foreign producers.  The poisonous core of mercantilism, you see, features the silly belief that a nation’s wealth lies in what its people produce rather than in what its people consume.

Mercantilism also includes the myth that protecting domestic producers of high-value consumption items makes the domestic economy thrive.  Again I ask: suppose a generous Namibian scientist discovers a very inexpensive way to combine table salt, tap water, and ordinary bread crumbs into a medicine that cures — and inoculates against — cancer, tuberculosis, and erectile disfunction.  This generous scientist gives his knowledge away for free, publishing it on the web so that ordinary men and women throughout the world can, at virtually zero cost, protect themselves from these diseases.

Would Americans be made worse off as a result?  Treating these diseases today is big business.  People pay lots of money for treatment by highly skilled specialists, as well as lots of money for medicines made by other highly skilled specialists.  Does America’s wealth lie in the production of these high-valued outputs?  Or does America’s wealth lie in Americans’ ability to consume these high-valued outputs — in our ability to take steps to cure ourselves of these ailments?

It’s true that, given the current scarcity of resources and knowledge that enable us to cure ourselves of these awful diseases, the prices that we willingly pay for access to high-quality treatments are high.  Hence, the remuneration of the specialists who provide these treatments is generally high.  But it is a mistake to assume that we are made wealthy by the existence of such high-paying jobs — for such an assumption implies that the greater the number of obstacles that we face, the wealthier we become.

If Prof. Morici’s mercantilist logic were correct, then America would become a poorer place if an inexpensive sure-cure for cancer, tuberculosis, and erectile disfunction were discovered and information about it widely distributed.  But clearly we would be wealthier, not poorer, if such a wonderful discovery were made — just as we are wealthier the greater is our access to low-cost goods and services produced whereever, even abroad.

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{ 28 comments }

Brad Hutchings March 25, 2007 at 1:55 pm

"suppose a generous Namibian scientist discovers a very inexpensive [cure for] erectile disfunction. Would Americans be made worse off as a result?"

Yes. Spam touting the secret, inexpensive cure would drown us all. <g>. Great example, will have to try this one in mixed company…

David P. Graf March 25, 2007 at 9:12 pm

Actually, more than a few Americans would be in the soup if such a miracle cure were ever found and freely distributed. In addition to the specialists who would find themselves out of a job, there would be major dislocations in the pharmaceuticals industry as well. Needless to say, hospitals would also take a severe financial hit. Of course, Americans would be better off with such a cure. However, we'd also be better off with a safety net that would mitigate the explosive effects of miracle cures such as those administered by "Dr. Globalization".

Ironman March 25, 2007 at 11:44 pm

Excuse me, but am I the only one who's noticed that U.S. exports to China have doubled over the last 3 years and is now growing substantially faster than the rate at which China exports things to the U.S.? A rate that if this several-year-long trend is sustained will lead to the closing of the so-called trade "gap"?

Perhaps Peter Morici could explain again what exactly the problem here is that requires government action to fix that isn't occurring on its own anyway?

Jason March 25, 2007 at 11:49 pm

It'd be nice to use the all powerful "settled science" phrase for this editorial. Free trade is settled science, MSM should stop pretending that there's two sides to the issue. Tariffs & Protectionism = flat world.

As much as I hate that phrase, it would make things so much easier. It has to be a nice job defending global warming climate change.

golddog March 26, 2007 at 12:44 am

Jason:

I know you wrote your post tongue in cheek, but I agree with it. I do believe that free trade is "settled science." We've shown that it is beneficial to both countries and that any level of protectionism will leave both countries worse off.

Of course there are winners and losers within countries, and we should do something to help the losers, but overall each country benefits.

I too wish that the main stream media would start depicting protectionists in a negative light and I certainly believe that global warming deniers should be depicted the same way.

Martin March 26, 2007 at 4:14 am

If, If, If, If, If, If, If, If, If, If, If….

What is the likelihood of such a scenario ever arising. Virtually nil?

So what is the point of debating its merits?

speedmaster March 26, 2007 at 7:16 am

Wonderful analogy Dr. Boudreaux, thanks.

colson March 26, 2007 at 8:56 am

Martin,

What "If" are you referring to? DB's analogy in his criticism or another poster in this thread?

David White March 26, 2007 at 9:49 am

"The poisonous core of mercantilism, you see, features the silly belief that a nation's wealth lies in what its people produce rather than in what its people consume."

Ah yes, my wealth lies in what I consume, not in what I save. So if I blow my paycheck every week on whatever and have nothing for a rainy day — much less a rainy week, month, year, or retirement — I'm wealthy, all the more so if I use my house as an ATM to finance even more consumption.

Not to excuse China for the sin vendor-financing US consumption (it'll pull the plug when the time is right, the let the yuan appreciate and go on a "Buy America" shopping spree), Hugo Chavez (he may be an evil dictator, but he ain't stupid) got it right when he said: "The United States as a power is on the way down; China is on the way up."

http://www.reuters.com/article/ousiv/idUSN2427878220070325

But thank you, Dr. Boudreaux, for providing the logic behind our demise. Orwell would be proud.

Martin March 26, 2007 at 9:58 am

Colson,

"If Prof. Morici's mercantilist logic were correct, then America would become a poorer place if an inexpensive sure-cure for cancer, tuberculosis, and erectile disfunction were discovered and information about it widely distributed"

Read the man.

Martin March 26, 2007 at 10:21 am

David,

Don's answer would probably be along the lines that it's your own fault because you didn't have a bigger paycheck.

Mike Hammock March 26, 2007 at 10:39 am

David,

By your reasoning, then, the residents of Tanzania are incredibly wealthy. Look at all the things they choose not to consume!

David Peterson March 26, 2007 at 10:52 am

Don,
Frankly I do think this line of thinking is about the power to consume. I think the idea of job protection takes a very superficial view of jobs as mere paychecks giving people the ability to consume goods.
However it takes the availability of what is consumed as a given. It ignores that jobs also produce the goods that are consumed and the flexibility of this relationship is a good thing.

kebko March 26, 2007 at 11:13 am

As long as we're being hypothetical, what if your nation's economy were based entirely on high end medical technology, which you exported in exchange for all other goods & services? Wouldn't your economy be devastated? You would feel a very large net negative from this innovation, even if it benefited mankind in general.

David White March 26, 2007 at 12:09 pm

Mike Hammock,

Not at all, as the point isn't consumption, it's purchasing power. Tanzanians don't have it, and neither do Americans, the difference being that the former don't have an irredeemable paper currency that they can essentially force others to take, while Americans do, never mind that it has made us the greatest debtor nation in the history of the world.

It's all tied to oil, of course, and as more and more countries attempt to follow Iran's lead and start trading for it in other currencies, the dollar's status as the world's reserve currency will be threatened. Therefore, expect the following:

1) The US will attack Iran for trying to do (taking out Saddam for the same reason).

2) Bush will use the ensuing crisis to declare a national emergency, giving him the legal cover to bring the EU-like North American Union into being ahead of schedulee — http://www.sourcewatch.org/index.php?title=North_American_Union — the better to naturalize the Mexican workforce and lock up Canada's vast natural resources, while instituting capital controls to prevent China from conducting its "Buy America" campaign.

3) The euro-like amero will be created — http://oldfraser.lexi.net/publications/critical_issues/1999/amero — to paper over the collapse of the dollar and consolidate the continental trading bloc.

In the meantime, Americans will continue to be told that all is well and that even though they and their government are broke, the solution is to "go out and shop," just as our Dear Leader exhorted us to do in the aftermath of 9/11.

So enough of this exercise in critical thinking; it's off to Wal-Mart to do my patriotic duty. Good thing I took out that home equity loan. Just wish the value of my house weren't plummeting.

nunyabidness March 26, 2007 at 1:25 pm

David White,
Jeez, you're the most negative, illogical, uneducated, moronic nitwit I've seen on here in quite some time. I'm just SO glad that most folks in this world don't subscribe to your brand of "the sky is falling" tripe.

CardinalXimenes March 26, 2007 at 1:41 pm

Re: David White,

I think you're fundamentally missing the point behind wealth-as-consumption. A good or service that cannot be consumed by a person is irrelevant to their wealth- they have no command over its employ nor any satisfaction from its enjoyment.

Going into debt merely shifts the balance of consumption over time, permitting greater indulgence at present at the cost of restricted satisfaction later. Reckless or foolish consumption can of course destroy the basis of that wealth, just as anyone can raze a green crop or burn down a factory. Prudent use of borrowed wealth can, conversely, create greater opportunities for consumption in the future, ones that would not have existed otherwise.

If you really do believe that there exists any wealth in that which is produced but never consumed, then we are all infinitely wealthy. For if there is any value in a good produced but never consumed, then I can gain just as much of that value from a mountain of that good as from none whatsoever. I thereby declare myself the beneficiary of the Fountain of Youth, a brace of riding unicorns, and a box of squared circles, none of which shall ever be drawn upon for any use nor enjoyment.

Slocum March 26, 2007 at 1:58 pm

"Again I ask: suppose a generous Namibian scientist discovers a very inexpensive way to combine table salt, tap water, and ordinary bread crumbs into a medicine that cures — and inoculates against — cancer, tuberculosis, and erectile disfunction. This generous scientist gives his knowledge away for free, publishing it on the web so that ordinary men and women throughout the world can, at virtually zero cost, protect themselves from these diseases."

I'm sympathetic to Don's position, but am not convinced. Let's change the thought experiment a bit and imagine that this scientists is a little less generous. Imagine, instead, he produces the miracle medicine, which he sell cheaply, but guards the secret of production jealously. Of course, in short order, all of those previously employed in treating these diseases, and selling drugs for them, and in researching new treatments and in training new doctors are researchers — all these find new jobs in other industries, and all of the institutional structure and knowledge disappears.

But then imagine that our inventor of miracle drugs is imprisoned after a coup by a corrupt regime who sees a golden opportunity to exploit the miracle and so the price of the miracle drugs increases by 100-fold. But at this point, there is no alternative, and we, whose society is no longer able to do this work, pays through the nose.

It seems the critical difference between Don's version and mine (and Don's version and the real world), is that subsidized flows of imported goods cannot be expected to be permanent, but rather can be expected to last only until the domestic competition has been extinguished.

And isn't this especially a problem in industries where there are very high barriers to entry? There are two builders of large commercial aircraft in the world. The EU clearly doesn't Don's view on mercantilism, and it seems as though they would be quite willing to supply the world's airlines with passenger jets at subsidized prices that would force Boeing out of the passenger jet business. But what would we all pay for Airbus jets once Boeing was out of the market?

Or, let's take another tack — what does Don think about 'the curse of oil':

http://www.bbc.co.uk/bbcfour/documentaries/storyville/oil.shtml

The idea is that countries with an abundance of oil fail to develop their economies and societies because of the flood of unearned income. How is the effect of a flow of unearned subsidized imports different from a flow of unearned oil?

Aschkan March 26, 2007 at 2:42 pm

Slocum, the difference between your world and Don's is actually a fallacy. The idea was debunked long ago that you could subsidise your goods for a period of time until you destroy all of your competition and then extract monopoly rents to recoup those losses and additional profits. That theory stopped holding water in antitrust long ago and it should be equally false in international trade. It is bad business sense, and the fact that any country does it is usually to its detriment, not its favour. How long would it really take to find another willing third world country (Vietnam, Malaysia?) to provide manufacturing if China or another goods exporting country decided to stop subsidising their goods and suddenly start charging monopolistic prices?

Slocum March 26, 2007 at 2:59 pm

How long would it really take to find another willing third world country (Vietnam, Malaysia?) to provide manufacturing if China or another goods exporting country decided to stop subsidising their goods and suddenly start charging monopolistic prices?

I would say that it depends on the type of product–the barriers to market entry for large passenger jets are enormous. It costs many billions to develop a new airplane–even for an existing company that already has the experience, expertise, workforce, patents, production facilities, and etc in place.

Aschkan March 26, 2007 at 3:34 pm

Even for commercial airliners, Airbus could not price high enough to keep Boeing from rising like a phoenix or another company (say the nascent chinese airliner venture) from purchasing their IP. Airbus would be forced to price at a level just low enough that it isn't profitable enough for someone to resurrect Boeing or use their technology to compete. The idea that firms only compete with existing firms, as opposed to possible firms as well, understates the ability for capital to pool very quickly. My guess is that even if Airbus gave every plane out for free until all competitors were extinguished, they would have at best three to five years to recoup all those losses before another player entered the market, and they'd have burned billions doing so. There's a reason that private firms don't subsidise themselves, and unfortunately for the taxpayers forced to subsidise, the economics underlying subsidies doesn't change just because the government is doing it.

David White March 26, 2007 at 5:15 pm

nunyabidness,

As it's impossible to refute the logic of your reply — my how you so deftly you took my argument apart! — suffice it to say that I made it all up, including the hyperlinks.

David White March 26, 2007 at 5:22 pm

CardinalXimenes, you write:

"If you really do believe that there exists any wealth in that which is produced but never consumed, then we are all infinitely wealthy."

I believe no such thing. Rather, since savings are nothing other than deferred consumption, and since we as a nation are in hock up to our eyeballs and have a negative savings rate for the first time since the Great Depression, it's clear that "The Great Unraveling" is at hand — http://www.morganstanley.com/views/gef/archive/2007/20070316-Fri.html#anchor4577 — and that whatever China's mercantilist policies have had to do with it, it ultimately stems from the irredeemable paper currencies — first and foremost the Federal Reserve Note — that the world is awash in.

It's all about governments' corruption of money, in other wordss, and the extremes to which they will go to perpetuate what amounts to the greatest fraud in the history of the world.

Python March 26, 2007 at 8:15 pm

David,

Is a negative savings rate bad?

I believe the below quoted paragraphs sum up the answer quite nicely. Also note that private investment per capita is much higher now than it was back in the depression, and virtually any point in time in our history.

The Savings rate as a loan indicator is practically worthless. The savings rate of depressingly poor Asian countries frequently are much higher than wealthy Western countries.

Quoting Krugman here is like singing a Britney Spears song at a jazz festival.

"It makes sense that statisticians don't count assets like stocks as income before they are sold. Still, numerous studies have shown that as assets increase in value, consumer spending will rise as well, even before the asset is sold. Therefore, in periods of rapidly appreciating asset prices — like, say, right now — savings is bound to decline.

So when the news comes out that the average U.S. citizen has a negative savings rate, everyone tends to bemoan consumers' overspending, undersaving ways. Yet in reality, people in the United States do a great job of saving for the future — if you measure by the more appropriate metric of economic wealth, which accounts for rising asset values even before they are sold."

David White March 26, 2007 at 9:08 pm

Python,

Our "rising asset values" are purely a function of inflation — i.e., of the fact that the world is awash in "liquidity" — for no other reason than that the money's got to go SOMEWHERE, our ability to export the inflation in consumer goods to slave-laboring China conveniently obscuring this fact. At least until it becomes "An Inconvenient Truth."

That is, in a fiat-money regime, "rising asset values" are just rising prices masquerading as wealth creation. What work, after all, went into the "rising asset value" of your house? None, of course, as it's pure a function of the work-free nonsense that constitutes fiat money.

And quoting the socialist Krugman to prove your point? I mean, really.

Martin March 27, 2007 at 1:35 am

Python,

Although holding no brief for Krugman's politics, it's enlightening to see such an open-minded approach towards a Bates Clark medallist's economic opinion.

That Krugman does not agree with the GRU -sorry, GMU – party line does not mean that his opinion is automatically worthless.

Duh.

joe March 27, 2007 at 9:16 am

far from being worthless, Krugman's opinions are a good example of a negative externality.

He is specially worrying were he agrees with GMU.

Python March 27, 2007 at 1:57 pm

Martin,

Britney Spears in not worthless either. :-) Maybe my simile was misleading.

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