The Wages of Misunderstanding

by Don Boudreaux on December 28, 2007

in Myths and Fallacies, Prices, The Hollow Middle, Trade, Work

Paul Krugman circa 1996 understood the point of this letter (below) that I sent yesterday to the New York TimesPaul Krugman circa 2007 apparently doesn’t:

Opposed to free trade, David Raines asks “How can it be good for workers to be subjected to competition from low-wage countries?” (Letters, December 27).  This question reveals a common misunderstanding.

Worker compensation in America is high because American workers are made highly productive by the great amounts of capital they work with.  (And by the way, America is rich in capital, in part, because she consistently runs capital-account surpluses – i.e., “trade deficits.”)  Where wages are low, it is because workers in those places have little capital to work with and, therefore, are not very productive.

G.M. and Toyota continue to sell cars even though bicycles – a competing means of transportation, but one far less productive than cars – fetch much lower prices.  For the same reason, with free trade American workers will continue to sell their labor for high wages even though many workers abroad fetch much lower wages.

Donald J. Boudreaux

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Per Kurowski December 28, 2007 at 3:49 pm

So what you say is that just like the case of real estate the three most important things are location, location and location. And so be close to where the money is and your wages will stay high. Sounds reasonable.

A. Murray December 28, 2007 at 4:36 pm

Prof. Boudreaux,

You may argue (rightly, in my view) that free trade and generally free markets will benefit people at all strata of society in the long run. But in your responses to Raines and Professor Krugman you pursue a different and less effective line of argument. Krugman is absolutely correct when when he claims that economic theory admits the possibility that trade could reduce the real return to unskilled American workers, all else being equal. Unless you know of some flaw in the logic underlying the Stolper-Samuelson Theorem, I don't know why you would deny this uncontroversial possibility even if you do not believe that it would justify protectionism or other government intervention.

vidyohs December 29, 2007 at 7:55 pm

Congratulations Isaac Crawford!
This is as about as true as anything ever printed or written. Thanks.

"If you think there is some reason that people are not gaining the skills needed (like a poor educational system), then the bellyaching and policy changes should be pointed towards that. There are always a certain percentage of people that cannot compete due directly to the choices that they have made. I like to think that they are a very small minority… While they are prime candidates for charity, they should not be "protected" or otherwise have policy directed towards them. They should suffer the consequences of their decisions.

Isaac Crawford
Blogging in Yemen

Posted by: Isaac Crawford | Dec 29, 2007 1:43:43 PM"

Martin Brock January 4, 2008 at 3:38 pm

Krugman addresses Boudreaux's objection in the article Boudreaux links, but Boudreaux doesn't even acknowledge Krugman's addressing of it. I don't know where the facts fall, but vaguely talking around the subject doesn't accomplish anything. I understand Laffer's notion of a capital account and why a large, persistent current account deficit could be sustainable for a growing economy. I also understand why free trade should benefit both parties to a trade in a free market. The problem, potentially, is that markets are not ideally free. So is a significant class of U.S. workers experiencing real wage stagnation or even declines or not? It happened in the seventies, and I suppose it could happen again. I'm not discussing alcoholics sleeping on grates.

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