How do we know what we know about economics?

by Russ Roberts on March 12, 2008

in Data, Trade

I was asked the other day by a reporter if NAFTA had been a good thing or a bad thing for America. I said that both the proponents and opponents of NAFTA had no legitimate, unassailable or even suggestive, statistical evidence on their side. I said it was absurd to think that in a $14 trillion economy, you could tease out the impact of increased trade with Mexico and Canada and disentangle it from the thousands of other changes going on.

I suggested that anyone who provided an empirical case for or against the agreement was essentially being dishonest–using statistics selectively to make the case for a pre-existing world-view.

The reporter found this viewpoint unacceptable. Surely, he said, economics can help us answer the question of whether NAFTA has been good for America or bad. Or at least good or bad, for say Ohio.

I said no, there was no empirical evidence that would be decisive. It isn’t just that it’s hard to measure the net impact precisely. I argued that it can’t be measured.

He refused to accept this answer. Surely I could answer the question of NAFTA’s worth. I was just ducking the question.

I said, no, I wasn’t ducking the question. I was answering the question. He just didn’t like my answer.

But he couldn’t accept the answer as being "I don’t know," or more accurately, we can’t know if by "know," you mean some kind of defensible statistical evidence.

The most well-known think tank that views NAFTA negatively, the Economic Policy Institute, argues that between 1993 and 2004, Ohio lost 49,886 jobs because of NAFTA.

Not 50,000, but 49,886.

For the U.S. as a whole, EPI estimates that 1,015,290 jobs have been lost. Not a million, but 1,015,290.

But it’s not just the precision of the estimate that makes the calculation ridiculous. It’s the methodology that measures jobs displaced (the verb the EPI study usually uses) by assuming that imports destroy jobs and exports create jobs. With this methodology, a trade deficit reduces the number of jobs.

By this logic, America would have fewer jobs if foreigners suddenly decided to give us cars rather than selling them to us. Free foreign cars would destroy jobs in the American car industry. Inexpensive foreign cars do the same thing. So do cars made by Americans that are produced with robots instead of human welders. If you believe that imports destroy American jobs, so does better technology that makes workers more productive.

If the EPI was as anti-technology as they are anti-trade deficit, they could go out and measure the number of buggy manufacturing jobs destroyed by the auto industry and the number of eyeglass manufacturing jobs destroyed by lasik surgery or the number of jobs in the medical profession destroyed by pharmaceutical innovation. Surely those numbers could be estimated with some rough accuracy.

And surely they would tell us nothing about whether the world is a better place because of those innovations. And they would tell us nothing about the impact of those innovations on total employment.

But most of us understand that higher productivity doesn’t mean fewer jobs in the United States overall. There are two ways to see it. One is to see the increase in the total number of jobs over time as we have replaced people with machines in every corner of the economy where it’s possible. So this suggests that technology doesn’t destroy jobs.

The same is true of the apparent effect of trade deficits. Manufacturing employment was shrinking as a share of the total employment between 1950 and 1975 when the trade deficit was essentially zero. We run a trade surplus in agriculture. Yet agricultural employment shrinks rather than rises.

There appears to be no relationship between the number of jobs in America (or in Ohio for that matter) and the trade deficit or increased productivity.

But the opponents of technology or trade could argue that the failure to observe a negative correlation between jobs and technology or jobs and trade deficits is spurious. True, the number of jobs in America has grown while technology has gotten better and better. But if we hadn’t had technology we’d have even more jobs. So we have to control for the other factors that might have made jobs increase rather than decrease.

That’s very hard to do. I’d settle for hearing a list of the factors that might plausibly be offsetting the alleged effects of trade and technology. In the absence of that list, I’m pretty comfortable arguing that trade deficits and technology have little effect on the total number of jobs (rather than the number of jobs in particular industries). And the reason I feel that way is partly because of the total number of jobs rising but mainly, I suspect, because I have a belief about how the world works.

I use the word "belief" which might lead some to dismiss my views as simply a matter of ideology. But my faith in my view of how the world works has empirical support for its tenets. It’s not just a fantasy or a dogma or convenient. I just don’t have holistic empirical evidence on trade having no impact on the number of jobs.

My view of the world is that when we widen the ability of our fellow citizens and ourselves to trade with people other than just our own kind or nationality or religion or color, that that in turn allows trade to take place more productively. That in turn creates wealth, a higher standard of living. And that in turn creates new opportunities for employment that come along and replace the old.

This view of the world is supported by logic and lots of empirical evidence. But again, it’s not the empirical evidence of an overarching kind that let’s me evaluate one corner of increased specialization, say the overall impact of NAFTA.

When I told the reporter that the net job loss numbers of the EPI are meaningless because they miss many of the jobs that are created, he said, so tell me where to look for those new jobs. And again, I had to disappoint him. I said that I couldn’t tell him where to look.

Why?

Because when we trade more with each other and use our limited resources more effectively, two kinds of new opportunities get created. We take the wealth and resources that have been freed up by more efficient trade (or the same effect when productivity increases) and we use those extra resources to produce more of what we like and to get some new stuff we couldn’t have had before. And yes, we also get an expansion of export-related jobs.

But the export-related jobs can’t capture all the job gains from having a more effective use of our skills and time and energy that comes from trading more widely. Especially if you run a trade deficit. That means that a lot of the new jobs that are going to be created aren’t going to have anything to do with trade. Just like finding ways to make steel with fewer people and more machines leads to new jobs in the steel-machinery making business but in lots of other industries that you can’t identify, that come from people being able to spend less on steel and having more resources to spend on other things.

So I can’t tell the reporter where to look. He has to look everywhere. It doesn’t make for a very good feature story.

So I’m sorry I can’t be more helpful. But I do think economics has a lot to say in helping us understand the effects of increased trade. It just doesn’t come from the bottom line of an empirical study.

P.S. I am ignoring any bureaucratic complications that occur in a real-world trade agreement. I wish we would just eliminate our tariffs and quotas rather than do all the bureaucratic and legal compliance wrangling involved in NAFTA.

P.P.S. For a pictorial version of these ideas with the data alluded to in the discussion, go here.

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{ 34 comments }

Sam Grove March 12, 2008 at 5:22 pm

That sounds about right.

And libertarians are thought to be simplistic when we can't produce such evidence. Inquiring minds want to know exactly what's going on. How else will the politicians and bureaucrats know how to perfect policies?

David White March 12, 2008 at 5:45 pm

"My view of the world is that when we widen the ability of our fellow citizens and ourselves to trade with people other than just our own kind or nationality or religion or color, that that in turn allows trade to take place more productively. That in turn creates wealth, a higher standard of living. And that in turn creates new opportunities for employment that come along and replace the old."

This is most assuredly true, regardless of where the trade takes place, whether across the street or around the world. The problem, however, is that if the media of exchange through which the trade takes place are not also goods themselves (since money, properly speaking, is a good used and a medium of exchange), then trade slips its mooring and is set adrift on a see of "floating exchange rates."

Which is to say that non-goods-base media of exchange don't float at all; they just sink at different speeds, none of the others presently being able to keep up with this one:

http://futuresource.quote.com/charts/charts.jsp?s=DX&o=&a=M&z=800×550&d=HIGH&b=bar&st=

Me March 12, 2008 at 5:50 pm

Why not just turn the tables on the reporter and ask him how many jobs has he destroyed by providing news gathering and writing services for others, and then how many jobs has he created by using the money he's made by destroying many jobs to purchase other goods and services created by others. He ought to have a precise number. If not, call EPI.

Will March 12, 2008 at 6:06 pm

Excellent. Very Austrian School of you to look at it beyond the numbers. =p It reminds me of an article a while back that argued a key benefit of NAFTA, often overlooked, is the economic liberalization of Mexico.

muirgeo March 12, 2008 at 6:08 pm

I still can't get over the feeling that what we are calling free trade isn't something else.

When capital moves cross borders, when employment isn't full and when trade is not equal then as I understand we are no longer talking about comparative advantage but an absolute advantage.

When trade is apples for beer it make sense but when the trade is more about loaning and borrowing money and using all sorts of complicated financial products in between I think we can't say simply that either nation has an advantage and that it might be possible that most of the advantage goes to upper management of multinational corporations who write the 1000 page rules of how "free trade" can proceed.

Looking for empirical evidence for support of my concerns is also difficult. But the wage productivity gaps, the concentration of wealth, the plummeting dollar, the coming inflation/stagflation and the crisis of liquidity and meltdown of the housing market make me think the implications of trade and its relation to debt are far more reaching then even what one might speculate about its effects on jobs.

Methinks March 12, 2008 at 6:25 pm

Methinks March 12, 2008 at 6:38 pm

Whatev! All I know is that I'm still pissed off because there's a massive trade imbalance between myself and Whole Foods. I buy a ton of stuff there and Whole Foods buys absolutely nothing from me. Not only do they not buy anything from me but they buy nothing from my neighbours either. I'm sure that if I can get a boycott of Whole Foods going in my town, we'll all be better off.

[sarcasm off]

I said it was absurd to think that in a $14 trillion economy, you could tease out the impact of increased trade with Mexico and Canada and disentangle it from the thousands of other changes going on.

This and the size of the hierarchy is why central planning never works. It is disappointing to me that economists abandoned the study of Soviet central planning the minute the Soviet Union collapsed. The futility of the task is even more breathtaking in attempts at execution than it is in theory. the mistake some western economists and most politicians make is in thinking that if they only use the power of government to plan/control some things, they don't change the incentives and expectations for everything.

David White March 12, 2008 at 6:42 pm

muirgeo writes:

"I still can't get over the feeling that what we are calling free trade isn't something else."

And I can't get over the feeling that nobody, including you, reads my posts.

Follow the conversation here — http://www.usagold.com/cpmforum — and you might learn something.

Sam Grove March 12, 2008 at 6:47 pm

sorry bout the bold.

FreedomLover March 12, 2008 at 7:10 pm

I suspect the blog simply posts the comments HTML verbatim without validation.

Martin Brock March 12, 2008 at 7:31 pm

If we banned the use of gasoline for transportation throughout the world, we'd soon employ ourselves producing something else to transport ourselves otherwise, so "destroy jobs" is just another way of saying "free resources to produce other things". If we imported everything we could and exported nothing at all, we'd still reemploy free resources to produce other things. Then the only question would be, "Why do foreigners export things to us while we export nothing to them?" Another question would be, "How long will they do it?"

M. Hodak March 12, 2008 at 7:54 pm

You realize that this reporter is earning 10 cents a word because he couldn't do better than a "C" in high school math or science. Nice try attempting to get the idea of "statistical significance" across.

Grant March 12, 2008 at 7:56 pm

While reading this post, I was waiting for Russ to try to explain to the reporter that true economics is based on a priori reasoning. It never came, but its still a good post ;)

Jacob March 12, 2008 at 8:28 pm

Russell, brilliant post.

This post seems to me to display how economics cannot possibly rely upon 'empirical evidence' to create theory. How can one economist think that the New Deal was the best thing ever for the economy while another think it was the worst? Everyone can drum up a few statistics to support their case.

It is the theory that tells you what statistics to look at. There cannot possibly be an empirical basis for any economic theory.

BAP March 12, 2008 at 8:53 pm

I found something funny about the reporter pestering you to answer the question. I suppose he did not realize that is incessant questioning to get the answer he wanted you to give was exactly what you were attempting to explain to him was wrong with making the judgment of whether or not NAFTA was good for Ohio or not.
The reporter had an answer in mind that he wanted you to give him, and I am sure he had a qualifier to attach to your answer as well (something like…Pro-Free Market professor Russ Roberts of GMU…). Likewise, those who want to say whether or not NAFTA is good or bad for the US have an opinion in mind and seek out the statistical results that agree with them.

save_the_rustbelt March 12, 2008 at 9:02 pm

I seem to remember strong statements to the effect that the Bush steel tariffs cost the loss of 200,000 jobs in steel-consuming companies.

I have been looking and asking for years for a list of these jobs, because someone should be able to track this by company, plant and number of workers.

I think the econo-guessers just did some statistical flim-flam and made up a number.

save_the_rustbelt March 12, 2008 at 9:04 pm

"I'm pretty comfortable arguing that trade deficits and technology have little effect on the total number of jobs…"

How about the quality of the jobs (real wages, benefits, security, etc.) and income and wealth distribution?

FreedomLover March 12, 2008 at 11:53 pm

The problem is you tried to explain the scientific method to a moronic journalist. That was the mistake.

FreedomLover March 12, 2008 at 11:55 pm

How about the quality of the jobs (real wages, benefits, security, etc.) and income and wealth distribution?

Posted by: save_the_rustbelt | Mar 12, 2008 9:04:34 PM

1. Quality of jobs is an important, complex issue. We should discuss this more, what are the underlying issues. IMHO, when America abandoned straightforward education for PC madness, it abdicated the current younger generation's place at the high-skilled jobs table. But that's just my little opinion.

2. Wealth distribution? Who cares? All that matters is at least making it to the upper middle class. So what if I'll never be a millionaire, I'm living comfortably. You can obsess about the rich.

Bruce Hall March 13, 2008 at 7:20 am

In a nation of 300 million and an economy of $14 trillion, identifying ANY SPECIFIC IMPACT factor is difficult … statistically.

That should not mean, however, that one cannot reason likely impacts from specific actions.

For example, what is the impact of boards of directors not protecting shareholders from executives who are awarded magnificent sums for negative results? What is the impact on union member of union officials who press for aggressive actions against companies? What is the impact of accepting piracy as a "cost of doing business" with China?

If the answers are, "We can't answer that… statistically," then the value of those answers… statistically… is zero. Therefore, if you can only speak statistically and you can't answer anything statistically, are you in the wrong profession?

Russ Wood March 13, 2008 at 7:29 am

Come on Russ, you are just being modest.
We all know that experts have the answers. We look to the best fund managers for investment advice and we expect the best economist to be able to tell us the impact of NAFTA. The experts have all the answers, and if we don't like the answer we get, we move on to the next expert.

Nacho Bizness March 13, 2008 at 10:08 am

The simplest way to argue for free trade is to point out that so long as both parties to a transaction are free to take it or leave it, the only transactions that will take place are ones in which both parties benefit. Otherwise, one or both will decline to take part.

Given that, what gives anyone else the moral right to interfere? Protectionists are saying that they have the right to force you to buy products only from them. By what right? You should be outraged by such presumption.

Matt C. March 13, 2008 at 10:17 am

Why is it that reporters always ask about managed trade agreements? NAFTA, CAFTA, etc are managed trade, not free trade. If they want to pass them more easily just change the name to North American Managed Trade Agreements. But I still believe they are better than nothing. But I have digressed.

Why don't reporters ever ask economist, "How many jobs do you believe were lost because Ohio is not a right to work state? How many jobs do you believe unions have not allowed to develop?"

Economist can't put an exact number on that, because they can't count what "could have been."

FreedomLover March 13, 2008 at 12:52 pm

The purpose of NAFTA is to prevent all out trade war like Smoot-Hawley. The American people are surprisingly dumb.

vidyohs March 13, 2008 at 10:00 pm

I know this is not relevant to the current thread but this is the latest and I had to interject this.

Go here and see how local lefties claim that the Sptizer debacle is a plot of Bush's revenge for hurting his buddies on Wall Street.

http://www.chron.com/disp/story.mpl/editorial/5614967.html

California has the reputation, Texas has the beef.

John Snow March 14, 2008 at 8:26 am

Wait a minute…
We can't do empirical? then what is left… a-priori logic? von Mises?

I knew it! Economics is NOT a real science!

Gil March 14, 2008 at 11:19 am

I don't get 'a priori' either.

Mr. Econotarian March 14, 2008 at 2:54 pm

The real loss of US manufacturing jobs (and agriculture jobs) over time is due to automation.

I for one welcome our new robot workers!

Of course, I'm sure if people realized this, they would smash the machines…

Nathan Bowers March 14, 2008 at 6:28 pm

Freedomlover said: "IMHO, when America abandoned straightforward education for PC madness, it abdicated the current younger generation's place at the high-skilled jobs table."

American public schools have been glorified youth detention centers longer than PCs have been ubiquitous.

If anything, being immersed in the internet will be the one thing that gives today's youth a leg up. I'm 31 and I didn't learn any *marketable* skills until I got out of college and taught myself web design with online tutorials.

Sam Grove March 14, 2008 at 8:51 pm

Um, by 'PC', he meant 'political correctness'.

muirgeo March 15, 2008 at 11:48 am

There is no doubt Spitzer is getting is comeuppance. He abused his public trust. But relative to what the Bush administration has done Spitzer's crimes are slight. I want every politician who abuses the public trust in the slightest of ways to be removed from office in an instant.

Anyone who is paying the slightest bit of attention, calls themselves a libertarian and looks at this administrations abuses of office and desire to consolidate the power of the presidency should be appalled.

Seth March 15, 2008 at 11:38 pm

This post struck a chord with me. I encounter on a daily basis in my work and personal lives people who have the worldview that the answers are always in the data and statistics is this magical tool for teasing those answers out.

I work with statisticians with this view. I work with statisticians that are running companies with this view.

I know statisticians who try to make an argument that "there's something there" when they produce a regression model with an R-Squared of 0.10 – 0.20.

I know business leaders who actually allocate capital using such models as a guide and they can't figure out why they don't get the results they expected. Nowhere close. They don't seem to consider that their precious 0.10 R-Squared was random noise without a hint of cause and effect.

It seems their worldview that everything can be modeled derives from the accuracy of physics models. When I try to tell them that modeling complex, dynamic systems such as human relationships and human decision-making is difficult without first re-creating a universe that has all the same variables, they think I'm nuts. Then they say that if we can shoot rockets to the moon then we can model this.

It's hard to convince them that shooting rockets to the moon is cake compared with this stuff. I learned the pertninent equations for shooting rockets to the moon by the time I was a sophomore in college. I'm still looking for the equations that predict the outcomes of markets.

Sam Grove March 16, 2008 at 11:56 am

But relative to what the Bush administration has done Spitzer's crimes are slight.

So true. But they are the democratically elected administration.

Anyone who is paying the slightest bit of attention, calls themselves a libertarian and looks at this administrations abuses of office and desire to consolidate the power of the presidency should be appalled.

We are…or would be if we could bear to be continuously appalled 24/7 at all the appalling things that have gone on/go on in the world. Cynicism is easier to bear and you don't have to be consumed by it like being appalled at every appalling thing would seem to require.

I can be cynical about politics and still enjoy life with friends and family.

Methinks March 17, 2008 at 9:29 pm

But relative to what the Bush administration has done Spitzer's crimes are slight.

Relative to the Bush Administration, his crimes are massive. They are much worse than anything the Bush administration has ever done or tried to do. Spitzer's biggest crime was using a public office to destroy private citizens' lives. He was also protecting some criminal enterprises while contributing to others. Anyone who thinks Spitzer's better than Bush just doesn't know enough about Spitzer and drank too much from the conspiracy theory well (and, for the record, I'm no fan of Bush).

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