INTERNATIONAL TRADE by DR. THOMAS SOWELL HANDWRITE ANSWERS - PLEASE WRITE WELL SO I CAN READ IT. DUE Answer these international trade questions (from Dr. Thomas Sowell) in sentence form: I need you to answer in your own words. DO NOT CUT AND PASTE or COPY answers from the handout! Use quotation marks when necessary. Using quotes on three to four words is fine. 1. What is a zero-sum game when it comes to international trade? 2. What is a positive-sum game when it comes to international trade? 3. Why did jobs increase with NAFTA (North American Free Trade Agreement)?4. What did Adam Smith argue was the real source of a nation's wealth? Main U.S. trade partners of 2021 in billions of dollars: From the U.S. Census Exports Imports 1. Canada $307.6 $357.2 2. Mexico $276.5 $384.7 3. China $151.1 $506.4 4. Japan $75.0 $135.1 Definition: The components of 2019 Gross Domestic Product (GDP) are personal consumption (70%), business investment (18%), government spending (17%), and net exports (-5%). That tells you what a country is good at producing. This comes from the Bureau of Economic Analysis. Imports and exports have opposite effects on GDP. Exports add to GDP and imports subtract. Specifically, exports were 14% and imports were 19%. That leaves net exports as (-5%). Question #5: What is the significance of your answer in question #4 when looking over all this international trade and GDP data? (Do your best.) Net exports have been negative since the very early 1970s. This component of GDP is very small compared to overall consumption. Do the words of Adam Smith still not apply?6. What is the key flaw at looking at only wage rates? (Under the HighWage Fallacy). 7. What was the economic effect of the SmootHawley ta riff? 8. What is the denition of beggarthyneighbor (or neighbor) policy? (Must look up) 9. Why is comparative advantage good or important for international trade? (Must look up) INTERNATIONAL TRADE Facts are stubborn things; and whatever may be our wished, our inciinations, or the dictates of our passions, they cannot after the state of facts and evidence. John Adams We shaii grow wiser before we iearn that much that we have done was very fooiish. F.A. Hayek Many economic fallacies depend upon (1) thinking of the economy as a set of zero-sum transactions, (2) ignoring the role of competition in the marketplace, or (3) not thinking beyond the initial consequences of particular policies. Basic Macroeconomics, Thomas Sowell When discussing the historic North American Free Trade Agreement of 1993 (NAFTA), the New York Times said: Abundant evidence is emerging that jobs are shifting across borders too rapidly to declare the United States a job winner or a job loser from the trade agreement. Posing the issue in these terms committed the central fallacy in many discussions of international trade- assuming that one country must be a "loser" if the other country is a "winner." But international trade is not a zero-sum contest. [A situation in which one person's gain is equivalent to another's loss, so the net change in wealth or benet is zero.] Both sides must gain (positive-sum gain) or it would make no sense to continue trading. Nor is it necessary for experts or government ofcials to determine whether both sides are gaining. Most international trade, like most domestic trade, is done by millions of individuals, each of whom can determine whether the item purchased is worth what it cost and is preferable to what is available from others. As forjobs, before the NAFTA free-trade agreement among the United States, Canada, and Mexico went into effect, there were dire predictions of "a giant sucking sound" (Ross Perot - third party presidential candidate in 1992) as jobs would be sucked out of the United States to Mexico because of Mexico's lower wage rates. In reality, the number ofAmerican jobs increased after the agreement and the unemployment rate in the United States fell over the next seven years from more than seven percent down to four percent, the lowest level seen in decades. In Canada, the unemployment rate fell from 11 percent to 7 percent over the same seven years. Given what happened, why was this so radically different from what was predicted? Let's go back to square one. What happens when a given country, in isolation, becomes more prosperous? It tends to buy more because it has more to buy with. And what happens when it buys more? There are more jobs created for workers producing the additional goods and services. Make that two countries and the principle remains the same. Indeed, make it any number of countries and the principle remains the same. Rising prosperity usually means rising employment. The only question is whether international trade tends to make countries more prosperous. The basic facts about international trade are not difficult to understand. What is difficult to untangle are all the misconceptions and jargon which so often clutter up the discussion. Why an export surplus is considered "favorable" while an import surplus as "unfavorable?" At one time, it was widely believed that importing more than was exported impoverished a nation because the difference between imports and exports had to be paid in gold, and the loss of gold was seen as a loss of national wealth. However, as early as 1776, Adam Smith's classic The Weoith ofNoons argued that the real wealth of a nation consists of its goods and services, not its gold supply. 2 Too many people have yet to grasp the full implications ofthis, even in the twentyrst century. If the goods and services available to the American people are greater as a result of international trade, then Americans are wealthier, not poorer, regardless of whether there is a "decit" or a "surplus" in the international balance of trade. Just as the United States had a "favorable" balance of trade in every year ofthe Great Depression of the 19305, it became a recordbreaking "debtor nation\" during the booming prosperity of the 19905. Obviously, such words cannot be taken at face value as indicators of the economic wellbeing of a country. Imagine, for example, that you are an eye surgeon and that you paid your way through college by washing cars. Now that you have a car of your own, should you wash it yourself or should you hire someone else to wash it even if your previous experience allows you to do the job in less time than the person you hire? Obviously, it makes no sense to you nancially, or to society in terms of over all wellbeing, for you to be Spending your time sudsing down an automobile instead of being in an operating room saving someone's eyesight. In other words, even though you have an "absolute adva ntage" in both activities, your comparative advantage in treating eye diseases is far greater. The key to understanding both individual examples and examples from international trade is the basic economic reality of scarcity. Time that is spent doing one thing is time taken away from doing something else. The benets of comparative advantage are particularly important to poorer countries. Someone put it this way: Comparative advantage means there is a place under the free-trade sun for every nation, no matter how poor, because people of every nation can produce some products relatively more efciently than they produce other products. Comparative advantage is not just a theory but a very important fact in the history of many nations. It has been more than a century since Great Britain produced enough food to feed its people. Britons have been able to get enough to eat only because the country has concentrated its efforts on producing those things in which it has had a comparative advantage, such as manufacturing, shipping, and financial servicesand using the proceeds to buy food from other countries. British consumers ended up better fed and with more manufactured goods than if the country grew enough of its own food to feed itself. Since the real costs of anything that is produced are the other things that could have been produced with the same efforts, it would cost the British too much industry and commerce to transfer enough resources into agriculture to become selfsufcient in food. They are better off getting food from some other country whose comparative advantage is in agriculture, even if that other country's farmers are not as efcient as British farmers. The High-Wage Fallacy Economically, the key aw in the highwage argument is that it confuses wage rates with labor costsand labor costs with total costs. Wage rates are measured per hour of work. Labor costs are measured per unit of output. Total costs include not only the cost of labor but also the cost of capital, raw materials, transportation, and other things needed to produce output and bring the nished product to market. When workers in a prosperous country receive wages twice as high as workers in a poorer country and produce three times the output per hour, then it is the highwage country which has the lower labor costs per unit of output. That is, it is cheaper to get a given amount of work done in the more prosperous country simply because it takes less labor, even though individual workers are paid more for their time. The higherpaid workers may be more efciently organized and managed, or have far more or better machinery to work with, or work in companies or industries with greater economies of scale. Often transportation costs are lower in the more developed country, so that total costs of delivering the product to market are less. Saving Jobs Just as free trade provided economic benets to all countries simultaneously, so trade restrictions reduce the efciency of all countries simultaneously, lowering standards of living, without producing the increased employment that was hoped for. These trade restrictions around the world were set off by passage of the Smoot-Hawley tariffs in the United States in 1930, which raised American tariffs on imports to record high levels. [Smoot-Hawley Tariff Act, formally United States Tariff Act of 1930, also called HawleySmoot Tariff Act, U.S. legislation (June 17, 1930} that raised import duties to protect American businesses and farmers, adding considerable strain to the international economic climate of the Great Depression] Other countries retaliated with severe restrictions on their imports of American products. The net result was that severe international trade restrictions set off by the SmootHawley tariffs were applied by many countries to many other countries, not just to the United States. Many economists signed a public appeal against the tariff increases, directed to Senator Smoot, Congressman Hawley and President Herbert Hoover. Among other things, they said: America is now facing the problem of unemployment. The proponents of higher tariffs claim that an increase in rates will give work to the idle. This is not true. We cannot increase employment by restricting trade. These one thousand economists accurately predicted "retaliatory" tariffs against American goods by other countries. They also predicted that the "vast majority" of American farmers, who were among the strongest supporters of tariffs, would lose out on net balance, as other countries restricted their imports of American farm products. All these predictions were fullled: Unemployment grew worse and farm exports plummeted, along with a general decline in international trade. Unemployment went from 6 percent in June 1930, to 15 percent a year later, and a year after that it was 26 percent. All of this need not be attributed to the tariffs. But the whole point of those tariffs was to reduce unemployment. In the short term, a protective tariff may provide immediate relief to a particular industry, and gain political favor, but like most political benets, it comes at the expense of others who may not be as organized, as visible, or as vocal. When the number ofjobs in the American steel industry fell from 340,000 to 125,000 during the decade ofthe 19805, it had a devastating impact and was big economic and political news. It also led to a variety of laws and regulations designed to reduce the amount of steel imported into the country that competed with domestically produced steel. Of course, this reduction in supply led to higher steel prices within the United States and therefore higher costs for all other American industries that were manufacturing products made of steel, which range from automobiles to oil rigs. It has been estimated that the steel tariffs produced $240 million in additional prots to the steel companies and saved 5,000 jobs in the steel industry. At the same time, those American industries that manufacture products made from this articially more expensive steel lost an estimated $600 million in profits and 26,000jobs as a result of the steel tariffs. In other words, both American industry and American workers as a whole were worse off, on net balance, as a result of the import restrictions on steel