The Political Trade-Offs of Trade

William Bosshardt

As the elections approach, many campaigns will examine U.S. trade policy. Inevitably, the candidates will have different opinions on what should be done. Protectionism is an intuitively appealing idea in its promise to limit competition to protect American jobs and keep the United States independent. But this view is at odds with the current movement toward free trade in goods and services worldwide.
This article examines what is at stake in two important trade issues, and attempts to explain why the debate on trade policy will continue as a major political topic. The first issue is whether the United States should continue to pursue free trade through agreements such as the North American Free Trade Agreement (NAFTA), the General Agreement on Tariffs and Trade (GATT), and the World Trade Organization (WTO)-GATT's successor. The second issue is whether the United States should use trade sanctions as a method of encouraging political change in other countries.

The Free Trade Debate
NAFTA played a prominent role in the 1992 presidential election campaign. Although it is unlikely to play a large role in the presidential race this time around, many congressional campaigns will debate whether the United States should continue its efforts to expand NAFTA, or whether it should abandon NAFTA. To understand why countries worldwide have moved toward free trade, one needs to understand why voluntary trade benefits both countries involved in an exchange of goods.
Modern trade theory emphasizes three points. One is that each country in an exchange will have a comparative advantage in some good. Comparative advantage means that a country has a lower relative price for a good than does its trading partner. The second is that, when all countries specialize in the production of their comparative advantage goods, world production can increase. Finally, even if one country is more productive than another in all goods, there is still potential for trade.

For example, suppose an American worker could produce either eight shoes or four leather bags. A Mexican worker might be able to produce four shoes or one leather bag. At first glance, it may appear that the Mexican worker has nothing to contribute to trade. When viewed from the perspective that four shoes cost the Mexican worker one leather bag in production, and four shoes would cost the U.S. worker two leather bags in production, however, it becomes apparent that Mexico has a comparative advantage (a lower relative price) in shoes. Because of this difference in cost, Mexico can be competitive in the production of shoes. This underscores the important lesson that every country can participate and benefit from trade.

Gains and Losses
Trade theory is fairly clear on the potential benefits of free trade. The division of the gains from free trade, however, is where trade theory has bad news for governments trying to implement free trade policies. To begin with, the division of the gains from trade between countries is not necessarily "equaquot; or "fair." Who benefits most from free trade depends on how strong each country's demand for an imported good is, and how easily the export country can adjust to changes in price. The gains from trade can also be altered by larger countries, which can impose tariffs to influence the world price in their favor. This practice often leads to retaliation and "trade wars."
Trade disputes between countries are only one part of the conundrum faced by free trade advocates. Although each country benefits from trade as a whole, the distribution of the gains from trade within each country is not equal. Some people will actually be hurt while others are helped by free trade. The fact that the gains to those who are helped outweigh the losses to those who are hurt is small consolation to people on the short end of the stick. By examining, in very broad terms, who is benefited and who is hurt by free trade, the political issues can be more clearly delineated.

Stronger and Weaker Industries
The distribution of the gains from trade can be thought of in three different ways. One is on the industry level. Although the United States exports only about 11 percent of its gross domestic product (GDP), foreign markets are nonetheless important to many businesses, and are viewed as areas for future growth. A U.S. industry that has a comparative advantage in a good wants to be free of the barriers that block it from exporting to foreign countries. A U.S. industry that does not have a comparative advantage seeks protection from foreign competition. This protection may come in the form of tariffs, quotas, or other barriers to foreign imports.

On the U.S. political scene, a lot of money is spent lobbying for continued protection of weaker industries. The stakes are large. In the apparel industry, totally eliminating tariffs and quotas would result in the loss of 46,724 jobs, according to estimates based on 1991 data. Output in the industry would fall by about 6 percent (about $4 billion), while imports would surge by 25 percent (about $7.5 billion). Liberalization of sugar quotas and tariffs would result in the loss of two thousand jobs and an output of $690 million. In the dairy sector, the loss would be 2,195 jobs and an output of $1,109 million. (All numbers on the effects of trade liberalization come from the U.S. International Trade Commission 1993 publication.)

Congressional races in districts where protected industries reside focus on the harm that free trade will do to the local economy, and downplay the gains to the country as a whole. The intensity of lobbying by an industry fighting for its survival generally exceeds that of a successful industry wanting to expand its markets. It is not surprising that protectionism has a louder voice and becomes a strong issue in many election campaigns.

Producers and Consumers
A second way of viewing the distribution of the gains from trade is as a conflict between consumers versus producers. A tariff or quota imposed by the government raises the price of the goods in the United States. Producers benefit from this price increase, while consumers are hurt by it. The political question is, Who will be more motivated to vote? According to the ITC, the gain to the United States of removing sugar quotas and tariffs is $657 million-roughly $2.50 per person. Obviously, this is not a highly motivating issue for the vast majority of the U.S. population. Even the liberalization of the textile industry, with an estimated gain of $15 billion, translates to only about $60 per person. These issues do not send consumers to the polls to vote out of office anyone against free trade. On the other hand, the producers have a large stake, and will spend a lot of time and money trying to guarantee that these tariffs and quotas remain in place.

Labor and Capital
The third way of viewing the distribution of trade gains is in terms of which factors of production will benefit from free trade. The most important factors of production are labor, capital (machinery), and natural resources (land and the things that come from it). Labor, because of its human dimension, and capital, because of its return on people's investments, are what most economists focus on in trade issues.
In the Heckscher-Ohlin model of trade, countries are viewed in terms of their abundance (or lack of it) in each factor of production. The United States can be viewed as a capital-abundant country relative to a less industrialized country like Mexico. According to the H-O model, free trade means that the United States will export goods that use capital intensively and import goods produced with a relatively large amount of labor. The effect of this trade on labor and capital is summarized by the Stolper-Samuelson theorem, which states that free trade will harm the scarce factor of production and help the abundant factor.

To illustrate this point, suppose the United States, which is generally thought to be abundant in capital and scarce in labor when compared to a country like Mexico, opens free trade with Mexico. According to Stolper-Samuelson, U.S. labor will undergo a decline in wages, while U.S. industry experiences an increase in the return on capital. Viewing the economy as a whole, the gains to capital will outweigh the losses to labor. But once again, the political implications are important. Jobs are always a paramount issue in election years, and their creation or protection is likely to be uppermost in the politician's mind. It does not matter that the costs of jobs "created" by trade barriers are high. For example, if the loss to the U.S. economy due to sugar restrictions is divided by the number of jobs generated, the cost per job is $322,000. A dairy job costs $386,000. But because these costs are spread out over the entire population, the issue bears political weight mainly to those who have these jobs.

The opposition to NAFTA has been based on the fear that it spells lost jobs and/or lower wages for American workers. This fear arises in part from the grim predictions of the Stolper-Samuelson theorem. Economists are often asked, "How can American workers be competitive with countries where the labor is paid one-eighth of what it is in the United States?" The simple answer is that the market pays what workers are worth. And, according to the market, a worker's value is equal to the value of what that worker produces. An American worker can earn eight times more than a Mexican worker by being eight times more productive. What is often overlooked in the free trade debate is that American workers are among the most productive in the world, due to better technology, education, and infrastructure. This productivity on the part of U.S. workers and U.S. capital is what keeps American wages high. Politicians often emphasize the importance of generating "good" jobs, but forget to mention that the United States has accomplished a great deal in terms of productivity already.

The "Fairness" Issue
Another issue in the free trade debate revolves around "fairness" to workers. Some U.S. politicians point out that economic growth does not necessarily mean improvements in wages and working conditions, either here or in developing countries. For example, health and safety standards are not uniform across countries. It is possible that some countries will actually reduce their health and safety standards in order to produce goods more cheaply and drive American businesses from the market. Fairness and human decency, it is argued, would dictate that health and safety standards be the same for all businesses worldwide.
Economists who support free trade make two points on issues of fairness. First, given that income levels are not the same across countries, it is perhaps not reasonable to impose the same standards on industries everywhere. Second, there is a fine line between humanitarian concerns for workers in foreign countries and traditional protectionism. As agreements such as NAFTA or GATT bring down tariffs and quotas, countries are using other methods of protection-such as imposing high standards for both product and worker safety. Whether U.S. standards are based on genuine concern for the health and safety of both domestic consumers and foreign workers, or are a disguised form of protectionism, is up for debate in the political arena.

The politics of trade is complicated. The area of economics known as "public choice" tells us that people vote according to their self-interest. As demonstrated above, often the gains from free trade - though large - can be so widely spread out among the population that they do not bring voters to the polls. On the other hand, the proponents of protectionism generally have a lot to lose, and so vote and lobby strongly based on that one issue.

In Florida, for example, the highest individual contributor to electoral campaigns in 1995-96 has been a large sugar family that gave a total of $349,000 to both political parties. The fourth highest contributor in the same two years was U.S. Sugar Corporation, which gave $139,824 divided between both parties (Holton 1996). These contributions have influence on the political process. In general, there is no guarantee that the trade policies (or any policies) that are "best" from an economic standpoint are the ones that the government will pursue.

The Sanctions Debate
Free trade is often challenged by forces other than protectionism. The restriction of trade in the form of sanctions has been used many times to influence the political decisions made in a foreign country. Sanctions typically restrict what the target country can import from, or export to, the imposing country. Or they may place restrictions on finance arrangements (Hufbauer 1990).
The political debate over sanctions focuses on three points. The first is whether the country being targeted has done anything "wrong" to warrant them. Sanctions may be imposed for economic reasons, such as breaking a trade agreement. Sanctions imposed for political reasons go beyond the boundaries of economics, and can only have political solutions.

A second question involving sanctions is whether trade issues should ever be linked with noneconomic issues. For example, China's most favored nation (MFN) status with the United States guarantees it the same treatment as given to all other MFN countries--including Japan and the European Union. But a public debate exists over whether this status should be linked to China's human rights policies. Some argue that trade with China should be restricted so as to influence its decision makers to end practices of worker coercion. Others, considering changes in Eastern Europe over the past several years, argue that economic liberalization and exposure to trade (economic freedom) bring about political freedom. Economic theory has no answer to whether trade and human rights policies should be linked. Moreover, any cause and effect relationship between the two is hard to test.

Do Sanctions Work?
What economists have tried to address is whether sanctions usually have the effects intended by the countries that impose them. The use of sanctions is limited by the fact that trade is a two-way street; both countries gain from trade, and sanctions adversely affect the imposing country as well as the target country. The larger the trading partner, of course, the larger the losses. The more a country has to pay in terms of lost trade to keep a sanction in place, the larger the political force that favors removing the sanction. Therefore, it is more difficult for a country to sustain a continued embargo against a large trading partner, even though the toll--and the effectiveness of the sanction--on the target country is large as well.
In addition to the problem of the cost of sanctions on the imposing country, the effect of sanctions on the target country may not be what was intended. Sanctions may unify the political forces in the target country-the opposite effect from that desired when sanctions are intended to destabilize a foreign government. Another possibility is that the target country will ally itself with another country to allay the effects of the sanctions, thus pushing it further from the policies desired by the country imposing the sanctions (Hufbauer 1990).

Sanctions may not hurt the political decision makers in a target country in a direct enough manner. If sanctions do not impose immediate and severe harm to decision makers, their effectiveness will be limited. In some cases, the hardships created by sanctions may fall on the wrong segment of the population. For example, the impact of sanctions on South Africa was long debated. One side of the argument held that the sanctions, imposed as early as 1962, were hurting the very people they were supposed to help. The other side of the argument was that these people were ultimately helped, to the extent that sanctions eventually promoted the dismantling of the apartheid system.

Of course, the final verdict on the effectiveness of sanctions may be judged by the actual numbers of successes and failures. A study by Hufbauer, Schott, and Elliott of 120 sanction cases finds that in only 41 (or 34 percent) were the sanctions judged successful. The success ratio is higher-50 percent-in cases where the goal of the sanction policy was to destabilize a government. Whether these numbers constitute success depends on one's viewpoint. Because sanctions are often tried after all other political options have failed, these numbers might be viewed as fairly high. Or, given the hardships that sanctions place on both the imposing country and innocent nondecision makers in the target country, these percentages might be viewed as too low to warrant their continued use.

In the free trade debate, the distribution of gains and losses matters. The fact that a policy, from an economic standpoint, generates a net gain for society as a whole does not guarantee that the government will adopt it. Nor would all economists necessarily agree that the policy should be adopted. Economists understand that a trade-off between economic efficiency and economic equity often exists.
The distribution of gains and losses is an issue of utmost importance in the American political spectrum. A congressional representative from a district endangered by foreign competition will vote for protectionist measures. A representative from a district with little activity tied to foreign trade will be more likely to vote for sanctions. Political campaigns operate with different platforms in different districts because the distribution of trade-related benefits and losses is uneven.

The upcoming elections will debate numerous economic issues. Often, economic efficiency will lose out to economic equity. Even more often, economic efficiency will lose to special interests protecting the laws that ensure their profitability. Whether tariffs, sanctions, or other trade-related policies are seen as protecting special interests or promoting economic equity is a matter of opinion--and explains why economic issues are rarely resolved with ease.

Holton, Sean. "Candidates Find End of Rainbow in S. Florida." The Sun-Sentinel, (July 3, 1996): 1.Hufbauer, Gary Clyde, Jeffery J. Schott, and Kimberly Ann Elliott. Economic Sanctions Reconsidered. Washington, D.C.: Institute for International Economics, 1990.U.S. International Trade Commission. The Economic Effects of Significant U.S Imports Restraints, Investigation No. 332-325. Washington, D.C.: U.S. International Trade Commission, 1993.

William Bosshardt is Assistant Professor of Economics and Director of The Center for Economic Education at Florida Atlantic University, Boca Raton.