July 27, 2017

Is free trade working for everyone?

A debate with Jagdish Bhagwati, Arthur Lehman professor of economics at Columbia University.

From Prospect, December 1999


26th October 1999

Dear Jagdish Bhagwati,

It is generally assumed that Adam Smith’s The Wealth of Nations, published in 1776, provides an irrefutable justification for free trade as it is practised today. Nothing could be further from the truth. Smith did not advocate free trade as such, but free trade in conditions which are very different from those that prevail now.

Smith assumed that the market would be in the hands of small companies—too small to influence the market price. He abhorred monopoly power, especially if it was achieved by protecting trade secrets (what we now call “intellectual property”). He also assumed that investors would run their own businesses (being more motivated to do so than managers) and would invest at home rather than abroad.

Smith would have been horrified by the global free trade economy established by the World Trade Organization (WTO) and dominated by uncontrollable, quasi-monopolist, transnational corporations, which derive their funding from all over the world, no longer have any obligations to the society they are based in, and are willing to move anywhere on the globe if costs are lower, environmental controls laxer and subsidies higher.

Free trade seeks to establish a level playing field on which rich countries and poor countries, huge transnational corporations (TNCs) and small local companies compete as equals. But they are far from equal and to remove the protection that small countries and companies require is to seal their fate. If I had to confront Mike Tyson I would not want to do so on a level playing field.

Free trade was first imposed on the trading nations of the world by Britain in the middle of the 19th century. At that time, Britain was the workshop of the world. It produced two thirds of the world’s coal, about half its iron, and one third of its manufactures. In addition, the City of London was the world’s financial centre and was alone capable of financing the industrial expansion that free trade would make possible. But in the 1870s free trade was largely abandoned. There had been a long economic depression and Britain was losing its competitive edge. New markets had to be found abroad, and companies turned towards the markets of Africa, Asia, Latin America and the Pacific. Hence the scramble for colonies. Promoters of colonialism, such as Cecil Rhodes, made no bones about it.

But the colonial system could not last forever and it became clear before the second world war broke out that a substitute had to be found. By this time it was the US, not Britain, which dominated the world’s politico-economic scene. Foreign policy professionals and heads of large corporations began to meet in Washington as early as 1939, to establish how the postwar, post-colonial world economy could best be shaped. The answer was to “develop” the third world. Three institutions were set up to achieve this objective: the World Bank, the IMF and the General Agreement on Tariffs and Trade (now the WTO).

The meaning of free trade underwent another dramatic change with the signing of the Uruguay Round in 1994 Free trade no longer simply means eliminating tariffs, which had already fallen from an average of 40 per cent after 1945 to about 5 per cent before the Uruguay Rounds began. It now means eliminating “non-tariff barriers,” namely any domestic regulations which can be construed as interfering with trade by increasing costs to industry. Whether a regulation constitutes a non-tariff barrier is decided by a secret panel of the WTO. So far, every decision has been in favour of the corporations in their efforts to make themselves more “competitive,” regardless of human, social and ecological costs.

It is not so much trade that is being freed, but the corporations which control it. They are acquiring the freedom to cut down virgin forests in order to produce plywood, lavatory paper and the Sunday edition of the New York Times; the freedom to erode, salinise and waterlog agricultural land so as to produce cheap raw materials for the food-processing industry; the freedom to pillage the oceans with trawlers which annihilate fish populations with “wall of death” drift nets; the freedom to churn out ever greater amounts of ever more toxic chemicals to spread on our fields and release into our rivers; the freedom to extinguish thousands of species every year to satisfy the short-term interests of the TNCs and the bureaucrats and politicians who live off them. What would Adam Smith have thought?

Yours,

Edward Goldsmith


30th October 1999

Dear Edward Goldsmith,

If free trade were as destructive as you claim, I would be at the barricades with you, AK-47 in hand, seeking its downfall. But I cannot understand how you have reached these alarmist conclusions about what is in reality a powerful engine of increasing well-being for everyone on the planet. I say this not just because Adam Smith, whom you misread, spoke so eloquently about the virtues of free trade. More importantly, the case for free trade has been reaffirmed by theorists over the two centuries since Smith wrote, and our practical experience has underlined the wisdom of his intuitions.

You are right to say that monopolies undermine the case for markets, and hence for free trade. But you are wrong in ignoring more than 50 years of economic analysis which has taught us that large corporations rarely have the monopoly power that the naked eye perceives: the possibility of being challenged by other corporations if you exert your monopoly power usually prevents you from doing so. And freer trade, by increasing the possibility of market entry by competitors from around the world, is the most effective antidote to monopoly—protection has long been known to be the main ally of domestic monopoly.

Your “Mike Tyson” analogy does not work. Small countries and small companies can compete. If you go down New York’s Fifth Avenue, you will see small hot dog vendors thriving, despite the giant retail stores beside them. The case for free trade is compatible with different sizes of economic agents or nations as long as trade is noncoercive. The exceptions are where the nations are both hegemonic and coercive, such as the former Soviet Union in its trade with eastern Europe. The history of the US is more altruistic. For nearly four decades, until the late 1980s, the US was benign towards most of the developing countries that wished to keep their markets closed, letting them enjoy the benefits of trade liberalisation without reciprocal opening of their markets. In fact, since I believe (and so do they, now) that they would have been better off if only they had opened up their markets to freer trade, it is a pity that the US did not apply more pressure for reciprocity.

The post-war evidence for many of the newly independent and developing countries favours the claim that autarkic policies do not pay off. This is why many of them have now turned to liberalisation. The most dramatic individual case is the transformation of Fernando Cardoso, who as a dependency theory sociologist had warned the third world of the dangers of TNCs, but as President Cardoso of Brazil has been seeking to integrate his country into the global economy he once feared and despised.

You also seem to forget that, no matter how self-serving the actions of economic agents, the outcome may still be socially productive, especially when the institutional framework is well designed. The fact that nations and corporations pursue markets and profits in their own interests does not prove the venality of free trade and investment. For these policies have produced huge progress. It is not just the size of the total pie which has increased; by increasing prosperity, free trade has also helped to reduce poverty. And the wealth which liberal policies promote is not passive “trickle down” wealth; rather, it is an active, “pull up” strategy for sweeping up underemployed and poor people into gainful employment. The experience of India, which has the most poor in the world as a result of 30 years of abysmal growth under autarkic policies, is ample proof.

Even social policies, such as reducing illiteracy and extending women’s rights, generally benefit from prosperity and hence from the liberal policies that you dislike. The existence of more jobs encourages poor parents to forgo current income and to send children to primary schools. Legislation forbidding a man to beat his wife means little until, when beaten, the wife can walk out, find a job and survive. Liberals sometimes say rashly that “all good things go together.” In this instance they are right.

You say that the WTO is enabling TNCs to “cut down virgin forests” and so on. But African “slash-and-burn” agriculture long precedes both you and me, let alone the WTO. Forests have long been cut down—probably where your offices are. The issue which comes up before the WTO’s dispute settlement panels is whether Britain or Denmark can unilaterally decide to suspend trade in “lavatory paper and the Sunday edition of the New York Times”—simply because their NGOs do not want forests cut down in Malaysia or Brazil. Originating from India, I see here the quasi-imperialist notion that you and your friends can decide what we should or should not do. Harvesting forests in western countries is all right, but if you cut down “rain” or “virgin” forests which happen to be “over there,” that must be stopped. But the days of gunboat diplomacy are long gone, and rich country NGOs cannot resurrect them by simply hanging a halo on their walls. That is what the fights at the WTO are mostly about.

I am no friend of the big corporations, but I reject the claim that they are promoting a “race to the bottom” on environmental and other standards. Where is the evidence? Studies indicate that big companies, jealous of their reputations (which can be swiftly damaged by NGOs, CNN and the internet), will not exploit lower standards, say, south of the Rio Grande on the US-Mexico border. Moreover, democratic countries play the game of attracting capital not by inviting investors to come and pollute their rivers, but by offering tax holidays. None the less, your fears are widely shared and the simplest answer to such fears is to insist that TNCs apply our environmental and labour standards when they go abroad: “Do in Rome as the Londoners do, not as the Romans do.”

Yours,

Jagdish Bhagwati


31st October 1999

Dear Jagdish,

You accuse me of not providing evidence for my “alarmist” assertions. Let me do so by challenging your assertion that “large corporations rarely have the monopoly power that the naked eye perceives.” As I see it, the power of big corporations is increasing by the day. Already fewer than four or five TNCs control 40 per cent of the main commodities traded on the world market (tea, wheat, maize, sorghum and so on). In 1994, two companies, Cargill and Continental, shared 50 per cent of US grain exports, and a few weeks ago the press revealed that Cargill planned to buy Continental’s grain division.

Similar trends are occurring with other food crops. Furthermore, in 1994 the US exported 36 per cent of the wheat traded worldwide, 64 per cent of the corn, barley, sorghum and oats, and 40 per cent of the soya beans. This means that the world price for these commodities is the US price—and the US price is fixed by huge corporations with monopolistic powers.

As for your claim that small and large companies can co-exist, it is perverse to choose an example from retailing. Today we are witnessing the annihilation of small retailers across the world. In Britain, 95,000 food shops closed down between 1961 and 1983. Grocers, greengrocers, fishmongers and butchers have been squeezed out by a supermarket network which in 1993 accounted for 83 per cent of all food sold in this country. In 1997, five transnational food giants accounted for 80 per cent of the grocery trade in Britain.

I also find it hard to accept that free trade is an antidote to monopoly Transnational corporations now influence government trade policy, either directly or via the WTO, the World Bank and the IMF. Thus the new forestry policies to be proposed at the WTO meeting in Seattle are those imposed on the US administration by the forestry giants—International Paper, Weyerhaeuser, Georgia-Pacific and Boise Cascade—whose combined turnover is around $50 billion.

Of course, politicians should never have handed over so much power to the WTO. But let’s be realistic: the WTO is there, and written into its constitution is the principle that all member nations must modify their laws to conform with its own rules. It has in effect become a world government—especially as it is now branching out into other areas of policymaking such as education and health.

Nor can I accept your statement that the US allowed third world countries to enjoy the benefits of progressive trade liberalisation without reciprocal opening of their markets. Walden Bello, the Filipino economist, has shown how the World Bank set out in the mid-1970s to bring his country within the ambit of the global economy. To do this meant first transforming the peasantry into a rural proletariat, then replacing the local middle class with the executives of TNCs geared to the global economy. This required a social and economic transformation so drastic that only a dictator such as Ferdinand Marcos—furnished with the required international aid—could impose it.

Third world countries did not abandon autarky because it did not pay. They were made to do so. The World Bank imposed large infrastructure projects on many of them, which then had to be repaid in foreign exchange, which in turn required entering the world economy. The World Bank also encouraged many countries to produce a very limited range of export crops which the market could not absorb. And the developed world has been less open than you imply: according to Oxfam our trade barriers cost poor countries $700 billion a year, 14 times what they receive in aid.

Finally, you would not expect me to agree that development is solving social problems. On the contrary, it is bringing with it the “diseases of civilisation”—crime, drug addiction, cancer, and so on. Crime, for example, is largely the product of family and community disintegration. This cannot be solved by faster growth, because it is economic development which is undermining traditional social institutions.

Yours,

Edward


2nd November 1999

Dear Edward,

You assume that monopoly power has increased just because the share of the larger companies in some industries has increased. But this is not the way to measure monopoly power. If a company exercises its monopoly power and makes monopoly profits, other corporations will soon enter the market, seeking those excess profits, like bees to the honey-pot. Economists, therefore, no longer look at market share but instead ask how “contestable” a market is.

Thus, even if Cargill and Continental had the entire US grain market, and not just 50 per cent of US exports, they would still have to face competition from Argentina, Australia, Canada and other members of the Cairns Group of agricultural exporting nations that lobby for agricultural trade liberalisation. IBM had to compete with Microsoft; both have to compete with Hewlett Packard, Dell, Toshiba and Hitachi. And if this mechanism fails we have the anti-trust authorities—people such as Joel Klein, the US anti-trust tsar who recently went after Microsoft.

You are right to remind us that the small, local shopkeepers are an endangered species. But that does not create monopolies. As the little bookstores I loved in New York have disappeared, we have seen Barnes & Noble up against Borders and now Amazon.com.

What you are really mourning is the passing of the old. As technology, investment and migration span the globe, economic and social cultures evolve, change, even die. I share your nostalgia. I, too, would rather have the small bookstores, the intimate cafés, the fragrance of baguettes as you walk down the streets of Paris, and much else. And—like you I am sure—I happily put my hand in my wallet for bodies such as the National Trust and UNESCO which salvage some of the precious things that time destroys everywhere.

Of course this simplifies the picture. We are not smoothly evolving towards a frictionless global system. There are big cultural differences which underlie many of the world’s current trade disputes, both within the developed world (for example, different attitudes towards GM food in the US and Europe) and between the developed and developing world (tolerance of child labour in poor countries). It is part of the job of the WTO and its member governments to control these conflicts and make sure that they do not end in trade wars.

Pessimists like you will not be proved right on such conflicts. You are certainly wrong about the ability of non-dominant countries to profit from free trade. In 1961, when I visited Japan, I was told that the country could not export without the cartels which the US had outlawed, and that global integration could not be Japan’s option. History proved otherwise.

Nor do I agree with your view that liberalisation in developing countries has been achieved mainly through threats from the Bretton Woods institutions. Far more important has been the successful example of east Asia’s pro-openness approach. Of course the IMF has got things wrong, as it did in the first year of the Asian financial crisis. The World Bank also has not always looked after the interests of poor countries as well as it could have. For example, it pushed for intellectual property protection, which the US wanted badly because of corporate lobbying rather than to support the interests of poor countries.

But such developed world interests are not always corporate interests. Today, for example, the Clinton-Gore administration is seeking a “social clause” in the WTO because it is beholden to the AFL-CIO trade union federation for money and support in the impending US elections. The case for a clause is clearly flawed and is opposed by most developing countries. It is another case of western moralising disguising self-interest.

Yours,

Jagdish


4th November 1999

Dear Jagdish,

I am indeed nostalgic for the small cafes and shops of old, but it is not just out of nostalgia that I feel they must be restored. The supermarkets which have replaced them are a menace to the planet. They do not support local producers, but buy goods from all over the world, using transport which contributes to global warming—by far the biggest problem we face today. They use more plastic packaging, which is then incinerated, causing the dispersion of highly carcinogenic dioxins. They also provide three times fewer full-time jobs than the small shops did.

You argue that there is still healthy competition between the few companies that dominate particular sectors of the economy. But you forget that when you have a competition, someone will win. Darwin forgot this too. My concern is that as ever fewer giant companies control the sale of a particular commodity, they will see that it is less advantageous for them to compete with each other.

Already, large corporations are resorting to more vertical integration, controlling every step in the process in their respective fields: from the mining of minerals, to the production of goods, their shipping to subsidiaries in other countries, and their wholesaling and retailing to local consumers. Today about 30 per cent of world trade is between big corporations and their subsidiaries. What is to prevent 50 per cent, 60 per cent, or even 80 per cent of world trade from taking place within these organisations? We are heading towards a new era of global corporate colonialism. I wonder if it will still be called “free trade”?

Yours,

Edward


5th November 1999

Dear Edward,

Your worry about the supermarkets prompts a few sceptical thoughts. For example, agricultural trade liberalisation is bringing a shift from pesticide-intensive European agriculture to less environmentally unfriendly agriculture in the poor countries. This offsets whatever harm transportation may cause. Moreover, if there is a good macroeconomic policy that maintains full employment, then jobs lost through imports are replaced by (better) jobs in export industries. You cannot just look at one side of the ledger.

That is, of course, what many critics of foreign investment do. They see jobs exported to India, Guatemala and Mexico by big corporations but they do not consider the jobs coming in. In the Piedmont Mountains in South Carolina local people lost employment in the traditional textiles industry. But since then about 250 foreign companies, many of them German, have moved in and the workers are now earning nearly three times their former wages.

Looking around the world it is hard to find much evidence of persistent “excess” profits. But when you say that both Darwin and I forgot that someone wins the competition, and that, therefore, monopoly must follow, you miss the point I was making: winners cannot rest on their laurels if the markets can be contested by new entrants. Maria Callas, the greatest diva of her time, must worry about Renata Tebaldi if she drops a high note. The monopolist must always watch out. That’s the beauty of it.

Yours,

Jagdish

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