Protectionism: Always Wrong

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If you work in Industry X, whatever that might be, you may feel like having tariffs and other protectionist measures put on your competitors is a good thing. At least, you believe, you can make more money by charging a higher price or putting out a shoddier product.

However, you’re wrong. Not only doesn’t protectionism benefit you, the worked in Industry X, but it hurts you and everyone around you.

Let me explain.

Where does wealth come from? What is wealth? Wealth is simply having the things you want. There’s two parts—one, wanting the things you want, and two, getting it.

For some people, they value money. Others, good food or a nice car or popularity. Still others, family and things of a spiritual nature. It doesn’t matter. You want something, you go out to get it, and when you do, you get a little wealthier.

How do you get the things you want? Either you manufacture it yourself, or you obtain it from someone else who manufactured it for you. And how do you get it from someone else? You can either take it by force, such as theft or robbery or deceit or any number of dishonest ways, or you can trade for it.

Let’s examine what happens in the heads of two people involved in a trade. The person on the left says “I’ll give you this if you give me that.” The person on the right agrees. Both agree because both will walk away from the trade with something better than what they had at the beginning. That is, provided the following conditions exist:

  1. Both sides were well-informed about the nature of what they were giving and getting for the trade.
  2. Neither side is coerced to make the trade, but is free to either make the trade or not.

This is all terribly theoretical, but it is extremely important. See, when you have something to buy and sell, you can either go to a small market or a large market to find buyers and sellers. Which would you rather visit?

Everyone sane person will say, “The large market”. Why? Because there are more opportunities for trade. A small market may have only 2 or 3 people who are willing to engage in a trade, but a large market can have thousands or even millions of people willing to trade. It’s a no-brainer. I’d rather have the best choice of millions than the best choice of 2 or 3.

That’s why we trade across our borders. If two countries were ever to agree to completely free trade without any tariffs or controls, they would immediately see a sudden increase in wealth. (Remember, wealth is getting what you want.) In fact, the 50 states of the USA have entered into such a pact, encoded in the Constitution of the United States, and we are enjoying the massive wealth from it.

Now, let’s examine the fact as we see it.

  1. Wealth is getting what you want.
  2. You can either make it yourself or trade for it. (Or commit crimes, but we agree that is generally a bad idea.)
  3. You only trade if you will get a good deal, provided you are well-informed and not coerced to trade.
  4. You’d rather trade in a larger market than a smaller market because you will get better deals that way.

What does protectionism do?

Why, it limits the size of your market by cutting out the entire rest of the world as your potential trading partner.

Let’s suppose we write a law putting a 10% tariff on China’s Industry X. What if China decided to not reciprocate, but put no tariff on any other country’s Industry X. Who would have a stronger Industry X? The answer, surprisingly, is China. Why? Because China’s Industry X is participating in a larger market than our Industry X. We would, in effect, be like the small store on a forgotten strip mall, while China would be a famous internet retailer, trading to everyone who has an internet connection.

If you work in Industry X and expect protectionism to help you make more money, you are sorely mistaken. By cutting yourself out of a larger market, you are going to make less money.

I encourage anyone to try and dispute my conclusions. The state of the art of economics today leads to the inevitable conclusions above. Combined with practical experience, we know for a fact today, as a world, that free trade multiplies the values of our economies, and that free trade is the best way to lift ourselves and others to newer and wealthier heights.

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6 Responses to “Protectionism: Always Wrong”

  1. m_war Says:

    I’m curious what your take is Jonathan on US development in the Alexander Hamilton years. Was ‘infant industry’ able to attract flow of advanced technology and funding to develop it’s manufacturing despite international protectionism and high tariffs? Does the domestic free trade have anything to do with this development? Was the US model historic and/or an anomaly and cannot be replicated in the modern era? I’m interested in the otherwise contradiction between protectionism and economic growth/development in early US/UK development of industry, particularly as indicated in the articles below. My understanding of this period and economic history is rough so I’m very curious to hear your insight.

    Mohsin W

    https://hbr.org/1997/05/how-do-economies-grow
    http://www.huffingtonpost.com/ian-fletcher/america-was-founded-as-a_b_713521.html

    • Jonathan Gardner Says:

      The events that made the American economy what it is had little to do with protectionism or anything else like that. The truth is that our industries were home-grown with our individual spirit and access to free markets. Take, for instance, the auto industry. Why didn’t it develop in other, more advanced European countries? What made it so that Henry Ford could invent, build, and launch his ideas for how a factory should work? It was the fact that he was allowed to try something out, and that he wasn’t suffering under oppressive taxes and regulations.

      Likewise for the internet. All the world had access to the internet, or in particular, the WWW, which was invented in Switzerland as part of a particle physics research project. But why did so many web companies start up here in the US and why did they grow so quickly? Was it because of protectionist policies and carefully government management of the economy? No, it was because we were free to do what we liked, and we had little to no government oversight. The web industry made it possible to build businesses with very high profit margins, which made them successful despite the high tax rates here in the US and oppressive regulations regarding employment. It was also possible for one or two college kids to build multi-billion dollar businesses in their basements and garages, which means they go to bypass the employment regulations altogether.

      Right now, technology giants are complaining because they can’t bring people in from India and China to work on their software en masse. Protectionists complain that they should be hiring Americans to do that work, and worry that they’re trying to lower wages. The truth is that the work will get done, but the giants want it done in the US, where it can be done more effectively. Imagine a world where all the tech talent flows into the US. What will that do for our standard of living and way of life?

  2. m_war Says:

    I see your point Jonathan, but let me put it like this.

    The US in this time (during Alex Hams years) had high international tariffs and other measures in place, in other words, protectionist policies (temporary) for the purpose of developing their industries.

    Now, at the same time, internally, there was free trade among the states and an excellent business environment, i.e. limited regulation, and low taxes as you pointed out, based on free market principles.

    So my point and question essentially is this, and here is where I am particularly interested to see your insight.

    Did the international protectionist measures benefit or harm the US economy at the time? Did they promote growth or limit growth?

    The authors in the articles seem to have the opinion that this strategy (i.e. of promotion of internal industry by creating a sound business environment based on principles of free market combined with international barriers to encourage development of internal industry) allowed the US to develop its industry. Please correct me if I’m understanding the arguments or history incorrectly.

    • Jonathan Gardner Says:

      During that period of time, England, which embraced Adam Smith’s philosophy, became the dominant manufacturing and trade power. That was the era when places like Hong Kong were built. Yes, the US did good, but England did far, far better.

      The free trade policy within the US is encoded within the constitution, yes, and frankly, we’re such a large portion of the world economy that the truth is putting protectionist policies for foreign trade really doesn’t hurt us that much. But it is also true that it does hurt. Think of it this way: Why do you want to make it illegal for me to talk with people in Japan and Korea? Conversation is not much different than trade, and now that we live in an information age, the primary good of highest value is information.

      The problem with trying to build up your own economy is you miss the boat on tomorrow’s economy. See, the USSR did a pretty good job of building a great 1930’s manufacturing economy. Thing is, by the time they had it working, it was the 1980’s. They were ill-equipped for the massive change from manufacturing goods to manufacturing designs and software and such. They built factories where they needed people to do all the work, while the US was starting to build factories where the people kept the machines running. Yes, it promoted growth, but it was not optimal growth.

      Again, the fundamental problem with protectionism is it operates under the erroneous assumption that government saying “No” makes things better. People know what they want more than the government knows, and it’s better left to them to figure it out. If some other country wants to “cheat” by subsidizing their industries, they are really paying us to use their stuff, and why is that a bad thing? We benefit, they lose!

      There are a lot of people running around who think they know what our economy needs, saying things like we need more manufacturing jobs or more scientists or whatever. Frankly, they have no idea what people actually need, and no one can predict very well. Let the people figure out what they need and what they can offer, and they will always do better than top-down controls. I believe we’re living in an age where food and manufactured goods are so cheap that we actually have too much, and people’s primary expense is entertainment and such. In this age, is it any wonder that we’re going to see so much work go into services that don’t create a physical good that government can track? I don’t think it’s bad at all if everyone is serving one another, rather than focused on filling warehouses with things people don’t want or need.

      • m_war Says:

        Yes yes I see your points Jonathan. Thank you for your input.

        The reason why I was particularly interested in US historic development under protectionism is because I am also studying newer, modern examples of rapid development. Mainly the Asian tigers, the Irish Celtic tiger, Rwanda (African Gorilla), and I wanted to understand the otherwise ‘anomaly’ that would be the US with protectionist policies. Your points help me to understand.

        So far, my take is that for rapid economic development, a small (low taxes, limited regulation) but strong (can capably ensure a safe and productive business environment) government with long term vision (i.e. prioritizing high value industry, R&D, advanced manufacturing, etc over short-term capital gain industry, although even this industry would nevertheless benefit from increased productivity for developing states) is necessary. Hence, market should be free and attractive. As in Ireland’s rise, maybe there is room for education spending if the population has a low base, but maybe not, depends on if there is a market for foreign investment to build the education sector.

      • Jonathan Gardner Says:

        It should be noted there is something curious going on while nations begin to open their borders and relax their taxes and regulations. The economic principle of comparative advantage predicts that it is always best to focus on what you are best at doing, and then trade for the rest of your needs. That means that these countries are specializing in their own way. Since the US is part of this world economy, we too are specializing, although our specialty is not manufacturing cheap toys. Here in the Seattle area, there is an industry of big data analysis and management that is arising, and people throughout the world are moving their engineering resources here to be a part of it.

        I would add that when you peek under the covers of these up-and-coming nations, you’ll find laws and policies that will shock you. For instance, in Korea, it is next to impossible to fire a salary employee. Even though America has some of the highest taxes and some of the most oppressive regulations, we’re still competitive with the rest of the world because they have some horrifying economic secrets as well.

        Also, culture seems to be a bigger factor than laws and taxes and trade. We cannot underestimate the effect of our protestant work ethic and habits, and our puritanical heritage. The other countries realize that they simply can’t compete with us on the culture front, and so they have to adapt to their situation quite a bit. Americans are regarded popularly as fat and lazy, but the truth is we are, by far, the most efficient economy in the world. The average worker produces far more wealth than any other worker in the world.

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