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Beggar-thy-Neighbour Trade Strategies Still Rule

My Globe and Mail column today looks at the issue of trade imbalances in global trade.  Countries like Germany have stimulated their own recoveires (for now) by deliberately targeting large trade surpluses; this strategy has also been followed for years by China, Japan, Korea, and others enamoured with export-led growth (which is a totally different animal, keep in mind, from orthodox comparative advantage thinking).  The only problem is, until we learn to export to Mars, every surplus is someone else’s deficit.  As Keynes warned decades ago, this beggar-thy-neighbour regime biases the whole global system to deflation (since even successful exporters, like Germany, keep a tight lid on domestic demand).  Canada espouses free trade, and pretends to stay above the fray — but we are losing ground badly in the global market.

The full column is posted below.

One thing I discovered in researching this column is that the deterioration in Canada’s trade balance over the last 5 years (measured as a share of GDP) has been BY FAR the worst in the whole OECD.  See this table, based on the OECD Economic Outlook database.  Canada now has the 5th laregst trade deficit in the OECD.  Compared to our large surplus 5 years ago, this is a loss of 6 points of GDP.  That’s almost twice as bad as the next-worst performer over this period (Finland).

Funny, when Messrs.Harper and Flahery keep boasting that Canada’s economy, while not great, is in better shape than other industrialized countries, this is one indicator they are ignoring.

OK, here’s the table, followed by the full G&M column:

oecd-trade-bals-20103

 

 Globe and Mail Column:

       When the world plunged into recession in 2008, G20 leaders ostentatiously pledged not to repeat the errors of the 1930s.  To hasten economic recovery they would avoid protectionism and keep trade flowing.  Canada’s government has been among the loudest voices in this free trade chorus.

            Never mind that this is a gross misreading of actual history.  World trade collapsed in the 1930s because of collapsing consumer demand, not protectionism; competitive tariffs were a response to that implosion, not its cause.  For the same reason, world trade plunged 12 percent last year anyway, despite the G20 promises.

            More dangerously, the lip service paid by politicians to official free-trade doctrine is contradicted by an increasingly nasty and lopsided world marketplace.  Almost universally, countries around the world are becoming more aggressive in protecting and stimulating domestic output and employment.  They don’t usually jack up tariffs (though that still happens, as in Russia); instead, they use less visible but equally effective tactics.  This response is understandable given the mass and protracted unemployment which now grips most countries.  But it’s damaging the still-shaky global economy – all the more so for countries like Canada, which pretend to stay above the fray.

            The most recent example of unofficial protectionism was the Bank of Japan’s sudden foray last week into currency markets.  By aggressively buying U.S. dollars (and selling yen), the Bank drove down Japan’s exchange rate by 5 percent against the Canadian dollar.  That has exactly the same effect as imposing a 5 percent tariff on all Japanese imports from Canada (and a 5 percent subsidy for all Japanese exports) – yet it’s entirely “legal.” Japan has pledged to keep doing whatever’s necessary to weaken the yen and boost exports.

            Germany, with the world’s second-largest trade surplus (after China), uses different techniques to achieve the same goal.  Wages have been suppressed for years, dampening spending (including on imports).  At the same time, pro-active government strategies to boost productivity and technology, combined with falling unit labour costs, have stimulated exports.  Thanks to the fiscal woes of its European partners, Germany gets further help from a falling euro.  The end result is a massive trade surplus that propelled Germany to one of the world’s fastest recoveries – for now.

            How ironic that some German chauvinists have late have taken to complaining loudly about their supposed “bail-out” of their fiscally challenged neighbours (like Greece).  Perhaps it is Greece, in fact, which is bailing out Germany – in the form of an annual trade deficit that has averaged 5 billion euros, stimulating German jobs but destroying them in Greece.

            China, of course, has mastered official mercantilism, through tight exchange rate manipulation, macroeconomic planning (controlling consumption and hence imports), constraints on unions, and lots of fiddling with trade barriers (regardless of WTO strictures).  The combined surpluses of China, Germany, Japan, and a handful of other successful exporters more than offset the trade deficits of everyone else in the world (including Canada).

            And that’s precisely the problem with this whole strategy.  Until such time as planet Earth learns to export to Mars, every national surplus must be offset somewhere else with a matching deficit.  One country’s gain is another’s loss.  Whether engineered through “unacceptable” means (like higher tariffs), or “legal” ones (like currency manipulation, macroeconomic planning, technology strategies, or grey-zone trade barriers), the end result is identical: a beggar-thy-neighbour race to boost trade surpluses that undermines global growth.

            Where does Canada fit into this game?  As usual, we don our Boy Scout’s uniform and pledge to play fair.  While China, Japan, and others actively manage their currencies, we allow ours to soar unfettered.  As Germany and Korea subsidize and direct technological advances, we eschew “picking winners” and leave it up to business.  As countries everywhere leverage government spending into domestic jobs, we pursue trade agreements that would undermine our already-weak domestic sourcing policies.

            Our passivity in the face of others’ pro-activity has taken us from trade feast to famine.  A $55 billion trade surplus in 2004 melted away to a $27 billion deficit last year, knocking a whopping 6 percentage points off Canadian GDP.  By that standard we’ve registered by far the worst trade performance of any OECD country.  As deteriorating trade undermines domestic growth and employment, Ottawa’s only response is to chase more free trade pacts – whether with Panama (economically irrelevant) or Korea and the EU (potentially explosive).

            There’s no point finger-pointing and hectoring others to “play by the rules,” too.  That will get us nowhere.  So long as the world trade system imposes no requirements for balance or mutual benefit, protectionism (official or unofficial) will always make sense for individual countries … and they’ll always find ways to do it.

            John Maynard Keynes was ahead of his time in recognizing the dangers of trade imbalances for worldwide demand.  After World War II he lobbied for a new global payments system, forcing both surplus and deficit countries to address chronic trade imbalances and share the burden of adjustment.  He was overruled by free-marketeers who accepted the logic of dog-eat-dog global competition.  And it’s that logic, regardless of politicians’ lip service, that’s deepening the global malaise.

Enjoy and share:

Comments

Comment from Paul Smith
Time: September 23, 2010, 10:34 am

What are the political forces that sustain the Canadian and American refusal to take action on this? I don’t think we are simply “boy scouts”. There must be some benefit to someone, somewhere, with influence.

Comment from Paul Tulloch
Time: September 23, 2010, 2:23 pm

Great article Jim,

I just wanted you to know one thing- I have a brother we call Jumbo- of course we called him that after the large famous elephant that was sold to P.T. Barnum.

I have heard that Jimbo is the name they have attached to a very rare large blue gibbon that they say has been spotted in the congo rain forest. It is more of a legend than fact.

lol.

Comment from Purple Library Guy
Time: September 23, 2010, 4:17 pm

It would seem that the implication, not quite clearly stated in the article, is that Canada really needs to be doing protectionism of our own if we want to keep up. I would agree.

Even aside from the need to keep up with the Joneses, frankly, I think that for as long as different countries have different rules in such areas as labour, the environment, and even contract law, corporate taxation and so on, it is probably good in the long run if trade stays relatively low. Not nonexistent, but not large enough to control the political agenda and push races to the bottom. Otherwise trade tends to take over the economic agenda from more fundamental issues like production and distribution, making it easier for mobile capital to blackmail national governments.

Comment from Paul Tulloch
Time: September 23, 2010, 10:10 pm

Okay this is a bit long winded- it started out small but grew. However- ultimately what Jim is talking about here is our ability to prevent our economy from falling further and losing more jobs- given the ominous signs coming form south of the border that we are about to be hit with round two of more deflationary forces.

So here are some thoughts.

One has to think about is the type of trade and the degree of importance of trade. In Canada- we are trade dependent. The US on the other hand is a lot less trade dependent than we are and are about as close to autonomy as a country can get- they could close up there borders and most likely be better off than they currently are- given the industrial meltdown they have incurred. So we get to the notion of open and closed economy. Which makes the trade imbalances for Canada in Jim’s report even more worrisome. It is also why Beggar thy neighbour is a whole lot more important for Canadian industrial policy and several other countries.

We cannot and never have been able to compete with the monster down south weather it be economies of scale and scope, geography and several other factors- (both level playing field related and not) so we have used exchange rate policy to compensate. Big deal.

If you have level playing fields in labour, environment and other such nation specific standards- then I do believe- like most progressives, trade is a great thing and potentially we could compete a little better with the US. But that is not our reality and as long as we allow the likes of Harper to subject our dollar to some notion of complete non-intervention, like he has, then we suffer the consequences. Which is rather idiotic to say the least. There is undoubtedly a oil to dollar thing going on with traders- how do you explain that in the vernacular of economic efficiency?

Quite simply it does not- however- reading Krugman recently- he talks about the role of hedge funds and trading behaviour- and about the last thing that enters into the logic of financial capital investment is efficiency. And money markets are huge when considering the amount of trading gamesgoing on out in the wild computer support vector machine learning trading algorithms. These new algorithms backed by super computing power not seen applied to anything but nuclear deterrence are just amazingly efficient in seeking out profit algorithms. Learning constantly- but never about much that should be actually used to determine exchange rates. Look at some of the financial disasters in south American ini the 90’s- a lot had to do with trying to stabilize there currencies but at what cost- all dictated by the illogical logic of the IMF (aka Wall Street). These all do have an effective attachment to our currency and without getting too far into it, we do need something other than the price of oil in setting our exchange rate. This would be a great starting point in rebuilding our manufacturing base. (Tony Clarke at the Polaris institute had a good article in the Toronto Star on this couple days back.)

If you take a really long hard look at the numbers- from credit indebtedness, to manufacturing loss, to the dollar to oil valuation process, to the decline of the trade data- and the idiotic leadership – one could make the Potemkin Economy argument for Canada- all is not what it seems!

Comment from Paul Tulloch
Time: September 23, 2010, 10:48 pm

sorry I should have also included the auto pact as a major success in terms of positively influencing our trade balances- which I do believe was ultimately tied to our low dollar- i.e. if our dollar was where it is now, I am sure you would have heard a whole lot more belly aching from the auto sector about the pact- potentially the reason why it is gone now.

Comment from rcp
Time: September 24, 2010, 2:43 am

So if protectionism is the problem, isn’t free trade with the EU part of the solution?

Comment from travis fast
Time: September 24, 2010, 9:43 am

It seemed that Jim was pointing in the direction of a more managed international trade regime of the type Keynes had envisioned and not about autarky or protectionism. So no, free trade with Europe is not a solution because it would be under a system that allows quasi merchantalist countries to engage in overt and covert forms of beggar thy neighbor industrial policies. Stated otherwise, further free trade agreements will only increase structural imbalances in the world economy because they do not have a mechanism to bring surplus and deficit countries into equilibrium. And for the reasons Jim mentions in his article a truly flexible exchange rate regime would not eliminate the structural imbalances as neoliberals claim.

Comment from andrew jackson
Time: September 30, 2010, 2:11 am

Here is a good column by Martin Wolf on the same issue

http://www.ft.com/cms/s/0/9fa5bd4a-cb2e-11df-95c0-00144feab49a.html

It strikes me as enormously difficult to move to some kind of international coordination of exchange rates. Yes China should let its currency appreciate and raise domestic consumption, but given that the investment share is about 50% of GDP and there is massive dependence on exports as opposed to domestic consumption, any decisive move would tip them into recession and political turmoil.

Comment from Glen
Time: October 12, 2010, 11:03 am

Excellent article, Jim!

I am frustrated that Canada has not responded to the mercantilist tactics that other countries employ. Everyone looks to the USA, whom will always be the most tolerable nation, to lead the charge. Canada should be a leading voice on the issue. We have nothing to loose and everything to gain.

My only concern is that the debate is being framed around currency values. While is is the most obvious tool in the mercantilist arsenal, it is not the only. China could let the value of the RMB rise, while at the same time lowering interest rates and increasing bank lending. Already, the artificially low cost of capital in China is as big, or bigger, a factor in the imbalances.

PS> If anyone ever remarks that we need China to buy our debt, please refer them to Dean Baker’s remark ““China has an unloaded water pistol pointed at our heads.” Actually, it’s even better: China can, if it chooses, throw some cold water on us — but it’s a hot day, and we would actually enjoy it.

Comment from Brian Dell
Time: October 13, 2010, 10:54 pm

What exactly is the Jim calling for here? Stop being passive while others are pro-active? But that suggests that we should rein in unions, like the Chinese, or “suppress” wages, like the Germans. Somehow I don’t believe Jim wants us to do that. But if we are not supposed to act like the Germans or Japanese who are we supposed to be acting like?

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