Wednesday, 20 November 2013

The intergalactic trade frontier

International trade is a zero-sum game. Across the globe as a whole, exports = imports. You export something, someone somewhere has to buy it. It is true that export success depends on comparative advantage and international competitiveness, but these are relative terms: international competitiveness is bought at the expense of the competitiveness of others, and comparative advantage implies a near-monopoly position in the provision of some good or service. But exports depend on the willingness of others to import. If one large trading area such as the Eurozone runs a trade surplus, therefore, somewhere else there must be a trade deficit. This is not rocket science.

But trade balances have become part of the same economic morality play that has already seen countries with high debt castigated for "profligacy" (even when high debt is a consequence of economic collapse, not over-spending) and countries with large fiscal surpluses praised for "prudence" (even though a large fiscal surplus impedes the private sector's ability to save/deleverage). To "trade moralists", exports are good and imports bad. Therefore, the aim must be to "earn our way in the world" by exporting, while at the same time discouraging imports by fair means or foul. "Fair means" in this case is deliberately repressing domestic incomes by tight fiscal and/or monetary policy, including outright financial repression: "foul means" are trade tariffs and controls.

To trade moralists, running a large trade surplus, especially if it is accompanied by a large fiscal surplus, is "a priori" a good thing. Therefore, countries that are running trade and fiscal surpluses do not need to make structural reforms. Until recently, this was the position of the European Commission regarding Germany. Germany's trade surplus was an indication of strength, not weakness. And it remains the position of German politicians and bureaucrats.

But following the United States' complaint, the Commission - always quick to jump on the bandwagon - has decided to "investigate" Germany's trade surplus. I am perhaps being unfair: Germany's trade surplus is above 6%, the level at which EU rules say it is too large. But suggesting that Germany might need to make reforms to bring down its trade surplus has provoked German outrage.

It does indeed seem unfair to blame a country that has steadily rebuilt its economy through exporting quality manufactured products over the last decade or so. And it also seems unreasonable to expect Germany to import more. After all, German-made white goods are recognised worldwide as well-made, sound and durable, and German luxury car marques are brand leaders. If German goods are so much better than the goods produced by others that the world wants to buy them, why would German consumers want to buy anything else either? Germany's trade surplus is due to the excellence of its production. It should be congratulated, not castigated, for the hard work and efficiency of German producers.

This is the heart of the "trade moralist" argument, and the Achilles heel of those who call for more balanced trade flows. "German is best" is the belief not only of consumers in the countries that buy German goods, but also in Germany itself.  And we are talking beliefs here: like all countries, Germany has some areas in which it excels (like making luxury cars), but "German is best" does not hold across all classes of goods. But as long as people believe that it does, German-made goods will be in demand both internationally and domestically. Looser fiscal policy may give Germans more money to spend, but there is no guarantee that they will spend that money on imports. They may just "buy German".

There is no point in mourning the lack of "togetherness" in the countries of Europe. The European project is fundamentally about trade, and it is fundamentally cut-throat. That is why there is no system of fiscal transfers. European Union membership gives countries preferential trading status with each other, the Schengen treaty and EU directives ensuring the free flow of capital give countries full access to European markets, and Euro membership eliminates currency differences that discourage cross-border trade. But that's as far as it goes. There is no system of "mutual support": countries in the EU are expected to compete with each other for market share and profits, and if they can't compete, they have to make reforms to improve their competitiveness, or die. It's National Darwinism.

And on a larger scale, that's what international trade is like, too. There is no system of mutual support. Countries compete with each other for market share and profits. Supranational organisations such as the IMF encourage the dismantling of trade barriers and capital and exchange controls. Consequently, smaller countries with few natural resources either find some underhand way of drawing business away from larger, stronger ones (such as offering very preferential tax rates to international businesses) or lose competitiveness. Inevitably, smaller countries are taken over by larger ones: in days gone by this was through colonial acquisition, annexation or conquest, but such behaviour is frowned upon these days, so the takeover is more subtle - but foreign purchases of national assets and external supervision of government budgets amount to the same thing, really. Small countries that can't compete internationally don't survive as independent entities. It's International Darwinism.

To be fair, the reforms being made by Eurozone countries to improve their competitiveness do seem to be working. All of them except Greece and France are now running trade surpluses, and even Greece is projected to reach trade balance by the end of 2013:



Bruegel notes that although this is partly because the brutal repression of domestic demand has clobbered imports, it is also because exports themselves have increased. But they speculate that exports may have risen because domestic demand is so weak that businesses have been forced to seek new export markets or die. Anyway, the result is that the whole Eurozone is now running a trade surplus despite the deep depression in a considerable part of it.

But the Eurozone is not the only place where running a trade surplus is considered a moral duty. Trade moralists are in the ascendancy all over the place. Everyone, it seems, is "making reforms" to repress domestic demand and promote exports. This is not encouraging. If everyone tries to increase exports and cut imports by repressing domestic demand, the result will not be a global export-led recovery. It will be a global depression.

Trade moralists are fundamentally illogical and dangerously plausible. The idea of exporting your way to recovery is seductive. But it simply is not possible for all countries to export their way to recovery. Someone, somewhere has to have a trade deficit. At the moment that someone is principally the US* - but trade moralists are becoming louder and more vociferous there, too, and at some point the US is likely to take steps to cut its trade deficit. When that happens, the global impact is likely to be severe.

Unless, of course, new export markets can be found. Have we made contact with alien civilisations yet? We urgently need to establish a trading post somewhere in the vicinity of Alpha Centauri.....

UPDATE. Tim Worstall has pointed out that in the first paragraph I actually mean absolute advantage, not comparative advantage. Correction accepted, sort of - though comparative advantage only works if you also have competitive advantage.

FURTHER UPDATE: Since lots of people have found this post, especially the first paragraph, confusing, I've explained it more fully here.

Related reading:

Report to Congress on International Economic & Exchange Rate Policies - US Treasury
Balance of trade adjustment in the Euro area - Bruegel
The US Treasury is right about Germany's Eurozone policies - Yanis Varoufakis

*The US is a special case. Its enormous trade deficit in goods and services is best regarded as the flip side of its market leading position in the provision of currency for global trade, rather than as an indicator of poor competitiveness. And it is also the market leader in safe assets (USTs), which are better regarded as tradeable goods than debt that has to be repaid. More on this in a later blogpost.




39 comments:

  1. Education about the trade imbalances may over time cause Germany to change its habits as young people learn that they are working in factories only to receive credits in the Target2 system and decide that, before the imbalance cause a financial problem and the credits are lost , those credits need to be cashed in for goods and services from the deficit countries or holidays in the deficit countries.

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  2. Oh dear. Wrong, as clearly pointed out here: http://www.timworstall.com/2013/11/20/no-ms-coppola-no/

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    1. Wrong on one very tiny respect, which does not invalidate the rest of the post. Pity Tim (and you) decided to home in on one picky point and ignore the rest.

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    2. The principle of Comparative Advantage states that even if one nation can produce every single good more efficiently than another nation, they can still both benefit from trading with each other.
      Here is a worked example http://www.truefreetrade.org/comp.htm

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    3. Balanced trade according to comparative advantage would benefit both parties, but free trade in practice means trade according to absolute advantage.

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  3. Germans think that across all sectors "German is best"? What is the evidence for this rather bold statement? Please don't quote one or two individaul articles... Sounds more like a stereotype than an economic analysis to me.

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    1. Show me a German who thinks Greek or Chinese manufacturers produce better products than German manufacturers. Go on, show me.

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    2. O.k., talking as a German myself, I can claim that I know to have absolutely no idea about Greek manufactured products, although I do believe that when it comes to TV sets, mobile phones and computers, many Chinese products are better than German ones, also (but not only) taking into account that many "German" firms have their main manufacturing base in Asia.

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    3. I fear you are doing "German is best" without realising it. If you had to choose between a Greek product (about which you say you know nothing) and a German one, which would you choose? And you trust Chinese products because German firms manufacture in China, apparently. Oh dear.

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    4. I would choose the one I like best. I constantly choose foreign products. I just cannot recall buying a manufactured Greek product, which is not to say I don't buy Greek products (mainly food). Germans buy plenty of foreign manufactured products (which a look into a German supermarket shows). I agree Germany's export surplus shows it is now time to increase demand, given that the supply side reforms have already achieved what they were supposed to achieve. The surplus does not, however, show that such demand would only benefit German suppliers, because there is some sort of overdeveloped economic superiority complex in the German public.

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    5. "And you trust Chinese products because German firms manufacture in China, apparently. Oh dear." That's not what I said. And I think you know it.

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    6. Every time a German consumer chooses to buy a Chinese or Greek product they are revealing their preference for that Chinese of Greek product over the available alternatives. Since Chinese and Greek products sell in Germany it is obvious that Germans often prefer German and Greek products.

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    7. the above should read "often prefer Chinese and Greek products"

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    8. Tomsmith,

      Hmm. I think you have to look at relative volumes, though.

      However, I was not being unkind to Germans. Indeed, I was defending Germany's stance. I was pointing out that there are legitimate reasons why looser fiscal policy might not result in more imports and a reduced trade surplus.

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    9. Goods originating from China were the second largest import group into Germany in 2012 in national terms. German people obviously like Chinese goods, not just in the individual sense where they are chosen over other alternatives but also in an aggregate sense compared to goods from other countries.

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    10. Tomsmith,

      I know that, but it really isn't the point I was making.

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    11. Anonymous,

      No, it isn't what you have said. But you have not understood what I have said, either. As I explained to Tomsmith, I was giving legitimate reasons why looser fiscal policy might not result in more imports and a reduced trade surplus.

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  4. The US needs alien dollars printed in the Alpha Centuri system so it can repay all those Chinese dollars printed in Beijing that it owes.

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    1. Phillipe, there are no "Chinese dollars printed in Beijing". The Chinese do have substantial holdings of US dollars, but those are American dollars printed in America.

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    2. Or North Korea.

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    3. Frances, I know that. But many Americans, especially politicians, apparently don't.

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    4. Apologies. Very true - hence my observation about American "trade moralists" gaining the upper hand. I've had so many arguments on twitter about this! Did you see the footnote about what America's market really is?

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    5. yep, I look forward to the article.

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  5. It would (at least to me!) be interesting to know how reliable these trade figures are: for example how they take account of factors such as the growth of international outsourcing and the well-publicised ability of large companies to choose the places they say they sell from. This isn't just to do with high-tech goods made in the Far East and then packaged or marketed from the US or Europe, but also covers much more mundane things with a diverse supply chain, such as processed food (cf the horsemeat brouhaha). It may be that the official statisticians have got a good handle on all this. But I wouldn't be surprised if the published figures don't necessarily reflect a lot of what is going on in the real economy.

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  6. In the short term I agree that trade technically is a zero-sum game. However, that really isn't the main point since trade and comparative advantage is one of the key drivers to increasing efficiency across the entire planet. While world GDP throughout history has increased by virtue of population growth alone it has been mostly increased due to greater efficiency across nearly every industry in existence.

    And while a great many increases in efficiency occurred as a consequence of chance, hobby, or even war, a great many also occurred because nations, and companies who are domiciled there, were given an incentive to increase productive exactly because of competition. Without the export moralists, there may be very well a lot less innovation and we will be poorer off in the long term.

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    1. Nono. You are confusing the desire to increase trade with the desire to run a trade surplus. They aren't remotely related. For example, I can create a trade surplus by imposing strict tariffs on imports. If I do, then I have actually DECREASED trade, not increased it. Similarly, if I increase exports by repressing domestic demand so much that businesses are forced to seek new export markets, I have generated a trade surplus, but I haven't increased trade at all. All I have done is moved the locus of trade from within my country to beyond it. Mercantilism DOES NOT increase the volume or value of international trade.

      I am amazed how many people think that in this post I am opposing international trade. Believe me, I am not. I am a strong supporter of international trade. I want lots of it. But in order for there to be lots of international trade, countries must be willing to import as well as export. When countries across the globe favour exports and repress imports, trade actually reduces.

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    2. Sorry, I mean "Mercantilism does not increase the volume or value of trade". Obviously, if I drive businesses to export through repressing domestic demand, then I have increased my export trade - but at the expense of my domestic trade. Overall there is no change in the volume or the value of trade.

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    3. This comment has been removed by the author.

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    4. The classic era of traditional mercantilism was before the French Revolution (and the rise of modern nationalism that went with it). Soldiers in those days were motivated more by gold than by patriotism, so it was essential for states to maintain large gold reserves in order to pay their armies.

      In today's world, where fiat currencies rule, nuclear weapons have made major-power war suicidal, and the AK-47 has made traditional colonialism unprofitable, traditional mercantilist arguments no longer apply. Today's neo-mercantilists (such as China and Germany) are motivated primarily by a desire to reduce their unemployment benefit bill by stealing jobs from foreigners.

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    5. Fair point. I did think of calling this post "The New Mercantilists". Though I have talked about the nature of modern mercantilism elsewhere:

      http://www.pieria.co.uk/articles/mercantilism_and_global_rebalancing

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  7. Germany is cheaper. Let me say it this way. German goods work in a world where almost nothing does.

    The question, you covered that in the article, who is going to buy goods from South Europe ... that's the question. We in Austria imported food from Spain, Italy and Greece for example. After a while the Germans copied and improved the products - noodles as an example ... and the originals became worse because of the price competition.

    But do you think Germans buy anything else than their stuff? No way. The only thing those greedy people import are goods from China in order to label - 'add value' - and resell those at a higher price. An economist in Germany called that Bazar economics.

    I think we are no longer in a world where comparative advantage does count a lot. We will see what happens.

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  8. Correct me if I am wrong, but aren't imports per capita higher in Gemany than , e.g., in the UK. This says little about manufactured goods in particular, but to say Germans are unhappy to buy foreign products in principle is not very credible. The Union Jack is certainly more prominent in English shops than "Made in
    Germany" in German ones.

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    1. The point I was making was rather more subtle. Germans would have little incentive to buy imported goods if domestically-produced goods are - or, more importantly, are believed to be - of better quality.

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    2. Fair enough.

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  9. Since that chart is headed "Trade Balance of Goods and Services": I'm fairly sure I could find a German who would agree that the Greeks produce better sea-side holidays than do the Germans.

    This is the way ahead for the "Eurozone Periphery" countries, I think--if a way exists at all. Although international trade is presently dominated by goods, services are by far the greater part of domestic economies, and their share is growing. Trade should eventually follow this pattern. The opportunity (challenge, if you prefer) for the periphery is to grow trade in services, because services are largely invisible to trade moralists.

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    1. Yes indeed. I was talking principally about goods, not services. However, the Greeks are going to have to be pretty creative about services if they are to compete with the Germans on those, too. Germany's service sector is growing, I believe.

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  10. Could you please explain what you mean by: "International trade is a zero-sum game"? Thanks!

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    1. I've explained it in a subsequent post. The relevant paragraphs from that post are these:

      "Firstly, let me address the (partly justified) criticism that I had incorrectly described international trade as zero-sum. Clearly, from the point of view of individual agents trading with each other, this is not true. One business's exports are not bought at the price of another's: people that fail to compete in one market will look for other markets where they can be more successful, so overall, competition tends to increase global trade.

      "But from a macroeconomic point of view, international trade is zero sum. If one country has a trade surplus, other countries must have trade deficits to the same value. The absolute volume and value of trade across the globe may indeed increase as businesses compete with each other for domestic and export markets, but that makes no difference to the nature of trade between countries. Whatever the scale of global trade, national trade surpluses and deficits always sum to zero. An increase in trade surplus by one country always means an increase in trade deficit somewhere else."

      The post itself is here (links are not live, so you will have to cut and paste into your browser - sorry):

      http://coppolacomment.blogspot.co.uk/2013/11/trade-confusion.html

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