Why Trade in the US Remains an Important Force for Development
Protectionist fears have not stopped the United States from capitalizing on the gains of free trade. Trade as a share of GDP grew from 10.8 percent in 1970 to 27.4 percent in 2022: an increase of 16.6 percentage points in a span during which the US economy quadrupled in size in real terms. America’s value of exported goods and services more than doubles that of the United Kingdom and is over 33 percent higher than that of Germany.
International trade allows each country to specialize in the production of those goods in whose production it enjoys a comparative advantage. Specialization increases the productive capacity of an economy. Absent exchange opportunities, the scope for specialization would be smaller. As Adam Smith suggested in The Wealth of Nations, the division of labor is limited by the extent of the market. Thus, trade and production are strongly linked. Economist Douglas Irwin documents how trade reforms have positively impacted economic growth in different countries; while Arnaud Costinot and Andres Rodriguez-Clare suggest in a working paper that the gains from trade for the United States “range from 2 to 8 percent of GDP.”
Trade as a Technology
Free trade has effects similar to those of introducing a new technology: a technology in which we use exports as “inputs” to obtain imports. Economists Armen Alchian and William R. Allen, authors of University Economics (1972), distinguish between three groups of people affected by a new technology. We can replicate their exercise for the evaluation of a trade policy. Free trade will give rise to three categories of people:
(1) Those who will receive higher wages as a consequence of the possibilities opened up by trade and who will enjoy a greater variety of goods at lower prices;
(2) Those whose income will not change significantly, but who will enjoy the consumption of goods at lower prices;
(3) Those whose income will probably decrease, as they will have to move to other jobs.
In this last category, we can find two further subcategories: (a) those who are net gainers anyway from the benefits of consuming from abroad and (b) those who, even accounting for the gains from cheaper and more varied goods, suffer such a sharp reduction in their real income that they lose in net terms. It is these latter people who have the greatest incentive to form coalitions to fight trade liberalization, although most people make up the rest of the categories.
Economist Bryan Caplan, in his book The Myth of the Rational Voter, explains that one of the most common biases among non-economists is the anti-foreigner bias: people tend to underestimate the economic benefits of interacting with foreigners. This bias gives rise to protectionist arguments suggesting that foreigners “steal” jobs or that foreign companies “exploit” local workers.
The idea that international trade “destroys” jobs stems from a fallacy: the lump of labor fallacy. The fallacy consists in assuming that there are only a limited number of jobs to be done. We might conclude that any innovation or technological change that saves labor will leave people who once had an occupation unemployed forever.
The truth, however, is that the reality of scarcity implies that at all times there is an unlimited number of jobs to be done to achieve ends that have not yet been satisfied. Trade sets free resources that individuals, through a market system, can use to produce goods that were previously uneconomical to produce. The more flexible a country’s labor market, the more easily it can transfer its resources to the production of those goods.
Protectionists conceive of international trade as a boxing match in a ring. A more appropriate metaphor would be to visualize trade as a relay race: each country runs a distance and passes the “baton” to another. The speed with which countries complete the circuit will depend on the speed and skill of all. Once the baton has been passed to one country, and that country is reluctant to run, the speed (growth) of the other countries slows down. The economic development of all countries is interdependent. Free trade allows countries to explore opportunities for mutually beneficial exchange, and those opportunities enrich us all in the long run.
Editor’s note: This piece originally was published by the Foundation for Economic Education.