9. International Trade

I have never understood why many economists believe we should skew our argument about trade in one particular direction.

In truth, many trade enthusiasts are no less motivated by their own narrow, selfish agendas. The pharmaceutical firms pursuing tougher patent rules, the banks pushing for unfettered access to foreign markets, or the multinationals seeking special arbitration tribunals have no greater regard for the public interest than the protectionists do. So when economists shade their arguments, they effectively favor one set of barbarians over another.

The standard models of trade with which economists work typically yield sharp distributional effects: income losses by certain groups of producers or worker categories are the flip side of the “gains from trade.” And economists have long known that market failures – including poorly functioning labor markets, credit market imperfections, knowledge or environmental externalities, and monopolies – can interfere with reaping those gains.

…[E]conomists can be counted on to parrot the wonders of comparative advantage and free trade whenever trade agreements come up…. They have overstated the magnitude of aggregate gains from trade deals… They have endorsed the propaganda portraying today’s trade deals as “free trade agreements”….

This reluctance to be honest about trade has cost economists their credibility with the public. Worse still, it has fed their opponents’ narrative. Economists’ failure to provide the full picture on trade, with all of the necessary distinctions and caveats, has made it easier to tar trade, often wrongly, with all sorts of ill effects.

…Had economists been more upfront about the downside of trade, they may have had greater credibility as honest brokers in this debate.

…Likewise, if economists had listened to their critics who warned about currency manipulation, trade imbalances, and job losses, instead of sticking to models that assumed away such problems, they might have been in a better position to counter excessive claims about the adverse impact of trade deals on employment.1Dani Rodrik, “Have Economists Been Honest Enough About Trade?” World Economic Forum, (November 17, 2016), https://www.weforum.org/agenda/2016/11/have-economists-been-honest-enough-about-trade-asks-dani-rodrik. Accessed on May 29, 2019.

— Dani Rodrik, World Economic Forum (November, 2016)

 

9          International Trade

9.0      Introduction

We have been supposing a closed economy. Understanding how international trade works will lead to viable strategies. A few observations provide context.

In current practice, economists speak of the “balance of trade,” that is, the difference between incoming monies from international exports minus outgoing monies from international imports.2“The key macroeconomic difference between open and closed economies is that, in an open economy, a country’s spending in any given year need not equal its output of goods and services. A country can spend more than it produces by borrowing from abroad, or it can spend less than it produces and lend the difference to foreigners” (Mankiw, 134). Definitions also are generally available online and in other textbooks. The balance of trade is also called “net exports NX,” [Income X, from exporting goods and services] – [Expenditures IM, for importing goods and services]. This can be written NX = X – IM3Mankiw, 135.. It is said that there is a “favorable balance of trade” when the monetary value of exports exceeds that of imports, that is, when NX = X- IM > 0.

In modern economics, there is also “free trade.” In practice, this means a minimum of restrictions. According to contemporary models, “[t]he overwhelming weight of the evidence … is that Adam Smith was right. Openness to international trade is good for economic growth.”4Mankiw, 243. See also, N. Gregory Mankiw, “Economists Actually Agree on This: The Wisdom of Free Trade,” The Upshot, Economic View, in The New York Times, April 24, 2015.

You may notice problems here that call for attention. For instance, the balance of trade formula NX = X – IM does not include the fact that economies are five-function processes.5Current models for international trade are built on the circular flow model. See Mankiw, or most any textbook on macroeconomics. Moreover, “growth” to which contemporary economists refer is “according to … [contemporary] models.”6See section 5 of “Growth and Development.”

As we have emphasized all along, the problem is empirical. It is a matter of asking: “How do monies, goods and services flow between economies?”7A precise formulation of the problem: “Suppose two countries A and B each with its mechanical structure” (CWL21, 94). Recall, as well, that “the exchange value that concerns us is actual exchange value, and it emerges only subsequently to actual exchanges” (CWL21, 32).

In this series, we have worked through eight sections on the two-flow structure of an economy. Two economies (e.g., Canada and USA) each have their five functions: basic and surplus supply and demand, and a redistributive function. Each economy can have simultaneously occurring ranges of accelerations and decelerations, in some cases discernible phases, with differences in neighborhood, city and region.8See section 7.

In sections 9.1 and 9.2 we describe a few main features of international trade9For more nuanced discussion with examples, see Economics for Everyone, ch. 4.. In Section 9.3, we look to present and future applications.

 

Section 9.1  Export: Basic and Surplus

The Niagara region of southern Ontario has become internationally recognized for producing award-winning wines. Niagara wines are exported to many countries, including, for instance, the USA10“Canada’s Wine Industry in the World. Industry Statistics,” Canadian Vintners Association, http://www.canadianvintners.com/industry-statistics/. Accessed April 16, 2019..

For our example, we suppose a steady state, in the sense that over a period of some years, approximately 100,000 liters is exported to the USA, each year, in the amount of Z´ = 16 million Canadian dollars per year. We assume a steady state so that we can more easily identify essential features of the process. Quantities involved are plausible but merely supposed for the example.

We keep our focus on economic function. The key issue isn’t whether or not money changes hands, nor exporters, nor tariffs, international exchange fees, bank fees, interest rates, and so on. (In fact, some wineries operate as their own exporters and importers.) All of these are present in actual international trade and would need to be accounted for. The challenge is to identify main functions. As we go forward in our discussion, it may help to keep an eye on figure 8.2.

The amount Z´= $16 million goes to work as expenditures added to the basic circuit.11For reasons that will be clear in a moment, we call this step 2´. In CWL21, equations for basic and surplus are listed in two parallel columns. See, e.g., CWL21, 308 and 317. In Economics for Everyone, the two columns of equations are distinguished by (a) for basic and (b) for surplus. We used ´ for basic and ´´ for surplus. How, though, does Z´ enter the Canadian economy? Banks and other financial firms handle international transactions and currency exchange. And so, initially, Z´ normally comes through businesses that generally are associated with the redistributive zone. However, we still need to identify the functional source of the monies. Note that the wine to be exported is not for consumption in the domestic market. In other words, Z´ is not money circulating internally to domestic  basic and surplus production. That means that Z´ begins its journey in the redistributive function.12Financing is needed for operating costs and, generally, for contributing to basic production. Sources contributing to Z´ can include short-term loans, long-term securities and foreign debt, cancellation of a domestic debt abroad, and so on. What we have so far, then, are two steps. The first, 1´, is when the money Z´ begins its functional journey in the redistributive zone but goes on to fund basic demand.  The second step, 2´, is when Z´ adds to domestic expenditures for production of wines above and beyond what will be consumed in the Canadian market. Again, basic expenditures received in basic production are above and beyond domestic needs. So, a third step is 3´, Z´ moving on to surplus demand, ´´Df.  All of this is above and beyond the needs of domestic production. This means that corresponding surplus demand is not immediate in the domestic economy. Hence, a fourth step 4´ of the functional journey is when Z´ enters the redistributive function Rf.

As you might already anticipate, a similar “functional journey” accounts for the export of surplus goods and services funded by incoming monies Z´´.13We leave this as an exercise. It will be good to work through some examples. There are, for instance, Canadian-made pick-up trucks that are purchased for use in American agriculture, mining and other industry, computers made in Canada and sold to American businesses, and so on. Some examples are discussed in Economics for Everyone, ch. 4, 75-98; and in Bruce Anderson: “Foreign Trade in the Light of Circulation Analysis,” Journal of Macrodynamic Analysis, 1 (2001), 9-31, http://www.mun.ca/jmda/vol1/foreign.pdf. Accessed April 16, 2019.

In a given year, both surplus and basic exports occur. (More generally, we would take turn-over periods into account.) Keep in mind that both Z´ and Z´´ are in addition to monies that circulate for domestic basic and surplus production. And so, taking both basic and surplus together, we get the following functional journeys:

Focusing only on these flows, these can be represented in a simplified two-flow diagram. In other words, for present purposes, ignore other flows.


Figure 9.1: Z´ and Z´´ represent monies added to domestic market to pay for exported basic and surplus goods and services.

 

Section 9.2  Import: Basic and Surplus

There are similar functional journeys for monies when basic and surplus goods and services are imported. There are, however, significant differences.

Instead of working out details for entirely new examples, for brevity here we just turn the above example around. That is, we advert to the fact that Canada not only exports wines to the USA, but also imports wines from the USA. Again, for now we are ignoring fees and other costs along the way, and we suppose a steady rate of Z´ per year.

Imagine, then, entrepreneurs in Canada directing part of their gross receipts to basic demand, to purchase wines from importers who have transferred wines to the basic final market. In basic expenditures, then, we get step 2´ in the functional journey, represented by E´ + Z´. Monies Z´ do not originate within the domestic economy.  So, Z´ adds to G´O´. That is, for step 3´, we get the sum G´O´ + Z´. In surplus demand, expenditures need have nothing to do with wine. With no immediate need, Z´ becomes redistributive.

But what is the functional source of Z´? Monies are needed to pay for imported goods and services. And such monies Z´ are not part of the monetary circulation for surplus-basic domestic production. Hence, as in the case of exporting, Z´ begins its functional journey in the redistributive function and is introduced into circulation in the domestic economy by establishing a debt of some kind.

There is a similar functional journey for importing surplus goods and services. As before, we can line up both functional journeys:

We introduce symbols D´, S´, D´´, S´´ to represent flows proper to the domestic market that are between the redistributive function and the four other functions.14See, Economics for Everyone, 63.

Putting basic and surplus importing into one diagram, we get:


Figure 9.2: Diagram for functional journey of monies for importing goods and services. You will notice that this diagram is essentially the same as figure 9.1. However, its meaning is different. The key difference is found at the beginning of the functional journeys, that is, 1´ and 1´´. For, when importing, Z´ and Z´´ do not enter as credit. They move from the redistributive function when entrepreneurs establish a debt of some kind. In other words, in the case of exporting, these represent credits, while in the case of importing they represent debts.

Of course, many imports and exports occur more or less simultaneously. And so, in practice, it will be convenient to introduce notation to distinguish cases and sources.

 

Section 9.3  Present and Future Applications

In current practice, a “favorable balance of trade” is when NX = X – IM > 0. However, it is now evident that the quantity NX is not too enlightening without knowing something about sources and circuits.

For instance, a large NX > 0 can represent a steady flow of foreign monies drawing goods and services out of the economy for export, with little or no importing of foreign goods and services. There are two extreme cases: (i)  Z´´≈ 0 so that Z = Z´+ Z´´ ≈ Z´ ; and (ii) Z´≈ 0 and Z  ≈ Z´´. Case (i) could temporarily prop up an underfunded basic production and hide problems in the economy. Case (ii) could lead to surplus expansion not commensurate with needs of the domestic economy. Eventually, this could also lead to overproduction at the basic level.

A further question arises: What strategies might help a domestic economy avoid contraction when it is importing more basic goods than it exports? One possibility might be to borrow money from abroad. Going down that road soon increases the economy’s debt load. Alternatively, the economy might borrow money from abroad to boost surplus expansion. This could indeed boost surplus production and, in circular fashion, finance new surplus maintenance, replacement and expansion. Assuming cross-over payments remain more or less balanced, to keep the surplus expansion going long enough to reach a new equilibrium, borrowing would need to continue. But as we also pointed out in the previous section, in order to keep this process going, people need money to buy increasingly available new quantities or types of basic goods and services. But the problem is that the basic economy is importing more basic goods than it exports. So, equivalent amounts of money would need to be borrowed by consumers. In that way, the domestic economy would be going into debt on two fronts, in the surplus level and in the basic level. Nevertheless, suppose that the strategy is carried through.

When the surplus expansion reaches its maximum and a basic expansion follows we are back where we started – with an increasing production of basic goods relative to basic monetary income – the very problem we started with.15Anderson, 30.

Evidently, a direct solution to the problem would be not to export more basic goods than are imported. But then what are other economies to do? As general structures reveal (see, e.g., figures 9.1 and 9.2) there are other flows in play. Effective strategies would depend on situations. For a few details on what has happened, and in some cases, what has gone wrong, see Economics for Everyone, chapter 4, “Government and Globe.”16Economics for Everyone, 75-98. For advanced but compact discussion, see “The Balance of Foreign Trade,” CWL21, 310-317; and “Deficit Spending and Taxes,” CWL21, 317-318.

The title of McShane’s chapter 4 includes “Government.” In practice, taxation T and government spending Z also are part of the fundamental structure. Perhaps you have already anticipated that one needs to distinguish surplus and basic taxations, T´´ and T´ respectively and surplus and basic spending Z´´ and Z´. If sustained, relative magnitudes of Z´´, Z´, T´´ and T´ lead to different outcomes.

In the case of deficit spending,  Z´´ + Z´ > T´´+ T ´. Two extreme cases are (i), when most of the deficit is through surplus spending and (ii), when most of the deficit is through basic spending. That is to say, (i) is where Z´´ is much greater than T´´ and Z´ is much less than T´; and (ii) is where Z´´ is much less than T´´ and Z´ is much greater than T´.

Both situations are evidently situations in which one circuit is being drained to the doubtful advantage of the other.17Economics for Everyone, 95.

In the first case,

the economy is being coaxed, interval by interval, toward further surplus activity. The situation may remind [our] reader of the colonial days, except now such a market may be unavailable.18Economics for Everyone, 95.

The second case is a welfare trend. It leads to consumer price-inflation, a failure of enterprise, and a decline in both employment and stock value.19Economics for Everyone, 95.

The functional structure of international trade also exposes the long-term destructiveness of the present-day objective called “favorable balance of trade.” It is a complex version of the mistake called the “profit motive.” But, details of how the error plays out are now more evident. Other things being equal, if economy A consistently succeeds in securing NX > 0 with most trading partners Bi, that means that economies Bi are gradually being drained of financial resources through the redistributive zone. Wealth is increasingly concentrated in A, or, as often happens, is hoarded, removed from circulation. To deal with the problem of decreasing financial resources, economies Bi may increase foreign debt. However, as the process continues, the end-game has economies Bi approaching bankruptcy. Ethical issues aside, in as much as “winner” A serves as creditor to economies Bi (or is in trade agreements with creditors to economies Bi) or in as much as A depends on goods and services normally imported from economies Bi then, as Bi heads further and further into financial crisis, A also eventually loses. Debts eventually need to be written off and it is increasingly less possible to import otherwise-needed goods and services from ailing economies Bi whose productive capacities have been forced into decline. In other words, in the competition for a “favorable balance of trade,” eventually nobody wins and the result is unfavorable for all.20Perhaps you can identify examples that illustrate these trends, in current international trade agreements and financing.

We have provided a few indications of how the two-flow structure works in both domestic and international trade. As in any science, one needs to explore numerous cases, vary details, and gradually solve increasingly complex problems.21Economics for Everyone provides numerous inroads. See also Anderson, 2001, for helpful descriptions. Nevertheless, we can point to a few general features of the new economics.

Domestic economies are aggregates of local and regional surplus and basic production for local and regional standards of living. But in the modern context, supply chains are international. And likewise, trade of finished goods also is international, for that is merely the final step of international supply chains.

International trade is implemented through redistributive functions. This means that domestic economies are not separate entities but are increasingly part of a single Global Economy in which domestic economies are linked or “stacked” along a Global Redistributive Zone.22There are some tribes that still live in relative isolation from global economies. We are referring to main exchange economies. Some isolationists claim otherwise. However, hearing from isolationists contradicts their claims, let alone any use of plastic bottles, or any other goods and services produced or originally provided in global supply chains.

But domestic economies are also geographical. What is coming into view is, then, that the elementary two-flow structure of a domestic economy is to Global Economics what swimming pool fluid dynamics is to oceanography. In particular, what appear as equilibria, surges and phases in domestic economies are but sub-states and sub-oscillations of global flows.

In the new economics, economists will seek to provide strategies that support emergent local equilibria, surge patterns and standards of living. But, since domestic economies are linked globally, economists will need local and global data. The concern of economists will be the intelligent and responsible care of economies, ecologies, resources and peoples, a global structure of surplus and basic production that ultimately leads to local and global standards of living.

What, though, will be our local and global standards of living?

And so, we go to our next and final section that is on global collaboration.

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