Gains of trade

Sometime, long ago, I got the religion that free trade is good. It seems so obvious that freeing people to trade at will must make them better off. If it didn’t, they wouldn’t trade. Right?

I don’t know if I should be more bothered by the fact that I just *believe* this economic dogma without knowing precisely why its true or that some of the best economists can’t agree on why its true (or if its true at all).

It seems to me the argument is over how fast it takes economies to shift from one equilibrium to another*. Proponents of free trade are saying “in the long run and under ideal conditions, trade makes everyone better off” and opponents are saying “the day after trade is made free, some people are made worse off.” If this is a good characterization of the debate, then it seems the policy implication is pretty clear. Let’s make trade free, but figure out ways to ease the transition to the new, better world.

UPDATE: Tyler Cowen weighs in.

UPDATE 2: macroblog talks theory vs. reality.

*Saying factors are not mobile is equivalent to saying the transaction costs for moving factors are really high. A legal trade barrier doesn’t make it physically impossible to move factors, for example, it just means its really expensive to do so (because if you do so and are caught they call you a smuggler and you suffer punishment or, worse, opprobrium). Adjustment costs add interesting dynamics to models, but if they change the welfare implications of a model I don’t see why the policy isn’t to just remove the the adjustment costs. In other words, if Rodrik is right about Heckscher-Ohlin being a better model than Ricardo, why not remove the barriers that are making capital immobile (e.g. remove trade barriers, increase access to capital markets, etc)? If the observed dynamics can only be replicated by adding transaction costs to our models (e.g. immobile capital, CIA restrictions in money models, etc), shouldn’t the policy be to remove those frictions? Go ahead, start lecturing me about second best policies, but you have to explain why we’re in the second best world to begin with.

4 thoughts on “Gains of trade”

  1. The typical economist answer is lump-sum tax and redistribution… which would be completely impossible to implement, but then we shrug our shoulders and say “hey, we’re not social engineers.”

    The point of “efficiency,” at least when economist use the term, is given a deal can be struck between winners and losers, everyone can be made better off (or at least as well off as they were before). Freeing trade increases efficiency in this way. The best case would be to have the winners from trade sit down with the losers and work out some deal.

    The problem with this scenario is that the winners are most everyone (we can now buy cheap goods from China at Walmart), the losers are a concentrated group. Notice the winners each win just a little from trade but the losers lose their jobs. Its practically impossible to get those two groups of people together to negotiate a deal.

    So you have to come up with some inexpensive way to get the winners to compensate the losers.

    My idea is to have cultural norms that encourage people to build skills that make them adept to changing market conditions. Instead of training to be the 34th component in some production line in some particular industry, people should learn skills that would make them productive in many contexts. Critical thinking, curiosity, computer skills are some of things I can think of, but most importantly people should expect to be learning through their whole lives… This suggests our “cram young people in rooms for the first 1/4 of their lives” schools system is a bit bogus.

    The effect is to reduce the losses for losers.

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