Protectionism: All Bad?
By Pranav Bihari
19 April 2009
Open Democracy
Self-reliant local economies are better suited to withstand crisis and are more responsive to the needs of local communities. So why are politicians so resistant to the growing sentiment in favour of protectionist policies, asks Pranav Bihari.
Many political leaders, investors in global corporations and a majority of mainstream economists are very scared of a growing sentiment in favour of protectionist policies during the current economic crisis. On a television show a few days back, a Labour party member warned that 'protectionism' (the policy of protecting local businesses from foreign competition) could bring back to power another nationalist dictator like Hitler.
Protectionism was a big issue at the World Economic Forum at Davos and British Prime Minister Gordon Brown made the "fight against protectionism" a top agenda item at the G20 summit as well. But are these fears really justified?
The theory that a country must protect its 'infant' industries in developmental stages before exposing them to external competition is not new. It has been practiced from the days of protecting the wool industry in the UK in the 14th century to the post war protection afforded to auto companies like Toyota in Japan.
Most developed countries in the world both in the west and the east, including Britain, America, Japan, and South Korea, have used protectionism strategically to promote their economic interests, especially in the early stages of their economic development. Many of them continue to do so in significant if less overt ways.
The more an economy adds value to the raw materials, the more prosperous it is in the long run. This is a tried and tested recipe for economic development. Hence, economies engaged in processing and manufacturing industries, like Japan and Germany, mostly fare far better than those that depend on exporting raw materials, like the oil rich Nigeria or the coffee rich Ethiopia.
The notion, or more correctly the dogma, that simply practicing free trade would lead developing countries to prosperity has been denounced by economists (such as Ha-Joon Chang, University of Cambridge) who have cared to base their analysis on historical evidence rather than armchair models. A recent interview with Ha-Joon Chang by Democracy Now is worth watching.
In fact there is evidence to prove that free trade has not served the richest economy in the world well. The US showed remarkable growth together with a rise in real wages for a majority of its population up until the late 1960s. This was a period when the US manufacturing industries were in good health and were still protected from foreign competition by tariffs (taxes on foreign imports).
Since 1973, however, when it turned to quasi free trade, the country has seen declining levels of real wage for around 80 percent of its workforce as high wage manufacturing sector jobs have been replaced by low wage service sector jobs. The benefits of free trade have only accrued to the owners and CEOs of large multinational corporations which have been able to outsource production to low wage countries.
Of course there has been overall GDP growth but that says nothing about how the benefits of this growth were distributed. Besides, the current financial crisis lays bare for all to see how consumer demand during the recent years was built upon the foundations of unsustainable debt.
Many free trade economists argue that the consumers benefit the most from free trade since it lowers the costs of goods and services. These economists forget that the same consumers are also workers and wage earners. If they lose jobs due to decline in manufacturing and increased outsourcing or are forced into low wage sectors of the economy due to free trade, their purchasing power is reduced. For one who suffers wage loss in tandem with falling prices there are hardly any benefits from free trade to brag about.
Free traders have also pointed to the gains in efficiency achieved by introducing foreign competition. It is true that corrupt local governments have often colluded with domestic oligopolistic interests (markets dominated by very few players) against the interests of the consumers. But given a corrupt political system, efficiency is not served by replacing local oligopolies with international oligopolies.
There is no reason that domestic competition with tough laws against monopolies and cartels could not produce adequate gains in efficiency. The real driver of efficiency here is free and fair anti-monopolistic competition and not foreign competition. This is especially true when access to technology is not a limiting factor, as is the case in the UK and many other developed economies.
This is not to say that free trade is bad in all contexts, but only to point out that there are strong arguments based on rich historical evidence against blindly accepting the free trade dogma. Trade is usually beneficial if locales with equivalent wage rates engage in exchange, locales are not dependent on trade for essential commodities, the economies engaged in trade do not incur huge trade deficits and the trade takes place mostly in the realm of manufactured and value added products rather than raw materials.
There are environmental aspects and longer term development of economic potential to be considered as well, among other factors. In certain cases, like that of Singapore where the economy is small and lacks sufficient natural resources, there may perhaps be little scope for economic development, at least in the short or medium term, without adopting a free trade policy.
But there is no reason not to follow policies of protectionism if in the given circumstances of an economy such a policy will save jobs as well as develop much needed industry for economic diversity, growth and security. In terms of using trade barriers as part of economic policy, both micro-trade barriers (within a particular state or county) and national or regional level trade barriers can make sense.
The scale at which trade protection should be exercised is a question that can be answered only after taking into account locale specific variables. However, if full employment and long term economic viability of the locale are to be made the guiding goals of a trade policy, be it at the county, national or regional level, local governments must be given more freedom to shape their trade policies.
As an example, even counties within Britain could be allowed to use restrictive trade tariffs to develop their economies. A county like Kent could preferentially tax local produce less than that from other British counties and put still higher tariffs on international produce.
But care must be taken to encourage strong domestic competition with sufficient scope for many domestic players to access local markets rather than protect a few big local businesses. This will help not only in creating local jobs but also in driving efficiency and innovation by creating a level plane for competition.
Instead of focusing on tackling growing unemployment and poverty in the wake of an extraordinary economic crisis, Gordon Brown seems to be more concerned about pandering to the neo-liberal creed of free trade so that party funders and friends in large multinational corporations may continue to reap the profits provided by squeezing low wage economies. This may not be in the long term interests of the larger population in both developed and developing economies.
What the G20 should agree upon is to allow every economy to shape its policies for tackling the crisis in a way that best addresses its specific economic problems. Many economies may indeed choose to co-operate and trade for mutual benefit. Nevertheless, the free trade pill must not be forced down every economy's throat.
Political leaders should become more responsible to the needs and demands of their people instead of hiding behind the 'forces of globalization'. Global solutions for a global financial crisis may sound good in theory but may not work in the reality of disparate economies with different problems and varying economic potentials. In fact, one needs to entertain the possibility that centralization tendencies in the global financial system may be at the very root of the global financial malaise.
Diverse, self-reliant and resilient local economies are better suited to withstand crisis and are more responsive to the needs of local communities. Such economies will materialize the benefits of trade from a position of strength. They will not be in the vulnerable position that Britain now finds itself in - a specialist in the much disgraced financial services sector who is hoping, begging, cajoling, and even threatening others to trade their food, clothing, energy and other essential goods in return for its financial services.
