Far less than free

Trade wars and national interests

By Anup Sinha
  • Published 20.07.18
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The East India Company's ship, Bridgewater, defending its cargo from an American privateer, Hampden, March 8, 1779, Francis Holman

The recent imposition of trade tariffs by the United States of America and the beginnings of a full-fledged trade war, or the perception that Brexit is going to be beneficial to Britain's national interests, are indicative of a departure from one basic tenet of globalization: free international trade. What is surprising is the fact that countries like the US or Britain had been loud and persistent voices in support of free trade, urging developing nations to open up their markets. The birth of the World Trade Organization in 1995 was a major victory for the supporters of free trade. It was an important component of the ideology of global capitalism, popularly referred to as neo-liberalism. Now, the same Anglo-American world seems to find free trade not so attractive after all.Why did this sudden twist of faith occur?

First of all, there is a wide gap between the theory of free trade propounded by economists and its practice. Second, there is a long history of international trade that has always been backed by the power of the economically strong nations, with methods ranging from direct military backing to more nuanced forms of coercion and manufactured consent. International trade has always been a subject of State policy seeking national advantage; it has never been free in the textbook sense, whatever might have been the claims made to the contrary and whatever economists might have written in their textbooks.

The theory of international trade has as its fulcrum, what, arguably, is one of the most robust results of economic analysis: mutual gains from exchange. This is intuitively powerful and obvious. Two individuals engage in trade (exchange goods and services) with one another so as to mutually gain from the transaction. It is assumed that in the modern world these transactions are voluntary and not restricted by laws that dictate the terms of exchange. This result is carried over into the realm of nations with each nation being treated as an individual. The gains from trade demonstrate three things. First, each nation gains after participating in trade compared to its pre-trade position, in the sense that its consumption basket becomes larger than its production capability. Hence each nation stands to gain. Second, the gains of two nations are not comparable and could well be unequal. This is not often discussed clearly in textbooks. Yet the real-life implications of such outcomes can be politically unpleasant. Third, within each nation, after the opening up of trade, there are winners and losers. The export sector expands and the import-competing sector shrinks. In the long run, resources may be reallocated and workers reskilled for movement across sectors, but the immediate effect can be simply disastrous for the losers. Economists are, however, able to show on paper, that the gains are enough in a nation to compensate the losers and still have a net gain remaining. In real life, domestic policies rarely take care of such compensations. The losers, potentially, can turn the tide of domestic politics so that free trade is considered undesirable. Hence trade with China or India might suddenly touch a raw national nerve in the US.

If one studies the history of international trade in modern times when the world was opened up by Western Europe, imperialism always considered trade as a policy of the highest importance. When industrial capitalism was developing in Western Europe, it was important to keep imports as low as possible and maximize exports. This was the result of the mercantilist belief that amassing gold and silver was the ultimate objective of wealth making. Imports were discouraged, taxed, even prohibited, while exports were encouraged, monopoly charters granted to big corporations, and competition killed off ruthlessly by economic discrimination or even by physical force. The imperial guns and ships were always an integral part of international trade policy.

During the period 1870 to around 1930, the imperial domination of Britain was at its peak. However, other European nations were competing with Britain in third country markets, desperately trying to catch up. The US was also emerging as a strong challenger. Britain, where English scholars had been highlighting the benefits of free trade, beginning with the likes of David Ricardo, officially professed that free trade was the best way of conducting international trade. Britain did not impose tariffs because by then the colonial trade pattern had become so controlled, and the colonial markets so integrated with the industries of Britain, that even without tariffs it could compete with other European nations and the US. Countries like Germany and the US on the other hand, in their bid to catch up with Britain, imposed a number of tariffs on British goods. Britain's insistence on free trade was possible since any country that did not wish to buy British goods in the quantities and prices expected was coaxed or coerced to sign trade treaties, often with the threat of violence. This threat was made credible by what was called gun boat diplomacy, where imperial warships closed in on the shores of the trading partner nation.

The US and the European nations continued with the strategic use of tariffs to suit their own national interests till well after World War II. Things did change after 1945. Europe had to be reconstructed, the newly independent ex-colonies began to attempt their own development plans which tried to industrialize their economies by restricting foreign competition. The US had emerged as the most powerful industrial economy of the world. Britain, too, had to rebuild its own house. New economic experiments were on in the former Union of Soviet Socialist Republics and later in China. These nations had cut themselves off from international trade. There did not seem to be a global consensus on what ought to be the rules of the game. There was a belief that international economic cooperation was necessary, free trade appeared to be more elegant and conducive to cooperation, but national reconstruction was the top priority. Hence free trade was put on the back burner as it were. The International Trade Organization, which was conceived of in the Bretton Woods conference where the World Bank and the International Monetary Fund were born, was put on hold. Discussions would continue in the forum called the General Agreement on Tariffs and Trade till an opportune moment when the new rules could emerge.

By the 1980s the Bretton Woods arrangement had weakened considerably. The mature market economies were beginning to eye the developing markets in the 'third world' of Asia, Latin America and Africa. The push for free trade began anew with what was referred to as the Washington Consensus. The tacit consensus among the developed countries which (with the help of the World Bank and the IMF) advised developing nations to reduce government interventions, open up markets to international goods and capital flows, and restrict domestic economic policy to maintaining a low fiscal deficit and a low rate of inflation. Much later, the WTO was born amid serious controversies. Many thought that the rules were arranged in favour of the stronger economies.

Then came the crash of 2007-08 in economies that were open and where markets flourished. The developed market economies went into a deep recession from which they have yet to come out completely. Production shrunk, jobs were lost, and livelihood opportunities disappeared. Governments changed as people who were the losers in the new set-up got restless. Enemies were quickly spotted. They were the nations that had gained some advantage from the global opening up of trade. Now, the tables had turned. So the guns are out again. Threats seem to be gaining the upper hand in trade wars, and convincing arguments are absent. This is not surprising. International trade has always been controlled by powerful and rich economies through some form of coercion - sometimes subtle, sometimes patently crude.

The author is former professor of Economics, IIM Calcutta