I have a problem with some issues on free trade that I have not been able to resolve myself and I’d like to see what people here think. Unfortunately the real world is such a complex system that any discussion about free trade in it will quickly become so complex that I’d be certain that no conclusion would ever be reached. To try and get some clarification I’m going to create a drastically simplified artificial scenario which I suggest will encapsulate the main issues. The scenario is as follows:
Imagine that there are only two countries in the world. They are both long and skinny, rather like Chille, and they border each other along their long axis, so getting from any part of one country to the other is only a short distance. One of the countries is called “Austria” which is modern, industrialized and runs on Austrian (without quotes) economic principles. Most of the population have plenty of Cars, televisions, fridges etc. The other country, is called “China”. It is a communist state, the government planners are truly incompetent and corrupt, and the economy is a disaster. The average inhabitant is lucky to have one tenth of the material wealth of “Austrians”. The corrupt government built a high wall along the border and refused to allow any trade between the two nations.
Now one day the corrupt government in China is overthrown by the people and the wall is knocked down. The people had all been secretly reading books on Austrian economics that had been smuggled over the border in the dark years and they were ready to enjoy the same system.
Now what I want to know is what happens next. What would happen to the incomes of the peoples. I’ll suggest two scenarios (but of course the answer may be something else):
- The “Austrians” maintain their incomes while the incomes of the “Chinese” gradually rose.
- The income of both countries initially converge to some intermediate value and then both begin to rise after that, i.e. the “Austrians” become much poorer in the short term and it may take several decades for their income to rise back up to where it was.
What do you think? (my hunch is 2).
In particular, assuming that the counties are so close together that factories in one country can employ workers from another. Also assuming that there is always a continuous process of old jobs disappearing and new jobs appearing. What will happen when a new factory starts up in Austria and the boss advertises for new workers. Who will get those new jobs and for what wages? Would it be “Austrians” at old “Austrian” wages? “Chinese” at old “Chinese” wages? Or perhaps a mixture of the two peoples at some intermediate wage?
The reason I’ve asked this question is because I’ve heard so many people suggest that free trade is always good for everyone. And I’m wondering if that’s really true.
There is not enough info in your scenario. Wages will be a function of employment will be a function of demand can be a function of credit and wealth.
Free Trade, as a term, is taking on more of a coded meaning, often for labor arbitrage. It is often approved of dogmatically, much as the statement that markets are always efficient and direct capital to where it is best used.
It sounds great, but it gives a somewhat misleading picture, depending on what efficiency means to a person. What is efficient is the price of goods. The market optimizes price, but that is a big difference from directing capital to where it is best used.
Both have a common problem, and that is one of time. The pursuit of short term gains can have bad long term consequences, but rarely is that fact priced in, or talked about. The stated big benefit the US derived from globalization was cheap imported goods. However, credit was freely available and massively abused in order to purchase these goods. A sound economic theory is that credit only be used for investment. That way it can pay itself back. When credit is used for consumption, it means that you will have less to spend in the future unless you inflate the debt away, or default.
The reason liar loans came about was the enormous demand pressure and profits selling boxes of tranched debt. One mortgage was worth 30x after leverage. The easy loans fueled the housing bubble. The bonds funding the bubble we decoupled from the pricing signals the housing market was throwing off. The driving force behind all this was short term gain. Short term gain is nearly always the motive behind fraud. Poor quality is linked closely with a short horizon
That is where efficiency can be a funny thing. Fraud is very efficient when measured from one point of view. Labor arb is a short term view. Companies are not liking that consumption is down, and there is no great way to change that in this situation. The government is using stimulus as as though it were adjusting for a little slack in an inventory cycle, but there is a structural stalemate that is not going to improve in any way through consumption. It has to happen thorough exports. Until that happens, we are going to get rid of the excess capacity the other way, and that is by closing businesses.
I was hoping that this discussion could hold off talking about the real world for as long as possible because otherwise the discussion becomes so messy that it ceases to be illuminating. If there is a lack of information in my starting scenario I’d like to fix that. The unemployment rate in “China” will be virtually zero because the planner can arrange it that way. The unemployment rate in “Austria” will be low. The only people that will be unemployed are those temporarily in the transition from a failing old company to an expanding new one. Is there anything else you would like me to define?
I doubt you’re capable of resolving anything by yourself. You can’t even resolve anything with our help.
The populations of the countries.
If the population of Austria was 1 and the population of China was 1, neither of your scenarios would be correct. The Austrian and the Chinese would immediately benefit from higher incomes by commencing trade relations (the law of association).
I believe this holds true with larger populations as well. Austrians-as-a-whole and Chinese-as-a-whole would immediately see a rise in income. Some Austrians - low-skilled workers who may be out of work or have wage-cuts - may suffer in the short-term while entrepreneurs adjust the structure of production to the new conditions.
This is impossible to determine without a host of details and facts to which economic theory may be applied.
To the earlier poster - say 10 million in both countries.
Could you give me a couple of examples so that I can have the opportunity to either attempt to make a sufficiently detailed description or perhaps refute that those kind of things are necessary to consider for the purposes of answering this question.
I’m confused… those two sentences appear contradictory.
You’d need to know the size of various industries, relative population sizes, pay levels within them, how introducing movement of labour will impact markets (and this is suppositional at best), where consumer demand might change to, mobility costs for labour (i.e. how easy it is to move) &c. Some of this information is and will remain unavailable due to it being situated in the future and depends on how entrepreneurs anticipate and meet shifting consumer demands. This is why it is difficult to answer this question in the abstract. Increasing supply of a good will decrease the price it fetches ceteris paribus, though. However, if the division of labour is extended, investment booms and the horizon of production is elongated it might not be depressed.
Your “hunch” is the standard protectionist idea that wages would go down due to the sudden availability of the labour force in “China”. Truth and Liberty said it all. Neither of your proposed outcomes would occur. Even with a capital outflow, as in factories getting on ships and moving to “China”, the products of those factories would still be selling in Austria and production could be aptly expanded for products bought by the Chinamen with their new wages. It’s always real wages that you have to look at. Nominal wages mean nothing.